NOTES
TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS
MARCH
31, 2017
NOTE
1 – GENERAL
Nature of
Business
Dolphin
Digital Media, Inc. (the “Company,”
“Dolphin,” “we,” “us” or
“our”) is a producer of original high-quality digital
programming for online consumption and is committed to delivering
premium, best-in-class entertainment and securing premiere
distribution partners to maximize audience reach and commercial
advertising potential. Dolphin is also developing online kids
clubs. On March 7, 2016, the Company completed its merger with
Dolphin Films, Inc., an entity under common control. Dolphin Films,
Inc. (“Dolphin Films”) is a motion picture studio
focused on storytelling on a global scale for young,
always-connected audiences. On March 30, 2017, the Company acquired
42West, LLC, a Delaware limited liability company
(“42West”). 42West is an entertainment public relations
agency offering talent publicity, strategic communications and
entertainment content marketing.
Basis of
Presentation
The
accompanying unaudited condensed consolidated financial statements
include the accounts of Dolphin, and all of its majority-owned and
controlled subsidiaries, including Dolphin Films, Inc., Hiding
Digital Productions, LLC, Dolphin Kids Clubs, LLC, Cybergeddon
Productions, LLC, Dolphin SB Productions LLC, Dolphin Max Steel
Holdings LLC, Dolphin JB Believe Financing, LLC, Dolphin JOAT
Productions, LLC and 42West.
Effective March 7,
2016, the Company acquired Dolphin Films from Dolphin
Entertainment, Inc. (“Dolphin Entertainment”), a
company wholly owned by William O’Dowd, CEO, President and
Chairman of the Board of Dolphin. At the time of the acquisition,
Mr. O’Dowd was also the majority shareholder of Dolphin. The
acquisition from Dolphin Entertainment was a transfer between
entities under common control. As such, the Company recorded the
assets, liabilities and deficit of Dolphin Films on its
consolidated balance sheets at Dolphin Entertainment’s
historical basis instead of fair value. Transfers of businesses
between entities under common control require prior periods to be
retrospectively adjusted to furnish comparative information.
Accordingly, the accompanying financial statements and related
notes of the Company have been retrospectively adjusted to include
the historical balances of Dolphin Entertainment prior to the
effective date of the acquisition.
On May
9, 2016, the Company filed an amendment to its Articles of
Incorporation with the Secretary of State of the State of Florida
to effectuate a 20-to-1 reverse stock split. The reverse stock
split was approved by the Board of Directors and a majority of the
Company’s shareholders and became effective May 10, 2016. The
number of common shares in the accompanying unaudited condensed
consolidated financial statements and all related footnotes has
been adjusted to retrospectively reflect the reverse stock
split.
On
March 30, 2017, the Company entered into a Membership Interest
Purchase Agreement (the “Purchase Agreement”), by and
among the Company and Leslee Dart, Amanda Lundberg, Allan Mayer and
the Beatrice B. Trust (the “Sellers”). Pursuant to the
Purchase Agreement, the Company acquired from the Sellers 100% of
the membership interests of 42West and 42West became a wholly-owned
subsidiary of the Company (the “42West Acquisition”).
The consideration paid by the Company in connection with the 42West
Acquisition was approximately $18.7 million in shares of common
stock of the Company, par value $0.015 (the “Common
Stock”), based on the Company’s 30-trading-day average
stock price prior to the closing date of $4.61 per share (less
certain working capital and closing adjustments, transaction
expenses and payments of indebtedness), plus the potential to earn
up to an additional $9.3 million in shares of Common Stock based on
achieving certain financial targets. See note 4 for additional
information regarding the acquisition.
The Company enters
into relationships or investments with other entities, and in
certain instances, the entity in which the Company has a
relationship or investment may qualify as a variable interest
entity (“VIE”). A VIE is consolidated in the financial
statements if the Company is deemed to be the primary beneficiary
of the VIE. The primary beneficiary is the party that has the power
to direct activities that most significantly impact the activities
of the VIE and has the obligation to absorb losses or the right to
benefits from the VIE that could potentially be significant to the
VIE. The Company has included Max Steel Productions, LLC formed on
July 8, 2013 in the State of Florida and JB Believe, LLC formed on
December 4, 2012 in the State of Florida in its combined financial
statements as VIE’s.
The unaudited
condensed consolidated financial statements have been prepared in
accordance with United States (“U.S.”) generally
accepted accounting principles (“GAAP”) for interim
financial information and the instructions to quarterly report on
Form 10-Q under the Securities Exchange Act of 1934 (the
“Exchange Act”), as amended, and Article 8 of
Regulation S-X. Accordingly, they do not include all of the
information and footnotes required by U.S. GAAP for complete
financial statements. In the opinion of the Company’s
management, all adjustments (consisting only of normal recurring
adjustments) considered necessary for a fair presentation have been
reflected in these unaudited condensed consolidated financial
statements. Operating results for the three months ended March 31,
2017 are not necessarily indicative of the results that may be
expected for the fiscal year ending December 31, 2017. The balance
sheet at December 31, 2016 has been derived from the audited
financial statements at that date, but does not include all the
information and footnotes required by U.S. GAAP for complete
financial statements. The accompanying unaudited condensed
consolidated financial statements should be read together with the
consolidated financial statements and related notes included in the
Company's Annual Report on Form 10-K for the fiscal year ended
December 31, 2016.
Use of Estimates
The preparation of
financial statements in conformity with U.S. GAAP requires
management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial
statements, and the reported amounts of revenue and expenses during
the reporting period. The most significant estimates made by
management in the preparation of the financial statements relate to
ultimate revenue and costs for investment in digital and feature
film projects; estimates of sales returns and other allowances and
provisions for doubtful accounts and impairment assessments for
investment in digital and feature film projects. Actual results
could differ from such estimates.
Recent Accounting Pronouncements
In May 2014, the
Financial Accounting Standards Board ("FASB") issued Accounting
Standards Update (“ASU”) No. 2014-09 —Revenue
from Contracts with Customers (Topic 606) (“ASU
2014-09”), which provides guidance for revenue recognition.
This ASU will supersede the revenue recognition requirements in ASC
Topic 605, and most industry specific guidance, and replace it with
a new Accounting Standards Codification (“ASC”) Topic
606. The FASB has also issued several subsequent ASUs which amend
ASU 2014-09. The amendments do not change the core principle of the
guidance in ASC 606.
The core principle
of ASC 606 is that revenue is recognized when promised goods or
services are transferred to customers in an amount that reflects
the consideration to which the entity expects to be entitled in
exchange for those goods or services. To achieve that core
principle, an entity should apply the following steps:
Step 1: Identify
the contract(s) with a customer
Step 2: Identify
the performance obligations in the contract.
Step 3: Determine
the transaction price.
Step 4: Allocate
the transaction price to the performance obligations in the
contract.
Step 5: Recognize
revenue when (or as) the entity satisfies a performance
obligation.
The guidance in ASU
2014-09 also specifies the accounting for some costs to obtain or
fulfill a contract with a customer. ASC 606 will require the
Company to make significant judgments and estimates. ASC 606 also
requires more extensive disclosures regarding the nature, amount,
timing and uncertainty of revenue and cash flows arising from
contracts with customers.
Public business
entities are required to apply the guidance of ASC 606 to annual
reporting periods beginning after December 15, 2017 (2018 for the
Company), including interim reporting periods within that reporting
period. Accordingly, the Company will adopt ASU 606 in the first
quarter of 2018.
ASC 606 requires an
entity to apply ASC 606 using one of the following two transition
methods:
1.
Retrospective
approach: Retrospectively to each prior reporting period presented
and the entity may elect certain practical
expedients.
2.
Modified
retrospective approach: Retrospectively with the cumulative effect
of initially applying ASC 606 recognized at the date of initial
application. If an entity elects this transition method it also is
required to provide the additional disclosures in reporting periods
that include the date of initial application of (a) the amount by
which each financial statement line item is affected in the current
reporting period by the application ASU 606 as compared to the
guidance that was in effect before the change, and (b) an
explanation of the reasons for significant
changes.
The Company expects
that it will adopt ASC 606 following the modified retrospective
approach. The Company is currently evaluating the impact that the
adoption of this new guidance will have on its consolidated
financial statements, particularly regarding the recent 42West
acquisition.
In November 2015,
the FASB issued ASU 2015-17, Income Taxes (Topic 740) regarding
balance sheet classification of deferred income taxes. ASU 2015-17
simplifies the presentation of deferred taxes by requiring deferred
tax assets and liabilities be classified as noncurrent on the
balance sheet. ASU 2015-17 is effective for public companies
for annual reporting periods beginning after December 15, 2016
(2017 for the Company), and interim periods within those fiscal
years. The guidance may be adopted prospectively or
retrospectively and early adoption is permitted. Adoption of ASU
2015-17 did not have an impact on the Company’s financial
position, results of operations or cash flows.
In February 2016,
The FASB issued ASU 2016-02, Leases (Topic 642) intended to improve
financial reporting about leasing transactions. The ASU
affects all companies and other organizations that lease assets
such as real estate, airplanes, and manufacturing
equipment. The ASU will require organizations that lease
assets—referred to as “lessees”—to
recognize on the balance sheet the assets and liabilities for the
rights and obligations created by those leases. Under
the new guidance, a lease will be required to recognize assets and
liabilities for leases with lease terms of more than 12
months. Consistent with current Generally Accepted
Accounting Principles (GAAP), the recognition, measurement, and
presentation of expenses and cash flows arising from a lease by a
lessee primarily will depend on its classification as a finance or
operating lease. However, unlike current
GAAP—which requires only capital leases to be recognized on
the balance sheet –the new ASU will require both types of
leases to be recognized on the balance sheet. The ASU
also will require disclosures to help investors and other financial
statement users better understand the amount, timing, and
uncertainty of cash flows arising from leases. These
disclosures include qualitative and quantitative requirements,
providing additional information about the amounts recorded in the
financial statements.
ASU 2016-02 will
take effect for public companies for fiscal years, and interim
periods within those fiscal years, beginning after December 15,
2018 (2019 for the Company). For all other
organizations, the ASU on leases will take effect for fiscal years
beginning after December 15, 2019, and for interim periods within
fiscal years beginning after December 15, 2020. Early
application will be permitted for all organizations. The Company is
currently reviewing the impact that implementing this ASU will
have.
In August 2016, the
FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230):
Classification of Certain Cash Receipts and Cash Payments, which
addresses how certain cash receipts and cash payments are presented
and classified in the statement of cash flows. The ASU will be
effective on a retrospective or modified retrospective basis for
annual reporting periods beginning after December 15, 2017 (2018
for the Company), and interim periods within those years, with
early adoption permitted. The Company does not believe that
adoption of this new guidance will have a material effect on our
consolidated financial statements.
In October 2016,
the FASB issued ASU 2016-17 —Consolidation (Topic 810):
Interests Held through Related Parties That Are under Common
Control. The update amends the consolidation guidance on how
VIE’s should treat indirect interest in the entity held
through related parties. The ASU will be effective on a
retrospective or modified retrospective basis for annual reporting
periods beginning after December 15, 2016 (2017 for the Company),
and interim periods within those years, with early adoption
permitted. The adoption of ASU 2016-17 did not have an effect on
the Company’s condensed consolidated financial
statements.
In November 2016,
the FASB issued ASU 2016-18, Statement of Cash Flows (Topic
230): Restricted Cash (“ASU 2016-18”). ASU
2016-18 provides guidance on the classification of restricted cash
and cash equivalents in the statement of cash flows. Although it
does not provide a definition of restricted cash or restricted cash
equivalents, it states that amounts generally described as
restricted cash and restricted cash equivalents should be included
with cash and cash equivalents when reconciling the
beginning-of-period and end-of period total amounts shown on the
statement of cash flows. ASU 2016-18 is effective for interim and
annual reporting periods beginning after December 15, 2017. The
Company does not currently expect the adoption of this new standard
to have a material impact on its consolidated financial
statements.
NOTE
2 — GOING CONCERN
The accompanying
unaudited condensed consolidated financial statements have been
prepared in conformity with accounting principles generally
accepted in the U.S. which contemplate the continuation of the
Company as a going concern. Although the Company had net income of
$,4,961,788 for the three months ended March 31, 2017, it was
primarily due to a change in the fair value of the warrant
liability. Furthermore, the Company has recorded
accumulated deficit of $94,850,416 as of March 31,
2017. The Company has a working capital deficit of
$19,795,860 and therefore does not have adequate capital to fund
its obligations as they come due or to maintain or develop its
operations. The Company is dependent upon funds from private
investors and support of certain stockholders. If the Company is
unable to obtain funding from these sources within the next 12
months, it could be forced to liquidate.
These factors raise
substantial doubt about the ability of the Company to continue as a
going concern. The condensed consolidated financial statements do
not include any adjustments that might result from the outcome of
these uncertainties. In this regard, management is planning to
raise any necessary additional funds through loans and additional
issuance of its Common Stock, securities convertible into our
Common Stock, debt securities or a combination of such financing
alternatives. There is no assurance that the Company will be
successful in raising additional capital. Such issuances of
additional securities would further dilute the equity interests of
our existing shareholders, perhaps substantially. The Company
currently has the rights to several scripts that it intends to
obtain financing to produce and release during 2017 and 2018. It
expects to earn a producer and overhead fee for each of these
productions. There can be no assurances that such productions will
be released or fees will be realized in future periods. With
the acquisition of 42 West, the Company is currently exploring
opportunities to expand the services currently being offered by
42West to the entertainment community. There can be no
assurance that the Company will be successful in selling these
services to clients.
NOTE
3 — SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Accounts Receivable and Allowance for
Doubtful Accounts
The Company’s
trade accounts receivable are recorded at amounts billed to
customers, and presented on the balance sheet net of the allowance
for doubtful accounts. The allowance is determined by various
factors, including the age of the receivables, current economic
conditions, historical losses and other information management
obtains regarding the financial condition of customers. The policy
for determining the past due status of receivables is based on how
recently payments have been received. Receivables are charged off
when they are deemed uncollectible.
Revenue
Recognition
In general, the
Company records motion picture revenue when persuasive evidence of
an arrangement exists, products have been delivered or services
have been rendered, the selling price is fixed and determinable,
and collectability is reasonably assured.
Revenue from motion
pictures and web series are recognized in accordance with guidance
of FASB Accounting Standard Codification (“ASC”) 926-60
“Revenue Recognition –
Entertainment-Films”. Revenue is recorded when a
distribution contract, domestic or international, exists, the movie
or web series is complete in accordance with the terms of the
contract, the customer can begin exhibiting or selling the movie or
web series, the fee is determinable and collection of the fee is
reasonable. On occasion, the Company may enter into agreements with
third parties for the co-production or distribution of a movie or
web series. Revenue from these agreements will be
recognized when the movie is complete and ready to be
exploited. Cash received and amounts billed in advance
of meeting the criteria for revenue recognition is classified as
deferred revenue.
Additionally,
because third parties are the principal distributors of the
Company’s movies, the amount of revenue that is recognized
from films in any given period is dependent on the timing, accuracy
and sufficiency of the information received from its distributors.
As is typical in the film industry, the Company's distributors may
make adjustments in future periods to information previously
provided to the Company that could have a material impact on the
Company’s operating results in later periods. Furthermore,
management may, in its judgment, make material adjustments to the
information reported by its distributors in future periods to
ensure that revenues are accurately reflected in the
Company’s financial statements. To date, the distributors
have not made, nor has the Company made, subsequent material
adjustments to information provided by the distributors and used in
the preparation of the Company’s historical financial
statements.
Fees from the
performance of professional services and billings for direct costs
reimbursed by clients are generally recognized on a straight-line
or monthly basis which approximates the proportional performance on
such contracts. Direct costs reimbursed by clients are billed as
pass-through revenue with no mark-up.
Advertising revenue
is recognized over the period the advertisement is
displayed.
Investments
Investments
represents an investment in equity securities of The Virtual
Reality Company (“VRC”). The
Company’s $220,000 investment in VRC represents less than 1%
ownership interest in VRC. Accordingly, the Company accounts for
its investment under the cost method. Under the cost method, the
investor’s share of earnings or losses is not included in the
balance sheet or statement of operations. The net accumulated
earnings of the investee subsequent to the date of investment are
recognized by the investor only to the extent distributed by the
investee as dividends. However, impairment charges are
recognized in the statement of operations, if factors come to our
attention that indicate that a decrease in value of the investment
has occurred that is other than temporary.
Property, Equipment and Leasehold
Improvements
Property and
equipment is recorded at cost and depreciated over the estimated
useful lives of the assets using the straight-line method. The
Company recorded depreciation expense of $4,635 and $5,658,
respectively for the three months ended March 31, 2017 and 2016.
When items are retired or otherwise disposed of, income is charged
or credited for the difference between net book value and proceeds
realized thereon. Ordinary maintenance and repairs are charged to
expense as incurred, and replacements and betterments are
capitalized. Leasehold improvements are amortized over the lesser
of the term of the related lease or the estimated useful lives of
the assets. The range of estimated useful lives to be used to
calculate depreciation and amortization for principal items of
property and equipment are as follow:
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Depreciation/
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Amortization
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Asset
Category
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Period
(Years)
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F Furniture and
fixtures
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5 - 7
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Computer
equipment
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3 - 5
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Leasehold
improvements
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5 - 8
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Deferred Landlord
Reimbursement
Deferred landlord
reimbursement represents the landlord’s reimbursement for
tenant improvements of one of the Company’s office spaces.
Such amount is amortized on a straight-line basis over the term of
the lease.
Deferred Rent
Deferred rent
consists of the excess of the rent expense recognized on the
straight-line basis over the payments required under certain office
leases.
Intangible assets
In connection with
the acquisition of 42West that occurred during the quarter ended
March 31, 2017, the Company acquired an estimated $9,110,000 of
intangible assets with finite useful lives initially estimated to
range from 3 to 10 years. As indicated in note 4, the
purchase price allocation and related consideration are provisional
and subject to completion and adjustment. Intangible assets are
initially recorded at fair value and are amortized over their
respective estimated useful lives and reviewed for impairment
whenever events or changes in circumstances indicate that the
carrying amount of the asset may not be recoverable.
Goodwill
In connection with
the acquisition of 42West that occurred during the quarter ended
March 31, 2017 (note 4), the Company recorded $13,996,337 of
goodwill, which management has assigned to the Entertainment Public
Relations reporting unit. As indicated in note 4, the purchase
price allocation and related consideration are provisional and
subject to completion and adjustment. The Company accounts
for goodwill in accordance with FASB Accounting Standards
Codification No. 350, Intangibles—Goodwill and Other ("ASC
350"). ASC 350 requires goodwill to be reviewed for impairment
annually, or more frequently if circumstances indicate a possible
impairment. The Company evaluates goodwill in the fourth quarter or
more frequently if management believes indicators of impairment
exist. Such indicators could include, but are not limited to (1) a
significant adverse change in legal factors or in business climate,
(2) unanticipated competition, or (3) an adverse action or
assessment by a regulator.
The Company first
assesses qualitative factors to determine whether it is more likely
than not that the fair value of the reporting unit is less than its
carrying amount, including goodwill. If management concludes that
it is more likely than not that the fair value of the reporting
unit is less than its carrying amount, management conducts a
two-step quantitative goodwill impairment test. The first step of
the impairment test involves comparing the fair value of the
reporting unit with its carrying value (including goodwill). The
Company estimates the fair values of its reporting units using a
combination of the income, or discounted cash flows approach and
the market approach, which utilizes comparable companies’
data. If the fair value of the reporting unit exceeds its carrying
value, step two does not need to be performed. If the estimated
fair value of the reporting unit is less than its carrying value,
an indication of goodwill impairment exists for the reporting unit,
and the Company must perform step two of the impairment test
(measurement).
Under step two, an
impairment loss is recognized for any excess of the carrying amount
of the reporting unit’s goodwill over the implied fair value
of that goodwill. The implied fair value of goodwill is determined
by allocating the fair value of the reporting unit in a manner
similar to a purchase price allocation in acquisition accounting.
The residual fair value after this allocation is the implied fair
value of the reporting unit goodwill. To the extent that the
carrying amount of goodwill exceeds its implied fair value, an
impairment loss would be recorded.
Warrants
When the Company
issues warrants, it evaluates the proper balance sheet
classification of the warrant to determine whether the warrant
should be classified as equity or as a derivative liability on the
consolidated balance sheets. In accordance with ASC 815-40,
Derivatives and Hedging-Contracts in the Entity’s Own Equity
(ASC 815-40), the Company classifies a warrant as equity so long as
it is “indexed to the Company’s equity” and
several specific conditions for equity classification are met.
A warrant is not considered indexed to the Company’s
equity, in general, when it contains certain types of exercise
contingencies or contains certain provisions that may alter either
the number of shares issuable under the warrant or the exercise
price of the warrant, including, among other things, a provision
that could require a reduction to the then current exercise price
each time the Company subsequently issues equity or convertible
instruments at a per share price that is less than the current
conversion price (also known as a “full ratchet down round
provision”). If a warrant is not indexed to the
Company’s equity, it is classified as a derivative liability
which is carried on the consolidated balance sheet at fair value
with any changes in its fair value recognized currently in the
statement of operations.
The Company has
outstanding warrants at March 31, 2017 and December 31, 2016
accounted for as derivative liabilities, because they contain
full-ratchet down round provisions (see notes 12 and 18). The
Company also has equity classified warrants outstanding at March
31, 2017 and December 31, 2016 (see note 12).
Fair Value
Measurements
Fair value is
defined as the price that would be received to sell an asset or
paid to transfer a liability in an orderly transaction between
market participants at the measurement date. Assets and liabilities
measured at fair value are categorized based on whether the inputs
are observable in the market and the degree that the inputs are
observable. Inputs refer broadly to the assumptions that market
participants would use in pricing the asset or liability, including
assumptions about risk. Observable inputs are based on market data
obtained from sources independent of the Company. Unobservable
inputs reflect the Company’s own assumptions based on the
best information available in the circumstances. The fair value
hierarchy prioritizes the inputs used to measure fair value into
three broad levels, defined as follows:
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Level
1 —
|
Inputs are quoted
prices in active markets for identical assets or liabilities as of
the reporting date.
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Level
2 —
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Inputs other than
quoted prices included within Level 1, such as quoted prices for
similar assets and liabilities in active markets; quoted prices for
identical or similar assets and liabilities in markets that are not
active; or other inputs that are observable or can be corroborated
with observable market data.
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Level
3 —
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Unobservable inputs
that are supported by little or no market activity and that are
significant to the fair value of the assets and liabilities. This
includes certain pricing models, discounted cash flow
methodologies, and similar techniques that use significant
unobservable inputs. Unobservable inputs for the asset or liability
that reflect management’s own assumptions about the
assumptions that market participants would use in pricing the asset
or liability as of the reporting date.
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To account for the
acquisition of 42West that occurred during the quarter ended March
31, 2017, the Company made a number of fair value measurements
related to the different forms of consideration paid for 42West and
of the identified assets acquired and liabilities assumed. See note
4 for disclosures regarding those fair value
measurements.
Certain warrants
issued in 2016 are measured and carried at fair value on a
recurring basis in the condensed consolidated financial statements.
See note 12 for disclosures regarding those fair value
measurements.
As of March 31,
2016, and for the three months then ended, the Company had no
assets or liabilities measured at fair value, on a recurring or
nonrecurring basis.
Business Segments
Through March 30,
2017 (the date the Company acquired 42West) (see note 4), the
Company operated the following business segments:
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1)
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Dolphin Digital
Media (USA): The Company created online kids clubs and derives
revenue from annual membership fees. The Company derived all of its
revenues from this segment for the quarter ended March 31,
2016.
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2)
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Dolphin Digital
Studios: Dolphin Digital Studios creates original programming that
premieres online, with an initial focus on content geared toward
tweens and teens.
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3)
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Dolphin Films:
Dolphin Films produces motion pictures, with an initial focus on
family content. The motion pictures are distributed,
through third parties, in the domestic and international
markets. The Company derived all of its revenues from
this segment during the quarter ended March 31, 2017.
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Based on an
analysis of the Company’s operating segments and the
provisions of ASC 280, Segment Reporting (ASC 280), the Company
believes it meets the criteria for aggregating these operating
segments into a single reporting segment because they have similar
economic characteristics, similar nature of product sold,
(content), similar production process (the Company uses the same
labor force, and content) and similar type of customer (children,
teens, tweens and family).
Management is
currently reevaluating its operating segments and reporting
segments going forward after the acquisition of 42West in
accordance with the criteria for identification of operating and
reporting segments in ASC 280. The Company expects its evaluation
to be completed during the third quarter of 2017. Although, the
assessment has not been completed as of the end of first quarter of
2017, the Company may identify 42West as a second reportable
segment and will begin making the segment disclosures required by
ASC 280 starting in the second quarter of 2017.
NOTE
4 — ACQUISITION OF 42WEST
On March 30, 2017,
Dolphin Digital Media, Inc. (the “Company”) entered
into a Membership Interest Purchase Agreement (the “Purchase
Agreement”), by and among the Company and the Sellers.
Pursuant to the Purchase Agreement, on March 30, 2017, the Company
acquired from the Sellers 100% of the membership interests of
42West and 42West became a wholly-owned subsidiary of the Company.
42West is an entertainment public relations agency offering talent
publicity, strategic communications and entertainment content
marketing.
The consideration
paid by the Company in connection with the 42West Acquisition was
$18,666,666 (less, the amount of 42West’s transaction
expenses paid by the Company and payments by the Company of certain
42West indebtedness) in shares of Common Stock, determined based on
the Company’s 30-trading-day average stock price prior to the
closing date of $4.61 per share, plus the potential to earn up to
an additional $9.3 million (less payment of certain taxes) in
shares of Common stock, determined based on $4.61 per share.
Additionally, the Company paid $541,160 in shares of Common Stock,
determined based on $4.61 per share, to settle the Sellers’
42West capital accounts. As a result, the Company (i) issued
1,230,280 shares of Common Stock to the Sellers on the closing date
(the “Initial Consideration”), (ii) (a) issued 344,550
shares of Common Stock to certain current 42West employees and a
former 42West employee on April 13, 2017, to settle change in
control provisions in their pre-existing employment and termination
agreements (the “Change in Control Provisions”), (b)
may issue up to 118,655 shares of Common Stock as employee stock
bonuses (the “Employee Bonus Shares”) upon the
effectiveness of a registration statement on Form S-8 promulgated
under the Securities Act of 1933, as amended (the “Securities
Act”), registering the Employee Bonus Shares, and (c) will
issue approximately 1,535,125 shares of Common Stock to the
Sellers, and 426,696 shares of Common Stock to certain current and
former 42West employees to settle the Change in Control Provisions,
on January 2, 2018 (the "Post-Closing Consideration") and (iii)
potentially may issue up to approximately 1,712,828 shares of
Common Stock to the Sellers, and 250,298 shares to certain current
and former 42West employees in accordance with the Change in
Control Provisions, based on the achievement of specified 42West
financial performance targets over a three-year period beginning
January 1, 2017 and ending December 31, 2019 as set forth in the
Purchase Agreement (the "Earn-Out Consideration", and together with
the Initial Consideration and the Post-Closing Consideration, the
"Stock Consideration"). None of the Common Stock included in
the Stock Consideration have been registered under the Securities
Act.
The Company also
agreed to pay the Sellers’ transaction costs and assumed
certain tax liabilities incurred or to be incurred by the Sellers
based on the proceeds they receive.
The issuance of
118,655 Employee Bonus Shares and the potential issuance of 235,575
shares as part of the Earn-Out Consideration to current employees
(the “Employee Earn-Out Shares”) are conditioned on the
employees remaining employed by the Company up to the date the
shares become issuable. If an employee does not remain
employed for the requisite period, the shares they forfeit will be
allocated among and issued to the Sellers. The Employee
Bonus Shares and Employee Earnout Shares are not considered part of
the accounting consideration transferred, but will be recorded as
compensation cost in the Company’s consolidated statements of
operations over the employees’ requisite service
periods.
The Purchase
Agreement contains customary representations, warranties and
covenants.
Also in connection
with the 42West Acquisition, on March 30, 2017, the Company entered
into put agreements (the “Put Agreements”) with each of
the Sellers. Pursuant to the terms and subject to the conditions
set forth in the Put Agreements, the Company has granted the
Sellers the right, but not obligation, to cause the Company to
purchase up to an aggregate of 2,374,187 of their shares of Common
Stock received as Stock Consideration for a purchase price equal to
$4.61 per share during certain specified exercise periods set forth
in the Put Agreements up until December 2020 (the “Put
Rights”).
Each of Leslee
Dart, Amanda Lundberg and Allan Mayer (the “Principal
Sellers”) has entered into employment agreements with the
Company to continue as employees of the Company for a three-year
term after the closing of the 42West Acquisition. Each of the
employment agreements of the Principal Sellers contains lock-up
provisions pursuant to which each Principal Seller has agreed not
to transfer any shares of Common Stock in the first year, except
pursuant to an effective registration statement on Form S-1 or Form
S-3 promulgated under the Securities Act (an “Effective
Registration Statement”) or upon exercise of the Put Rights
pursuant to the Put Agreement, and, except pursuant to an Effective
Registration Statement, no more than 1/3 of the Initial
Consideration and Post-Closing Consideration received by such
Principal Seller in the second year and no more than an additional
1/3 of the Initial Consideration and Post-Closing Consideration
received by such Principal Seller in the third year, following the
closing date. The non-executive employees of 42West are expected to
be retained as well.
In addition, in
connection with the 42West Acquisition, on March 30, 2017, the
Company entered into a registration rights agreement with the
Sellers (the “Registration Rights Agreement”) pursuant
to which the Sellers are entitled to rights with respect to the
registration under the Securities Act. All fees, costs and expenses
of underwritten registrations under the Registration Rights
Agreement will be borne by the Company. At any time after the
one-year anniversary of the Registration Rights Agreement, the
Company will be required, upon the request of such Sellers holding
at least a majority of the Stock Consideration received by the
Sellers, to file a registration statement on Form S-1 and use its
reasonable efforts to affect a registration covering up to 25% of
the Stock Consideration received by the Sellers. In addition, if
the Company is eligible to file a registration statement on Form
S-3, upon the request of such Sellers holding at least a majority
of the Stock Consideration received by the Sellers, the Company
will be required to use its reasonable efforts to affect a
registration of such shares on Form S-3 covering up to an
additional 25% of the Stock Consideration received by the Sellers.
The Company is required to effect only one registration on Form S-1
and one registration statement on Form S-3, if eligible. The right
to have the Stock Consideration received by the Sellers registered
on Form S-1 or Form S-3 is subject to other specified conditions
and limitations.
The provisional
acquisition-date fair value of the consideration transferred
totaled $23,458,767, which consisted of the following:
|
Common Stock issued
at closing and in April 2017 (1,574,830 shares)
|
$
6,693,028
|
|
Fair value of Common Stock issuable on
January 2, 2018 (1,961,821 shares)
|
8,337,739
|
|
Fair value of
Contingent Consideration
|
3,541,000
|
|
Fair value of Put
Rights
|
4,000,000
|
|
Sellers’
transaction costs paid at closing
|
260,000
|
|
Sellers’ tax
liabilities assumed
|
627,000
|
|
|
$
23,458,767
|
The Company has
engaged an independent third party valuation expert to determine
the fair values of the various forms of consideration transferred,
which is not yet complete. The fair values of the Contingent
Consideration, Put Rights and Sellers’ tax liabilities
assumed are provisional pending receipt of the final valuations for
these items. The final amount of consideration may also potentially
change due to any working capital or other closing adjustments,
which have not yet been determined.
The fair values of
the 1,574,830 shares of Common Stock issued at closing and in April
2017 and the 1,961,821 shares of Common Stock to be issued on
January 2, 2018 were determined based on the closing market price
of the Company’s Common Stock on the acquisition date of
$4.25 per share.
The Earn-Out
Consideration arrangement requires the Company to pay
up
to 1,727,551 shares of Common Stock to
the Sellers and one former employee of 42West
to settle a
Change in Control Provision
(the “Contingent
Consideration”), on achievement of adjusted EBITDA targets
based on the operations of 42West over the three-year period
beginning January 1, 2017.
The provisional fair
value of the Contingent Consideration at the acquisition date was
$3,541,000. The fair value of the Contingent Consideration was
estimated using a Monte Carlo Simulation model, which incorporates
significant inputs that are not observable in the market, and thus
represents a Level 3 measurement as defined in ASC 820. The
unobservable inputs utilized for measuring the fair value of the
Contingent Consideration reflect management’s own assumptions
about the assumptions that market participants would use in valuing
the Contingent Consideration as of the acquisition
date. The key assumptions in applying the Monte Carlo
Simulation model are as follows: a risk-free discount rate of 1.55%
based on the U.S government treasury obligation with a term similar
to that of the contingent consideration, an annual asset volatility
estimate of 65%, and an estimated adjusted EBITDA figure of
$3,200,000 million as of the acquisition date.
The provisional
fair value of the Put Rights at the acquisition date of was
$4,000,000 estimated using Black-Scholes Option Pricing Model,
which incorporates significant inputs that are not observable in
the market, and thus represents a Level 3 measurement as defined in
ASC 820. The unobservable inputs utilized for measuring the fair
value of the Put Rights reflect management’s own assumptions
about the assumptions that market participants would use in valuing
the Put Rights as of the acquisition date. The key
assumptions in applying the Black Scholes Option Pricing Model are
as follows: a discount rate range of 0.12% to 1.70% based on U.S
Treasury obligations with a term similar to the exercise period for
each of the rights to put shares to the Company as set forth in the
Put Option agreements, and an equity volatility estimate of 80%
based on the stock price volatility of the Company and certain
publicly traded companies operating in the advertising services
industry.
The fair value of
the sellers’ tax liabilities assumed of $627,000 is made up
of (a) estimates of taxes to be payable upon the issuance of the
Initial Consideration and Post-Closing Consideration, of $242,000
and $261,000, respectively, based on an estimated tax rate of 3% on
estimated taxable amounts, and (b) an estimated fair value of
possible tax liabilities to be owed by the Sellers related to the
shares which may be issued as part of the Contingent Consideration
(the “Contingent Tax Liability”). The fair
value of the Contingent Tax Liability was estimated by applying a
3% estimated tax rate to the estimated fair value of the Contingent
Consideration, which as described above, was estimated using the
Monte Carlo Simulation model incorporating significant inputs that
are not observable in the market. Thus, the estimated fair value of
the Contingent Tax Liability represents a Level 3 measurement as
defined in ASC 820. Since the 3% tax rate and the taxable amounts
are estimates based on the information that is obtainable at the
acquisition date, the estimated fair values of the sellers’
tax liabilities assumed are provisional and are subject to
change.
The following table
summarizes the estimated fair values of the assets acquired and
liabilities assumed at the acquisition date, March 30, 2017. The
Company’s independent third party valuation expert is in the
process of determining the fair values of the consideration
transferred to acquire 42West and certain intangible assets
acquired; thus, the provisional measurements of accounts
receivable, other assets, rental liabilities, accounts payable and
accrued expenses, intangible assets, goodwill, property, equipment
and leasehold improvements and deferred income tax liabilities in
the table below are subject to change.
|
Cash
|
$
273,625
|
|
Accounts
receivable
|
1,706,644
|
|
Property, equipment
and leasehold improvements
|
1,087,962
|
|
Other
assets
|
265,563
|
|
Intangible
assets
|
9,110,000
|
|
Total identifiable
assets acquired
|
12,443,794
|
|
|
|
|
Accounts payable
and accrued expenses
|
(731,475
)
|
|
Line of credit and
note payable
|
(1,025,000
)
|
|
Settlement
liability
|
(300,000
)
|
|
Other
liabilities
|
(902,889
)
|
|
Tax
liabilities
|
(22,000
)
|
|
Total liabilities
assumed
|
(2,981,364
)
|
|
Net identifiable
assets acquired
|
9,462,430
|
|
Goodwill
|
13,996,337
|
|
Net assets
acquired
|
$
23,458,767
|
Of the $9,110,000
of acquired intangible assets, $5,980,000 was assigned to customer
relationships (10-year useful life), $2,760,000 was assigned to the
trade name (10-year useful life), and $370,000 was assigned to
non-competition agreements (3-year useful life), that were
recognized at fair value on the acquisition date. The fair value of
the acquired identifiable intangible assets is provisional pending
receipt of the final valuations for these assets.
The provisional
fair value of accounts receivable acquired is $1,706,644, with the
gross contractual amount being $1,941,644. The Company expects
$235,000 to be uncollectible.
The provisional
fair values of property and equipment and leasehold improvements of
$1,087,962, and other assets of $265,563, are based on
42West’s carrying values prior to the acquisition, which
approximate their fair values.
The provisional
$13,996,337 of goodwill was assigned to the Entertainment Public
Relations reporting unit. The goodwill recognized is attributable
primarily to expectations of continued successful efforts to obtain
new customers, buyer specific synergies and the assembled workforce
of 42West. The goodwill is expected to be deductible for income tax
purposes.
The Company
recognized $287,708 of acquisition related costs that were expensed
in the three months ended March 31, 2017. These costs are included
in the condensed consolidated statements of operations in the line
item entitled “acquisition related costs.”
The impact of
42West’s revenue and earnings, for the one day between the
acquisition date (March 30, 2017) and March 31, 2017, to revenues
and net loss recorded in the condensed consolidated statement of
operations for the three months ended March 31, 2017 is de
minimis.
The following
represents the pro forma consolidated operations for the three
months ended March 31, 2017 and 2016 as if 42West had been acquired
on January 1, 2016 and its results had been included in the
consolidated results of the Company:
|
Pro
Forma Consolidated Statements of Operations
|
|
|
Three months
ended March 31,
|
|
|
|
|
|
Revenues
|
$
5,222,422
|
$
4,925,286
|
|
Net income
(loss)
|
5,678,194
|
(2,906,009
)
|
These amounts have
been calculated after applying the Company’s accounting
policies and adjusting the results of 42West to reflect the
amortization that would have been charged assuming the intangible
assets had been recorded on January 1, 2006, together with the
consequential tax effects. The 2017 pro forma earnings were
adjusted to exclude $287,708 of acquisition related costs that were
expensed during the three months ended March 31, 2017.
NOTE
5 — CAPITALIZED PRODUCTION COSTS, ACCOUNTS RECEIVABLES AND
OTHER CURRENT ASSETS
Capitalized Production
Costs
Capitalized
production costs include the unamortized costs of completed motion
pictures and digital projects which have been produced by the
Company, costs of scripts for projects that have not been developed
or produced and costs for projects that are in production. These
costs include direct production costs and production overhead and
are amortized using the individual-film-forecast method, whereby
these costs are amortized and participations and residuals costs
are accrued in the proportion that current year’s revenue
bears to management’s estimate of ultimate revenue at the
beginning of the current year expected to be recognized from the
exploitation, exhibition or sale of the motion picture or web
series.
Motion Pictures
For the three
months ended March 31, 2017, revenues earned from motion pictures
were $532,866 mainly attributable to
Max Steel
, the motion picture released
on October 14, 2016 and international sales of
Believe
, the motion picture released in
December 2013. The Company did not earn any revenues
from motion pictures during the three months ended March 31,
2016. The Company amortized capitalized production
costs (included as direct costs) in the condensed consolidated
statements of operations using the individual film forecast
computation method in the amount of $517,303 during the three
months ended March 31, 2017, related to
Max Steel
. Subsequent to the
release of the movie, the Company used a discounted cash flow model
and determined that the fair value of the capitalized production
costs should be impaired by $2,000,000 due to a lower than expected
domestic box office performance. As of March 31, 2017,
and December 31, 2016, the Company had a balance of $3,760,652, and
$4,189,930, respectively recorded as capitalized production costs
related to
Max
Steel
.
The Company has
purchased scripts, including one from a related party, for other
motion picture productions and has capitalized $230,000 and
$215,000 in capitalized production costs as of March 31, 2017 and
December 31, 2016 associated with these scripts. The Company
intends to produce these projects but they were not yet in
production as of March 31, 2017.
On November 17,
2015, the Company entered into a quitclaim agreement with a
distributor for rights to a script owned by the
Company. As part of the agreement the Company will
receive $221,223 plus interest and a profit participation if the
distributor decides to produce the motion picture within 24 months
after the execution of the agreement. If the motion
picture is not produced within the 24 months, all rights revert
back to the Company. As per the terms of the agreement, the Company
is entitled to co-finance the motion picture and the distributor
will assist the Company in releasing its completed motion picture.
As of March 31, 2017, the Company had not been notified by the
distributer that it itends to produce the motion
picture.
As of March 31,
2017, and December 31, 2016, respectively, the Company has total
capitalized production costs of $3,990,652 and $4,404,930, net of
accumulated amortization, tax incentives and impairment charges,
recorded on its condensed consolidated balance sheets related to
motion pictures.
Digital
Productions
During the year
ended December 31, 2016, the Company began production of a new
digital project showcasing favorite restaurants of NFL players
throughout the country. The Company entered into a co-production
agreement and is responsible for financing 50% of the
project’s budget. Per the terms of the agreement, the Company
is entitled to 50% of the profits of the project, net of any
distribution fees. During the three months ended March
31, 2017 and 2016, the Company did not earn any revenues related to
digital projects.
As of March
31, 2017, and December 31, 2016, respectively, the Company has
total capitalized production costs of $251,444 and $249,083, net of
accumulated amortization, tax incentives and impairment charges,
recorded on its condensed consolidated balance sheet related to the
digital project.
The Company has
assessed events and changes in circumstances that would indicate
that the Company should assess whether the fair value of the
productions are less than the unamortized costs capitalized and did
not identify indicators of impairment, other than those noted above
related to
Max
Steel
.
Accounts
Receivables
The Company entered
into various agreements with foreign distributors for the licensing
rights of our motion picture,
Max
Steel
, in certain international territories. The
motion picture was delivered to the distributors and other
stipulations, as required by the contracts were
met. As of March 31, 2017 and December 31, 2016,
the Company had a balance of $1,716,219 and $3,668,646,
respectively, in accounts receivable related to the revenues of
Max Steel
.
The Company’s
trade accounts receivable related to its entertainment public
relations business are recorded at amounts billed to customers, and
presented on the balance sheet, net of the allowance for doubtful
accounts. The allowance is determined by various
factors, including the age of the receivables, current economic
conditions, historical losses and other information management
obtains regarding the financial condition of
customers. As of March 31, 2017, the Company had a
balance of $1,706,644, net of $235,000 of allowance for doubtful
accounts of accounts receivable related to the entertainment PR
business as of March 31, 2017 (note 4).
Other Current
Assets
The Company had a
balance of $382,755 and $2,665,781 in other current assets on its
condensed consolidated balance sheets as of March 31, 2017 and
December 31, 2016, respectively. As of March 31, 2017,
these amounts were primarily comprised of prepaid loan
interest. As of December 31, 2016, these amounts were
primarily comprised of tax incentive receivables, and prepaid loan
interest.
Tax Incentives
-The Company has
access to government programs that are designed to promote film
production in the jurisdiction. As of March 31, 2017,
and December 31, 2016, respectively, the Company had a balance of
$0 and $2,060,883 from these tax incentives. Tax
incentives earned with respect to expenditures on qualifying film
productions are included as an offset to capitalized production
costs when the qualifying expenditures have been incurred provided
that there is reasonable assurance that the credits will be
realized.
Prepaid Interest
– The
Company entered into a loan and security agreement to finance the
distribution and marketing costs of a motion picture and prepaid
interest related to the agreement. As of March 31, 2017, and
December 31, 2016, there was a balance of $382,542 and $602,697 of
prepaid interest.
NOTE
6 —PROPERTY, EQUIPMENT AND LEASEHOLD
IMPROVEMENTS
Property, equipment
and leasehold improvement consists of:
|
|
|
|
|
Furniture and
fixtures
|
$
577,217
|
$
65,310
|
|
Computers and
equipment
|
270,604
|
41,656
|
|
Leasehold
improvements
|
354,756
|
7,649
|
|
|
1,202,577
|
114,615
|
|
Less: accumulated
depreciation
|
(84,063
)
|
(79,428
)
|
|
|
$
1,118,514
|
$
35,187
|
The Company
depreciates furniture and fixtures over a useful life of between
five and seven years, computer and equipment over a useful life of
between three and five years and leasehold improvements over the
remaining term of the related leases. The balances as of
March 31, 2017 include the provisional amounts of the
Company’s newly acquired subsidiary 42West (See note
4).
NOTE
7 — INVESTMENT
Investments, at
cost, consist of 344,980 shares of common stock of The
VRC. In exchange for services rendered by 42West to VRC
during 2015, 42West received both cash consideration and a
promissory note that was convertible into shares of common stock of
VRC. On April 7, 2016, VRC closed an equity financing
round resulting in common stock being issued to a third-party
investor. This transaction triggered the conversion of
all outstanding promissory notes into shares of common stock of
VRC. The Company’s investment in VRC represents
less than 1% ownership interest in VRC. The Company had a balance
of $220,000 on its condensed consolidated balance sheet as of March
31, 2017 related to this investment.
NOTE
8— DEBT
Loan
and Security Agreements
First Group Film
Funding'
During the years
ended December 31, 2013 and 2014, the Company entered into various
loan and security agreements with individual noteholders (the
“First Loan and Security Noteholders”) for notes with
an aggregate principal amount of $11,945,219 to finance future
motion picture projects (the “First Loan and Security
Agreements”). During the year ended December 31, 2015, one of
the First Loan and Security Noteholders increased its funding under
its respective First Loan and Security Agreement for an additional
$500,000 note and the Company used the proceeds to repay $405,219
to another First Loan and Security Noteholder. Pursuant to the
terms of the First Loan and Security Agreements, the notes accrued
interest at rates ranging from 11.25% to 12% per annum, payable
monthly through June 30, 2015. During 2015, the Company exercised
its option under the First Loan and Security Agreements, to extend
the maturity date of these notes until December 31, 2016. In
consideration for the Company’s exercise of the option to
extend the maturity date, the Company was required to pay a higher
interest rate, increasing by 1.25% resulting in rates ranging from
12.50% to 13.25%. The First Loan and Security Noteholders, as a
group, were to receive the Company’s entire share of the
proceeds from the motion picture productions funded under the First
Loan and Security Agreements, on a prorata basis, until the
principal investment was repaid. Thereafter, the First Loan and
Security Noteholders, as a group, would have the right to
participate in 15% of the Company’s future profits from these
projects (defined as the Company’s gross revenues of such
projects less the aggregate amount of principal and interest paid
for the financing of such projects) on a prorata basis based on
each First Loan and Security Noteholder's loan commitment as a
percentage of the total loan commitments received to fund specific
motion picture productions.
On May 31, 2016 and
June 30, 2016, the Company entered into debt exchange agreements
with certain First Loan and Security Noteholders on substantially
similar terms to convert an aggregate of $11,340,000 of principal
and $1,811,490 of accrued interest into shares of Common Stock.
Pursuant to the terms of such debt exchange agreements, the Company
agreed to convert the debt owed to certain First Loan and Security
Noteholders into Common Stock at an exchange rate of $5.00 per
share and issued 2,630,298 shares of Common Stock.
During the three
months ended March 31, 2017 and 2016, the Company expensed $0 and
$403,808, respectively in interest related to the First Loan and
Security Agreements. The Company did not have any debt outstanding
or accrued interest as of March 31, 2017 and December 31, 2016
related to the First Loan and Security Agreements on its condensed
consolidated balance sheets.
Web Series Funding
During the years
ended December 31, 2014 and 2015, the Company entered into various
loan and security agreements with individual noteholders (the
“Web Series Noteholders”) for an aggregate principal
amount of notes of $4,090,000 which the Company used to finance
production of its 2015 web series (the “Web Series Loan and
Security Agreements”). Under the Web Series Loan and Security
Agreements, the Company issued promissory notes that accrued
interest at rates ranging from 10% to 12% per annum payable monthly
through August 31, 2015, with the exception of one note that
accrued interest through February 29, 2016. During 2015, the
Company exercised its option under the Web Series Loan and Security
Agreements to extend the maturity date of these notes to August 31,
2016. In consideration for the Company’s exercise of the
option to extend the maturity date, the Company was required to pay
a higher interest rate, increasing 1.25% resulting in interest
rates ranging from 11.25% to 13.25%. Pursuant to the terms of the
Web Series Loan and Security Agreements, the Web Series
Noteholders, as a group, would have had the right to participate in
15% of the Company’s future profits generated by the series
(defined as the Company’s gross revenues of such series less
the aggregate amount of principal and interest paid for the
financing of such series) on a prorata basis based on each Web
Series Noteholder's loan commitment as a percentage of the total
loan commitments received to fund the series.
During 2016 the
Company entered into thirteen individual debt exchange agreements
(the “Web Series Debt Exchange Agreements”) on
substantially similar terms with the Web Series Noteholders.
Pursuant to the terms of the Web Series Debt Exchange Agreements,
the Company and each Web Series Noteholder agreed to convert an
aggregate of $4,204,547 of principal and accrued interest under the
Web Series Loan and Security Agreements into an aggregate of
840,910 shares of Common Stock at an exchange price of $5.00 per
share as payment in full of each of the notes issued under the Web
Series Loan and Security Agreements. Mr. Nicholas Stanham, director
of the Company, was one of the Web Series Noteholders that
converted his note into shares of Common Stock. For the
three months ended March 31, 2016, the Company recorded a loss on
extinguishment of debt in the amount of $576,676 due to the market
price of the Common Stock being $6.00 per share on the date of the
exchange.
During the three
months ended March 31, 2017 and 2016, the Company recorded expense
of $0 and $243,254 respectively, in interest related to the Web
Series Loan and Security Agreements. The Company did not have any
debt outstanding or accrued interest as of March 31, 2017 and
December 31, 2016 related to the Web Series Loan and Security
Agreements on its condensed consolidated balance
sheets.
Second Group Film
Funding
During the year
ended December 31, 2015, the Company entered into various loan and
security agreements with individual noteholders (the “Second
Loan and Security Noteholders”) for notes with an aggregate
principal amount of $9,274,327 to fund a new group of film projects
(the “Second Loan and Security Agreements”). Of this
total aggregate amount, notes with an aggregate principal amount of
$8,774,327 were issued in exchange for debt that had originally
been incurred by Dolphin Entertainment, primarily related to the
production and distribution of the motion picture,
“
Believe
”. The
remaining $500,000 of principal amount was related to a note issued
in exchange for cash. The notes issued pursuant to the
Second Loan and Security Agreements accrue interest at rates
ranging from 11.25% to 12% per annum, payable monthly through
December 31, 2016. The Company did not exercise its option to
extend the maturity date of these notes until July 31, 2018. The
Second Loan and Security Noteholders, as a group, were to receive
the Company’s entire share of the proceeds from the related
group of film projects, on a prorata basis, until the principal
balance was repaid. Thereafter, the Second Loan and Security
Noteholders, as a group, would have the right to participate in 15%
of the Company’s future profits from such projects (defined
as the Company’s gross revenues of such projects less the
aggregate amount of principal and interest paid for the financing
of such projects) on a prorata basis based on each Second Loan and
Security Noteholder’s loan principal as a percentage of the
total loan proceeds received to fund the specific motion picture
productions.
During 2016, the
Company entered into various debt exchange agreements on
substantially similar terms with certain of the Second Loan and
Security Noteholders to convert an aggregate of $4,344,350 of
principal and accrued interest into shares of Common Stock.
Pursuant to such debt exchange agreements, the Company agreed to
convert the debt at an exchange price of $5.00 per share and issued
868,870 shares of Common Stock. During 2016, the Company
repaid one of the Second Loan and Security Noteholders its
principal investment of $300,000.
During the three
months ended March 31, 2017 and 2016, the Company recorded interest
expense of $0 and $263,190, respectively, related to the Second
Loan and Security Agreements. The Company did not have
any debt outstanding or accrued interest as of March 31, 2017 and
December 31, 2016 related to the Second Loan and Security
Agreements on its condensed consolidated balance
sheets.
The Company
accounts for the above agreements in accordance with ASC
470-10-25-2, which requires that cash received from an investor in
exchange for the future payment of a specified percentage or amount
of future revenue shall be classified as debt. The Company does not
purport the arrangements to be a sale and the Company has
significant continuing involvement in the generation of cash flows
due to the noteholders.
Prints and Advertising
Loan
During 2016,
Dolphin Max Steel Holding, LLC, a Florida limited liability company
(“Max Steel Holding”) and a wholly owned subsidiary of
Dolphin Films, entered into a loan and security agreement (the
“P&A Loan”) providing for $14,500,000 non-revolving
credit facility that matures on August 25, 2017. The proceeds of
the credit facility were used to pay a portion of the print and
advertising expenses of the domestic distribution of “Max
Steel”. To secure Max Steel Holding’s obligations under
the Loan and Security Agreement, the Company granted to the lender
a security interest in bank account funds totaling $1,250,000
pledged as collateral and recorded as restricted cash in the
condensed consolidated balance sheet as of December 31, 2016, and
rights to the assets of Max Steel Holdings, but without recourse to
the assets of the Company. During the three months ended March 31,
2017, the Company agreed to allow the lender to apply the balance
held as Restricted Cash to the loan balance. The loan
is also partially secured by a $4,500,000 corporate guaranty from a
party associated with the film. The lender has retained a
reserve of $1,531,871 for loan fees and interest (the
“Reserve”). Amounts borrowed under the credit
facility will accrue interest at either (i) a fluctuating per annum
rate equal to the 5.5% plus a base rate or (ii) a per annum rate
equal to 6.5% plus the LIBOR determined for the applicable interest
period. As March 31, 2017 and December 31, 2016, the Company had an
outstanding balance of $9,688,855 and $12,500,000, respectively,
including the Reserve, related to this agreement recorded on the
condensed consolidated balance sheets. On its condensed
consolidated statement of operations for the three months ended
March 31, 2017, the Company recorded (i) interest expense of
$220,155 related to the P&A Loan and (ii) $500,000 in direct
costs from loan proceeds that were not used by the distributor for
the marketing of the film and returned to the lender.
Production
Service Agreement
During the year
ended December 31, 2014, Dolphin Films entered into a financing
agreement for the production of one of the Company’s feature
film,
Max Steel
(the
“Production Service Agreement”). The Production Service
Agreement was for a total amount of $10,419,009 with the lender
taking an $892,619 producer fee. The Production Service Agreement
contained repayment milestones to be made during the year ended
December 31, 2015, that if not met, accrued interest at a default
rate of 8.5% per annum above the published base rate of HSBC
Private Bank (UK) Limited until the maturity on January 31, 2016 or
the release of the movie. Due to a delay in the release of Max
Steel, the Company did not make the repayments as prescribed in the
Production Service Agreement. As a result, the Company recorded
accrued interest of $1,296,499 and $1,147,520, respectively, as of
March 31, 2017 and December 31, 2016 in other current liabilities
on the Company’s condensed consolidated balance sheets. The
loan was partially secured by international distribution agreements
entered into by the Company prior to the commencement of principal
photography and the receipt of tax incentives. As a condition to
the Production Service Agreement, the Company acquired a completion
guarantee from a bond company for the production of the motion
picture. The funds for the loan were held by the bond company and
disbursed as needed to complete the production in accordance with
the approved production budget. The Company recorded debt as funds
were transferred from the bond company for the
production.
As of March 31,
2017, and December 31, 2016 the Company had outstanding balances of
$3,211,387 and $6,243,069, respectively, related to this debt on
its condensed consolidated balance sheets.
Line
of Credit
The Company’s
subsidiary, 42West has a $1,500,000 revolving credit line agreement
with City National Bank (“City National”), which
matures on August 31, 2017. The Company has notified
City National of its intention to renew the credit line on
substantially identical terms. Borrowings bear
interest at the bank’s prime lending rate plus 0.875%. The
debt, including letters of credit outstanding, is collateralized by
substantially all of the assets of 42West and guaranteed by the
Principal Sellers of 42West. The credit agreement
requires the Company to meet certain covenants and includes
limitations on distributions to members. The outstanding
loan balance as of March 31, 2017 is $500,000.
NOTE
9 — CONVERTIBLE DEBT
On December 7,
2015, the Company entered into a subscription agreement with an
investor to sell up to $7,000,000 in convertible promissory notes
of the Company. The promissory note would bear interest on the
unpaid balance at a rate of 10% per annum, and became due and
payable on December 7, 2016. The promissory note could have
been prepaid at any time without a penalty. Pursuant to the
subscription agreement, the Company issued a convertible note to
the investor in the amount of $3,164,000. At any time prior to the
maturity date, the investor had the right, at its option, to
convert some or all of the convertible note into Common Stock. The
convertible note had a conversion price of $5.00 per share. The
outstanding principal amount and all accrued interest were
mandatorily and automatically converted into Common Stock, at the
conversion price, upon the average market price per share of Common
Stock being greater than or equal to the conversion price for
twenty trading days.
During the three
months ended March 31, 2016, a triggering event occurred pursuant
to the convertible note agreement. As such 632,800 shares of Common
Stock were issued in satisfaction of the convertible note payable.
For the three months ended March 31, 2017 and 2016, the Company
recorded interest expense of $0 and $31,207 on its condensed
consolidated statements of operations.
NOTE
10— NOTES PAYABLE
On July 5, 2012,
the Company signed an unsecured promissory note in the amount of
$300,000 bearing 10% interest per annum and payable on demand. No
payments were made on the note during the three months ended March
31, 2017. The Company recorded accrued interest of
$142,192 and $134,794 as of March 31, 2017 and December 31, 2016,
respectively related to this note. As of each March 31, 2017 and
December 31, 2016, the Company had a balance of $300,000 on its
condensed consolidated balance sheets related to this note
payable.
The Company
expensed $7,397 and $7,479, respectively for the years ended March
31, 2017 and December 31, 2016, respectively for interest related
to this note.
During 2011, 42West
entered into an agreement to purchase the interest of one of its
members. Pursuant to the agreement, the outstanding
principal, along with any accrued interest, shall be payable
immediately if 42West sells, assigns, transfers, or otherwise
disposes all or substantially all of its assets and/or businessa
prior to December 31, 2018. As of March 31, 2017, the Company
had a balance of $525,000 related to ths agreement. In
connection with the Company’s acquisition of the membership
interest of 42West, (note 4), payment of this redemption was
accelerated, with $300,000 paid during April 2017, and the
remaining $225,000 to be paid in January 2018. The
outstanding balance at March 31, 2017 of $525,000 has been included
in current liabilities on the accompanying balance sheet.
NOTE
11 — LOANS FROM RELATED PARTY
On December 31, 2011, the Company issued an
unsecured revolving promissory note (the “DE Note”) to
Dolphin Entertainment, an entity wholly owned by the Company's CEO.
The DE Note accrued interest at a rate of 10% per annum. Dolphin
Entertainment had the right at any time to demand that all
outstanding principal and accrued interest be repaid with a ten-day
notice to the Company. On March 4, 2016, the Company entered into a
subscription agreement (the “Subscription Agreement”)
with Dolphin Entertainment. Pursuant to the terms of the
Subscription Agreement, the Company and Dolphin Entertainment
agreed to convert the $3,073,410 aggregate amount of principal and
interest outstanding under the DE Note into 614,682 shares of
Common Stock. The shares were converted at a price of $5.00
per share. On the date of the conversion that market price of the
shares was $6.00 and as a result the Company recorded a loss on the
extinguishment of the debt of $614,682 on the condensed
consolidated statement of operations for the three months ended
March 31, 2016. During the three months ended March 31, 2016,
the Company recorded interest expense in the amount of $32,008 on
its condensed consolidated statement of
operations.
In addition, Dolphin Entertainment has previously
advanced funds for working capital to Dolphin Films. During the
year ended December 31, 2015, Dolphin Films agreed to enter into
second Loan and Security Agreements with certain of DE’s
debtholders, pursuant to which the debtholders exchanged their DE
Notes for notes issued by Dolphin Films totaling $8,774,327. See
note 8 for more details. The amount of debt assumed by Dolphin
Films was applied against amounts owed to Dolphin Entertainment by
Dolphin Films. During 2016, Dolphin Films entered into a promissory
note with Dolphin Entertainment (the “New DE Note”) in
the principal amount of $1,009,624. The New DE Note is
payable on demand and bears interest at 10% per annum. During
the three months ended March 31, 2017, the Company agreed to
include certain script costs and other payables totaling $594,315
that were owed to Dolphin Entertainment as part of the New DE Note.
During the three months ended March 31, 2017, the Company received
proceeds related to the New DE Note from Dolphin Entertainment in
the amount of $672,000 and repaid Dolphin Entertainment
$456,330. As of March 31, 2017, and December 31, 2016,
Dolphin Films owed Dolphin Entertainment $1,244,310 and $684,326,
respectively, that was recorded on the condensed consolidated
balance sheets. Dolphin Films recorded interest expense of $23,287
for the three months ended March 31,
2017.
NOTE
12 — FAIR VALUE MEASUREMENTS
During 2016, the
Company issued Series G, H, I, J and K Common Stock warrants (the
“Warrants”) for which the Company determined that the
Warrants should be accounted for as derivatives (see note 18), for
which a liability is recorded in the aggregate and measured at fair
value in the consolidated balance sheets on a recurring basis, and
the change in fair value from one reporting period to the next is
reported as income or expense in the consolidated statements of
operations. On March 30, 2017, Warrants J and K were
exercised.
The Company records
the fair value of the liability in the condensed consolidated
balance sheets under the caption “Warrant liability”
and records changes to the liability against earnings or loss under
the caption “Changes in fair value of warrant
liability” in the condensed consolidated statements of
operations. The carrying amount at fair value of the
aggregate liability for the Warrants recorded on the condensed
consolidated balance sheet at March 31, 2017 and December 31, 2016
is $3,636,865 and $20,405,190. Due to the decrease in
the fair value of the Warrant Liability for the period in which the
Warrants were outstanding during the three months ended March 31,
2017, the Company recorded a gain on the warrant liability of $
6,823,325 in the condensed consolidated statement of operations for
the three months ended March 31, 2017.
The Warrants
outstanding at March 31, 2017 have the following
terms:
|
|
|
|
|
|
|
|
Series G
Warrants
|
November 4,
2016
|
1,500,000
|
$
4.61
|
9
|
January 31,
2018
|
|
Series H
Warrants
|
November 4,
2016
|
500,000
|
$
4.61
|
21
|
January 31,
2019
|
|
Series I
Warrants
|
November 4,
2016
|
500,000
|
$
4.61
|
31
|
January 31,
2020
|
The Warrants have
an adjustable exercise price due to a full ratchet down round
provision, which would result in a downward adjustment to the
exercise price in the event the Company completes a financing in
which the price per share of the financing is lower than the
exercise price of the Warrants in effect immediately prior to the
financing.
Due to the
existence of the full ratchet down round provision, which creates a
path-dependent nature of the exercise prices of the Warrants, the
Company concluded it is necessary to measure the fair value of the
Warrants using a Monte Carlo Simulation model, which incorporates
inputs classified as “level 3” according to the fair
value hierarchy in ASC 820, Fair Value. In general, level 3
assumptions utilize unobservable inputs that are supported by
little or no market activity in the subject instrument and that are
significant to the fair value of the liabilities. The unobservable
inputs the Company utilizes for measuring the fair value of the
Warrant liability reflects management’s own assumptions about
the assumptions that market participants would use in pricing the
asset or liability as of the reporting date.
The Company
determined the fair values of the Warrants by using the following
key inputs to the Monte Carlo Simulation model at March 31,
2017:
|
|
|
|
Inputs
|
|
|
|
|
Volatility
(1)
|
62.9
%
|
81.0
%
|
73.0
%
|
|
Expected term
(years)
|
.83
|
1.83
|
2.83
|
|
Risk free interest
rate
|
.990
%
|
1.230
%
|
1.462
%
|
|
Common stock
price
|
$
4.25
|
$
4.25
|
$
4.25
|
|
Exercise
price
|
$
4.61
|
$
4.61
|
$
4.61
|
The stock
volatility assumption represents the range of the volatility curves
used in the valuation analysis that the Company has determined
market participants would use based on comparison with similar
entities. The risk-free interest rate is interpolated
where appropriate, and is based on treasury yields. The valuation
model also included a level 3 assumption as to dates of potential
future financings by the Company that may cause a reset of the
exercise price.
Since derivative
financial instruments are initially and subsequently carried at
fair values, the Company’s income or loss will reflect the
volatility in changes to these estimates and
assumptions. The fair value is most sensitive to changes
at each valuation date in the Company’s Common Stock price,
the volatility rate assumption, and the exercise price, which could
change if the Company were to do a dilutive future
financing.
For the Warrants,
which measured at fair value categorized within Level 3 of the fair
value hierarchy, the following is a reconciliation of the fair
values from December 31, 2016 to March 31, 2017:
|
|
Warrants
“G”,
“H” and “I”
|
|
|
|
Beginning fair
value balance reported in the consolidated balance sheet at
December 31, 2016
|
$
6,393,936
|
$
14,011,254
|
$
20,405,190
|
|
Change in fair
value (gain) reported in the statements of operations
|
(2,757,071
)
|
(4,066,254
)
|
(6,823,325
)
|
|
Exercise of
“J” and “K” Warrants
|
-
|
(9,945,000
)
|
(9,945,000
)
|
|
Ending fair value
balance reported in the condensed consolidated balance sheet at
March 31, 2017
|
$
3,636,865
|
$
-
|
$
3,636,865
|
There were no
assets or liabilities carried at fair value on a recurring basis at
March 31, 2016.
NOTE
13— LICENSING AGREEMENT - RELATED PARTY
The Company has
entered into a ten-year licensing agreement with Dolphin
Entertainment, a related party. Under the license, the Company is
authorized to use Dolphin Entertainment’s brand properties in
connection with the creation, promotion and operation of
subscription based Internet social networking websites for children
and young adults. The license requires that the Company pays to
Dolphin Entertainment, Inc. royalties at the rate of fifteen
percent of net sales from performance of the licensed activities.
The Company did not use any of the brand properties related to this
agreement and as such, there was no royalty expense for the three
months ended March 31, 2017 and 2016.
NOTE
14 — DEFERRED REVENUE
During the year
ended December 31, 2014, the Company entered into agreements with
various entities for the international distribution rights of a
motion picture that was in production. As required by the
distribution agreements, the Company received $1,418,368 of
deposits for these rights that was recorded as deferred revenue on
its condensed consolidated balance sheet. During the year ended
December 31, 2016, the Company delivered the motion picture to
various international distributors and recorded $1,371,687 of
revenue from production from these deposits. As of March
31, 2017 and December 31, 2016, the Company recorded $26,428 and
$46,681 as deferred revenue on its condensed consolidated balance
sheets.
NOTE
15 – VARIABLE INTEREST ENTITIES
VIEs are entities
that, by design, either (1) lack sufficient equity to permit the
entity to finance its activities without additional subordinated
financial support from other parties, or (2) have equity investors
that do not have the ability to make significant decisions relating
to the entity’s operations through voting rights, or do not
have the obligation to absorb the expected losses or the right to
receive the residual returns of the entity. The most common type of
VIE is a special-purpose entity (“SPE”). SPEs are
commonly used in securitization transactions in order to isolate
certain assets, and distribute the cash flows from those assets to
investors. The legal documents that govern the transaction specify
how the cash earned on the assets must be allocated to the
SPE’s investors and other parties that have rights to those
cash flows. SPEs are generally structured to insulate investors
from claims on the SPE’s, assets by creditors of other
entities, including the creditors of the seller of the
assets.
The primary
beneficiary of a VIE is required to consolidate the assets and
liabilities of the VIE. The primary beneficiary is the party that
has both (1) the power to direct the activities of an entity that
most significantly impact the VIE’s economic performance; and
(2) through its interests in the VIE, the obligation to absorb
losses or the right to receive benefits from the VIE that could
potentially be significant to the VIE. To assess whether the
Company has the power to direct the activities of a VIE that most
significantly impact the VIE’s economic performance, the
Company considers all the facts and circumstances, including its
role in establishing the VIE and its ongoing rights and
responsibilities.
To assess whether
the Company has the obligation to absorb losses or the right to
receive benefits from the VIE that could potentially be significant
to the VIE, the Company considers all of its economic interests,
including debt and equity investments, servicing fees, and
derivative or other arrangements deemed to be variable interests in
the VIE. This assessment requires that the Company apply judgment
in determining whether these interests, in the aggregate, are
considered potentially significant to the VIE.
The Company
performs ongoing reassessments of (1) whether entities previously
evaluated under the majority voting-interest framework have become
VIEs, based on certain triggering events, and therefore would be
subject to the VIE consolidation framework, and (2) whether changes
in the facts and circumstances regarding the Company’s
involvement with a VIE cause the Company’s consolidation
conclusion to change. The consolidation status of the VIEs with
which the Company is involved may change as a result of such
reassessments. Changes in consolidation status are applied
prospectively with assets and liabilities of a newly consolidated
VIE initially recorded at fair value unless the VIE is an entity
which was previously under common control, which in that case is
consolidated based historical cost. A gain or loss may be
recognized upon deconsolidation of a VIE depending on the carrying
amounts of deconsolidated assets and liabilities compared to the
fair value of retained interests and ongoing contractual
arrangements.
The Company
evaluated certain entities of which it did not have a majority
voting interest and determined that it had (1) the power to direct
the activities of the entities that most significantly impact their
economic performance and (2) had the obligation to absorb losses or
the right to receive benefits from these entities. As such the
financial statements of Max Steel Productions, LLC and JB Believe,
LLC are consolidated in the balance sheets as of March 31, 2017 and
December 31, 2016, and in the statements of operations and
statements of cash flows presented herein for the three months
ended March 31, 2017 and 2016. These entities were previously under
common control and have been accounted for at historical costs for
all periods presented.
Following is
summary financial information for the VIE’s:
|
|
Max Steel
Productions LLC
|
|
|
(in
USD)
|
As of and for
the three ended March 31, 2017
|
|
As of and for
the three ended March 31, 2016
|
As of and for
the three ended March 31, 2017
|
|
As of and for
the three ended March 31, 2016
|
|
Assets
|
8,839,208
|
12,327,887
|
18,293,811
|
-
|
240,269
|
132,564
|
|
Liabilities
|
(13,063,380
)
|
(15,922,552
)
|
(19,711,156
)
|
(6,762,058
)
|
(7,014,098
)
|
(6,770,943
)
|
|
Revenues
|
517,303
|
9,233,520
|
-
|
15,563
|
133,331
|
-
|
|
Expenses
|
(1,146,810
)
|
(11,627,444
)
|
(216,707
)
|
(3,792
)
|
(395,374
)
|
(126.881
)
|
NOTE
16 — STOCKHOLDERS’ DEFICIT
A)
Preferred
Stock
The Company’s
Amended Articles of Incorporation authorize the issuance of
10,000,000 shares of preferred stock. The Board of Directors has
the power to designate the rights and preferences of the preferred
stock and issue the preferred stock in one or more
series.
On October 14,
2015, the Company amended its Articles of Incorporation to
designate 4,000,000 preferred shares, as “Series B
Convertible Preferred Stock” with a $0.10 par value. Each
share of Series B Convertible Preferred Stock is convertible, at
the holders request, into 0.95 shares of Common
Stock. Holders of Series B Convertible Preferred Stock
do not have any voting rights.
On October 16,
2015, the Company and T Squared Partners LP ("T Squared") entered
into a Preferred Stock Exchange Agreement whereby 1,042,753 shares
of Series A Convertible Preferred Stock were to be exchanged for
1,000,000 shares of Series B Convertible Preferred Stock upon
satisfaction of certain conditions. On March 7, 2016, all
conditions were satisfied and, pursuant to the Preferred Stock
Exchange Agreement, the Company issued to T Squared Partners LP
1,000,000 shares of Series B Convertible Preferred Stock. The
Company retired the 1,042,753 shares of Series A Convertible
Preferred Stock it received in the exchange. The Company recorded a
preferred stock dividend in additional paid in capital of
$5,227,247 related to this exchange. On November 14, 2016, T
Squared notified the Company that it would convert 1,000,000 shares
of Series B Preferred Stock into 950,000 shares of the Common Stock
effective November 16, 2016.
On February 23,
2016, the Company amended its Articles of Incorporation to
designate 1,000,000 preferred shares as “Series C Convertible
Preferred Stock” with a $0.001 par value which may be issued
only to an “Eligible Series C Preferred Stock
Holder”. Each share of Series C Convertible Preferred
Stock will be convertible into one-twentieth (1/20) of a share of
common stock, subject to adjustment for each issuance of common
stock (but not upon issuance of common stock equivalents) that
occurred, or occurs, from the date of issuance of the Series C
Convertible Preferred Stock (the “issue date”) until
the fifth (5th) anniversary of the issue date (i) upon the
conversion or exercise of any instrument issued on the issued date
or thereafter issued (but not upon the conversion of the Series C
Convertible Preferred Stock), (ii) upon the exchange of debt for
shares of common stock, or (iii) in a private placement, such that
the total number of shares of common stock held by an
“Eligible Class C Preferred Stock Holder” (based on the
number of shares of common stock held as of the date of issuance)
will be preserved at the same percentage of shares of common stock
outstanding held by such Eligible Class C Preferred Stock Holder on
such date. An Eligible Class C Preferred Stock Holder means any of
(i) Dolphin Entertainment for so long as Mr. O’Dowd continues
to beneficially own at least 90% and serves on the board of
directors or other governing entity, (ii) any other entity in which
Mr. O’Dowd beneficially owns more than 90%, or a trust for
the benefit of others, for which Mr. O’Dowd serves as trustee
and (iii) Mr. O’Dowd individually. Series C Convertible
Preferred Stock will only be convertible by the Eligible Class C
Preferred Stock Holder upon the Company satisfying one of the
“optional conversion thresholds”. Specifically, a
majority of the independent directors of the Board, in its sole
discretion, must have determined that the Company accomplished any
of the following (i) EBITDA of more than $3.0 million in any
calendar year, (ii) production of two feature films, (iii)
production and distribution of at least three web series, (iv)
theatrical distribution in the United States of one feature film,
or (v) any combination thereof that is subsequently approved by a
majority of the independent directors of the Board based on the
strategic plan approved by the Board. While certain events may have
occurred that could be deemed to have satisfied this criteria, the
independent directors of the Board have not yet determined that an
optional conversion threshold has occurred. Except as
required by law, holders of Series C Convertible Preferred Stock
will only have voting rights once the independent directors of the
Board determine that an optional conversion threshold has
occurred. Only upon such determination, will the Series C
Convertible Preferred Stock be entitled or permitted to vote on all
matters required or permitted to be voted on by the holders of
common stock and will be entitled to that number of votes equal to
three votes for the number of Conversion Shares (as defined in the
Certificate of Designation) into which such Holder’s shares
of the Series C Convertible Preferred Stock could then be
converted.
The Certificate of
Designation also provides for a liquidation value of $0.001 per
share. The Certificate of Designation also provides for
dividend rights of the Series C Convertible Preferred Stock on
parity with the Company’s Common Stock.
On March 7, 2016,
as the Merger Consideration related to the Company’s merger
with Dolphin Films, Dolphin Entertainment was issued 2,300,000
shares of Series B Convertible Preferred Stock and 1,000,000 shares
of Series C Convertible Preferred Stock. On November 15, 2016, Mr.
O’Dowd converted 2,300,000 shares of Series B Convertible
Preferred Stock into 2,185,000 shares of the Company’s Common
Stock.
As
of March 31, 2017 and December 31, 2016, the Company did not have
any Series A or Series B Convertible Preferred Stock outstanding
and 1,000,000 shares of Series C Convertible Preferred Stock issued
and outstanding.
B)
Common
Stock
The Company’s
Articles of Incorporation previously authorized the issuance of
200,000,000 shares of Common Stock. 500,000 shares have been
designated for the 2012 Omnibus Incentive Compensation Plan (the
“2012 Plan”). As of March 31, 2017, and December 31,
2016, no awards have been issued in connection with this
plan. On February 23, 2016, the Company filed Articles of
Amendment to the Amended Articles of Incorporation with the
Secretary of State of the State of Florida to increase the number
of authorized shares of its Common Stock from 200,000,000 to
400,000,000.
On February 16,
2017, the Company entered into a subscription agreement pursuant to
which the Company issued and sold to an investor 100,000 shares of
Common Stock at a price of $5.00 per Share. This transaction
provided $500,000 in proceeds for the Company.
On March 30, 2017,
the Company entered into a Membership Interest Purchase Agreement
to acquire a 100% membership interest in 42West. The
Company issued 1,230,280 shares of Common Stock at a price of $4.61
per share related to this transaction. See note 4 for
further details on the acquisition.
On March 30, 2017,
KCF Investments LLC and BBCF 2011 LLC exercised Warrants J and K to
purchase 2,170,000 and 170,000, respectively, of shares of Common
Stock at a purchase price of $0.015 per share. This
transaction provided $35,100 in proceeds for the Company. See note
12 for further discussion.
As of March 31,
2017, and December 31, 2016, the Company had 18,065,801 and
14,395,521 shares of Common Stock issued and outstanding,
respectively.
C)
Noncontrolling
Interest
On May 21, 2012,
the Company entered into an agreement with a note holder to form
Dolphin Kids Clubs, LLC ("Dolphin Kids Clubs"). Under the terms of
the agreement, Dolphin converted an aggregate amount of $1,500,000
in notes payable and received an additional $1,500,000 during the
year ended December 31, 2012 for a 25% membership interest in the
newly formed entity. The Company holds the remaining 75% and thus
controlling interest in Dolphin Kids Clubs. The purpose of Dolphin
Kids Clubs is to create and operate online kids clubs for selected
charitable, educational and civic organizations. The agreement
encompasses kids clubs created between January 1, 2012 and December
31, 2016. It was a “gross revenue agreement” and the
Company was responsible for paying all associated operating
expenses. On December 29, 2016, as part of a global agreement with
the 25% member of Dolphin Kids Clubs, the Company entered into a
Purchase Agreement and acquired the 25% noncontrolling interest of
Dolphin Kids Clubs. In exchange for the 25% interest,
the Company issued Warrant “J” that entitles the
warrant holder to purchase shares of common stock at a price of
$0.015 per share. See notes 12 and 18 for further
discussion of Warrant “J”.
NOTE
17 —EARNINGS (LOSS) PER SHARE
The following table
sets forth the computation of basic and diluted income (loss) per
share:
|
|
Three months ended
March 31,
|
|
|
|
|
|
Numerator:
|
|
|
|
Net income
(loss)
|
$
4,961,788
|
$
(3,448,848
)
|
|
Preferred stock
deemed dividend
|
-
|
(5,227,247
)
|
|
Change in fair
value of Warrants "J" and "K" (note 12)
|
4,066,254
|
-
|
|
Numerator for basic
and diluted income (loss) per share – income (loss) available
to common stockholders
|
$
895,534
|
$
(8,676,095
)
|
|
|
|
|
|
Denominator:
|
|
|
|
Denominator for
basic EPS — weighted–average shares
|
14,477,413
|
4,678,469
|
|
Effect of dilutive
securities:
|
|
|
|
Warrants
|
2,757,071
|
-
|
|
Shares issuable in
January 2018 and Employee Bonus Shares issuable in connection with
the 42West acquisition (Note 4)
|
71,133
|
-
|
|
Denominator for
diluted EPS — adjusted weighted-average shares assuming
exercise of warrants
|
17,305,617
|
4,678,469
|
|
|
|
|
|
Basic income (loss)
per share
|
$
0.34
|
$
(1.85
)
|
|
Diluted Income
(loss) per share
|
$
0.05
|
$
(1.85
)
|
The Company
reflected the preferred stock deemed dividend related to exchange
of Series A for Series B Preferred Stock of $5,227,247 recorded in
the three months ended March 31, 2016 (note 16) in the numerator
for calculating basic and diluted loss per share for the three
months ended March 31, 2016, as the loss for holders of Common
Stock would be increased by that amount.
Warrants to
purchase 5,890,000 shares and of common stock were outstanding at
December 31, 2016. During the three months ended March 31, 2017,
warrants for 2,340,000 shares were exercised. (See note 18)
The denominator used to compute diluted income per share for the
three months ended March 31, 2017 includes the effect of assumed
exercises of dilutive warrants during the quarter. The numerator
for diluted earnings (loss) per share for the three months ended
March 31, 2017 subtracts the gain for the change in fair value of
warrant liability of $4,066,254 related to the Warrants
“J” and Warrants “K” included in net income
for the quarter that would not have been recorded had the warrants
been exercised at the beginning of the period.
Due to the net loss
reported for the three months ended March 31, 2016, the denominator
used to compute diluted loss per share did not include the effect
of 1,050,000 warrant shares outstanding during the quarter, as
inclusion would be anti-dilutive.
NOTE
18 — WARRANTS
A summary of
warrants outstanding at December 31, 2016 and issued, exercised and
expired during the three months ended March 31, 2017 is as follows
(amounts have been adjusted to reflect the reverse stock
split):
|
|
|
|
|
|
|
|
|
|
|
|
|
Warrants:
|
|
|
|
Balance at December
31, 2016
|
5,890,000
|
$
2.99
|
|
Issued
|
—
|
—
|
|
Exercised
|
2,340,000
|
.02
|
|
Expired
|
—
|
—
|
|
Balance at March
31, 2017
|
3,550,000
|
$
4.95
|
On March 10, 2010,
T Squared Investments, LLC (“T Squared”) was issued
Warrant “E” for 350,000 shares of the Company. at an
exercise price of $5.00 per share with an expiration date of
December 31, 2012. T Squared can continually pay the
Company an amount of money to reduce the exercise price of Warrant
“E” until such time as the exercise price of Warrant
“E” is effectively $0.002 per share. Each time a
payment by T Squared is made to Dolphin, a side letter will be
executed by both parties that states the new effective exercise
price of Warrant “E” at that time. At such time when T
Squared has paid down Warrant “E” to an exercise price
of $0.002 per share or less, T Squared shall have the right to
exercise Warrant “E” via a cashless provision and hold
for six months to remove the legend under Rule 144 of the
Securities Act. During the years ended December 31, 2010 and 2011,
T Squared paid down a total of $1,625,000. During the
year ended December 31, 2016, T Squared paid $50,000 for the
issuance of Warrants G, H and I as described below. Per
the provisions of the Warrant Purchase Agreement, the $50,000 was
to reduce the exercise price of Warrant
“E”. T Squared did not make any payments
during the three months ended March 31, 2017 to reduce the exercise
price of the warrants. As such, the current exercise price is $0.22
per share.
During the year
ended December 31, 2012, T Squared agreed to amend a provision in a
preferred stock purchase agreement (the “Preferred Stock
Purchase Agreement”) dated May 2011 that required the Company
to obtain consent from T Squared before issuing any Common Stock
below the existing conversion price as defined in the Preferred
Stock Purchase Agreement. As a result, the Company has extended the
expiration date of Warrant “E” (described above) to
September 13, 2015 and on September 13, 2012, the Company issued
350,000 warrants to T Squared (“Warrant “F”) with
an exercise price of $5.00 per share. Under the terms of Warrant
“F”, T Squared has the option to continually pay the
Company an amount of money to reduce the exercise price of Warrant
“F” until such time as the exercise price of Warrant
“F” is effectively $0.002 per share. At such time, T
Squared will have the right to exercise Warrant “F” via
a cashless provision and hold for six months to remove the legend
under Rule 144 of the Securities Act. The Company agreed to extend
both warrants until December 31, 2018 with substantially the same
terms as herein discussed. T Squared did not make any payments
during the three months ended March 31, 2017 to reduce the exercise
price of the warrants.
On September 13,
2012, the Company sold 350,000 warrants with an exercise price of
$5.00 per share and an expiration date of September 13, 2015 for
$35,000. Under the terms of these warrants, the holder has the
option to continually pay the Company an amount of money to reduce
the exercise price of the warrants until such time as the exercise
price is effectively $0.002 per share. At such time, the holder
will have the right to exercise the warrants via a cashless
provision and hold for six months to remove the legend under Rule
144 of the Securities Act. The Company recorded the $35,000 as
additional paid in capital. The Company agreed to extend the
warrants until December 31, 2018 with substantially the same terms
as herein discussed. The holder of the warrants did not make any
payments during the three months ended March 31, 2017 to reduce the
exercise price of the warrants.
On November 4,
2016, the Company issued a Warrant “G”, a Warrant
“H” and a Warrant “I” to T Squared
(“Warrants “G”, “H” and
“I”). A summary of Warrants “G”,
“H” and “I” issued to T Squared is as
follows:
|
Warrants:
|
|
Exercise price
at March 31, 2017
|
|
Fair Value as of
March 31, 2017
|
Fair Value as of
December 31, 2016
|
|
|
Warrant
“G”
|
1,500,000
|
$
4.61
|
$
5.00
|
$
1,607,173
|
$
3,300,671
|
January 31,
2018
|
|
Warrant
“H”
|
500,000
|
$
4.61
|
$
6.00
|
971,121
|
1,524,805
|
January 31,
2019
|
|
Warrant
“I”
|
500,000
|
$
4.61
|
$
7.00
|
1,058,571
|
1,568,460
|
January 31,
2020
|
|
|
2,500,000
|
|
|
$
3,636,865
|
$
6,393,936
|
|
The Warrants
“G”, “H” and “I” each contain
an antidilution provision which in the event the Company sells
grants or issues any shares, options, warrants, or any instrument
convertible into shares or equity in any form below the then
current exercise price per share of the Warrants “G”,
“H” and “I”, then the then current exercise
price per share for the warrants that are outstanding will be
reduced to such lower price per share. Under the terms of the
Warrants “G”, “H” and “I”, T
Squared has the option to continually pay the Company an amount of
money to reduce the exercise price of any of Warrants
“G”, “H” and “I” until such
time as the exercise price of Warrant “G”,
“H” and/or “I” is effectively $0.01 per
share. The Common Stock issuable upon exercise of Warrants
“G”, “H” and “I” are not
registered and will contain a restrictive legend as required by the
Securities Act. At such time when the T Squared has paid down the
warrants to an exercise price of $0.01 per share or less T Squared
will have the right to exercise the Warrants “G”,
“H” and “I” via a cashless provision and
hold for six months to remove the legend under Rule 144 of the
Securities Act.
On March 31, 2016,
the Company issued shares of Common Stock at a purchase price of
$4.61 per share related to the acquisition of 42West (note
4). As a result, the exercise price of each of Warrants
“G”, “H” and “I” were reduced
to $4.61.
Due to the
existence of the antidilution provision, the Warrants
“G”, “H” and “I” are carried in
the condensed consolidated financial statements as of March 31,
2017 and December 31, 2016 as derivative liabilities at fair value
(see note 12)
On December 29,
2016, in connection with the purchase by the Company of 25% of the
outstanding membership interests of Dolphin Kids Club, LLC, the
termination of an Equity Finance Agreement and the debt exchange of
First Loan and Security Notes, Web Series Notes and Second Loan and
Security Notes (See note 8), the Company issued Warrant
“J” and Warrant “K” (Warrants
“J” and “K”) to the seller. Each
of the Warrants “J” and “K” had an exercise
price of $0.15 per share and an expiration date of December 29,
2020.
The Warrants
“J” and “K” each contained an antidilution
provision that in the event the Company sells grants or issues any
shares, options, warrants, or any instrument convertible into
shares or equity in any form below the current exercise price per
share of Warrants “J” and “K”, then the
current exercise price per share for the Warrants “J”
and “K” that are outstanding will be reduced to such
lower price per share. The Common Stock issuable upon exercise of
Warrants “J” and “K” are not registered and
will contain a restrictive legend as required by the Securities
Act. At such time as the exercise price is $0.01 per share or less,
the holder will have the right to exercise the Warrants
“J” and “K” via a cashless provision and
hold for six months to remove the legend under Rule 144 of the
Securities Act.
Due to the
existence of the antidilution provision, the Warrants
“J” and “K” were carried in the condensed
consolidated balance sheet as of December 31, 2016 as derivative
liabilities at a fair value of $12,993,342 for Warrant
“J” and $1,017,912 for Warrant “K” (see
note 12). On March 30, 2017, the holders of Warrants J and K
exercised their warrants and were issued 2,340,000 shares of Common
Stock. The Company received $35,100 of proceeds from the
transaction.
NOTE
19— RELATED PARTY TRANSACTIONS
On December 31,
2014, the Company and its CEO renewed his employment agreement for
a period of two years commencing January 1, 2015. The agreement
stated that the CEO was to receive annual compensation of $250,000
plus bonus. In addition, the CEO was entitled to an annual
discretionary bonus as determined by the Company’s Board of
Directors. The CEO was eligible to participate in all of the
Company’s benefit plans offered to its employees. As part of
his agreement, he received a $1,000,000 signing bonus in 2012 that
is recorded in accrued compensation on the condensed consolidated
balance sheets. Any unpaid and accrued compensation due to the CEO
under this agreement will accrue interest on the principal amount
at a rate of 10% per annum from the date of this agreement until it
is paid. The agreement included provisions for disability,
termination for cause and without cause by the Company, voluntary
termination by executive and a non-compete clause. The Company
accrued $2,312,500 and $2,250,000 of compensation as accrued
compensation and $791,210 and $735,211 of interest in other current
liabilities on its condensed consolidated balance sheets as of
March 31, 2017 and December 31, 2016, respectively, in relation to
Mr. O’Dowd’s employment. For the three months ended
March 31, 2017 and 2016, the Company recorded interest expense of
$55,999 and $50,382, respectively, on the condensed consolidated
statements of operations.
On October 14,
2015, the Company and Merger Subsidiary, a wholly owned subsidiary
of the Company, entered into a merger agreement with Dolphin Films
and Dolphin Entertainment, both entities owned by a related party.
Pursuant to the Merger Agreement, Merger Subsidiary agreed to merge
with and into Dolphin Films with Dolphin Films surviving the
Merger. As a result, during the three months ended March 31, 2016,
the Company acquired Dolphin Films. As consideration for the
Merger, the Company issued 2,300,000 shares of Series B Convertible
Preferred Stock (“Series B”), par value $0.10 per
share, and 1,000,000 shares of Series C Convertible Preferred
Stock, par value $0.001 per share to Dolphin
Entertainment.
On March 30, 2017, in connection with the 42West
Acquisition, the Company and Mr. O’Dowd, as personal
guarantor, entered into four separate Put Agreements with each of
the Sellers of 42West, pursuant to which the Company has granted
each of the Sellers the right to cause the Company to purchase up
to an aggregate of 2,374,187 of their shares of Common Stock
received as Consideration for a purchase price equal to $4.61 per
share during certain specified exercise periods up until December
2020.
On March 30, 2017, KCF Investments
LLC and BBCF2011 LLC, entities under the common control of Mr.
Stephen L Perrone, an affiliate of the Company, exercised Warrants
“J” and “K” and were issued an aggregate of
2,340,000 shares of the Company’s Common Stock at an exercise
price of $0.015 per share.
NOTE
20 — COMMITMENTS AND CONTINGENCIES
Litigation
On or about January
25, 2010, an action was filed by Tom David against Winterman Group
Limited, Dolphin Digital Media (Canada) Ltd., Malcolm Stockdale and
Sara Stockdale in the Superior Court of Justice in Ontario (Canada)
alleging breach of a commercial lease and breach of a personal
guaranty. On or about March 18, 2010, Winterman Group Limited,
Malcolm Stockdale and Sara Stockdale filed a Statement of Defense
and Crossclaim. In the Statement of Defense, Winterman Group
Limited, Malcolm Stockdale and Sara Stockdale denied any liability
under the lease and guaranty. In the Crossclaim filed against
Dolphin Digital Media (Canada) Ltd., Winterman Group Limited,
Malcolm Stockdale and Sara Stockdale seek contribution or indemnity
against Dolphin Digital Media (Canada) Ltd. alleging that Dolphin
Digital Media (Canada) agreed to relieve Winterman Group Limited,
Malcolm Stockdale and Sara Stockdale from any and all liability
with respect to the lease or the guaranty. On or about March 19,
2010, Winterman Group Limited, Malcolm Stockdale and Sara Stockdale
filed a Third-Party Claim against the Company seeking contribution
or indemnity against the Company, formerly known as Logica
Holdings, Inc., alleging that the Company agreed to relieve
Winterman Group Limited, Malcolm Stockdale and Sara Stockdale from
any and all liability with respect to the lease or the guaranty.
The Third-Party Claim was served on the Company on April 6, 2010.
On or about April 1, 2010, Dolphin Digital Media (Canada) filed a
Statement of Defense and Crossclaim. In the Statement of Defense,
Dolphin Digital Media (Canada) denied any liability under the lease
and in the Crossclaim against Winterman Group Limited, Malcolm
Stockdale and Sara Stockdale, Dolphin Digital Media (Canada) seeks
contribution or indemnity against Winterman Group Limited, Malcolm
Stockdale and Sara Stockdale alleging that the leased premises were
used by Winterman Group Limited, Malcolm Stockdale and Sara
Stockdale for their own use. On or about April 1, 2010, Dolphin
Digital Media (Canada) also filed a Statement of Defense to the
Crossclaim denying any liability to indemnify Winterman Group
Limited, Malcolm Stockdale and Sara Stockdale. The ultimate results
of these proceedings against the Company cannot be predicted with
certainty. On or about March 12, 2012, the Court served a Status
Notice on all the parties indicating that since more than (2) years
had passed since a defense in the action had been filed, the case
had not been set for trial and the case had not been terminated,
the case would be dismissed for delay unless action was taken
within ninety (90) days of the date of service of the notice. The
Company has not filed for a motion to dismiss and no further action
has been taken in the case. The ultimate results of these
proceedings against the Company could result in a loss ranging from
0 to $325,000. On March 23, 2012, Dolphin Digital Media (Canada)
Ltd filed for bankruptcy in Canada. The bankruptcy will not protect
the Company from the Third-Party Claim filed against it. However,
the Company has not accrued for this loss because it believes that
the claims against it are without substance and it is not probable
that they will result in loss. As of March 31, 2017, the Company
has not received any other notifications related to this
action.
Tax Filings
For the year ended
December 31, 2011, the Company accrued $120,000 for estimated
penalties associated with not filing certain information returns.
The penalties per return are $10,000 per entity per year. The
Company received notification from the Internal Revenue Service
concerning information returns for the year ended December 31,
2009. The Company responded with a letter stating reasonable cause
for the noncompliance and requested that penalties be abated.
During 2012, the Company received a notice stating that the
reasonable cause had been denied. The Company decided to pay the
penalties and not appeal the decision for the 2009 Internal Revenue
Service notification. There is no associated interest expense as
the tax filings are for information purposes only and would not
result in further income taxes to be paid by the Company. The
Company made payments in the amount of $40,000 during the year
ended December 31, 2012 related to these penalties. At each of
March 31, 2017 and December 31, 2016, the Company had a remainder
of $40,000 in accruals related to these late filing penalties which
is presented as a component of other current
liabilities.
Kids Club
Effective February
1, 2017, the Company notified US Youth Soccer Association, Inc.,
with whom it had entered into an agreement to create, design and
host the US Youth Soccer Clubhouse website, that it would not renew
the agreement. The Company did not record any
revenues or expenses related to this website for the three months
ended March 31, 2017 and 2016.
On July 1, 2016,
the Company and United Way Worldwide mutually agreed to terminate
the agreement and agreement create and host an online kids club to
promote United Way’s philanthropic philosophy and encourage
literacy programs. Pursuant to the terms of the agreement the
Company was responsible for the creation and marketing of the
website, developing and managing the sponsorship package, and
hiring of certain employees to administer the program. Each school
sponsorship package was $10,000 with the Company earning $1,250.
The remaining funds were used for program materials and the costs
of other partners. The Company intends to continue
promoting the online kids club with the remaining partners and it
does not anticipate any material change in the operations of the
online kids club.
The Company
recorded revenues of $0 and $17,278 related to the onlilne kids
clubs during the three months ended March 31, 2017 and 2016,
respectively.
Incentive Compensation Plan
During the year
ended December 31, 2012, the Company’s Board and a majority
of its shareholders approved the 2012 Plan. The 2012 Plan was
enacted as a way of attracting and retaining exceptional employees
and consultants by enabling them to share in the long term growth
and financial success of the Company. The 2012 Plan will be
administered by the Board or a committee designated by the Board.
As part of an increase in authorized shares approved by the Board
in 2012, 500,000 shares of Common Stock were designated for the
2012 Plan. No awards have been issued and, as such, the Company has
not recorded any liability or equity related to the 2012 Plan as of
March 31, 2017 and December 31, 2016.
Employee Benefit Plan
The Company’s wholly
owned subsidiary, 42West, has a 401(K) profit sharing plan that
covers substantially all employees of
42West. Contributions to the plan are at discretion of
management.
Employment Contracts
During 2015, 42West entered
into seven separate three-year employment contracts with senior
level management employees. The contracts define each
individual’s compensation, along with specific salary
increases mid-way through the term of each
contract. Each individual was also guaranteed a
percentage of proceeds if 42West was sold during the term of their
contract. The percentages vary by
executive. Termination for cause, death or by the
employee would terminate the Company’s commitment on each of
the contracts.
As a condition to
the closing of the 42West Acquisition described in note 4, each of
the three Principal Sellers has entered into employment agreements
(the “Employment Agreements”) with the Company and will
continue as employees of the Company for a three-year term. Each of
the Employment Agreements provides for a base salary with annual
increases and bonuses if certain performance targets are met. In
addition, the Employment Agreements grant each Principal Seller an
annual stock bonus of $200,000 to be calculated using the 30-day
trading average of the Company’s Common Stock. The
Employment Agreements also contain provisions for termination and
as a result of death or disability. During the term of the
Employment Agreement, the Principal Sellers shall be entitled to
participate in all employee benefit plans, practices and programs
maintained by the Company as well as be entitled to paid vacation
in accordance with the Company’s policy. Each of the
Employment Agreements contains lock-up provisions pursuant to which
each Principal Seller has agreed not to transfer any shares of
Common Stock in the first year, no more than 1/3 of the Initial
Consideration and Post-Closing Consideration received by such
Seller in the second year and no more than an additional 1/3 of the
Initial Consideration and Post-Closing Consideration received by
such Seller in the third year, following the closing date of the
42West Acquisition.
Talent, Director and Producer Participations
Per agreements with
talent, directors and producers on certain projects, the Company
will be responsible for bonus and back end payments upon release of
a motion picture and achieving certain box office performance as
determined by the individual agreements. The Company cannot
estimate the amounts that will be due as these are based on future
box office performance. As of March 31, 2017 and December 31, 2016,
the Company had not recorded any liability related to these
participations.
Leases
42West is obligated
under an operating lease agreement for office space in New York,
expiring in December 2026. The lease is secured by a standby
letter of credit amounting to $677,354, and provides for increases
in rent for real estate taxes and building operating costs. The
lease also contains a renewal option for an additional five
years.
42West is obligated
under an operating lease agreement for office space in California,
expiring in December 2021. The lease is secured by a cash security
deposit of $44,788 and a standby letter of credit amounting to
$100,000 at March 31, 2017. The lease also provides for increases
in rent for real estate taxes and operating expenses, and contains
a renewal option for an additional five years, as well as an early
termination option effective as of February 1, 2019. Should
the early termination option be executed, the Company will be
subject to a termination fee in the amount of approximately
$637,000. The Company does not expect to execute such
option.
On November 1,
2011, the Company entered into a 60 month lease agreement for
office space in Miami with an unrelated party. The lease
expired on October 31, 2016 and the Company extended the lease
until September 30, 2017 with substantially the same terms as the
original lease. On June 1, 2014, the Company entered into a 62
month lease agreement for office space in Los Angeles,
California. The monthly rent is $13,746 with annual increases
of 3% for years 1-3 and 3.5% for the remainder of the lease.
The Company is also entitled to four half months of free rent over
the life of the agreement.
Future minimum
annual rent payments are as follows:
|
Period ended March 31,
|
|
|
April 1, 2017
– December 31, 2017
|
$
1,166,410
|
|
2018
|
1,488,298
|
|
2019
|
1,436,981
|
|
2020
|
1,433,403
|
|
2021
|
1,449,019
|
|
Thereafter
|
4,675,844
|
|
|
$
11,649,955
|
Rent expense,
including escalation charges, amounted to approximately $138,531
and $228,813 for the first three months ended March 31, 2017 and
2016 respectively.
Motion Picture Industry Pension Accrual
42West is a contributing
employer to the Motion Picture Industry Pension Individual Account
and Health Plans (collectively the “Plans”), two
multiemployer pension funds and one multiemployer welfare fund,
respectively, that are governed by the Employee Retirement Income
Security Act of 1974, as amended. The Plans intend to
conduct an audit of 42West’s books and records for the period
June 7, 2011 through August 20, 2016 in connection with the alleged
contribution obligations to the Plans. Based on a recent audit for
periods prior to June 7, 2011, 42West expects that the Plan may
seek to collect approximately $300,000 in pension plan
contributions, health and welfare plan contributions and union once
the audit is completed. The Company believes the
exposure to be probable and has recognized this liability in other
current liabilities on the condensed consolidated balance sheets as
of March 31, 2017.
NOTE
21 – SUBSEQUENT EVENTS
On April 10, 2017,
the Company signed two separate promissory notes and received
aggregate amount of $300,000. The promissory notes bear interest at
10% per annum and mature on October 10, 2017.
On April 13, 2017,
the Company issued the following shares of Common Stock as per the
42West Acquisition agreement; (i) 344,550 to certain designated
employees and (ii) 100,000 shares as an estimate for the Purchase
Consideration withheld on the date of closing related to the
working capital.
On April 13, 2017,
the Company issued 6,508 shares of Common Stock to a consultant for
services rendered during the month ended March 31,
2017. The shares were issued at a purchase price of
$4.61 per share.
On April 13, 2017,
T Squared partially exercised Class E Warrants and acquired 325,770
shares of our common stock pursuant to the cashless exercise
provision in the related warrant agreement. T Squared had
previously paid down $1,675,000 for these shares.
On April 14, 2017, the
Principal Sellers of 42West, exercised put options in the aggregate
amount of 86,764 shares of Common Stock and were paid an aggregate
total of $400,000.
On April 18,
2017 the Company signed a promissory note and received $250,000.
The promissory note bears interest at 10% per annum and matures on
October 18, 2017.
On April 27, 2017, the
Company drew $250,000 from the line of credit to be used for
working capital.
|
ITEM
2.
|
|
MANAGEMENT
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
|
OVERVIEW
Dolphin
Digital Media, Inc. specializes in the production and distribution
of online digital content. We also seek to develop online kids
clubs. On March 7, 2016, we acquired Dolphin Films, a content
producer of motion pictures from Dolphin Entertainment, an entity
wholly owned by our President, Chairman and CEO, Mr. O’Dowd.
All financial information has been retrospectively adjusted at the
historical values of Dolphin Films, as the merger was between
entities under common control.
On May
9, 2016, we filed Articles of Amendment to our Articles of
Incorporation with the Secretary of State of the State of Florida
to effectuate a 1-to-20 reverse stock split. The reverse stock
split was effective as of May 10, 2016. The reverse stock split was
approved by our Board of Directors and a majority of our
shareholders. Shares of Common Stock, have been retrospectively
adjusted to reflect the reverse stock split in the following
management discussion.
On
March 30, 2017, we acquired 42West, an entertainment public
relations agency offering talent publicity, strategic
communications and entertainment, content marketing. As
consideration for the 42West Acquisition, we paid approximately
$18.7 million in shares of Common Stock, based on the
Company’s 30-trading-day average stock price prior to the
closing date of $4.61 per share (less certain working capital and
closing adjustments, transaction expenses and payments of
indebtedness), plus the potential to earn up to an additional $9.3
million in shares of Common Stock. As a result, (i) we issued (a)
1,230,280 shares of Common Stock on the closing date and (b)
344,550 shares of Common Stock to certain employees on April 13,
2017 and (ii) we plan to issue (a) 118,655 shares of Common Stock
as bonuses during 2017 and (b) approximately 1,961,821 shares of
Common Stock on January 2, 2018. In addition, we may issue up to
1,963,126 shares of Common Stock based on the achievement of
specified financial performance targets over a three-year period.
Prior to its acquisition, 42West was the largest
independently-owned public relations firm in the entertainment
industry. Among other benefits, we anticipate that the 42West
Acquisition will strengthen and complement our current digital and
motion picture business, while expanding and diversifying our
operations. Having marketing expertise in-house will allow Dolphin
to review any prospective project’s marketing potential prior
to making a production commitment.
The
Principal Sellers have each entered into employment agreements with
us and will continue as employees of the Company for a three-year
term after the closing date of the 42West Acquisition. The
nonexecutive employees of 42West are expected to be retained as
well. In connection with the 42West Acquisition, we granted the
sellers the right, but not the obligation, to cause the Company to
purchase up to an aggregate of 2,374,187 of their shares of Common
Stock received as Consideration for a purchase price equal to $4.61
per share during certain specified exercise periods up until
December 2020.
In
connection with the acquisition of 42West, we acquired an estimated
$9.1 million of intangible assets and recorded approximately $14
million of goodwill. The purchase price allocation and
related consideration for the intangible assets and goodwill are
provisional and subject to completion and
adjustment.
Going
Concern
In the
audit opinion for our financial statements as of and for the year
ended December 31, 2016, our independent auditors included an
explanatory paragraph expressing substantial doubt about our
ability to continue as a going concern based upon our net loss for
the year ended December 31, 2016, our accumulated deficit as of
December 31, 2016 and our level of working capital. The financial
statements do not include any adjustments that might result from
the outcome of these uncertainties. Management is planning to raise
any necessary additional funds through loans and additional sales
of our Common Stock, securities convertible into our Common Stock,
debt securities or a combination of such financing alternatives;
however, there can be no assurance that we will be successful in
raising any necessary additional loans or capital. Such issuances
of additional securities would further dilute the equity interests
of our existing shareholders, perhaps substantially.
Revenues
During the three
months ended March 31, 2017, revenues were derived from the
release of our motion picture, Max Steel. By contrast, during
the three months ended March 31, 2016, revenues were derived from a
portion of fees obtained from the sale of memberships to online
kids clubs. The table below sets forth the components of revenue
for the three months ended March 31, 2017 and 2016:
|
|
For the three
months ended
March
31,
|
|
Revenues:
|
|
|
|
Production and
distribution
|
100.0
%
|
0.0
%
|
|
Membership
|
0.0
%
|
100.0
%
|
|
Total
revenue
|
100.0
%
|
100.0
%
|
The impact of
42West’s revenue and earnings, for the one day between the
acquisition date (March 30, 2017) and March 31, 2017, to revenues
and net loss recorded in the condensed consolidated statement of
operations for the three months ended March 31, 2017 is de
minimis.
Dolphin Digital Studios
In April of 2016,
we entered into a co-production agreement to produce
Jack of all Tastes
, a digital project
that showcases favorite restaurants of NFL players. The show was
produced during 2016 throughout several cities in the US and we
anticipate that it will be available for distribution during the
third quarter of 2017. We are currently sourcing distribution
platforms in which to release projects currently in production and
those for which we have the rights and which we intend to produce.
We earn production and online distribution revenue solely through
the following:
Producer’s
Fees
: We earn fees for producing each web series,
as included in the production budget for each
project. We either recognize producer’s fees on a
percentage of completion or a completed contract basis depending on
the terms of the producer agreements, which we negotiate on a
project by project basis. During 2016, we
began production of our new web series but it had not been
completed as of March 31, 2017. In addition, we
concentrated our efforts in identifying potential distribution
partners.
Initial
Distribution/
Advertising
Revenue
: We earn revenues from the distribution
of online content on AVOD platforms. Distribution
agreements contain revenue sharing provisions which permit the
producer to retain a percentage of all domestic and international
advertising revenue generated from the online distribution of a
particular web series. Typically, these rates range from
30% to 45% of such revenue. We have previously
distributed our productions on various online platforms including
Yahoo! and Facebook and Hulu.
Secondary
Distribution
Revenue
: Once our contractual obligation with the
initial online distribution platform expires, we have the ability
to derive revenues from distributions of the web series in
ancillary markets such as DVD, television and SVOD. No
revenues from this source have been derived during the three months
ended March 31, 2017 and 2016. We intend to source
potential secondary distribution partners for our web series,
South Beach - Fever
, that
was released in 2015, once our agreement with the initial
distributor expires.
Dolphin Films
During the three
months ended March 31, 2017, we derived revenues from Dolphin Films
primarily through the domestic and international distribution of
our motion picture
Max
Steel
.
The production of
the motion picture
Max
Steel
was completed during 2015 and released in the United
States on October 14, 2016. The motion picture did not
perform as well as expected domestically but we have secured
approximately $8.2 million in international distribution
agreements. Unamortized film costs are to be tested for
impairment whenever events or changes in circumstances indicate
that the fair value of the film may be less than its unamortized
costs. We determined that
Max Steel’s
domestic performance
was an indicator that the capitalized production costs may need to
be impaired. We used a discounted cash flow model to help determine
the fair value of the capitalized production costs and determined
that the carrying value of the capitalized production costs were
below the fair value and recorded an impairment of $2 million
during 2016.
Revenues from the
motion picture Max Steel, were, and are expected to be generated
from the following sources:
●
Theatrical
– Theatrical
revenues were derived from the domestic theatrical release of
motion pictures licensed to a U.S. theatrical distributor that has
existing agreements with theatrical exhibitors. The financial terms
negotiated with its U.S. theatrical distributor provide that we
receive a percentage of the box office results, after related
distribution fees.
●
International
–
International revenues were and are expected to be derived through
license agreements with international distributors to distribute
our motion pictures in an agreed upon territory for an agreed upon
time. Several of the international distribution agreements were
contingent on a domestic wide release that occurred on October 14,
2016.
●
Other
– Dolphin
Films’ U.S. theatrical distributor has existing output
arrangements for the distribution of productions to home
entertainment, VOD, PPV, EST, SVOD and free and pay television
markets. The revenues expected to be derived from these channels
are based on the performance of the motion picture in the domestic
box office. We anticipate the revenues from these channels will be
received in 2017 and thereafter.
Project Development and Related Services
We have a
development team that dedicates a portion of its time and resources
to sourcing scripts for future developments. The scripts can be for
either digital or motion picture productions. During 2015 and 2016,
we acquired the rights to certain scripts, one that we intend to
produce in the fourth quarter of 2017 and the others in
2018. During the three months ended March 31, 2017, we
acquired the rights to a book from which we intend to develop a
script and produce in 2018. We have not yet determined
if these projects would be produced for digital or theatrical
distribution.
Online Kids Clubs
We partnered with
US Youth Soccer, in 2012, and United Way Worldwide, in 2013, to
create online kids clubs. Our online kids clubs derive revenue from
the sale of memberships in the online kids clubs to various
individuals and organizations. We shared in a portion of the
membership fees as outlined in our agreements with the respective
entities. During 2016, we terminated, by mutual accord the
agreement with United Way Worldwide. We have retained
the trademark to the online kids club and will continue to operate
the site. Pursuant to the terms of our agreement with US Youth
Soccer, we notified them that we did not intend to renew our
agreement that terminated on February 1, 2017. For
the three months ended March 31, 2017 and 2016, we recorded $0 and
$0.02 million of revenues from the online kids clubs. We
operate our online kids club activities through our subsidiary,
Dolphin Kids Clubs, LLC (“Dolphin Kids
Clubs”).
Membership
revenues decreased by $0.01 million during the three months ended
March 31, 2017 as compared to the same period in prior year mainly
due to promotional efforts made by a consultant that we hired to
promote Club Connect. That consultant is no longer providing
services to the Company.
Expenses
Our expenses
consist primarily of (1) direct costs, (2) selling, general and
administrative expenses (3) payroll expenses and (4) legal and
professional fees.
Direct costs
include amortization of deferred production costs, impairment of
deferred production costs, residuals and other costs associated
with production. Residuals represent amounts payable to various
unions or “guilds” such as the Screen Actors Guild,
Directors Guild of America, and Writers Guild of America, based on
the performance of the digital production in certain ancillary
markets. Included within direct costs are immaterial impairments
for any of our projects. Capitalized production costs are recorded
at the lower of their cost, less accumulated amortization and tax
incentives, or fair value. If estimated remaining revenue is not
sufficient to recover the unamortized capitalized production costs
for that title, the unamortized capitalized production costs will
be written down to fair value.
Selling, general
and administrative expenses include all overhead costs except for
payroll and legal and professional fees that are reported as a
separate expense item.
Legal and
professional fees include fees paid to our attorneys, fees for
public relations consultants, and fees for general business
consultants.
Other Income and Expenses
Other income and
expenses consist primarily of (i) interest payments to Dolphin
Entertainment, an entity owned by our CEO, in connection with loans
made to the Company; (ii) interest payments related to the Loan and
Security Agreements entered into to finance the production of
certain digital content and motion pictures (iii) loss on
extinguishment of debt (iv) amortization of loan fees and (v)
changes in the fair value of warrant liabilities.
RESULTS
OF OPERATIONS
Three
months ended March 31, 2017 and 2016
Revenues
For the three
months ended March 31, 2017, we generated all of our revenue from
the domestic and international distribution of our motion picture,
Max Steel
. By
contrast, for the three months ended March 31, 2016, we generated
all of our revenue from a portion of fees obtained from the sale of
memberships to online kids clubs.
|
|
For the three
months ended
March
31,
|
|
Revenues:
|
|
|
|
Production and
distribution
|
$
532,866
|
$
-
|
|
Membership
|
-
|
17,278
|
|
Total
revenues:
|
$
532,866
|
$
17,278
|
Revenues from
production and distribution increased by $0.5 million for the three
months ended March 31, 2017 as compared to the same quarter in the
prior year primarily due to the revenue generated by the domestic
and international distribution of
Max Steel
.
Expenses
For the three
months ended March 31 2017 and 2016, our primary operating expenses
were (i) direct costs, (ii) selling, general and administrative
expenses, (iii) legal and professional fees and (iv) payroll
expenses.
|
|
For the three
months ended
March
31,
|
|
Expenses:
|
|
|
|
Direct
costs
|
$
500,526
|
$
2,282
|
|
Selling, general
and administrative
|
192,409
|
268,000
|
|
Legal and
professional
|
375,269
|
344,735
|
|
Payroll
|
336,354
|
387,446
|
|
|
$
1,404,558
|
$
1,002,463
|
Direct costs increased by approximately $0.5
million for the three months ended March 31, 2017 as compared to
the same quarter in the prior year, mainly due to the amortization
of capitalized production costs related to the revenues earned from
our motion picture,
Max
Steel
.
Selling, general and
administrative expenses decreased by approximately $0.08 million
for the quarter ended March 31, 2017 as compared to the same
quarter in the prior year. The decrease is mainly due to a decrease
in travel expenses.
Legal and
professional expenses increased by approximately $0.03 million for
the quarter ended March 31, 2017 as compared to the same quarter in
the prior year primarily due to fees paid for due diligence work
related to financing that was later
abandoned.
Payroll expenses
decreased by approximately $0.05 million for the quarter ended
March 31, 2017 as compared to the same quarter in the prior year
mostly due to several employees leaving during the second quarter
of 2016.
Other
Income and expenses
|
|
For the three
months ended
March
31,
|
|
Other (Income)/Expense:
|
|
|
|
Other
income
|
$
-
|
$
(9,660
)
|
|
Loss on
extinguishment of debt
|
-
|
1,191,358
|
|
Acquisition related
costs
|
537,708
|
-
|
|
Change in fair
value of warrant liability
|
(6,823,325
)
|
-
|
|
Interest
expense
|
452,137
|
1,281,965
|
|
Other
(Income)/expense
|
$
(5,833,480
)
|
$
2,463,663
|
Interest expense decreased by approximately $0.8
million for the three months ended March 31, 2017 as compared to
the same period in the prior year and was directly related to
extinguishment of the First Loan and Security Agreements, the
Second Loan and Security Agreements and the Web Series Loan and
Security Agreements during 2016.
Change in fair value of
warrant liability increased by approximately $6.8 million for the
three months ended March 31, 2017 as compared to the same period
last year due to warrants that were issued in the fourth quarter of
2016 that were accounted for as derivative liabilities. We recorded
the warrants at their fair value on the date of issuance and will
record any changes to fair value at each balance sheet date on our
consolidated statements of operation.
Loss on
extinguishment of debt decreased by approximately $1.2 million for
the three months ended March 31, 2017 as compared to the same
period in prior year as a result of extinguishment of certain debt
of the Company. On March 29, 2016, we entered into ten individual
subscription agreements with each of ten subscribers. The
subscribers were holders of outstanding promissory notes issued
pursuant to loan and security agreements. Pursuant to the terms of
the subscription agreements, we agreed to convert $2,883,377
aggregate amount of principal and interest outstanding under the
notes into an aggregate of 576,676 shares of Common Stock at $5.00
per share as payment in full of each of the notes. On the
date of the conversion, our market price was $6.00 per share and we
recorded a loss on the extinguishment of the debt of $576,676 on
our condensed consolidated statement of
operations.
In addition, on
March 4, 2016, we entered into a subscription agreement with
Dolphin Entertainment. Pursuant to the terms of the subscription
agreement, we agreed to convert $3,073,410 of principal and
interest outstanding on a revolving promissory note into 614,682
shares of common stock at $5.00 per share. On the date
of conversion, our market price was $6.00 per share and we recorded
a loss on the extinguishment of the debt of $614,682 on our
condensed consolidated statement of operations
We incurred
approximately $0.5 million of legal, consulting and auditing costs
related to the acquisition of 42West.
Net
Income (Loss)
Net income was
approximately $5.0 million or $0.34 per share based on 14,477,413
weighted average shares outstanding and $0.05 per share on a fully
diluted basis based on 17,305,617 weighted average shares
outstanding for the three months ended March 31, 2017. Net loss for
the three months ended March 31, 2016 was approximately $3.5
million or $(1.85) per share based on 4,678,469 weighted average
shares. Net income and losses for the three months ended March 31,
2017 and 2016 were related to the factors discussed
above.
LIQUIDITY
AND CAPITAL RESOURCES
Cash
Flows
Cash flows
provided by operating activities increased by approximately $4.4
million from approximately $(0.6) million used for operating
activities during the three months ended March 31, 2016 to
approximately $3.8 million provided by operating activities during
the three months ended March 31, 2017. This increase was primarily
due to (i) $2.1 million of production tax incentives received and
(ii) approximately $2 million received from accounts receivable
related to
Max
Steel
.
Cash flows from
investing activities increased by approximately $1.3 million during
the three months ended March 31, 2017 as compared to the same
period in prior years primarily due to restricted cash that became
available and was used to pay a portion of our
debt.
Cash flows used
for financing activities increased by approximately $6 million
during the three months ended March 31, 2017 from approximately
$0.9 million provided by financing activities during the three
months ended March 31, 2016 to approximately $5.1 million used for
financing activities during the three months ended March 31, 2017
mainly due to approximately $5.8 million used to repay the debt
related to the production, distribution and marketing loans for
Max Steel
.
As of March 31,
2017 and 2016, we had cash available for working capital of
approximately $0.6 million and approximately $0.7 million,
respectively, and a working capital deficit of approximately $19.8
million and approximately $31.4 million, respectively.
As previously
discussed, in connection with the 42West Acquisition, we may be
required to purchase from the sellers up to an aggregate of
2,374,187 of their shares of Common Stock at a price equal to
$4.61 per share during certain specified exercise periods up until
December 2020. Of that amount we may be required to purchase
up to 455,531 shares in 2017, for an aggregate of up to $3.1
million. On April 14, 2017, the sellers of 42West, exercised
put options in the aggregate amount of 86,764 shares of Common
Stock and were paid an aggregate total of $0.4 million.
These factors,
along with an accumulated deficit of $94.8 million, raise
substantial doubt about our ability to continue as a going concern.
The condensed consolidated financial statements do not include any
adjustments that might result from the outcome of these
uncertainties. In this regard, management is planning to raise any
necessary additional funds through loans and additional issuances
of our Common Stock, securities convertible into our Common Stock,
debt securities or a combination of such financing alternatives.
There is no assurance that we will be successful in raising
additional capital. Such issuances of additional securities would
further dilute the equity interests of our existing shareholders,
perhaps substantially. We currently have the rights to several
scripts that we intend to obtain financing to produce and release
during 2017. We will potentially earn a producer and overhead fee
for each of these productions. There can be no assurances that such
productions will be released or fees will be realized in future
periods. We expect to begin to generate cash flows from our other
sources of revenue, including the distribution of at least one web
series that, as discussed earlier has gone into production. With
the acquisition of 42West, we are currently exploring opportunities
to expand the services currently being offered by 42West to the
entertainment community. There can be no
assurance that we will be successful in selling these services to
clients.
Financing
Arrangements
Prints
and Advertising Loan
On August 12,
2016, Dolphin Max Steel Holding, LLC, a wholly owned subsidiary of
Dolphin Films, entered into a loan and security agreement (the
“P&A Loan”) providing for a $14.5 million
non-revolving credit facility that matures on August 25, 2017. The
proceeds of the credit facility were used to pay a portion of the
print and advertising expenses of the domestic distribution of our
feature film,
Max Steel
. To
secure Max Steel Holding’s obligations under the Loan and
Security Agreement, we granted to the lender a security interest in
bank account funds totaling $1,250,000 pledged as collateral.
During the three months ended March 31, 2017, we agreed to allow
the lender to apply the $1,250,000 to the loan balance. The loan is
partially secured by a $4.5 million corporate guaranty from a party
associated with the motion picture. The lender has retained a
reserve of $1.3 million for loan fees and interest (the
“Reserve”). Amounts borrowed under the credit
facility accrue interest at either (i) a fluctuating per annum rate
equal to the 5.5% plus a base rate or (ii) a per annum rate equal
to 6.5% plus the LIBOR determined for the applicable interest
period. As March 31, 2017 we had an outstanding balance of
$9,688,855, including the Reserve, related to this agreement
recorded on our condensed consolidated balance sheets. On our
condensed consolidated statement of operations for the three months
ended March 31, 2017, we recorded (i) interest expense of $220,155
related to the P&A Loan and (ii) $500,000 in direct costs from
loan proceeds that were not used by the distributor for the
marketing of the film and returned to the
lender.
Production Service
Agreement
During 2014, we
entered into a financing deal in the amount of $10.4 million to
produce Max Steel. The loan is partially secured by international
distribution agreements made prior to the commencement of principal
photography and tax incentives. The agreement contains repayment
milestones to be made during the year ended December 31, 2015, that
if not met, accrue interest at a default rate of 8.5% per annum
above the published base rate of HSBC. Pursuant to the terms of the
agreement and due to delays in the release of the film, we have
accrued $1.1 million of interest. The film was released October 14,
2016 and delivery to the international distributors has
begun. During the year ended December 31, 2016, an aggregate
of $4.2 million was received from the international distributors
and tax incentives from the jurisdiction in which a portion of the
film was produced. As of March 31, 2017, we had an outstanding
balance of $3,211,387, related to this debt on our condensed
consolidated balance sheets.
42West Line of Credit
In 2008, 42West
entered into a revolving line of credit with City National Bank,
(the “Line of Credit) which matures on August 31, 2017.
The purpose of the Line of Credit was to provide 42West with
working capital as needed from time to time. The maximum
amount that can be drawn on the Line of Credit is $1,500,000.
The Line of Credit bears interest computed as the greater of (a)
three and one half percent per year or (b) the prime rate of City
National Bank less one quarter of one percent, provided that the
rate per annum never exceed 16%. On March 31, 2017, the
outstanding balance on the line of credit was $0.5 million.
On April 27, 2017, we drew an additional $0.3 million from the Line
of Credit to be used for working capital.
Promissory
Notes
On April 10, 2017,
we signed two separate promissory notes, one in the amount of
$300,000 and the other in the amount of $200,000 that mature on
October 10, 2017. On April 18, 2017, we signed a promissory
note in the amount of $250,000 that matures on October 18,
2017. Each of the three promissory notes bear interest at a
rate of 10% per annum, payable in 30-day installments after the
execution of the promissory notes. The proceeds of these three
notes were used for working capital.
Critical
Accounting Policies
See “Summary
of Significant Accounting Policies” in the Notes to the
unaudited condensed consolidated financial statements and our
current annual report on Form 10-K for the year ended December 31,
2016 for discussion of significant accounting policies, recent
accounting pronouncements and their effect, if any, on the Company.
These policies have been followed for the three months ended March
31, 2017.
Recent
Accounting Pronouncements
See Note
1,
Basis of
Presentation and Recent Accounting Pronouncements, of Notes to
Condensed Consolidated Financial Statements of this
report.
Off-Balance
Sheet Arrangements
As of March 31,
2017, we did not have any off-balance sheet
arrangements.
Special Note Regarding Forward-Looking
Statements
Certain statements
in this Form 10-Q constitute “forward-looking”
statements for purposes of federal and state securities
laws. These statements concern expectations, beliefs,
projections, plans and strategies, anticipated events or trends and
similar expressions concerning matters that are not historical
facts. Such forward-looking statements include:
●
our expectations
regarding the potential benefits and synergies we can derive from
the 42West Acquisition;
●
our ability to
generate new revenue streams through our new subsidiary,
42West;
●
our expectations
concerning our ability to derive future cash flows and revenues
from the production, release and advertising of future
web series on online platforms, and the timing of receipt of such
cash flows and revenues;
●
our expectations
concerning the timing of production and distribution of a digital
project showcasing favorite restaurants of NFL players, as well as
future feature films and digital projects;
●
our intention to
source potential distribution partners for our web series,
South Beach – Fever
,
and to enter into distribution agreements for future digital
productions;
●
our expectation
that we will receive revenues from our motion picture,
Max Steel
from (i) international
revenues expected to be derived through license agreements with
international distributors and (ii) other secondary distribution
revenues;
●
our intention to
use our purchased scripts for future motion picture and digital
productions;
●
our expectations to
raise funds through sales of our Common Stock;
●
our intention to
borrow funds from our CEO, private investors and other lenders to
produce our digital and motion picture
projects;
●
our expectations
regarding the marketing potential and other benefits of our online
kids clubs;
●
our intention to
implement improvements to address material weaknesses in internal
control over financial reporting; and
●
our expectations
concerning the impact of recent Accounting Standards Updates on our
financial position or results of operations.
These
forward-looking statements reflect our current views about future
events and are subject to risks, uncertainties and assumptions. We
wish to caution readers that certain important factors may have
affected and could in the future affect our actual results and
could cause actual results to differ significantly from those
expressed in any forward-looking statement. The most important
factors that could prevent us from achieving our goals, and cause
the assumptions underlying forward-looking statements and the
actual results to differ materially from those expressed in or
implied by those forward-looking statements include, but are not
limited to, the following:
●
our inability to
realize the anticipated benefits of the 42West Acquisition,
including synergies, expanded service offerings and increased
revenues;
●
adverse trends and
changes in the entertainment industry that could negatively impact
42West’s operations and ability to generate
revenues;
●
unpredictability of
the commercial success of our current and future web series and
motion pictures;
●
economic factors
that adversely impact the entertainment industry, as well as
advertising, production and distribution revenue in the online and
motion picture industries;
●
our ability to
identify, produce and develop online digital entertainment and
motion pictures that meet industry and customer
demand;
●
competition for
talent and other resources within the industry and our ability to
enter into agreements with talent under favorable
terms;
●
our ability to
attract and retain the highly specialized services of the 42West
executives and employees;
●
availability of
financing from our CEO and other investors under favorable terms to
fund our digital and motion picture projects;
●
our ability to
adequately address material weaknesses in internal control over
financial reporting;
●
the ability of our
online kids clubs to serve as a platform for sponsorship and other
marketing opportunities thereby generating revenue;
and
●
our ability to
accurately predict the impact of recent Accounting Standards
Updates on our financial position or results of
operations.
Any forward-looking
statements, which we make in this Form 10-Q, speak only as of the
date of such statement, and we undertake no obligation to update
such statements. Comparisons of results for current and any prior
periods are not intended to express any future trends or
indications of future performance, unless expressed as such, and
should only be viewed as historical data. The safe
harbor provisions of the Private Securities Litigation Reform Act
of 1995 do not apply to our forward-looking statements as a result
of being a penny stock issuer.