10-Q 1 form10q_12467.txt FORM 10-Q DATED 12/31/03 ================================================================================ SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 ---------------- FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED DECEMBER 31, 2003 OR [_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM __________ TO __________ COMMISSION FILE NUMBER 0-26395 SALON MEDIA GROUP, INC. -------------------------------------------------------------------------------- (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 94-3228750 ------------------------------- ------------- (STATE OR OTHER JURISDICTION OF (IRS EMPLOYER INCORPORATION OR ORGANIZATION) IDENTIFICATION NUMBER) 22 FOURTH STREET, 16TH FLOOR SAN FRANCISCO, CA 94103 ---------------------------------------- (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (415) 645-9200 ---------------------------------------------------- (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE) SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT: NONE SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT: COMMON STOCK, $0.001 PAR VALUE ---------------- (TITLE OF CLASS) Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Sections 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [_] Indicate by check mark whether the Registrant is an accelerated filer as defined by Rule 12b-12 of the act. Yes [_] No [X] The number of outstanding shares of the Registrant's Common Stock, par value $0.001 per share, on February 5, 2004 was 14,155,276 shares. ================================================================================ -------------------------------------------------------------------------------- FORM 10-Q SALON MEDIA GROUP, INC. INDEX -------------------------------------------------------------------------------- PAGE PART I FINANCIAL INFORMATION NUMBER ITEM 1: Condensed Consolidated Financial Statements Condensed Consolidated Balance Sheets as of December 31, 2003 and March 31, 2003 (unaudited).......... 3 Condensed Consolidated Statements of Operations for the three months and nine months ended December 31, 2003 and 2002 (unaudited) ......................... 4 Condensed Consolidated Statements of Cash Flows for the nine months ended December 31, 2003 and 2002 (unaudited) ........................................... 5 Notes to Condensed Consolidated Financial Statements (unaudited)..................................................... 6 ITEM 2: Management's Discussion and Analysis of Financial Condition and Results of Operations............................. 12 ITEM 3: Quantitative and Qualitative Disclosures About Market Risk...... 30 ITEM 4: Controls and Procedures......................................... 30 PART II OTHER INFORMATION ITEM 1: Legal Proceedings............................................... 30 ITEM 2. Changes in Securities and Use of Proceeds....................... 30 ITEM 3. Defaults upon Senior Securities................................. 31 ITEM 4. Submission of Matters to a Vote of Security Holders............. 32 ITEM 5. Other Information............................................... 32 ITEM 6: Exhibits and Reports on Form 8-K................................ 32 Signatures...................................................... 34 2 -------------------------------------------------------------------------------- PART I: FINANCIAL INFORMATION ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -------------------------------------------------------------------------------- SALON MEDIA GROUP, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS) (UNAUDITED)
DECEMBER 31, MARCH 31, 2003 2003 ------------ ------------ ASSETS Current assets: Cash and cash equivalents $ 922 $ 162 Accounts receivable, net 357 227 Prepaid expenses and other current assets 473 169 ------------ ------------ Total current assets 1,752 558 Property and equipment, net 169 459 Prepaid advertising rights 4,880 5,480 Goodwill, net 200 200 Other intangibles, net 78 348 Other assets 183 545 ------------ ------------ Total assets $ 7,262 $ 7,590 ============ ============ LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Convertible notes payable-related parties $ -- $ 1,256 Convertible notes payable-non related parties -- 458 Accounts payable and accrued liabilities 1,283 1,366 Deferred revenue 1,080 918 ------------ ------------ Total current liabilities 2,363 3,998 Long-term liabilities Warrants payable 707 354 Other long-term liabilities 15 215 ------------ ------------ Total liabilities 3,085 4,567 ------------ ------------ Stockholders' equity: Preferred stock, $0.001 par value, 5,000,000 shares authorized, 7,052 issued and outstanding at December 31, and 934 issued and outstanding at March 31, 2003 (liquidation value of $17,948 at December 31, 2003 and $7,472 at March 31, 2003) Common stock, $0.001 par value, 50,000,000 shares authorized, 14,155,276 shares issued and outstanding at December 31, 2003 and March 31, 2003 14 14 Additional paid-in capital 90,142 85,283 Accumulated deficit (85,979) (82,274) ------------ ------------ Total stockholders' equity 4,177 3,023 ------------ ------------ Total liabilities and stockholders' equity $ 7,262 $ 7,590 ============ ============
The accompanying notes are an integral part of these condensed consolidated financial statements. 3 SALON MEDIA GROUP, INC. CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (IN THOUSANDS, EXCEPT PER SHARE DATA) (UNAUDITED)
THREE MONTHS ENDED DECEMBER 31, NINE MONTHS ENDED DECEMBER 31, ------------------------------ ------------------------------ 2003 2002 2003 2002 ------------ ------------ ------------ ------------ Net revenues $ 1,273 $ 1,140 $ 3,404 $ 3,135 ------------ ------------ ------------ ------------ Operating expenses: Production and content 1,069 1,104 3,214 3,498 Sales and marketing 649 547 1,679 1,858 Research and development 150 165 448 488 General and administrative 371 401 1,064 1,203 Amortization of intangibles 86 93 276 320 ------------ ------------ ------------ ------------ Total operating expenses 2,325 2,310 6,681 7,367 ------------ ------------ ------------ ------------ Loss from operations (1,052) (1,170) (3,277) (4,232) Other income (expense), net (134) (43) (458) (75) ------------ ------------ ------------ ------------ Net loss (1,186) (1,213) (3,735) (4,307) Preferred deemed dividend (1) (43) 30 (93) ------------ ------------ ------------ ------------ Net loss attributable to common stockholders $ (1,187) $ (1,256) $ (3,705) $ (4,400) ============ ============ ============ ============ Basic and diluted net loss per share attributable to common stockholders $ (0.08) $ (0.09) $ (0.26) $ (0.32) Weighted average shares used in computing basic and diluted net loss per share attributable to common stockholders 14,155 13,997 14,081 13,919
The accompanying notes are an integral part of these condensed consolidated financial statements. 4 SALON MEDIA GROUP, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS) (UNAUDITED)
NINE MONTHS ENDED DECEMBER 31, ------------------------------ 2003 2002 ------------ ------------ CASH FLOWS FROM OPERATING ACTIVITIES: Net loss $ (3,735) $ (4,307) Adjustments to reconcile net loss to net cash used in operating activities: Loss from retirement of assets, net 43 -- Stock-based compensation and warrant amortization 332 61 Depreciation and amortization 683 745 Allowance for (recovery of) doubtful accounts (8) 9 Amortization of prepaid advertising rights 600 647 Changes in assets and liabilities: Accounts receivable (122) (98) Prepaid expenses, other current assets and other assets (97) (254) Accounts payable and other liabilities (31) 173 Deferred revenue 162 204 ------------ ------------ Net cash used in operating activities (2,173) (2,820) ------------ ------------ CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment (1) -- Proceeds from asset sales 15 -- ------------ ------------ Net cash provided by investing activities 14 -- ------------ ------------ CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from bank borrowing 182 47 Payments to bank (182) (37) Deposit against future transaction from stockholder -- 500 Proceeds from issuance of notes payable 2,513 1,094 Proceeds from issuance of preferred stock, net 490 -- Principal payments under capital leases (84) (157) ------------ ------------ Net cash provided by financing activities 2,919 1,447 ------------ ------------ NET DECREASE IN CASH AND CASH EQUIVALENTS 760 (1,373) CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 162 1,542 ------------ ------------ CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 922 $ 169 ============ ============ SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES: Issuance of stock and warrants in connection with acquisition $ 5 $ 42 Issuance of warrants in connection with issuance of notes payable 262 14 Issuance of warrants in connection with severance agreement 31 -- Issuance of warrants in connection with editorial collaboration 69 -- Issuance of warrants in connection with issuance of preferred stock 31 -- Preferred deemed dividend in connection with preferred stock financing (30) 93 Adjustment in value of assets purchased under capital lease -- 17
The accompanying notes are an integral part of these condensed consolidated financial statements. 5 SALON MEDIA GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) (UNAUDITED) 1. THE COMPANY Salon Media Group, Inc ("Salon") is an Internet media company that produces a total network of nine primary subject-specific Websites and two online communities. Salon was originally incorporated in July 1995 in the State of California and reincorporated in Delaware in June 1999. Salon operates in one business segment. 2. BASIS OF PRESENTATION The interim condensed consolidated financial statements are unaudited and have been prepared on the same basis as the annual financial statements and, in the opinion of management, reflect all adjustments, which include only normal recurring adjustments necessary to present fairly Salon's consolidated financial position, consolidated results of operations and consolidated cash flows for the periods presented. The condensed consolidated balance sheet data as of March 31, 2003 is derived from and should be read in conjunction with the audited financial statements, which are included in Salon's Annual Report on Form 10-K, as amended, filed with the Securities and Exchange Commission. Pursuant to the rules of the Securities and Exchange Commission, these financial statements do not include all disclosures required by generally accepted accounting principles. The results for the nine months ended December 31, 2003 are not necessarily indicative of the expected results for any other interim period or for the fiscal year ending March 31, 2004. These condensed consolidated financial statements contemplate the realization of assets and the satisfaction of liabilities in the normal course of business. Salon has incurred losses and negative cash flows from operations since inception and has an accumulated deficit at December 31, 2003 of $85,979. These factors raise substantial doubt about Salon's ability to continue as a going concern. Salon has reduced expenses, and may reduce them further, to match anticipated revenues to reach cash flow breakeven. There can be no assurance that a further cost cutting exercise will be successful in completely eliminating the difference between expenditures and revenues or that such actions would not have a harmful effect on Salon's business and results of operations. Until cash flow breakeven is reached, Salon will have to rely on additional investment capital or other financing activities, including notes from investors and the issuance of preferred stock. There can be no assurance that Salon will be able obtain additional capital on terms, which are favorable, or at all. The financial statements do not include any adjustments that might result from the outcome of this uncertainty. 3. CONCENTRATIONS OF CREDIT RISK No customer accounted for more than 10% of total revenue for the three-month or nine-month periods ended December 31, 2003 or December 31, 2002. Two customers accounted for 20% and 13% of the total accounts receivable balance as of December 31, 2003. Three customers accounted for 11% each of the total accounts receivable balance as of December 31, 2002. 6 SALON MEDIA GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) (UNAUDITED) 4. GOODWILL AMORTIZATION AND INTANGIBLE ASSETS The following table sets forth information concerning Salon's goodwill and intangible assets as of December 31, 2003:
Gross Net Carrying Accumulated Carrying Amount Amortization Amount ------------ ------------ ------------ Trade name $ 1,200 $ 1,140 $ 60 Proprietary technology 355 337 18 Audio technology 158 158 0 ------------ ------------ ------------ Total intangible assets subject to amortization $ 1,713 $ 1,635 $ 78 ============ ============ ============ Goodwill $ 3,555 $ 3,355 $ 200 ------------ ------------ ------------ Total intangible assets not subject to amortization $ 3,555 $ 3,355 $ 200 ============ ============ ============
The weighted average amortization period remaining for all intangible assets subject to amortization is 0.25 years. 5. NET LOSS PER SHARE Basic loss per share is computed using the weighted average number of shares of common stock outstanding during the period. Diluted loss per share is computed using the weighted average number of common and common stock equivalents outstanding during the period, as follows:
THREE MONTHS ENDED DECEMBER 31 NINE MONTHS ENDED DECEMBER 31 ------------------------------ ------------------------------ 2003 2002 2003 2002 ------------ ------------ ------------ ------------ Numerator: Net loss attributable to common stockholders $ (1,187) $ (1,256) $ (3,705) $ (4,400) ------------ ------------ ------------ ------------ Denominator Weighted average shares outstanding 14,155,000 14,155,000 14,155,000 14,155,000 weighted average shares held in escrow -- (158,000) (74,000) (236,000) ------------ ------------ ------------ ------------ Weighted average shares used in computing basic and diluted net loss per share 14,155,000 13,997,000 14,081,000 13,919,000 ============ ============ ============ ============ Basic and diluted net loss per share attributable to common stockholders $ (0.08) $ (0.09) $ (0.26) $ (0.32) ============ ============ ============ ============ Antidilutive securities including options, warrants and convertible preferred stock not included in net loss attributable to common stockholders per share calculation 187,699,197 31,875,098 187,699,197 31,875,098
7 SALON MEDIA GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) (UNAUDITED) If Salon's compensation expense under its stock option plan had been determined pursuant to Statement of Financial Accounting Standards (SFAS) No. 123, "Accounting for Stock-Based Compensation," Salon's net loss per share would have been as follows:
THREE MONTHS ENDED DECEMBER 31 NINE MONTHS ENDED DECEMBER 31 ------------------------------ ------------------------------ 2003 2002 2003 2002 ------------ ------------ ------------ ------------ Net loss attributable to common stockholders: As reported $ (1,187) $ (1,256) $ (3,705) $ (4,400) Add back: stock-based employee compensation expense included in reported net loss -- 15 -- 45 Deduct: total stock-based compensation expense determined under the fair value based method, net of related tax (94) (166) (198) (680) ------------ ------------ ------------ ------------ Pro forma net loss attributable to common stockholders $ (1,281) $ (1,407) $ (3,903) $ (5,035) ============ ============ ============ ============ Basis and diluted net loss per share attributable to common stockholders: As reported $ (0.08) $ (0.09) $ (0.26) $ (0.32) Pro forma net loss per share $ (0.09) $ (0.10) $ (0.28) $ (0.36)
6. RECENT ACCOUNTING PRONOUNCEMENTS In November 2002, the Emerging Issues Task Force (EITF) reached a consensus on Issue No. 00-21 "Accounting for Revenue Arrangements With Multiple Deliverables" which provides guidance on how to account for arrangements that involve the delivery or performance of multiple products, services and/or rights to use assets. The provisions of EITF No. 00-21 apply to revenue arrangements entered into in fiscal periods beginning after June 15, 2003. The adoption of EITF No. 00-21 did not have a significant affect on Salon's financial position and results of operations. In May 2003, the Financial Accounting Standards Board (FASB) issued SFAS No. 150, "Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity." This Statement establishes standards for how an issuer classifies and measures in its statement of financial position certain financial instruments with characteristics of both liabilities and equity. It requires that an issuer classify a financial instrument that is within its scope as a liability (or an asset in some circumstances) because that financial instrument embodies an obligation of the issuer. This Statement is effective for financial instruments entered into or modified after May 31, 2003 and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003, except for mandatorily 8 SALON MEDIA GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) (UNAUDITED) redeemable financial instruments of nonpublic entities. For nonpublic entities, mandatorily redeemable financial instruments are subject to the provisions of this Statement for the first period beginning after December 15, 2003. It is to be implemented by reporting the cumulative effect of a change in an accounting principle for financial instruments created before the issuance date of the statement and still existing at the beginning of the interim period of adoption. The adoption of SFAS No. 150 did not have an adverse affect on Salon's financial position or results of operations. 7. CONVERTIBLE NOTES PAYABLE AND PREFERRED STOCK The following is a recap of convertible notes payable issued by Salon for working capital and general corporate use:
NOTE WARRANTS INVESTORS ---------------------------- ----------------------------------- -------------- Exercise price per share Number ------------------------ Issue Date Amount Issued Original Revised(*) Number Ref. ------------------ ------- --------- -------- --------- ------ ----- April 10, 2003 $ 200 600,000 $ 0.0460 $ 0.0418 2 2,6 April 29, 2003 200 600,000 0.0575 0.0454 2 2,6 May 28, 2003 300 900,000 0.0575 0.0454 1 2 June 12, 2003 100 300,000 0.0575 0.0454 1 4 June 26, 2003 100 300,000 0.0575 0.0454 1 1 July 10, 2003 248 744,015 0.0460 0.0418 3 1,2,5 July 30, 2003 100 300,000 0.0345 0.0345 1 2 August 29, 2003 165 495,000 0.0345 0.0345 3 1,2,3 September 12, 2003 100 300,000 0.0575 0.0454 1 2 September 29, 2003 100 300,000 0.0805 0.0526 1 2 October 6, 2003 100 300,000 0.0805 0.0526 1 6 October 10, 2003 100 300,000 0.0575 0.0454 1 2 October 30, 2003 150 450,000 0.0575 0.0454 2 2,6 November 12, 2003 100 300,000 0.0690 0.0490 1 2 November 24, 2003 150 450,000 0.0575 0.0454 2 2,5 December 10, 2003 200 600,000 0.0575 0.0454 1 7 December 11, 2003 100 300,000 0.0575 0.0454 1 2 ------- --------- $ 2,513 7,539,015 ======= =========
* Exercise price revised pursuant to an anti-dilution provision in applicable warrant Investor References: 1. Non-related party investor. 2. Investment by John Warnock. Director of Salon. 3. Investment by Salon's President, Chief Financial Officer, Treasurer and Secretary. 4. Investment by the father of Salon's President, Chief Financial Officer, Treasurer and Secretary. 9 SALON MEDIA GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) (UNAUDITED) Investor References (continued): 5. Investment by entity that Salon's President, Chief Financial Officer, Treasurer and Secretary and father have an ownership interest in. 6. Investment by entity that the father of Salon's President, Chief Financial Officer, Treasurer and Secretary has an ownership interest in. 7. Investment by Wenner Media LLC, which included an additional issuance of 2,000,000 warrants for editorial collaboration between Wenner Media LLC and Salon. On January 15, 2004, the President of Wenner Media LLC joined Salon's Board of Directors. On December 31, 2003 Salon issued to the same Director mentioned above warrants to purchase 300,000 shares of common stock at $0.0345 per share for a promissory note dated October 3, 2002 for which no warrants had previously been issued. The notes, of which those issued through August 29, 2003 were amended effective September 12, 2003 and September 22, 2003 to conform to the terms of those issued subsequent to that date, could be converted into financing securities or Salon's common stock and accrued interest on the unpaid principal at 6.0% per year with such interest and principal due on or before December 31, 2003. The notes were to automatically convert upon the closing of Salon's first sale of its preferred or common stock with aggregate gross proceeds to Salon of at least $2,000 (including the conversion of the outstanding principal of the notes and other converted indebtedness of Salon). In the event that Salon issued new financing securities by December 31, 2003, the number of shares of the financing securities to be issued upon conversion of the notes were to equal the aggregate amount of the Notes and accrued interest divided by the price per share of the financing securities issued and sold. On December 30, 2003 Salon converted $4,227 of notes, which represented all amounts then owed under various note agreements, $167 of accrued interest on such notes, and $500 from the Director of Salon mentioned earlier, to 6,118 shares of Salon's Series C preferred stock, based on a purchase price of $800 per share. The approximate net proceeds of $490 raised will be used for working capital and other general corporate purposes. In addition, warrants to purchase 1,500,000 shares of Salon's common stocks, at an exercise price of $0.0345 per share, were issued to the Director. As of December 31, 2003, an additional 512 Series C preferred shares are authorized for issuance. The issuance of the Series C preferred stock was effected in accordance with the Securities Purchase Agreement dated as of December 30, 2003 between Salon and the note holders. The purchasers of Series C Preferred Stock will own approximately 84% of the aggregate total outstanding voting securities of Salon on a fully diluted, as converted basis. The holders of Series C preferred stock are entitled to the following rights and preferences: cumulative and accrued dividends of 8.0% annually when, as and if declared by the Board of Directors; in the event of a liquidation event of Salon, they will receive prior and in preference to distributions of assets of Salon made to holders of common stock, Series A preferred stock and Series B preferred stock, an amount equal to $1,600 per share of Series C preferred stock; after liquidation distributions of Salon assets to holders of Series A preferred stock and Series B preferred stock, holders of Series C preferred stock are entitled to participate with the holders of Series A preferred stock, Series B preferred stock and common stock in a distribution of the remaining assets of Salon available to stockholders ratably in proportion to the shares of common stock held by them and the shares of common stock which they have 10 SALON MEDIA GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) (UNAUDITED) the right to acquire upon conversion of the shares of preferred stock; and certain voting rights and redemption rights. The Series C preferred stock can be converted to common stock after Salon has amended its Certificate of Incorporation, and upon securing the requisite approval of Salon's Board of Directors and stockholders, to increase the authorized number of shares of common stock. The Series C preferred stock is convertible into common stock of Salon at the conversion rate determined by dividing the Series C Preferred Stock per share price of $800 by the Series C Conversion Price of $0.04, or at the rate of one share of Series C preferred stock to 20,000 shares of common stock. The Series C preferred stock conversion price is subject to downward adjustment under certain circumstances related to subsequent Salon stock issuances. The issuance of Series C preferred stock triggered anti-dilution provisions of: 1) the Series A and Series B preferred stock, 2) warrants issued to Series A and B preferred stockholders, and 3) warrants issued to note payable holders. The 809 shares of Series A preferred stock previously convertible to 13,2896,306 shares of common stock, is now convertible to 31,345,191 shares of common stock. The 125 shares of Series B preferred stock, previously convertible to 2,829,654 shares of common stock, is now convertible to 6,061,314 shares of common stock. The exercise price of warrants with an exercise price in excess of $0.04 per share was reduced in accordance with the provisions of the underlying documents. The resulting adjusted exercise price per share is noted on the above table for warrants issued during the nine months ended December 31, 2003 to note payable holders. Salon's charter allows for the issuance of 50,000,000 shares of common stock, which is insufficient to satisfy all obligations under convertible instruments, warrant agreements and options. Therefore, the value of warrants issued is classified as a long-term liability, with the fair value re-measured at each balance sheet period or upon an anti-dilution triggering event of the underlying security agreement. The re-measurement of warrants as of December 31, 2003 resulted in a cumulative benefit of $40, of which $30 related to warrants issued in conjunction with the issuances of preferred stock, and was recorded as a preferred deemed dividend in Salon's results of operations. 8. BANK BORROWINGS Salon has an Accounts Receivable Purchase Agreement with a bank. Under the terms of the agreement, the bank can make advances of 60% or 80% of the face value of acceptable receivables from Salon, depending on the nature of the receivable. During the nine month period ended December 31, 2003, Salon borrowed $182 and repaid $182 under the agreement. Subsequent to December 31, 2003, Salon allowed the Accounts Receivable Purchase Agreement to expire. 9. EMPLOYEE MATTERS On October 1, 2003 Michael O'Donnell, Salon's President and Chief Executive Officer, resigned. As part of the resignation, Michael O'Donnell received warrants to purchase one million shares of Salon's common stock at $.05 per share. The warrants were valued at $31 using the Black-Scholes option-pricing model, applying a contractual life of two years, a weighted average risk-free rate of 1.625%, an expected dividend yield of 0%, a volatility of 120% and a deemed fair value of common stock of $0.05. David Talbot, Salon's Chairman of the Board and Editor-in-Chief became the Chief Executive Officer and Elizabeth Hambrecht, Salon's Chief Financial Officer, Treasurer and Secretary became Salon's President. 11 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS OF OPERATIONS This section and other parts of this Form 10-Q contain "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, as amended (Exchange Act) that involve risks and uncertainties, including, but not limited to, statements regarding our strategy, plans, objectives, expectations, intentions, financial performance, cash-flow breakeven timing, financing, liquidation preferences, anticipated sale of television advertising credits, economic conditions, on-line advertising, market performance, subscription service plans, and revenue sources. Although Salon Media Group, Inc. (Salon) believes its plans, intentions and expectations reflected in such forward-looking statements are reasonable, we can give no assurance those plans, and intentions or expectations will be achieved. Our actual results may differ significantly from those anticipated or implied in these forward-looking statements as a result of the factors set forth above and in Salon's public filings. Salon assumes no obligation to update any forward-looking statements as circumstances change. Salon's actual results may differ significantly from those anticipated or implied in these forward-looking statements as a result of the factors set forth below and in "Management's Discussion and Analysis of Financial Conditions and Results of Operations" and "Factors That May Affect Our Future Results and Market Price of Stock." In this report, the words "anticipates," "believes," "expects," "estimates," "intends," "future," and similar expressions identify forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. OVERVIEW Salon Media Group, Inc. is an Internet media company that provides online news and information. An online pioneer, Salon offers award-winning journalism from breaking news and in-depth analysis to provocative commentary on politics, technology, culture and entertainment. Salon also offers an audio streaming Website, and hosts' two online communities - Table Talk and The Well. Salon believes that its network of Websites combines the thoughtfulness of print, the timeliness of television and the interactivity of talk radio. The main entry and navigation point to Salon's nine subject specific Websites is Salon's home page at www.salon.com. The Websites provide news, features, interviews and regular columnists on specific topics, from politics and arts and entertainment to parenting and health, while Salon's online communities allow users to interact and discuss Salon content and other topics via electronic messaging. Salon's users can access Table Talk or The Well through www.salon.com or through Salon's content Websites. Salon believes that its original, award-winning content allows Salon to attract and retain users who are younger, more affluent, better educated and more likely to make online purchases than typical Internet users. Salon believes its user profile makes its network of websites and online communities a valuable media property for advertisers and retailers who are allocating marketing resources to target consumers online. This section and other parts of this Form 10-Q should be considered in conjunction with the audited financial statements, which are included in Salon's Annual Report on Form 10-K, as amended, filed with the Securities and Exchange Commission. Matters of interest therein include, but are not limited to, Salon's disclosure of critical accounting policies. 12 RESULTS OF OPERATIONS FOR THE THREE AND NINE MONTHS ENDED DECEMBER 31, 2003 COMPARED TO THE THREE AND NINE MONTHS ENDED DECEMBER 31, 2002 NET REVENUES: Net revenues increased 12% to $1.3 million for the three months ended December 31, 2003 from $1.1 million for the three months ended December 31, 2002 and increased 9% to $3.4 million for the nine months ended December 31, 2003 from $3.1 million for the nine months ended December 31, 2002. Advertising revenues increased to $0.6 million for the three months ended December 31, 2003 from $0.5 million for the three months ended December 31, 2002 and decreased to $1.4 million for the nine months ended December 31, 2003 from $1.5 million for the nine months ended December 31, 2002. The increase in quarter to quarter advertising revenues was due to a broader acceptance of Salon's intercept ad format with rich media that results in a more favorable ad experience than traditional banner advertising. This quarter increase over last year's amounts was attributable for advertising revenues to be comparable for the two nine-month periods. Salon estimates that advertising revenues for the three months ended March 31, 2004 will be approximately $0.4-0.5 million. Subscription revenues increased to $0.6 million for the three months ended December 31, 2003 from $0.5 million for the three months ended December 31, 2002 and increased to $1.8 million for the nine months ended December 31, 2003 from $1.3 million for the nine months ended December 31, 2002. The increase in subscription revenues is attributable to Salon Premium, as subscriptions to The Well have remained constant. New and renewal one-year subscriptions to Salon Premium for the three months ended December 31, 2003 were approximately 16,600, and approximately 46,000 for the nine months ended December 31, 2003, compared to approximately 16,100 for the three months ended December 31, 2002 and 33,000 for the nine months ended December 31, 2002. Even though subscriptions for the two three-month periods are comparable, subscriptions for the three months ended December 31, 2003 include approximately 1,000 bonus subscriptions as Salon had a "two for the price of one" promotion during the Christmas holidays. Deducting the non-paying subscriptions, the number of new and renewal subscriptions declined for the three months ended December 31, 2003 compared to the three months ended December 31, 2002. A contributing factor is a decline in the renewal rate. The renewal rate for one-year paid subscriptions as of December 31, 2003 is estimated to range from approximately 60% to 65%, a drop from approximately 70% a year ago. This drop is attributable to the January 2003 decision to make all of Salon's content available to non Salon Premium subscribers as long as a website visitor were willing to view some form of advertising. Salon is reconsidering this strategy and may in future periods restrict access to content to Salon Premium members only. As of December 31, 2003, Salon has approximately 74,000 active Salon Premium subscribers and deferred $0.8 million of revenue, compared to 47,000 active subscribers and deferred revenue of $0.7 million as of December 31, 2002, representing an approximate increase of 56% in active subscribers from the comparable period last year. Salon estimates that Salon Premium revenues for the three months ended March 31, 2004 will be approximately $0.5 million. PRODUCTION AND CONTENT: Production and content expenses during the three months ended December 31, 2003 and December 31, 2002 was $1.1 million. Production and content expenses during the nine months ended December 31, 2003 were $3.2 million versus $3.5 million during the nine months ended December 31, 2002, a decline of $0.3 million or 8%. Limited cash on hand to fund operations resulted in product and content expenses staying steady for the two three-month periods and declining 13 during the nine months ended December 31, 2003 compared to the nine months ended December 31, 2002. Salon does not anticipate material future changes in production and content expenditures. SALES AND MARKETING: Sales and marketing expenses during the three months ended December 31, 2003 were $0.6 million versus $0.5 million for the three months ended December 31, 2002, an increase of $0.1 million or 19%. Even though expenditures requiring cash declined $0.1 million due to limited cash resources, increased utilization of prepaid advertising rights resulted in a $0.2 million additional non-cash amortization charge during the three months ended December 31, 2003 compared to the three months ended December 31, 2002. Sales and marketing expenses during the nine months ended December 31, 2003 were $1.7 million versus $1.9 million for the nine months ended December 31, 2002, a decline of $0.2 million or 10%. The decline is primarily attributable to a reduction in sales and marketing staff, as the utilization of prepaid advertising rights was comparable for both periods. Salon estimates that expenditures requiring the utilization of cash will be approximately $0.3 million and the amortization of prepaid advertising rights to be approximately 0.2 million for the three months ended March 31, 2004. RESEARCH AND DEVELOPMENT: Research and development expenses during the three months and nine months ended December 31, 2003 were $0.2 million and $0.4 million respectively, and were comparable to amounts for the three months and nine months ended December 31, 2002. Salon does not anticipate material future changes or reductions in research and development expenditures. GENERAL AND ADMINISTRATIVE: General and administrative expenses during the three months and nine months ended December 31, 2003 were $0.4 million and $1.1 million respectively, were comparable to amounts for the three months and nine months ended December 31, 2002. Even though cash related operating expenditures declined by $0.1 million, the resignation of Michael O'Donnell, Salon's President and Chief Executive Officer on October 1, 2003 resulted in a charge of approximately $0.1 million. The $0.1 million charge included salary and benefits continuation through March 31, 2004 as well as the value of warrants to purchase 1,000,000 shares of Salon's common stock at $0.05 per share issued to Mr. O'Donnell. Salon does not anticipate material future changes or reductions in general administrative expenditures. AMORTIZATION OF INTANGIBLES: Amortization of intangible expenses during the three months and nine months ended December 31, 2003 were $0.1 million and $0.3 million respectively, comparable to amounts for the three months and nine months ended December 31, 2002. OTHER INCOME (EXPENSE), NET: Other income, net for the three and nine months ended December 31, 2003 was $0.1 million and $0.4 million, respectively, compared to none and $0.1 million for the three and nine months ended September 30, 2002, respectively. 14 The $0.1 million charge for the three months ended December 31, 2003 was primarily interest on the issuance of $4.2 million notes payable. The $0.4 million charge for the nine months ended December 31, 2003 included $0.1 million for interest and $0.3 million attributable to expensing the value of warrants issued in conjunction with the issuance of notes payable. The majority of the warrants issued have been to related parties, primarily John Warnock, a Director of Salon and entities that the father of Salon's President, Chief Financial Officer, Treasurer and Secretary, has an ownership interest in. On December 30, 2003, the notes payable and accrued interest were converted to Series C preferred stock. NET LOSS ATTRIBUTABLE TO COMMON STOCKHOLDERS: As a result of the above factors, Salon recorded a net loss attributable to common stockholders of $1.2 million, or $0.08 per share for the three months ended December 31, 2003 compared to a net loss attributable to common stockholders of $1.3 million, or $0.09 per share for the three months ended December 31, 2002. In addition, Salon recorded a net loss attributable to common stockholders of $3.7 million, or $0.26 per share for the nine months ended December 31, 2003 compared to a net loss attributable to common stockholders of $4.4 million, or $0.32 per share for the nine months ended December 31, 2002. LIQUIDITY AND CAPITAL RESOURCES: Net cash used in operations was $2.2 million for the nine months ended December 31, 2003, compared to $2.8 million for the nine months ended December 31, 2002. The principal use of cash during the nine months ended December 31, 2003 was to fund the $3.7 million net loss for the period, which was offset by $1.7 million of non-cash charges. The principal use of cash during the nine months ended December 31, 2002 was to fund the $4.3 million net loss for the period, which was offset by $1.5 million of non-cash charges No cash was used in investing activities for the nine months ended December 31, 2003 and December 31, 2002. Salon anticipates incurring approximately $40,000 of tenant improvements during the three months ended March 31, 2004. Net cash from financing activities provided $2.9 million for the nine months ended December 31, 2003 compared to $1.4 million for the nine months ended December 31, 2002. For the nine months ended December 31, 2003, Salon issued $2.5 million of convertible notes payable, of which $2.3 million was to related parties, borrowed and paid back $0.2 million from a bank, and made payments under capital leases of $0.1 million and received $0.5 million from the issuance of Series C preferred stock. For the nine months ended December 31, 2002, Salon issued $1.1 million of convertible notes payable, of which $0.6 million was to related parties, and received a $0.5 million deposit against a future transaction from a Director, partially offset by $0.2 million of payments under capital leases. Salon's independent accountants through its fiscal year ended March 31, 2003, included a paragraph in their report for the fiscal years ended March 31, 2003 and March 31, 2002 indicating that substantial doubt exists as to Salon's ability to continue as a going concern because it has recurring operating losses and negative cash flows, and an accumulated deficit. Salon has eliminated various positions, has not filled positions opened by attrition, implemented a wage reduction of 15% effective April 1, 2001, and has cut discretionary spending, but due to limited visibility of advertising activity, it is unable to predict accurately if and when it will reach cash-flow break even. On December 31, 2003, Salon amended its lease agreement for its office space at 22 Fourth Street, San Francisco, California. Under the terms of the revised lease agreement, Salon is to vacate the 16th floor and relocate to the 11th floor by March 31, 2004 and incur all tenant improvement expenditures. 15 In return, the lessor agrees to forfeit approximately $145,000 of arrears rents owed. Salon anticipates incurring minimal tenant improvement expenditures by March 31, 2004 to execute the amendment. As of December 31, 2003, Salon has $0.9 million in cash on hand, which includes $0.5 million from the issuance of Series C preferred stock on December 30, 2003. Salon contemplates issuing approximately 500 additional Series C preferred shares during February 2004 with identical terms to those issued on December 30, 2003, to two investors and receive $0.4 million in cash. The investors include the father of Salon's President, Chief Financial Officer, Secretary and Treasurer and a Director of Salon. If such an event were to incur, Salon estimates that based on its common stock closing price of February 3, 2004, it will incur a non-cash preferred deemed dividend charge of approximately $2.5 million on its results of operations. During the nine months ended December 31, 2003 Salon received $2.3 million from notes payable issued to related parties. Of the $2.3 million, $1.5 million was from a Director of Salon, approximately $0.5 million was either from the father of Salon's President, Chief Financial Officer, Secretary and Treasurer or entities for which he was an investor, and $0.1 million for which Salon's President, Chief Financial Officer, Secretary and father had an ownership interest therein. In addition, Salon received $0.5 million from the same Director from the issuance of Series C preferred stock. As of this filing, there is no contractual assurance that the Director, or entities related to Salon's President, Chief Financial Officer, Secretary and Treasurer will continue to invest in Salon. Effective January 13, 2004 Salon and Rolling Stone, an entity of Wenner Media LLP, entered into an editorial collaboration agreement for which both entities agreed to jointly finance, produce and publish content. On January 15, 2004, the President of Wenner Media LLP joined Salon's Board of Directors. At this time, it is not known to what extent the editorial collaboration agreement will result in new content. On December 30, 2003 Salon converted $4.2 million of notes payable, $0.2 million of accrued interest and $0.5 million in cash to 6,118 shares of Series C preferred stock at $800 per share and issued warrants to purchase 1,500,000 shares of Salon's common stock at $0.0345 per share. The issuance of Series C preferred stock greatly diluted potential liquidation preferences of Salon's assets and voting interest of Salon's common stockholders, and to a lesser extent, Series A and Series B preferred stockholders. Series C preferred stockholders have potential liquidation preference rights of $1,600 per share, or $9.8 million in the aggregate, prior and in preference to any potential distribution to Series A and Series B preferred stockholders and common stockholders and control approximately 82% of the voting securities of Salon as of December 31, 2003. The Series A and B preferred stockholders have potential liquidation preference rights of $8,000 per share plus accrued dividends, or $8.2 million in the aggregate, prior and in preference to any potential distribution to common stockholders. After a potential initial distribution to the preferred stockholders as a group, any remaining assets would be available ratably in proportion to the shares of common stock held by them and the shares of common stock which they have the right to acquire upon the conversion of the shares of preferred stock, limited to $4,000 per share, or $3.7 million in aggregate for the Series A and B preferred stockholders. The preferred stockholders as a group, own approximately 95% of the outstanding common stock and common stock that they have the right to acquire upon the conversion of the shares of preferred stock, excluding common stock from the potential exercise of warrants. In early 2003, Salon began to market its prepaid advertising rights to generate additional working capital. Any agreement would have involved Salon, NBC, which had to agree to the transfer of rights to a third party, and a third party willing to acquire the rights. In October 2003, Salon concluded that it could not immediately market the rights and suspended all activity to market the rights. 16 Salon needs to raise additional funds until it reaches cash flow break even. If Salon does not secure additional funds from the issuance of equity securities or instruments that convert into equity securities, Salon may be unable to continue as a going concern and cease operations. Salon cannot determine at this time whether or not, or to what extent, it will be successful in securing additional cash resources in future periods to meet operating requirements. RECENT ACCOUNTING PRONOUNCEMENTS In November 2002, the Emerging Issues Task Force (EITF) reached a consensus on Issue No. 00-21 "Accounting for Revenue Arrangements With Multiple Deliverables" which provides guidance on how to account for arrangements that involve the delivery or performance of multiple products, services and/or rights to use assets. The provisions of EITF No. 00-21 apply to revenue arrangements entered into in fiscal periods beginning after June 15, 2003. The adoption of EITF No. 00-21 did not have a significant affect on Salon's financial position and results of operations. In May 2003, the Financial Accounting Standards Board (FASB) issued SFAS No. 150, "Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity." This Statement establishes standards for how an issuer classifies and measures in its statement of financial position certain financial instruments with characteristics of both liabilities and equity. It requires that an issuer classify a financial instrument that is within its scope as a liability (or an asset in some circumstances) because that financial instrument embodies an obligation of the issuer. This Statement is effective for financial instruments entered into or modified after May 31, 2003 and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003, except for mandatorily redeemable financial instruments of nonpublic entities. For nonpublic entities, mandatorily redeemable financial instruments are subject to the provisions of this Statement for the first period beginning after December 15, 2003. It is to be implemented by reporting the cumulative effect of a change in an accounting principle for financial instruments created before the issuance date of the statement and still existing at the beginning of the interim period of adoption. The adoption of SFAS No. 150 did not have an adverse affect on Salon's financial position or results of operations. RISK FACTORS FACTORS THAT MAY AFFECT SALON'S FUTURE RESULTS AND MARKET PRICE OF STOCK SALON WILL VERY LIKELY CEASE OPERATIONS IN ITS CURRENT FORM IF IT IS UNABLE TO RAISE ADDITIONAL CASH RESOURCES Salon has $0.9 million in cash as of December 31, 2003. These funds, in conjunction with collections of accounts receivable and Salon Premium subscriptions, have been used to fund operations as of this filing. Salon anticipates receiving $0.4 million from the issuance of approximately 500 shares of Series C preferred shares during the month of February 2004, but needs to secure additional cash resources in order to continue as a going concern. Salon is attempting to secure additional funds from the issuance of equity securities and instruments that convert into equity securities. 17 If Salon does not secure additional funds from the issuance of equity securities and instruments that convert into equity securities, Salon may be unable to continue as a going concern and cease operations. Salon cannot determine at this time whether, or to what extent, it will be successful in securing additional cash resources to meet operating requirements until it reaches cash flow breakeven. SALON MAY ISSUE ADDITIONAL PREFERRED STOCK AT EFFECTIVE PRICES LOWER THAN CURRENT COMMON STOCK MARKET PRICES THAT MAY RESULT IN NON CASH CHARGES TO OPERATIONS Salon contemplates issuing approximately 500 Series C preferred shares during the month of February 2004 with terms identical to those of its issuance of Series C preferred stock on December 30, 2003. If such an event were to occur, based on Salon's common stock closing price of February 3, 2004, the issuance could result in a non cash preferred deemed dividend charge of approximately $2.5 million to Salon's results of operations. Issuance of securities with an effective common stock per share price of less than current common stock market per share prices could result in other non cash preferred deemed dividend charges to Salon's results of operations. Such issuance will trigger anti-dilution protection for the holders of Series A and B preferred stock and related warrants which will result in an increase in the number of shares of common stock issuable upon conversion of such shares and the exercise of the related warrants. Additionally, existing common stock holders will suffer significant, additional dilution. SALON HAS RELIED ON RELATED PARTIES FOR SIGNIFICANT INVESTMENT CAPITAL Salon has been relying on cash from related parties to fund operations. The related parties are primarily John Warnock, a Director of Salon, and the father or entities that the father of Salon's President, Chief Financial Officer, Secretary and Treasurer is an investor. Out of $2.3 million of cash received by Salon from the issuance of convertible notes payable for the nine months ended December 31, 2003, $2.1 million was from related parties. In addition, the $0.5 million received from the issuance of Series C preferred stock as of December 31, 2003 was from Salon Director John Warnock. Curtailment of cash investments by related parties could detrimentally impact Salon's ability to continue its operations and Salon may be unable to continue as a going concern. SALON'S PRINCIPAL STOCKHOLDERS CAN EXERCISE A CONTROLLING INFLUENCE OVER SALON'S BUSINESS AFFAIRS AND THEY MAY MAKE BUSINESS DECISIONS WITH WHICH NON-PRINCIPAL STOCKHOLDERS DISAGREE THAT WILL AFFECT THE VALUE OF THEIR INVESTMENT The holders of Salon's Series A, B and C preferred stock collectively own approximately 95% of all voting securities as of January 15, 2004. These stockholders therefore own a controlling interest in Salon. Of this amount, approximately 67% is by related parties, of which approximately 18% is controlled directly or indirectly by the father of Salon's President, Chief Financial Officer, Secretary and Treasurer and approximately 43% by a Director of Salon. Therefore, related parties by themselves own a controlling interest in Salon. If these stockholders were to act together, they would be able to exercise control over most matters requiring approval by other stockholders, including the election of directors and approval of significant corporate transactions. These actions may be taken even if principal stockholders oppose non-principal stockholders. This concentration of ownership may also have the effect of delaying or preventing a change in control of Salon, which could cause Salon's stock price to decline. 18 SALON'S PREFERRED STOCKHOLDERS ARE ENTITLED TO POTENTIALLY SIGNIFICANT LIQUIDATION PREFERENCES OF SALON'S ASSETS OVER COMMON STOCKHOLDERS IN THE EVENT OF SUCH AN OCCURRENCE Salon's preferred stockholders have liquidation preferences of Salon's assets over common stockholders of a minimum of approximately $17.9 million. In the event of a liquidation event, these holders would have preference over common stockholders of $17.9 million, or more, and therefore could affect the value of an investment in Salon's common stock. Future issuance of preferred stock will increase this liquidation preference. SALON LACKS SIGNIFICANT REVENUES AND HAS A HISTORY OF LOSSES Salon has a history of significant losses and expects to incur operating losses in the near future. For the nine months ended December 31, 2003, Salon had net losses attributable to common stockholders of $3.7 million and had an accumulated deficit of $86.0 million. If and when Salon does achieve profitability, Salon may not be able to sustain or increase profitability on a quarterly or annual basis in the future. If revenues grow more slowly than Salon anticipates or operating expenses exceed expectations, financial results will most likely be severely harmed and the ability of Salon to continue its operations will be seriously jeopardized. Salon's independent accountants for the years ended March 31, 2003, 2002 and 2001 provided a "going-concern" audit opinion on the consolidated financial statements for those years. The audit opinion reported substantial doubt about Salon's ability to continue as a going concern, citing issues such as the history of losses and absence of current profitability. As a result of the "going-concern" opinion, Salon's stock price and investment prospects may be adversely affected, thus limiting financing choices and raising concerns about the realization of value on assets and operations. SALON HAS ENTERED INTO THIRD-PARTY SUBSCRIPTION BUNDLING SERVICES Salon has entered into two agreements with third parties who contemplate combining Salon's content with other content providers, with the resulting bundled content sold to individuals for a set monthly fee. Of the monthly fee, Salon would earn a nominal amount. As of this filing, Salon's has not earned any revenue from these agreements and contemplates immaterial amounts through June 30, 2004. Salon cannot estimate how much revenue it may earn under these agreements. SALON'S OPERATIONS REQUIRE ATTRACTIVE CONTENT, SUBSCRIBER INTEREST, AND CONFIDENCE BY SUBSCRIBERS AND SUPPLIERS THAT THE SUBSCRIPTION OFFERING WARRANTS THEIR LONG-TERM SUPPORT AND INVESTMENT. THE ABSENCE OF ANY OF THESE FACTORS COULD IMPAIR THE RESULTS, REVENUE AND CASH FLOW FROM SUBSCRIPTIONS. Salon is under severe budgetary constraints to limit expenditures. These constraints affect editorial staffing levels and the purchase of content from freelance writers. These constraints affect the amount and quality of content published on Salon's Websites and consequently, the positive experience of Website visitors. The positive experience leads to reoccurring Website visits, new subscriptions to Salon Premium, and corresponding high renewal rates of Salon Premium subscribers. For the nine months ended December 31, 2003 Salon's estimated renewal rate for one-year paid subscription to Salon Premium ranges from 60% to 65%. Salon cannot predict if this rate will continue in the future or how many new Salon Premium subscriptions it will acquire. 19 SALON HAS DEPENDED ON ADVERTISING SALES FOR MUCH OF ITS REVENUES, AND ITS INABILITY TO MAINTAIN OR INCREASE ADVERTISING REVENUES WILL HARM ITS BUSINESS Maintaining or increasing Salon's advertising revenues depends upon many factors, including whether it will be able to: o successfully sell and market it new content access advertisements; o entice non Salon Premium Website visitors to view and advertisers to sell new ad units and formats; o maintain a significant number of unique site visitors and corresponding significant reach of Internet users; o maintain a significant number of sellable impressions available to advertisers; o successfully sell and market it network to advertisers; o increase the amount of revenues it receives per advertisement; o increase awareness of the Salon brand; o target advertisements and electronic commerce opportunities to users with appropriate interests; o accurately measure the number and demographic characteristics of its users; and o attract and retain key sales personnel. THE LENGTH OF SALON'S SALES CYCLE IS UNCERTAIN AND VARIABLE AND MAY LEAD TO SHORTFALLS IN REVENUES AND FLUCTUATIONS IN ITS OPERATING RESULTS Salon's dependence on advertising subjects it to the risk of revenue shortfalls because the sales cycles for advertising vary significantly, and during these cycles Salon may expend substantial funds and management resources while not obtaining advertising revenues. If sales are delayed or do not occur, Salon's financial results for a particular period may be harmed. The time between the date of initial contact with a potential customer and the signing of an advertising order may range from as little as one week to up to several months. Sales of advertising are subject to factors over which Salon has little or no control, including: o advertisers' budgets; o the acceptability of "access passes" and rich media to advertisers; o internal acceptance reviews by advertisers and their agencies; o the possibility of cancellation or delay of projects by advertisers. 20 OUR STOCK HAS BEEN AND WILL LIKELY CONTINUE TO BE SUBJECT TO SUBSTANTIAL PRICE AND VOLUME FLUCTUATIONS DUE TO A NUMBER OF FACTORS, MANY OF WHICH WILL BE BEYOND OUR CONTROL, THAT MAY PREVENT OUR STOCKHOLDERS FROM RESELLING OUR COMMON STOCK AT A PROFIT The securities markets have experienced significant price and volume fluctuations, and the market prices of the securities of Internet companies have been especially volatile. This market volatility, as well as general economic, market or political conditions have, and may continue to reduce the market price of our common stock, regardless of our operating performance. In addition, our operating results could be below the expectations of public market analysts and investors, and in response, the market price of our common stock could decrease significantly. IF OUR SHARE PRICE IS VOLATILE, WE MAY BE THE TARGETS OF SECURITIES LITIGATION, WHICH IS COSTLY AND TIME-CONSUMING TO DEFEND In the past, following periods of market volatility in the price of a company's securities, security holders have instituted class action litigation. Our share price has, in the past, experienced price volatility, and may continue to do so in the future. Many companies have been subject to this type of litigation. If the market value of our common stock experiences adverse fluctuations and we become involved in this type of litigation, regardless of the merits or outcome, we could incur substantial legal costs and our management's attention could be diverted, causing our business, financial condition and operating results to suffer. To date, Salon has not been subject to such litigation. SALON'S QUARTERLY OPERATING RESULTS ARE VOLATILE AND MAY ADVERSELY AFFECT ITS COMMON STOCK PRICE Salon's future revenues and operating results are likely to vary significantly from quarter to quarter due to a number of factors, many of which are outside Salon's control, and any of which could severely harm Salon's business. These factors include: o Salon's ability to attract and retain advertisers and subscribers; o Salon's ability to attract and retain a large number of users; o the introduction of new Websites, services or products by Salon or by its competitors; o the timing and uncertainty of Salon's advertising sales cycles; o the mix of advertisements sold by Salon or its competitors; o the economic and business cycle and the recovery speed; o the level of Internet usage; o Salon's ability to attract, integrate and retain qualified personnel; o technical difficulties or system downtime affecting the Internet generally or the operation of Salon's Websites; 21 o the impact of national economic and diplomatic concerns on the advertising and news business; and, o the amount and timing of operating costs. In order to attract and maintain Salon's user base, Salon may incur expenditures on sales and marketing, content development, technology and infrastructure. These types of expenditures are planned or committed in advance and in anticipation of future revenues. If Salon's revenues in a particular quarter are lower than it anticipates, Salon may be unable to reduce spending in that quarter. As a result, any shortfall in revenues would likely harm its quarterly operating results. Due to the factors noted above and the other risks discussed in this section, one should not rely on quarter-to-quarter comparisons of Salon's results of operations as an indication of future performance. It is possible that in some future periods results of operations may be below the expectations of public market analysts and investors. If this occurs, the price of its common stock may decline. THE CONTROVERSIAL CONTENT OF SALON'S WEBSITES MAY LIMIT ITS REVENUES Many of Salon's Websites contain, and will continue to contain, content that is politically and culturally controversial. As a result of this content, current and potential advertisers, potential Salon Premium subscribers, or third parties who contemplate aggregating content, may refuse to do business with Salon. Salon's outspoken stance on political issues has and may continue to result in negative reactions from some users, commentators and other media outlets. From time to time, certain advocacy groups have successfully targeted Salon's advertisers in an attempt to persuade such advertisers to cease doing business with Salon. These efforts may be a material impediment to Salon's ability to grow and maintain advertising revenue. SALON'S PROMOTION OF THE SALON BRAND MUST BE SUCCESSFUL IN ORDER TO ATTRACT AND RETAIN USERS AS WELL AS ADVERTISERS AND STRATEGIC PARTNERS The success of the Salon brand depends largely on its ability to provide high quality content and services. If Internet users do not perceive Salon's existing content and services to be of high quality, or if it introduces new content and services or enters into new business ventures that are not favorably perceived by users, it may not be successful in promoting and maintaining its brand. Any change in the focus of its operations creates a risk of diluting its brand, confusing consumers and decreasing the value of its user base to advertisers. If Salon is unable to maintain or increase the Salon brand, its business could be severely harmed. SALON NEEDS TO HIRE, INTEGRATE AND/OR RETAIN QUALIFIED PERSONNEL BECAUSE THESE INDIVIDUALS ARE IMPORTANT TO ITS GROWTH Salon's success significantly depends on key editorial personnel. In addition, because Salon's users must perceive the content of Salon's Websites as having been created by credible and notable sources, Salon's success also depends on the name recognition and reputation of its editorial staff, in particular David Talbot, Salon's founder, Chief Executive Officer and Editor-in-Chief. Salon's future success depends to a significant extent on the continued services David Talbot, the loss of which would likely have a significantly adverse effect on its business. 22 Due to Salon's current operating difficulties, Salon may experience difficulty in hiring and retaining highly skilled employees with appropriate qualifications. Salon may be unable to retain its current key employees or attract, integrate or retain other qualified employees in the future. If Salon does not succeed in attracting new personnel or integrating, retaining and motivating its current personnel, its business could be harmed. SALON MAY EXPEND SIGNIFICANT RESOURCES TO PROTECT ITS INTELLECTUAL PROPERTY RIGHTS OR TO DEFEND CLAIMS OF INFRINGEMENT BY THIRD PARTIES, AND IF SALON IS NOT SUCCESSFUL IT MAY LOSE RIGHTS TO USE SIGNIFICANT MATERIAL OR BE REQUIRED TO PAY SIGNIFICANT FEES Salon's success and ability to compete are significantly dependent on its proprietary content. Salon relies exclusively on copyright law to protect its content. While Salon actively take steps to protect its proprietary rights, these steps may not be adequate to prevent the infringement or misappropriation of its content. Infringement or misappropriation of its content or intellectual property could severely harm its business. Salon also licenses content from various freelance providers and other third-party content providers. While Salon attempts to insure that this content may be freely licensed to us, other parties may assert claims of infringement against us relating to this content. Salon may need to obtain licenses from others to refine, develop, market and deliver new services. Salon may not be able to obtain any such licenses on commercially reasonable terms or at all or rights granted pursuant to any licenses may not be valid and enforceable. In April 1999 Salon acquired the Internet address www.salon.com. Because www.salon.com is the address of the main home page to its network of Websites and incorporates its company name, it is a vital part of our intellectual property assets. Salon does not have a registered trademark on the address, and therefore it may be difficult for us to prevent a third party from infringing our intellectual property rights in the address. If Salon fails to adequately protect its rights in the Website address, or if a third party infringes its rights in the address, or otherwise dilutes the value of www.salon.com, its business could be harmed. SALON'S TECHNOLOGY DEVELOPMENT EFFORTS MAY NOT BE SUCCESSFUL IN IMPROVING THE FUNCTIONALITY OF ITS NETWORK, WHICH COULD RESULT IN REDUCED TRAFFIC ON ITS NETWORK OR RETENTION OF SALON PREMIUM SUBSCRIBERS Salon has developed a proprietary online publishing system and has developed software to manage its Salon Premium subscription service. If these systems do not work as intended, or if Salon is unable to continue to develop these systems to keep up with the rapid evolution of technology for content delivery and subscription management, including advertising on the Internet, its network of Websites or subscription management may not operate properly which could harm Salon's business. Additionally, software product design, development and enhancement involve creativity, expense and the use of new development tools and learning processes. Delays in software development processes are common, as are project failures, and either factor could harm Salon's business. Moreover, complex software products like its online publishing and subscription management systems frequently contain undetected errors or shortcomings, and may fail to perform or scale as expected. Although Salon has tested and will continue to test its systems, errors or deficiencies may be found in these systems that may impact its business adversely. 23 SALON RELIES ON THIRD PARTIES FOR SEVERAL CRITICAL FUNCTIONS RELATING TO DELIVERY OF ADVERTISING AND ITS WEBSITE PERFORMANCE, AND THE FAILURE OF THESE THIRD PARTIES TO SUPPLY THESE SERVICES IN AN EFFICIENT MANNER COULD LIMIT ITS GROWTH AND IMPAIR ITS BUSINESS Salon relies on a number of third party suppliers for various services. While Salon believes that it could obtain these services from other qualified suppliers on similar terms and conditions, a disruption in the supply of these services by its current suppliers could severely harm its business. Salon uses third-party software to manage and measure the delivery of advertising on its network of Websites. This type of software may fail to perform as expected. If this software malfunctions or does not deliver the correct advertisements to its network, Salon's advertising revenues could be reduced, and its business could be harmed. Salon uses third-party software to measure traffic on its network of Websites. This type of software does not always perform as expected. If this software malfunctions or does not accurately measure its user traffic, Salon may not be able to justify its advertising rates, and its advertising revenues could be reduced. ACCEPTANCE AND EFFECTIVENESS OF INTERNET ADVERTISING IS EVOLVING AND, TO THE EXTENT IT DOES NOT GROW, SALON'S MARKET MAY NOT DEVELOP ADEQUATELY AND ITS BUSINESS COULD BE HARMED Salon's success is highly dependent on an increase in the use of the Internet. If the markets for Internet advertising or electronic commerce do not continue to develop, its business may be severely harmed. Different pricing models are used to sell Internet advertising. It is difficult to predict which pricing models, if any, will emerge as the industry standard. This uncertainty makes it difficult to project its future advertising rates and revenues. Any failure to adapt to pricing models that develop or respond to competitive pressures could reduce its advertising revenues. Moreover, "filter" software programs that limit or prevent advertising from being delivered to an Internet user's computer are commonly available. Widespread use of this software could adversely affect the commercial viability of Internet advertising and its business. ADVERTISING PRODUCT OFFERINGS CONTINUE TO CHANGE AND THIS CREATES ADDITIONAL EFFORT AND UNCERTAINTY ABOUT THIS REVENUE STREAM Advertisers continue to be attracted by new products, promotional vehicles and offerings delivered via the Internet. This interest in new products requires that Salon identify advertiser interests, develop and launch new advertising products or formats, create appropriate pricing schedules, train the sales force in the use and sale of new products, manage the obsolescence of earlier products, and restructure the Salon.com Website to effectively deliver, track and report new products. New product design, development and launch involve creativity, expense, technology modifications and learning processes. While Salon has integrated this activity into its existing operations, the rate of change could create an environment where Salon is unable to effectively develop, deliver or track the delivery of products acceptable to the market. Advertisers are increasingly selecting shorter campaign lengths with less lead-time until launch. These campaigns have less flexibility in delivery requirements and limit the ability of Salon to precisely identify future revenues. 24 TRACKING AND MEASUREMENT STANDARDS FOR INTERNET BASED ADVERTISING MAY NOT EVOLVE TO THE EXTENT NECESSARY TO SUPPORT INTERNET ADVERTISING, THEREBY CREATING UNCERTAINTY ABOUT THE VIABILITY OF SALON'S BUSINESS MODEL Measurement standards for Internet based advertising are evolving. In addition, software to track Internet usage is also evolving. The development of such software or other methodologies may not keep pace with Salon's information needs, particularly to support Salon's internal business requirements and those of its advertisers. The absence or insufficiency of this information could limit Salon's ability to attract and retain advertisers. It is important to Salon's advertisers that Salon accurately presents the demographics of its user base and the delivery of advertisements on its Websites. Salon depends on third parties to provide certain of the advertiser-requested services. If they were unable to provide these services in the future, Salon would need to perform this function itself or obtain them from another provider, if available. This could cause Salon to incur additional costs or lose revenue due to a lower level of service. Companies may choose to not advertise on Salon or may pay less for advertising if they do not perceive our measurements or measurements made by third parties to be reliable. IF USE OF THE INTERNET DOES NOT GROW, SALON'S BUSINESS COULD BE HARMED Salon's success is highly dependent upon continued growth in the use of the Internet generally and in particular as a medium for content, advertising and electronic commerce. If Internet usage does not grow, it may not be able to increase revenues from advertising and this may harm Salon's business. A number of factors may inhibit the growth of Internet usage, including the following. If these or any other factors cause use of the Internet to slow or decline, its results of operations could be harmed. o inadequate network infrastructure; o security concerns; o charging for content; o inconsistent quality of service; and o limited availability of cost-effective, high-speed access. INCREASING COMPETITION AMONG INTERNET CONTENT PROVIDERS COULD REDUCE ITS ADVERTISING SALES OR MARKET SHARE, THEREBY HARMING ITS BUSINESS The market for Internet content is relatively new, rapidly changing and intensely competitive. Salon expects competition for Internet content to continue to increase, and if it cannot compete effectively, its business could be harmed. The number of Websites competing for the attention and spending of users and advertisers may continue to increase with the most trafficked Websites receiving a disproportionate share of advertising dollars. Salon is not one of the most trafficked Websites, or even one of the top ten Websites. Increased competition could result in advertising price reductions or loss of market share, any of which could harm Salon's business. Competition is likely to increase significantly as new companies enter the market and current competitors expand their services. Many of Salon's present and potential 25 competitors are likely to enjoy substantial competitive advantages over Salon. If Salon does not compete effectively or if it experiences any pricing pressures or loss of market share resulting from increased competition, its business could be harmed. SALON MAY BE HELD LIABLE FOR CONTENT OR THIRD PARTY LINKS ON ITS WEBSITES OR CONTENT DISTRIBUTED TO THIRD PARTIES As a publisher and distributor of content over the Internet, including user-generated content on Salon's online communities and links to third party Websites that may be accessible through Salon.com, Salon faces potential liability for defamation, negligence, copyright, patent or trademark infringement and other claims based on the nature, content or ownership of the material that is published on or distributed from its network of Websites. These types of claims have been brought, sometimes successfully, against online services, Websites and print publications in the past. Other claims may be based on errors or false or misleading information provided on linked Websites, including information deemed to constitute professional advice such as legal, medical, financial or investment advice. Other claims may be based on its links to sexually explicit Websites and our provision of sexually explicit advertisements when this content is displayed. Although Salon carries general liability insurance, its insurance may not be adequate to indemnify Salon for all liabilities imposed. Any liability that is not covered by its insurance or is in excess of its insurance coverage could severely harm its financial condition and business. Implementing measures to reduce its exposure to these forms if liability may require Salon to spend substantial resources and limit the attractiveness of Salon's service to users. CONCERNS ABOUT TRANSACTIONAL SECURITY MAY HINDER ELECTRONIC COMMERCE PROGRAMS BY SUBJECTING US TO LIABILITY OR BY DISCOURAGING COMMERCIAL TRANSACTIONS OVER THE INTERNET A significant barrier to sale of subscriptions and electronic commerce is the secure transmission of confidential information over public networks. Any breach in Salon's security could expose it to a risk of loss or litigation and possible liability. Salon relies on encryption and authentication technology licensed from third parties to provide secure transmission of confidential information. As a result of advances in computer capabilities, new discoveries in the field of cryptography or other developments, a compromise or breach of the algorithms we use to protect customer transaction data may occur. A compromise of its security could severely harm its business. A party who is able to circumvent our security measures could misappropriate proprietary information, including customer credit card information, or cause interruptions in the operation of its network of Websites. Salon may be required to expend significant capital and other resources to protect against the threat of security breaches or to alleviate problems caused by these breaches. However, protection may not be available at a reasonable price or at all. Concerns over the security of electronic commerce and the privacy of users may also inhibit the growth of the Internet as a means of conducting commercial transactions. SALON'S INTERNALLY DEVELOPED SOFTWARE AND SOFTWARE PLATFORMS PROVIDED BY A THIRD PARTY TO MANAGE SALON'S SUBSCRIPTION BUSINESS MIGHT FAIL RESULTING IN LOST SUBSCRIPTION INCOME Salon's software to manage its subscription business was developed internally to interface with the software provided by a third party. The third party's software provides a gateway to authenticate credit card transactions. If these systems were to fail or not function as intended, credit card transactions might not be processed and Salon's revenues would therefore be harmed. 26 SALON'S SYSTEMS MAY FAIL DUE TO NATURAL DISASTERS, TELECOMMUNICATIONS FAILURES AND OTHER EVENTS, ANY OF WHICH WOULD LIMIT USER TRAFFIC Substantially all of Salon's communications hardware and computer hardware operations for its Websites are in facilities in San Francisco, California. Fire, floods, earthquakes, power loss, telecommunications failures, break-ins, supplier failure to meet commitments, and similar events could damage these systems and cause interruptions in its services. Computer viruses, electronic break-ins or other similar disruptive problems could cause users to stop visiting its network of Websites and could cause advertisers to terminate any agreements with us. In addition, Salon could lose advertising revenues during these interruptions and user satisfaction could be negatively impacted if the service is slow or unavailable. If any of these circumstances occurred, its business could be harmed. Salon's insurance policies may not adequately compensate it for any losses that may occur due to any failures of or interruptions in our systems. Salon does not presently have a formal disaster recovery plan. Salon's Websites must accommodate a high volume of traffic and deliver frequently updated information. It is possible that it will experience systems failures in the future and that such failures could harm its business. In addition, its users depend on Internet service providers, online service providers and other Website operators for access to its Websites. Many of these providers and operators have experienced significant outages in the past, and could experience outages, delays and other difficulties due to system failures unrelated to its systems. Any of these system failures could harm its business. HACKERS MAY ATTEMPT TO PENETRATE SALON'S SECURITY SYSTEM; ONLINE SECURITY BREACHES COULD HARM ITS BUSINESS Consumer and supplier confidence in Salon's Websites depends on maintaining relevant security features. Security breaches also could damage its reputation and expose us to a risk of loss or litigation. Experienced programmers or "hackers" have successfully penetrated sectors of its systems and Salon expects that these attempts will continue to occur from time to time. Because a hacker who is able to penetrate its network security could misappropriate proprietary information or cause interruptions in its products and services, Salon may have to expend significant capital and resources to protect against or to alleviate problems caused by these hackers. Additionally, Salon may not have a timely remedy against a hacker who is able to penetrate its network security. Such security breaches could materially adversely affect Salon. In addition, the transmission of computer viruses resulting from hackers or otherwise could expose us to significant liability. Salon's insurance policies may not be adequate to reimburse us for losses caused by security breaches. Salon also faces risks associated with security breaches affecting third parties with whom it has relationships. GOVERNMENTAL REGULATION AND LEGAL UNCERTAINTIES OF THE INTERNET MAY RESTRICT SALON'S BUSINESS OR RAISE ITS COSTS There are currently few laws or regulations that specifically regulate communications or commerce on the Internet. Laws and regulations may be adopted in the future, however, that address issues including content, copyrights, distribution, antitrust matters, user privacy, pricing, and the characteristics and quality of products and services. An increase in regulation or the application of existing laws to the Internet could significantly increase Salon's costs of operations and harm Salon's business. For example, the Communications Decency Act of 1996 sought to prohibit the transmission of certain types of information and content over the web. Additionally, several telecommunications companies have petitioned the Federal Communications Commission to regulate Internet service providers and online service providers in a manner similar to long distance telephone carriers and to impose access fees on these companies. Imposition of access fees could increase the cost of transmitting data over the Internet. Moreover, it may take years to determine the extent to which existing laws relating to issues such as 27 property ownership, obscenity, libel and personal privacy are applicable to the Internet or the application of laws and regulations from jurisdictions whose laws do not currently apply to its business. PRIVACY CONCERNS COULD IMPAIR SALON'S BUSINESS Salon has a policy against using personally identifiable information obtained from users of its Websites and services without the user's permission. In the past, the Federal Trade Commission has investigated companies that have used personally identifiable information without permission or in violation of a stated privacy policy. If Salon uses this information without permission or in violation of its policy, Salon may face potential liability for invasion of privacy for compiling and providing information to its corporate customers and electronic commerce merchants. In addition, legislative or regulatory requirements may heighten these concerns if businesses must notify Internet users that the data may be used by marketing entities to direct product promotion and advertising to the user. Other countries and political entities, such as the European Union, have adopted such legislation or regulatory requirements. The United States may adopt similar legislation or regulatory requirements. If consumer privacy concerns are not adequately addressed, our business, financial condition and results of operations could be materially harmed. POSSIBLE STATE SALES AND OTHER TAXES COULD ADVERSELY AFFECT SALON'S RESULTS OF OPERATIONS Salon generally does not collect sales or other taxes from individuals who sign up for Salon subscriptions. During the year ended March 31, 2003, the State of California audited Salon's sales tax returns and found Salon in compliance with its filings and did not object to the fact that it did not collect sales tax on subscriptions. However, one or more other states may seek to impose sales tax collection obligations on out-of-state companies, including Salon, which engage in or facilitate electronic commerce. State and local governments have discussed and made proposals imposing taxes on the sale of goods and services through the Internet. Such proposals, if adopted, could substantially impair the growth of electronic commerce and could reduce Salon's ability to derive revenue from electronic commerce. Moreover, if any state or foreign country were to assert successfully that Salon should collect sales or other taxes on the exchange of merchandise on its network or to tax revenue generated from Salon subscriptions, its financial results could be harmed. PROVISIONS IN DELAWARE LAW AND OUR CHARTER, STOCK OPTION AGREEMENTS AND OFFER LETTERS TO EXECUTIVE OFFICERS MAY PREVENT OR DELAY A CHANGE OF CONTROL Salon is subject to the Delaware anti-takeover laws regulating corporate takeovers. These anti-takeover laws prevent Delaware corporations from engaging in a merger or sale of more than 10% of its assets with any stockholder, including all affiliates and associates of the stockholder, who owns 15% or more of the corporation's outstanding voting stock, for three years following the date that the stockholder acquired 15% or more of the corporation's assets unless: o the board of directors approved the transaction where the stockholder acquired 15% or more of the corporation's assets; o after the transaction where the stockholder acquired 15% or more of the corporation's assets, the stockholder owned at least 85% of the corporation's outstanding voting stock, excluding shares owned by directors, officers and employee stock plans in which employee participants do not have the right to determine confidentially whether shares held under the plan will be tendered in a tender or exchange offer; or 28 o on or after this date, the merger or sale is approved by the board of directors and the holders of at least two-thirds of the outstanding voting stock that is not owned by the stockholder. A Delaware corporation may opt out of the Delaware anti-takeover laws if its certificate of incorporation or bylaws so provide. We have not opted out of the provisions of the anti-takeover laws. As such, these laws could prohibit or delay mergers or other takeover or change of control of Salon and may discourage attempts by other companies to acquire Salon. Salon's certificate of incorporation and bylaws include a number of provisions that may deter or impede hostile takeovers or changes of control or management. These provisions include: o Salon's board is classified into three classes of directors as nearly equal in size as possible with staggered three year-terms; and o special meetings of the stockholders may be called only by the Chairman of the Board, the Chief Executive Officer or the Board of Directors. These provisions may have the effect of delaying or preventing a change of control. Salon's certificate of incorporation and bylaws provide that it will indemnify officers and directors against losses that they may incur in investigations and legal proceedings resulting from their services to Salon, which may include services in connection with takeover defense measures. These provisions may have the effect of preventing changes in Salon's management. In addition, offer letters with executive officers provide for the payment of severance and acceleration of options upon the termination of these executive officers following a change of control of Salon. These provisions in offer letters could have the effect of discouraging potential takeover attempts. 29 ITEM 3. QUALITATIVE AND QUANTITATIVE DISCLOSURE ABOUT MARKET RISK Salon does not have an exposure to market risk for changes in interest rates. ITEM 4. CONTROLS AND PROCEDURES Under the supervision and with the participation of our management, including our chief executive officer and chief financial officer we evaluated the effectiveness of our disclosure controls and procedures, as such term is defined in Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended. Based on this evaluation, our chief executive officer and chief financial officer concluded that our disclosure controls and procedures were effective as of the end of the period covered by this quarterly report. -------------------------------------------------------------------------------- PART II: OTHER INFORMATION -------------------------------------------------------------------------------- ITEM 1. LEGAL PROCEEDINGS. Not Applicable ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS. Recent Sales of Unregistered Securities: On October 6, 2003 Salon finalized a Note and Warrant Purchase agreement with an investors for $0.1 million and issued warrants to purchase 300,000 shares of common stock at $0.0805 per share. The investor was an entity of which the father of Salon's President, Chief Financial Officer, Treasurer and Secretary, has an ownership interest in. On October 10, 2003 Salon finalized a Note and Warrant Purchase agreement with a Director, for $0.1 million and issued warrants to purchase 300,000 shares of common stock at $0.0575 per share. On October 30, 2003 Salon finalized a Note and Warrant Purchase agreement with two investors for $150,000 and issued warrants to purchase 450,000 shares of common stock at $0.0575 per share. The investors included a the same Director previously mentioned, as well as an entity that the father of Salon's President, Chief Financial Officer, Treasurer and Secretary, has an ownership interest in. On November 12, 2003 Salon finalized a Note and Warrant Purchase agreement with a the Director previously mentioned, for $0.1 million and issued warrants to purchase 300,000 shares of common stock at $0.069 per share. On November 24, 2003 Salon finalized a Note and Warrant Purchase agreement with two investors for $150,000 and issued warrants to purchase 450,000 shares of common stock at $0.0575 per share. The investors included the Director previously mentioned, and an entity that Salon's President, Chief Financial Officer, Treasurer and Secretary have an ownership interest in. On December 10, 2003 Salon finalized a Note and Warrant Purchase agreement with an investor for $0.2 million and issued warrants to purchase 2,600,000 shares of common stock at $0.0575 per share. Of the warrants issued, 2,000,000 were for editorial collaboration between the investor and Salon, and 600,000 were for the convertible note issued. The President of the investor, Jann Wenner, subsequently joined Salon's Board of Directors, effective January 15, 2004. On December 11, 2003 Salon finalized a Note and Warrant Purchase agreement with a the Director previously mentioned, for $0.1 million and issued warrants to purchase 300,000 shares of common stock at $0.0575 per share. On December 31, 2003, Salon issued to the same Director mentioned prior to the December 10, 2003 transaction, warrants 30 to purchase 300,000 shares of common stock at $0.0345 per share for a promissory note dated October 3, 2002 for which no warrants had previously been issued. On December 30, 2003 Salon converted $4,227,000 of notes, which represented all amounts then owed under various note agreements, $167,000 of accrued interest on such notes, and $500,000 from the Director of Salon mentioned earlier, to 6,118 shares of Salon's Series C preferred stock, based on a purchase price of $800 per share. The approximate net proceeds of $490,000 raised will be used for working capital and other general corporate purposes. In addition, warrants to purchase 1,500,000 shares of Salon's common stock, at an exercise price of $0.0345 per share, was issued to the Director. The issuance of the Series C preferred stock was effected in accordance with the Securities Purchase Agreement dated as of December 30, 2003 between Salon and the note holders. The purchasers of Series C Preferred Stock own approximately 82% of the aggregate total outstanding voting securities of Salon. The Purchase Agreement allows for the sale and issuance of an additional 512 shares, which if such sale and issuance were to occur, would result in the purchasers owning approximately 83% of the aggregate total outstanding voting securities. The holders of Series C preferred stock are entitled to the following rights and preferences: cumulative and accrued dividends of 8.0% annually when, as and if declared by the Board of Directors; in the event of a liquidation event of Salon, they will receive prior and in preference to distributions of assets of Salon made to holders of common stock, Series A preferred stock and Series B preferred stock, an amount equal to $1,600 per share of Series C preferred stock; after liquidation distributions of Salon assets to holders of Series A preferred stock and Series B preferred stock, holders of Series C preferred stock are entitled to participate with the holders of Series A preferred stock, Series B preferred stock and common stock in a distribution of the remaining assets of Salon available to stockholders ratably in proportion to the shares of common stock held by them and the shares of common stock which they have the right to acquire upon conversion of the shares of preferred stock; and certain voting rights and redemption rights. The Series C preferred stock can be converted to common stock after Salon has amended its Certificate of Incorporation, and upon securing the requisite approval of Salon's Board of Directors and stockholders, to increase the authorized number of shares of common stock. The Series C preferred stock is convertible into common stock of Salon at the conversion rate determined by dividing the Series C Preferred Stock per share price of $800 by the Series C Conversion Price of $0.04, or at the rate of one share of Series C preferred stock to 20,000 shares of common stock. The Series C preferred stock conversion price is subject to downward adjustment under certain circumstances related to subsequent Salon stock issuances. The capital raised from the issuance of notes, warrants and Series C preferred stock were for working capital and other general corporate purposes. The issuance of the shares of notes, warrants, and Series C preferred stock were deemed exempt from registration under the Securities Act as a transaction by an issuer not involving public offering. The investors represented their intention to acquire the securities for investment only and not with a view to or for sale in connection with any distribution thereof and appropriate legends were affixed to the securities issued in the transactions. ITEM 3. DEFAULT UPON SENIOR SECURITIES. Not Applicable 31 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. Not Applicable ITEM 5. OTHER INFORMATION. Not Applicable ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K. (A) EXHIBITS. 4.2.53(1) Note and Warrant Purchase Agreement dated October 6, 2003 4.2.54(1) Convertible Promissory Note dated October 6, 2003 by Salon Media Group, Inc. 4.2.55(1) Common Stock Purchase Warrant dated October 6, 2003 by Salon Media Group, Inc. 4.2.56(2) Note and Warrant Purchase Agreement dated October 10, 2003 4.2.57(2) Convertible Promissory Note dated October 10, 2003 by Salon Media Group, Inc. 4.2.58(2) Common Stock Purchase Warrant dated October 10, 2003 by Salon Media Group, Inc. 4.2.59(3) Note and Warrant Purchase Agreement dated October 30, 2003 4.2.60(3) Convertible Promissory Note dated October 30, 2003 by Salon Media Group, In. with Ironstone Group, Inc. 4.2.61(3) Common Stock Purchase Warrant dated October 30, 2003 by Salon Media Group, Inc. with Ironstone Group, Inc. 4.2.62(3) Convertible Promissory Note dated October 30, 2003 by Salon Media Group, In. with John Warnock 4.2.63(3) Common Stock Purchase Warrant dated October 30, 2003 by Salon Media Group, Inc. with John Warnock 4.2.64(3) Note and Warrant Purchase Agreement dated November 12, 2003 4.2.65(3) Convertible Promissory Note dated November 12, 2003 by Salon Media Group, Inc. 4.2.66(3) Common Stock Purchase Warrant dated November 12, 2003 by Salon Media Group, Inc. 4.2.67(4) Note and Warrant Purchase Agreement dated November 24, 2003 4.2.68(4) Convertible Promissory Note dated November 24, 2003 by Salon Media Group, In. and John Warnock 4.2.69(4) Common Stock Purchase Warrant dated November 24, 2003 by Salon Media Group, Inc. for John Warnock 4.2.70(4) Convertible Promissory Note dated November 24, 2003 by Salon Media Group, In. and HAMCO Capital Corporation 4.2.71(4) Common Stock Purchase Warrant dated November 24, 2003 by Salon Media Group, Inc. for HAMCO Capital Corporation 32 4.2.72(5) Note and Warrant Purchase Agreement dated December 10, 2003 4.2.73(5) Convertible Promissory Note dated December 10, 2003 by Salon Media Group, Inc. and Wenner Media LLC 4.2.74(5) Common Stock Purchase Warrant dated December 10, 2003 by Salon Media Group, Inc. Wenner Media LLC 4.2.75(5) Note and Warrant Purchase Agreement dated December 11, 2003 4.2.76(5) Convertible Promissory Note dated December 10, 2003 by Salon Media Group, In. and John Warnock 4.2.77(5) Common Stock Purchase Warrant dated December 10, 2003 by Salon Media Group, Inc. and John Warnock 10.27 Ammended Office Lease between Salon's San Francisco landlord and Salon dated December 31, 2003. 16.1(6) Letter from PricewaterhouseCoopers LLP to the Securities and Exchange Commission 16.2(7) Letter from PricewaterhouseCoopers LLP to the Securities and Exchange Commission 31.1 Certification of David Talbot, Chairman and Chief Executive Officer of the Registrant pursuant to Section 302, as adopted pursuant to the Sarbanes-Oxley Act of 2002 31.2 Certification of Elizabeth Hambrecht, President, Chief Financial Officer, Treasurer and Secretary of the Registrant pursuant to Section 302, as adopted pursuant to the Sarbanes-Oxley Act of 2002 32.1 Certification of David Talbot, Chairman and Chief Executive Officer of the Registrant pursuant to Section 906, as adopted pursuant to the Sarbanes-Oxley Act of 2002 32.2 Certification of Elizabeth Hambrecht, President, Chief Financial Officer, Treasurer and Secretary of the Registrant pursuant to Section 906, as adopted pursuant to the Sarbanes-Oxley Act of 2002 (1) Incorporated by reference to the exhibit filed with the Registrant's Current Report on Form 8-K filed on October 14, 2003 (2) Incorporated by reference to the exhibit filed with the Registrant's Current Report on Form 8-K filed on October 27, 2003 (3) Incorporated by reference to the exhibit filed with the Registrant's Current Report on Form 8-K filed on November 14, 2003 (4) Incorporated by reference to the exhibit filed with the Registrant's Current Report on Form 8-K filed on December 9, 2003 (5) Incorporated by reference to the exhibit filed with the Registrant's Current Report on Form 8-K filed on December 24, 2003 (6) Incorporated by reference to the exhibit filed with the Registrant's Current Report on Form 8-K filed on November 17, 2003 (7) Incorporated by reference to the exhibit filed with the Registrant's Current Report on Form 8-K filed on November 26, 2003 33 (B) REPORTS ON FORM 8-K. On October 27, 2003 Salon filed a Current Report on Form 8-K under Item 5 announcing the sale of convertible promissory notes and warrants for which it received $100,000 in cash. On November 6, 2003 Salon filed a Current Report on Form 8-K under Item 4 announcing that PricewaterhouseCoopers LLC declined to stand for reappointment as the independent accountants of Salon and that Burr, Pilger & Meyer LLP was its new independent accountant. On November 14, 2003 Salon filed a Current Report on Form 8-K under Item 5 announcing the sale of convertible promissory notes and warrants for which it received $250,000 in cash. On November 17, 2003 Salon filed a Current Report on Form 8-K/A amending its Current Report filed November 6, 2003 so as to include Exhibit 16.1. On November 26, 2003 Salon filed a Current Report on Form 8-K/A amending its Current Report filed November 6, 2003 so as to clarify certain statements made therein. On December 9, 2003 Salon filed a Current Report on Form 8-K under Item 5 announcing the sale of convertible promissory notes and warrants for which it received $150,000 in cash. On December 24, 2003 Salon filed a Current Report on Form 8-K under Item 5 announcing the sale of convertible promissory notes and warrants for which it received $300,000 in cash. SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed of its behalf by the undersigned, thereunto duly authorized. SALON MEDIA GROUP, INC. Dated: 2/6/04 /s/ David Talbot ---------------------------------- David Talbot, Chairman and Chief Executive Officer Dated: 2/6/04 /s/ Elizabeth Hambrecht ---------------------------------- Elizabeth Hambrecht, President, Chief Financial Officer, Secretary and Treasurer 34