424B4 1 d28208.htm 424B4

Filed Pursuant to Rule 424(b)(4)
Registration No. 333-156414

PROSPECTUS

5,000,000 Shares

 

Common Stock

This is an initial public offering of shares of common stock of FriendFinder Networks Inc. All of the shares to be sold in the offering are being sold by us.

Prior to this offering, there has been no public market for our common stock. The initial public offering price per share will be $10.00. Our common stock has been approved for listing on the Nasdaq Global Market under the symbol “FFN.”

Upon consummation of this offering, assuming an offering of 5,000,000 shares, we will have 26,724,598 shares of common stock issued and outstanding. Our executive officers, directors, and principal stockholders will own approximately 75% of our issued and outstanding common stock. In addition, there will be 12,662,905 shares of common stock underlying certain preferred stock, warrants, notes and options.

All of the net proceeds from this offering will be used to repay a portion of our outstanding debt as further described in the section entitled “Use of Proceeds” beginning on page 41.

Investing in our common stock involves risks. See the section entitled “Risk Factors” beginning on page 14 to read about factors you should consider before buying shares of our common stock.

Neither the Securities and Exchange Commission nor any other regulatory body has approved or disapproved of these securities or passed upon the accuracy or adequacy of this prospectus. Any representation to the contrary is a criminal offense.

        Per Share
    Total
Initial public offering price
              $ 10.00          $ 50.0  million  
Underwriting discounts and commissions(1)
              $ 0.725          $ 3.6  million  
Proceeds to us
              $ 9.275          $ 46.4  million  
 


(1)  
  In addition, we have agreed to reimburse the underwriters for certain expenses in connection with this offering. See the section entitled “Underwriting.”

We and the underwriters have entered into a firm commitment underwriting agreement as further described in the section entitled “Underwriting.” Pursuant to the terms of the Underwriting Agreement, we have granted the underwriters a 30-day option to purchase up to an additional 750,000 shares of common stock from us at the initial public offering price less the underwriting discount, solely to cover over-allotments.

The underwriters expect to deliver the shares to investors in this offering in New York, New York on or about May 16, 2011.

Imperial Capital
                 Ladenburg Thalmann & Co. Inc.    
 

The date of this prospectus is May 11th, 2011



 


TABLE OF CONTENTS

        Page
Prospectus Summary
                 1    
Risk Factors
                 14    
Forward-Looking Statements
                 38    
Market and Industry Data
                 40    
Use of Proceeds
                 41    
Dividend Policy
                 42    
Capitalization
                 43    
Dilution
                 45    
Selected Consolidated Financial Data
                 46    
Management’s Discussion and Analysis of Financial Condition and Results of Operations
                 49    
Our Industry
                 78    
Business
                 81    
Management
                 99    
Principal Stockholders
                 123    
Certain Relationships and Related Party Transactions
                 127    
Description of Capital Stock
                 137    
Description of Indebtedness
                 143    
Shares Eligible for Future Sale
                 155    
Material U.S. Tax Considerations
                 157    
Underwriting
                 159    
Legal Matters
                 165    
Independent Registered Public Accounting Firm
                 165    
Where You Can Find More Information
                 165    
Index to Consolidated Financial Statements
                 F-1    
 


You may rely only on the information contained in this prospectus. Neither we nor the underwriters have authorized any other person to provide you with different information. If anyone provides you with different or inconsistent information, you should not rely on it. Under no circumstances should the delivery to you of this prospectus or any sale made pursuant to this prospectus create any implication that the information contained in this prospectus is correct as of any time after the date of this prospectus. Neither we nor the underwriters are making an offer to sell these securities in any jurisdiction where the offer or sale is not permitted.

Registered trademarks referred to in this prospectus are the property of their respective owners.

i




PROSPECTUS SUMMARY

The following summary highlights information contained elsewhere in this prospectus and is qualified in its entirety by the more detailed information and consolidated financial statements included elsewhere in this prospectus. This summary may not contain all of the information that may be important to you. You should carefully read the entire prospectus, including the section entitled “Risk Factors” and our consolidated financial statements and the notes to those statements, before making an investment decision. As used in this prospectus, unless the context otherwise requires, all references to “we,” “us,” “our,” or “our company” refer to FriendFinder Networks Inc. and, where appropriate, our consolidated direct and indirect subsidiaries. References to our “common stock” refer only to our voting common stock and except as otherwise noted, such references do not include our Series B common stock or our preferred stock. Except as otherwise indicated, the information in this prospectus assumes no exercise of the underwriters’ over-allotment option.

About Our Company

FriendFinder Networks Inc. is a leading internet and technology company providing services in the rapidly expanding markets of social networking and web-based video sharing. Our business consists of creating and operating technology platforms which run several of the most heavily visited websites in the world. Through our extensive network of more than 38,000 websites, since our inception, we have built a base of more than 445 million registrants and more than 298 million members in more than 200 countries. We are able to create and maintain, in a cost-effective manner, websites intended to appeal to users of diverse cultures and interest groups. In December 2010, we had more than 196 million unique visitors to our network of websites, according to comScore. We offer our members a wide variety of online services so that they can interact with each other and access the content available on our websites. Our most heavily visited websites include AdultFriendFinder.com, Amigos.com, AsiaFriendFinder.com, Cams.com, FriendFinder.com, BigChurch.com and SeniorFriendFinder.com. For the year ended December 31, 2010 we had net revenue, income from operations and net losses of $346.0 million, $71.7 million and ($43.2) million, respectively.

Our revenues to date have been primarily derived from online subscription and paid-usage for our products and services. These products and services are delivered primarily through two highly scalable revenue-generating technology platforms:

•  
  Social Networking. Approximately 70% of our total net revenues for the year ended December 31, 2010 were generated through our targeted social networking technology platform. Our social networking technology platform provides users who register or purchase subscriptions to one or more of our websites with the ability to communicate and to establish new connections with other users via our personal chat rooms, instant messaging and e-mail applications and to create, post and view content of interest. We have been able to rapidly create and seamlessly maintain multiple websites tailored to specific categories or genres and designed to cater to targeted audiences with mutual interests. We believe that our ability to create and operate a diverse network of specific interest websites with unique, user-generated content in a cost-effective manner is a significant competitive differentiator that allows us to implement a subscription-fee based revenue model while many other popular social networking websites rely primarily upon free-access, advertising-based revenue models.

•  
  Live Interactive Video. Approximately 22% of our total net revenues for the year ended December 31, 2010 were generated through our live interactive video technology platform. Our live interactive video technology platform is a live video broadcast platform that enables models to broadcast from independent studios throughout the world and interact with our users via instant messaging and video. We believe our live interactive video platform provides a unique offering including bi-directional and omni-directional video and interactive features that allow models to communicate with and attract users through a variety of mediums including blogs, newsletters and video. In addition, we believe the reliability of our live interactive video technology platform, which had approximately 99.1% uptime during 2010, is a key factor allowing us to maintain a large base of users.

In addition to our revenue-generating technology platforms, we have invested significant time and resources into developing our back-end marketing, analytics and billing technologies, which are a key contributor to the success of our business. We have developed proprietary systems to allow our marketing affiliates to maximize their revenue for our mutual benefit. These systems include proprietary white-labeling solutions, in which we provide

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back-end technology solutions to permit affiliates and marketing partners to deliver our products and services while maintaining the affiliate’s and marketing partner’s own branding and style, self-optimizing ad spots, and a robust banner optimization engine that automatically chooses the best possible site and banner to promote in a given ad spot. Our marketing technology has also enabled the creation and continued growth of our network of more than 250,000 affiliates, which we believe is one of the largest of its kind in the world and a significant barrier to entry to potential and existing competitors. Similarly, our proprietary analytics technology provides us with an advantage relative to less sophisticated competitors by enabling us to estimate future revenue based on short-term response to our advertising campaigns, as well as providing for analysis of key data and metrics in order to optimize our marketing spend and maximize the revenues our websites generate. Our robust billing platform allows our customers to pay using many of the widely-adopted methods of e-commerce, both domestically as well as internationally.

We categorize our users into five categories: visitors, registrants, members, subscribers and paid users.

•  
  Visitors. Visitors are users who visit our websites but do not necessarily register. We believe we achieve large numbers of unique visitors because of our focus on continuously enhancing the user experience and expanding the breadth of our services. We had more than 196 million unique worldwide visitors in the month of December 2010, according to comScore.

•  
  Registrants. Registrants are visitors who complete a free registration form on one of our websites by giving basic identification information and submitting their e-mail address. For the year ended December 31, 2010, we averaged more than 6.4 million new registrations on our websites each month. Some of our registrants are also members, as described below.

•  
  Members. Members are registrants who log into one of our websites and make use of our free products and services. For the year ended December 31, 2010, we averaged more than 3.9 million new members on our websites each month.

•  
  Subscribers. Subscribers are members who purchase daily, three-day, weekly, monthly, quarterly, annual or lifetime subscriptions for one or more of our websites. Subscribers have full access to our websites and may access special features. For the year ended December 31, 2010, we had a monthly average of approximately 1.0 million paying subscribers.

•  
  Paid Users. Paid users are members who purchase products or services on a pay-by-usage basis. For the year ended December 31, 2010, we averaged approximately 1.6 million purchased minutes by paid users each month.

We focus on the following key business metrics to evaluate the effectiveness of our operating strategies.

•  
  Average Revenue per Subscriber. We calculate average revenue per subscriber, or ARPU, by dividing net revenue for the period by the average number of subscribers in the period and by the number of months in the period. As such, our ARPU is a monthly calculation. For the year ended December 31, 2010, our average monthly revenue per subscriber was $20.49.

•  
  Churn. Churn is calculated by dividing terminations of subscriptions during the period by the total number of subscribers at the beginning of that period. Our average monthly churn rate, which measures the rate of loss of subscribers, decreased from approximately 16.3% per month for the year ended December 31, 2009 to approximately 16.1% per month for the year ended December 31, 2010.

•  
  Cost Per Gross Addition. Cost per gross addition, or CPGA, is calculated by adding affiliate commission expense plus ad buy expenses and dividing by new subscribers during the measurement period. Our CPGA increased from $46.89 for the year ended December 31, 2009 to $47.25 for the year ended December 31, 2010.

•  
  Average Lifetime Net Revenue Per Subscriber. Average Lifetime Net Revenue Per Subscriber is calculated by multiplying the average lifetime (in months) of a subscriber by ARPU for the measurement period and then subtracting the CPGA for the measurement period. Our Average Lifetime Net Revenue Per Subscriber increased from $79.34 for the year ended December 31, 2009 to $80.17 for the year ended December 31, 2010. While we monitor many statistics in the overall management of our business, we believe that Average Lifetime Net Revenue Per Subscriber and the number of subscribers are particularly helpful metrics for gaining a meaningful understanding of our business as they provide an indication of total revenue and profit

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  generated from our base of subscribers inclusive of affiliate commissions and advertising costs required to generate new subscriptions.

In addition to our social networks and live interactive video platforms, we also offer professionally-generated content through our premium content technology platform and our non-internet entertainment business. Through websites such as Penthouse.com and HotBox.com, our subscribers and paid users have access to our collection of more than 15,000 hours of professional video, which includes our library of more than 800 standard and high-definition full-length feature films and one million professionally produced images. We began shooting all of our content in 3D in September 2010. Additionally, subscribers have access to editorial content, chat rooms and other interactive features. In addition to our online products and services, we also have a non-technology legacy entertainment business, in which we produce and distribute original pictorial and video content via traditional distribution channels including licensing and retail DVD channels, and license the globally-recognized Penthouse brand to a variety of consumer product companies and entertainment venues and public branded men’s lifestyle magazines.

Our Competitive Strengths

We believe that we have the following competitive strengths that we can leverage to implement our strategy:

•  
  Proprietary and Scalable Technology Platform. Our robust, proprietary and highly scalable technology platform supports our social networking, live interactive video and premium content websites. We are able to use our customized back-end interface to quickly and affordably generate new websites, launch new features and target new audiences at a relatively low incremental cost. We believe that our ability to create new websites and provide new features is crucial to cost-effectively maintaining our relationships with existing users and attracting new users.

•  
  Paid Subscriber-Based Model. We operate social networking websites that allow our members to make connections with other members with whom they share common interests. Our paid subscriber-based model of social networking websites is distinctly different from the business models of other free social networking websites whose users access the websites to remain connected to their pre-existing friends and interest groups.

•  
  Large and Diverse User Base. We operate some of the most heavily visited social networking websites in the world, currently adding on average more than 6.4 million new registrants and more than 3.9 million new members each month. Our websites are designed to appeal to individuals with a diversity of interests and backgrounds. We believe potential members are attracted to the opportunity to interact with other individuals by having access to our large, diverse user base.

•  
  Large and Difficult to Replicate Affiliate Network and Significant Marketing Spend. Our marketing affiliates are companies that market our services on their websites, allowing us to market our brand beyond our established user base. As of December 31, 2010, we had more than 250,000 participants in our marketing affiliate program from which we derive a substantial portion of our new members and approximately 45% of our net revenues. We believe that the difficulty in building an affiliate network of this large size, together with our combined affiliate and advertising spend of approximately $103.5 million for the year ended December 31, 2010, presents a significant barrier to entry for potential competitors.

Our Strategy

Our goal is to enhance revenue opportunities while improving our profitability. We plan to achieve these goals using the following strategies:

•  
  Convert Visitors, Registrants and Members into Subscribers or Paid Users. We continually seek to convert visitors, registrants and members into subscribers or paid users. We do this by constantly evaluating, adding and enhancing features on our websites to improve our users’ experience.

•  
  Create Additional Websites and Diversify Offerings. We are constantly seeking to identify groups of sufficient size who share a common interest in order to create a website intended to appeal to their interests. Our extensive user database serves as an existing source of potential members and subscribers for new websites we create.

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•  
  Expand into and Monetize Current Foreign Markets. In 2010, nearly 71% of our members were outside the United States, but non-U.S. users accounted for less than half of our total net revenues. We seek to expand in selected geographic markets, including Southeast Europe, South America and Asia.

•  
  Pursue Targeted Acquisitions. We intend to expand our business by acquiring and integrating additional social networking websites, technology platforms, owners, creators and distributors of content and payment processing and advertising businesses. Our management team possesses significant mergers and acquisitions and integration expertise and regularly screens the marketplace for strategic acquisition opportunities.

•  
  Generate Online Advertising Revenue. To date, online advertising revenue has represented less than 0.1% of our net revenue, averaging approximately $9,000 per month in the year ended December 31, 2010. With continued worldwide growth in this advertising segment, we see this as a significant growth opportunity. We believe that our broad and diverse user base represents a valuable asset that will provide opportunities for us to offer targeted online advertising to specific demographic groups. We intend to focus our advertising efforts on our general audience social networking websites and maintain our subscription-based model for our adult social networking websites.

Our New Financing

On October 27, 2010, we issued new debt to repay our then existing debt, which we refer to as the New Financing. We, along with our wholly-owned subsidiary Interactive Network, Inc., or INI, co-issued $305.0 million principal amount of 14% Senior Secured Notes due 2013, $13.8 million of 14% Cash Pay Second Lien Notes due 2013, and $232.5 million of 11.5% Non-Cash Pay Second Lien Notes due 2014, which we refer to as the New First Lien Notes, the Cash Pay Second Lien Notes and the Non-Cash Pay Second Lien Notes, respectively. For further information regarding the New Financing, see the section entitled “Description of Indebtedness.”

The sole purpose of this offering is to repay a portion of our outstanding New First Lien Notes and Cash Pay Second Lien Notes, including certain notes held by our affiliates, which we expect will decrease our interest expense and increase our flexibility with respect to our operations and growth strategy. Based upon an initial offering price of $10.00 per share of common stock, after principal repayments on our New First Lien Notes and Cash Pay Second Lien Notes from the proceeds of this offering of $39.0 million and $1.8 million, respectively, and from excess cash flow payments of $14.1 million and $0.6 million, respectively, made in the first fiscal quarter of 2011, the remaining outstanding principal balances under our New First Lien Notes, Cash Pay Second Lien Notes and Non-Cash Pay Second Lien Notes, will be $251.9 million, $11.4 million and $237.2 million, respectively.

Our Corporate Information

Our executive offices are located at 6800 Broken Sound Parkway, Suite 200, Boca Raton, Florida 33487 and our telephone number is (561) 912-7000. Our website address is www.ffn.com. The information contained in, or accessible through, our website is not part of this prospectus.

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THE OFFERING

Common stock offered by us
           
5,000,000 shares
Common stock outstanding before this offering (as of May 9, 2011)
           
6,517,746 shares
Common stock to be outstanding after this offering
           
26,724,598 shares
Common stock underlying Excluded Securities (as defined below) after this offering
           
12,662,905 shares
Dividend policy
           
We do not anticipate paying cash dividends for the foreseeable future.
Over-allotment option
           
We have granted the underwriters an option to purchase up to 750,000 additional shares of our common stock at the public offering price less the underwriting discount to cover any over-allotment.
Use of proceeds
           
Our net proceeds from this offering will be approximately $44.9 million, based upon an initial offering price of $10.00 per share of common stock, after deducting underwriting discounts and estimated offering expenses payable by us. We intend to use all of the net proceeds to repay a portion of our New First Lien Notes and our Cash Pay Second Lien Notes on the terms as further described under the section entitled “Use of Proceeds.” After this offering, we will still have outstanding debt.
Risk factors
           
You should read the section entitled “Risk Factors” beginning on page 14 for a discussion of factors you should consider carefully before deciding whether to purchase shares of our common stock.
Nasdaq Global Market
           
“FFN”
 

Unless the context requires otherwise, the number of shares of our common stock outstanding after this offering is based on the number of shares outstanding as of May 5, 2011 and includes:

•  
  8,444,853 shares of common stock issuable upon the conversion of all of the 8,444,853 outstanding shares of our Series B Convertible Preferred Stock (the holders of which have notified us in writing that they intend to exercise their option to convert effective upon the consummation of this offering);

•  
  1,806,860 shares of common stock issuable upon the exchange of 1,806,860 outstanding shares of our Series B common stock (the holders of which have notified us in writing that they intend to exercise their option to exchange)

•  
  428,668 shares of common stock issuable upon conversion of the 378,579 outstanding shares of our Series A Convertible Preferred stock (the holders of which have notified us in writing that they intend to exercise their option to convert); and

•  
  4,526,471 shares of common stock underlying 4,003,898 outstanding warrants with an exercise price of $0.0002 per share, which if not exercised will expire upon the closing of this offering;

but excludes:

•  
  32,965 shares of common stock issuable upon the exchange of 32,965 outstanding shares of our Series B common stock;

•  
  1,571,784 shares of common stock issuable upon conversion of the 1,388,124 outstanding shares of our Series A Convertible Preferred Stock;

•  
  1,319,833 shares of common stock underlying 1,373,859 outstanding warrants with an exercise price of $0.0002 per share (assuming such warrants are exercised for cash) which, to the extent not exercised, will not expire upon the closing of this offering;

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•  
  457,832 shares of common stock underlying all of the 476,573 outstanding warrants with an exercise price of $6.20 per share (assuming such warrants are exercised for cash);

•  
  24,103 shares of common stock underlying all of the 25,090 outstanding warrants with an exercise price of $10.25 per share (assuming such warrants are exercised for cash);

•  
  8,310,763 shares of common stock issuable solely upon the holders’ election to convert their Non-Cash Pay Second Lien Notes commencing with the consummation of this offering (based upon an initial offering price of $10.00 per share of common stock), and provided that such conversion shall be limited to approximately 21.1% of our fully diluted equity;

•  
  551,750 shares of common stock issuable upon the exercise of options that have been issued under our FriendFinder Networks Inc. 2008 Stock Option Plan, or our 2008 Stock Option Plan;

•  
  a number of shares equal to up to one percent of our fully diluted equity following this offering of common stock (estimated to be 393,875 shares based on the assumptions set forth herein) reserved for future issuance under our FriendFinder Networks Inc. 2009 Restricted Stock Plan, or our 2009 Restricted Stock Plan; and

•  
  750,000 shares of common stock the underwriters may purchase upon the exercise of the underwriters’ over-allotment option.

Except where we state otherwise, the information presented in this prospectus reflects (i) the amendment and restatement of our bylaws to be effective upon the consummation of this offering, and (ii) the amendment and restatement of our articles of incorporation, which became effective on January 25, 2010, following the effectiveness on the same date of:

•  
  the amendment and restatement of the certificate of designation of our Series A Convertible Preferred Stock;

•  
  the 1-for-20 reverse split of our authorized Series A Convertible Preferred Stock, including a corresponding and proportionate decrease in the number of outstanding shares of Series A Convertible Preferred Stock;

•  
  the amendment and restatement of the certificate of designation of the Series B Convertible Preferred Stock;

•  
  the 1-for-20 reverse split of our authorized Series B Convertible Preferred Stock, including a corresponding and proportionate decrease in the number of outstanding shares of Series B Convertible Preferred Stock; and

•  
  the 1-for-20 reverse split of each series of our authorized common stock, including a corresponding and proportionate decrease in the number of outstanding shares of such series.

Excluded Securities includes shares underlying the following: (1) Series B common stock that will not be converted to common stock upon the offering, (2) Series A Convertible Preferred Stock that will not be converted to common stock upon the offering, (3) warrants with an exercise price of $0.0002 per share, which do not expire upon the offering, (4) warrants with an exercise price of $6.20 per share, (5) warrants with an exercise price of $10.25 per share, (6) common stock issuable solely upon the holders’ election to convert their Non-Cash Pay Second Lien Notes, and (7) common stock issuable upon the exercise of options issuable under our 2008 Stock Option Plan or shares granted under our 2009 Restricted Stock Plan. Excluded Securities do not include the 26,724,598 shares of common stock to be outstanding after this offering or the 750,000 shares to be issued in connection with the exercise of the underwriters’ overallotment option.

Upon consummation of this offering of 5,000,000 shares, our executive officers, directors, and principal stockholders will own approximately 75% of our issued and outstanding common stock.

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Summary Consolidated Financial Information and Other Financial Data

The following summary historical financial data should be read in conjunction with, and are qualified by reference to, the section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” and the audited consolidated financial statements and unaudited condensed consolidated financial statements and notes thereto included elsewhere in this prospectus. We derived the statement of operations data for the years ended December 31, 2010, 2009 and 2008 and the consolidated balance sheet data as of December 31, 2010 and 2009 from the audited consolidated financial statements included elsewhere in this prospectus.

        Consolidated Data
   
        Year Ended December 31,
   
        2010
    2009
    2008(1)
        (in thousands, except per share amounts)
   
Statements of Operations and Per Share Data:
                                                    
Net revenue
              $ 345,997          $ 327,692          $ 331,017   
Cost of revenue
                 110,490             91,697             96,514   
Gross profit
                 235,507             235,995             234,503   
Operating expenses:
                                                       
Product development
                 12,834             13,500             14,553   
Selling and marketing
                 37,258             42,902             59,281   
General and administrative
                 79,855             76,863             88,280   
Amortization of acquired intangibles and software
                 24,461             35,454             36,347   
Depreciation and other amortization
                 4,704             4,881             4,502   
Impairment of goodwill
                                           9,571   
Impairment of other intangible assets
                 4,660             4,000             14,860   
Total operating expenses
                 163,772             177,600             227,394   
Income from operations
                 71,735             58,395             7,109   
Interest and other non-operating expense, net(2)
                 115,374             104,943             71,251   
Loss before income tax (benefit)
                 (43,639 )            (46,548 )            (64,142 )  
Income tax (benefit)
                 (486 )            (5,332 )            (18,176 )  
Net loss
                 (43,153 )            (41,216 )            (45,966 )  
Net loss per common share — basic and diluted(3)
              $ (3.14 )         $ (3.00 )         $ (3.35 )  
Weighted average common shares outstanding — basic and diluted(3)
                 13,735             13,735             13,735   
 

        Consolidated Data
   
        As of December 31,
   
        2010
    2009
        (in thousands)
   
Consolidated Balance Sheet Data (at period end):
                                     
Cash and restricted cash
              $ 41,970          $ 28,895   
Total assets
                 532,817             551,881   
Long-term debt, net
                 510,551             432,028   
Deferred revenue
                 48,302             46,046   
Total liabilities
                 682,597             657,523   
Redeemable preferred stock
                              26,000   
Accumulated deficit
                 (230,621 )            (187,468 )  
Total stockholders’ deficiency
                 (149,780 )            (131,642 )  
 

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        Year Ended
December 31,
   
        2010
    2009
        (in thousands)    
Consolidated Statements of Cash Flows Data:
                                       
Net cash provided by operating activities
              $ 42,640          $ 39,679   
Net cash (used in) provided by investing activities
                 (1,250 )            4,204   
Net cash used in financing activities
                 (29,405 )            (44,987 )  
 


(1)  
  Net revenue for the year ended December 31, 2008 does not reflect $19.2 million due to a non-recurring purchase accounting adjustment that required the deferred revenue at the date of the acquisition of Various, Inc., or Various, to be recorded at fair value. Management believes that it is appropriate to add back the deferred revenue adjustment because the average renewal rate of the subscriptions that were the basis for the deferred revenue was approximately 63%. The renewal rate on subscriptions that had already been renewed at least one time since the acquisition was 78%. Therefore, management believes that historical results of Various are reflective of our future results, including those revenues that were added back to the adjusted net revenue. Please refer to the table contained in the “Prospectus Summary” below entitled “Reconciliation of GAAP Net Loss to EBITDA and Adjusted EBITDA”.

(2)  
  Includes interest expense, net of interest income, other finance expenses, interest and penalties related to value added tax, or VAT, net loss on extinguishment and modification of debt, foreign exchange gain, principally related to VAT not charged to customers, gain on settlement of VAT liability not charged to customers, gain on liability related to warrants and other non-operating (expense) income, net.

(3)  
  Basic and diluted loss per share is based on the weighted average number of shares of common stock and Series B common stock outstanding and includes shares underlying common stock purchase warrants which are exercisable at the nominal price of $0.0002 per share. For information regarding the computation of per share amounts, refer to Note C(25), “Summary of Significant Accounting Policies — Per share data” of our consolidated financial statements included elsewhere in this prospectus.

Non-GAAP Financial Results

We believe that certain non-GAAP financial measures of earnings before deducting net interest expense, income taxes, depreciation and amortization, or EBITDA, and adjusted EBITDA are helpful financial measures to be utilized by an investor determining whether to invest in us. First, they eliminate one-time adjustments made for accounting purposes in connection with our Various acquisition in order to provide information that is directly comparable to our historical and current financial statements. For more information regarding our acquisition of Various, please refer to the section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Our History.” For example, our depreciation and amortization expense has changed significantly due to the Various acquisition and purchase accounting impact on depreciation and amortization expense, as discussed below. Second, they eliminate adjustments for non-cash impairment charges for goodwill and intangible assets, which we believe will help an investor evaluate our future prospects, without taking into account historical non-cash charges that we believe are not recurring. Finally, they allow the investor to measure our operating performance year over year without taking into account non-recurring items and the wide disparity in the amounts of the interest, depreciation and amortization and tax expense items set forth in the financial statements. For instance, we are highly leveraged and we have had a large varying amount of interest expense for the historical years presented. We plan to use the proceeds of this offering to repay a portion of our New First Lien Notes and Cash Pay Second Lien Notes, thereby reducing our interest expense. In addition, we have the benefit of interest deductions and tax loss carryforwards which distorts comparisons of income tax benefit from year to year as interest expense is reduced and tax carryforwards are depleted and we book an income tax expense as opposed to a benefit. We believe analysts, investors and others frequently use EBITDA and adjusted EBITDA in the evaluation of companies in our industry.

These non-GAAP financial measures may not provide information that is directly comparable to that provided by other companies in our industry, as other companies in our industry may calculate such financial measures differently, particularly as it relates to nonrecurring, unusual items. Our non-GAAP financial measures of EBITDA and adjusted EBITDA are not measurements of financial performance under GAAP and should not be considered as alternatives to cash flow from operating activities or as measures of liquidity or as alternatives to net income or as indications of operating performance or any other measure of performance derived in accordance with GAAP.

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The following table reflects the reconciliation of GAAP net loss to the non-GAAP financial measures of EBITDA and adjusted EBITDA.

Reconciliation of GAAP Net Loss to EBITDA and Adjusted EBITDA

        Consolidated Data
   
        Year Ended December 31,
   
        2010
    2009
    2008
        (in thousands)
   
GAAP net loss
              $ (43,153 )         $ (41,216 )         $ (45,966 )  
Add: Interest expense, net
                 88,508             92,139             80,510   
Subtract: Income tax benefit
                 (486 )            (5,332 )            (18,176 )  
Add: Amortization of acquired intangible assets and software
                 24,461             35,454             36,347   
Add: Depreciation and other amortization
                 4,704             4,881             4,502   
EBITDA
              $ 74,034          $ 85,926          $ 57,217   
Add: Deferred revenue purchase accounting adjustment(1)
                                           19,200   
Add: Impairment of goodwill
                                           9,571   
Add: Impairment of other intangible assets
                 4,660             4,000             14,860   
Add: Broadstream arbitration provision
                 13,000                             
Add (subtract): Loss (gain) related to VAT liability not charged to customers
                 1,683             7,942             (9,456 )  
Add: Net Loss on extinguishment and modification of debt
                 7,457             7,240                
Add: Other finance expenses
                 4,562                             
Subtract: Non-recurring refund by former owner of litigation costs
for legacy patent case
                              (2,685 )               
Adjusted EBITDA(2)
              $ 105,396          $ 102,423          $ 91,392   
 


(1)  
  Net revenue for the year ended December 31, 2008 does not reflect $19.2 million due to a non-recurring purchase accounting adjustment that required the deferred revenue at the date of the acquisition of Various to be recorded at fair value. Management believes that it is appropriate to add back the deferred revenue adjustment because the average renewal rate of the subscriptions that were the basis for the deferred revenue was approximately 63%. The renewal rate on subscriptions that had already been renewed at least one time since the acquisition was 78%. Therefore, management believes that historical results of Various are reflective of our future results, including those revenues that were added back to adjusted EBITDA.

(2)  
  For the year ended December 31, 2008 and for the quarters ended March 31, 2008, June 30, 2008, September 30, 2008, March 31, 2009 and June 30, 2009, we failed to satisfy our EBITDA covenants with respect to our 2006 Notes and 2005 Notes because of operating performance. For the quarters ended March 31, 2008, June 30, 2008 and September 30, 2008 we failed to satisfy our EBITDA covenants with respect to the First Lien Senior Secured Notes and the Second Lien Subordinated Secured Notes due to the liability related to VAT not charged to customers and the purchase accounting adjustment due to the required reduction of the deferred revenue liability to fair value. On October 8, 2009, these events of default were cured. For the quarter ended September 30, 2009, we met our EBITDA covenants with respect to our 2006 Notes and 2005 Notes, each as amended. For the year ended December 31, 2009 and the quarters ended March 31, 2010, June 30, 2010 and September 30, 2010, we met our EBITDA covenants with respect to the First Lien Senior Secured Notes and the Second Lien Subordinated Secured Notes. For more information regarding this and other events of default under our note agreements, see the section entitled “Description of Indebtedness.” The above mentioned debt was paid off with the proceeds of the New Financing. Our new note agreements contain material debt covenants based on our maintaining specified levels of EBITDA (as it is defined in the particular agreement as noted below). Specifically, we are required to maintain the following EBITDA levels for our outstanding debt:

•  
  For each of the fiscal quarters ending through September 30, 2011, September 30, 2012 and September 30, 2013, our EBITDA (as defined) on a consolidated basis for the four consecutive fiscal quarters ending on such date needs to be greater than $85 million, $90 million and $95 million, respectively. Our EBITDA for the four quarters ended December 31, 2010, as defined in the relevant documents, was $105.4 million.
We met our EBITDA covenant requirements for the quarter and year ended December 31, 2010.

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For the year ended December 31, 2010, our EBITDA and adjusted EBITDA were $74.0 million and $105.4 million, respectively. Management derived adjusted EBITDA for the year ended December 31, 2010 using the following adjustments.

There were non-cash impairment charges to intangible assets of $4.7 million related to our entertainment segment in 2010. For the following reasons, management believes it is appropriate to add back a $4.7 million impairment charge to other intangible assets to derive a more meaningful measure of EBITDA for 2010. While we have had impairment charges for previous years relating to the businesses in operation prior to the Various acquisition, with the impairment charges taken in 2008, the goodwill relating to our non-internet business units of the company has been reduced to zero. The non-internet intangible assets have also been written down to reflect the fair value of these assets. Further, management believes that with the acquisition and integration of the Various business, the online business unit that is now operated in conjunction with the internet businesses of Various should not be expected to have further impairment going forward. Management gauges its operating performance without giving effect to the impairment charges taken historically due to its belief that it is unlikely that further impairment charges will be incurred. However, there can be no assurance that there will be no further impairment to the Company’s goodwill or intangible assets.

Management believes that the VAT activity that relates to periods prior to notification from the European Union tax authorities, which we refer to as VAT not charged to customers, should be excluded from adjusted non-GAAP net income (loss) and adjusted EBITDA. After our acquisition of Various, we became aware that Various and its subsidiaries had not collected VAT from subscribers in the European Union nor had Various remitted VAT to the tax jurisdictions requiring it. We have since registered with the tax authorities of the applicable European Union jurisdictions. We began collecting VAT from subscribers in July 2008, and all amounts from July 2008 and beyond are considered current VAT and such costs are presented on a net basis and excluded from revenue in the statement of operations. Since the VAT liabilities not charged to customers, including penalties, interest expense, gains and losses on settlements and foreign exchange gains and losses, is unusual and not representative of our current operations, we have excluded it from adjusted EBITDA.

The Broadstream arbitration provision which the Company expensed in 2010 is added back as it was a non-recurring event regarding the Broadstream litigation. The litigation resulted from certain activities occurring during the Various acquisition. For further information regarding this litigation and the expense, see “Risk Factors” and “Legal Proceedings” located elsewhere in this prospectus. As with the refund by the former owner of litigation costs which is subtracted for 2009, management believes it is appropriate to negate the effect of these items due to their relationship to the Various acquisition and not with the Company’s continuing operations.

Finally, the net loss from the extinguishment of debt and other finance expenses relating to the New Financing were added back as they were items related to the New Financing in 2010 and, as with the loss on modification of debt in 2009, which was also added back, did not relate to the operating performance of the Company but were instead related to financing events.

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Certain Non-Financial Operating Data

        Non-Financial Operating Data
   
        Year Ended December 31,
   
        2010
    2009
    2008
Historical Operating Data:
                                                    
Adult Social Networking Websites
                                                      
Subscribers (as of the end of the period)
                 928,314             916,005             896,211   
Churn(1)
                 16.0 %            16.3 %            17.8 %  
ARPU (2)
              $ 20.47          $ 20.73          $ 22.28   
CPGA(3)
              $ 48.43          $ 47.24          $ 51.26   
Average Lifetime Net Revenue Per Subscriber(4)
              $ 79.45          $ 79.64          $ 74.22   
General Audience Social Networking Websites
                                                      
Subscribers (as of the end of the period)
                 53,198             57,431             68,647   
Churn(1)
                 17.3 %            15.5 %            18.6 %  
ARPU(2)
              $ 20.72          $ 18.05          $ 19.21   
CPGA(3)
              $ 29.04          $ 41.61          $ 36.68   
Average Lifetime Net Revenue Per Subscriber(4)
              $ 91.02          $ 74.71          $ 66.70   
Live Interactive Video Websites
                                                      
Average Revenue Per Minute
              $ 3.90          $ 3.49          $ 2.87   
Cams — Minutes(5)
           
19,566,551 
   
17,293,702 
   
19,101,202 
 


(1)  
  Churn is calculated by dividing terminations of subscriptions during the period by the total number of subscribers at the beginning of that period and by the number of months in the period.

(2)  
  ARPU is calculated by dividing net revenue for the period by the average number of subscribers in the period and by the number of months in the period. To provide meaningful comparisons between the years, net revenue for the year ended December 31, 2008 includes the add back of $19.2 million due to a non-recurring purchase accounting adjustment that required the deferred revenue at the date of the acquisition of Various to be recorded at fair value. For more information regarding our revenue adjusted for purchase price accounting, see the section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Results of Operations Year Ended December 31, 2009 as Compared to the Year Ended December 31, 2008.”

(3)  
  CPGA is calculated by adding affiliate commission expense plus ad buy expenses and dividing by new subscribers during the measurement period.

(4)  
  Average Lifetime Net Revenue Per Subscriber is calculated by multiplying the average lifetime (in months) of a subscriber by ARPU for the measurement period and then subtracting the CPGA for the measurement period.

(5)  
  Users purchase minutes in advance of their use and draw down on the available funds as the minutes are used.

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Recent Developments

Provided below are our preliminary financial results for the three months ended March 31, 2011 and March 31, 2010. The financial information is not a comprehensive statement of our financial results for the period indicated and should therefore be considered together with our full results of operations when published. The financial information has not been reviewed or audited by our independent registered public accounting firm and is subject to adjustment based upon, among other things, the finalization of our quarter-end review and reporting processes. Although our financial statements for the quarter ended March 31, 2011 are not yet complete, the financial information below reflects our estimate of those results, based on currently available information. The financial information is not necessarily indicative of results for our full year performance or any future performance and should be read in conjunction with, and are qualified by reference to, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and the notes thereto included elsewhere in this prospectus.

        Three Months
Ended March 31,
   
        2011
    2010
        (unaudited)    
        (in thousands)    
Net Revenue
              $ 83,520          $ 86,205   
Gross profit
              $ 56,759          $ 56,563   
Income from operations
              $ 19,675          $ 12,974   
GAAP Net loss
              $ (4,031 )         $ (8,361 )  
Add: Interest Expense, net
                 21,950             22,837   
Add: Amortization of acquired intangible assets and software
                 3,924             6,264   
Add: Depreciation and other amortization
                 1,136             1,208   
EBITDA
                 22,979             21,948   
Add: Broadstream arbitration costs
                 1,016                
Add (subtract): Loss (gain) related to VAT liability not charged to customers
                 3,111             (1,482 )  
Adjusted EBITDA
              $ 27,106          $ 20,466   
 

Net revenue for the three months ended March 31, 2011 was $83.5 million as compared to net revenue for the three months ended March 31, 2010 of $86.2 million, representing a decrease of $2.7 million or 3.1%. The decrease in net revenue is primarily due to the decrease in traffic to our websites as described below in cost of revenue.

Cost of revenue for the three months ended March 31, 2011 was $26.8 million as compared to cost of revenue for the three months ended March 31, 2010 of $29.6 million, representing a decrease of $2.8 million or 9.5%. During the three months ended March 31, 2010, we significantly increased our pay-per-order payouts to affiliates, which caused some of our affiliates to switch from a revenue share basis to a pay-per-order basis. The increase in pay-per-order payouts caused an increase in traffic to our websites, resulting in increased revenue and a corresponding increase in our affiliate expenses. We did not have such increases in our pay-per-order payouts for the three months ended March 31, 2011, and as a result, had a reduction in our affiliate expenses of $3.8 million in the three months ended March 31, 2011 as compared to the same period in 2010. Additionally, we had increased costs of revenue of approximately $1.0 million in the three months ended March 31, 2011 as compared to the same period in 2010 principally related to increases in model payments proportional to revenue increases for our live interactive video business ($0.3 million) and additional costs for satellite distribution ($0.5 million).

Gross profit for the three months ended March 31, 2011 was $56.8 million as compared to gross profit for the three months ended March 31, 2010 of $56.6 million, representing an increase of $0.2 million or 0.4%. The decrease in net revenue for the three months ended March 31, 2011 described above was effectively offset by the reduction in our affiliate cost during the same period as described above.

Income from operations for the three months ended March 31, 2011 was $19.7 million as compared to income from operations for the three months ended March 31, 2010 of $13.0 million, representing an increase of $6.7 million or 51.5%. The increase in income from operations is primarily due to a decrease in selling and marketing expense

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of $5.3 million, or 42.1%, primarily due to a reduction in our ad buys. Also, we had a decrease in the three months ended March 31, 2011 of $2.3 million, or 36.5%, in the amortization of acquired intangibles as a portion of the intangibles were fully amortized. The above items were offset by a $1.0 million, or 34.5%, increase in our product development costs as a result of additional headcount to support new initiatives and expected growth.

Net loss for the three months ended March 31, 2011 was $4.0 million as compared to $8.3 million for the three months ended March 31, 2010, representing a decrease of $4.3 million or 51.8%. The decrease in net loss is due to the increase in income from operations described above. In addition we had a foreign exchange loss principally related to VAT not charged to customers of $2.6 million for the three months ended March 31, 2011 as compared to a foreign exchange gain of $2.0 million for the same period in 2010. We also had a reduction of $0.9 million in interest expense due to less debt outstanding as a result of repayments, and an increase of $1.1 million in our other income, due primarily to receipt of life insurance proceeds related to the death of the original founder of Penthouse, Robert Guccione.

EBITDA for the three months ended March 31, 2011 was $23.0 million as compared to EBITDA for the three months ended March 31, 2010 of $22.0 million, representing an increase of $1.0 million or 4.5%. The increase in EBITDA is primarily due to the factors described above, offset by a loss of $2.6 million in foreign exchange loss principally related to VAT liability not charged to customers as compared to a gain of $2.0 million for the same period in 2010. Adjusted EBITDA for the three months ended March 31, 2011 was $27.1 million as compared to Adjusted EBITDA for the three months ended March 31, 2010 of $20.5 million, representing an increase of $6.6 million or 32.2%. The increase in Adjusted EBITDA is primarily due to the factors described above.

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RISK FACTORS

An investment in our common stock involves a high degree of risk. You should carefully consider the following information about these risks, together with the other information contained in this prospectus. If any of the events anticipated by the risks described below occur, our results of operations and financial condition could be adversely affected, which could result in a decline in the value of our common stock, causing you to lose all or part of your investment.

Risks Related to our Business

We have a history of significant net losses and we may incur additional net losses in the future, which have had and may continue to have material consequences to our business.

We have historically generated significant net losses. As of December 31, 2010, we had an accumulated deficit of approximately $230.6 million. For the year ended December 31, 2010, we had a net loss of $43.2 million. For the years ended December 31, 2009 and 2008, we had net losses of approximately $41.2 million and $46.0 million respectively. We expect our operating expenses will continue to increase during the next several years as a result of additional costs incurred related to our status as a public company, the promotion of our services and the expansion of our operations, including the launch of new websites and entering into acquisitions, strategic alliances and joint ventures. If our revenue does not grow at a substantially faster rate than these expected increases in our expenses or if our operating expenses are higher than we anticipate, we may not be profitable and we may incur additional losses, which could be significant. Our net losses cause us to be more highly leveraged, increase our cost of debt and make us subject to certain covenants which limit our ability to grow our business organically or through acquisitions. For more information with respect to the covenants to which we are currently subject, see the risk factor entitled “—Any remaining indebtedness after this offering could make obtaining additional capital reserves difficult and could materially adversely affect our business, financial condition, results of operations and our growth strategy.”

Most of our revenue is currently derived from subscribers to our online offerings and a reduction in the number of our subscribers or a reduction in the amount of spending by our subscribers could harm our financial condition.

Our internet business generated approximately 93% of our revenue for the year ended December 31, 2010 from subscribers and other paying customers to our websites. For more information regarding our revenue, see the sections entitled “Prospectus Summary —Financial Results” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Results of Operations —Year Ended December 31, 2010 as Compared to  — Year Ended December 31, 2009.” We must continually add new subscribers to replace subscribers that we lose in the ordinary course of business due to factors such as competitive price pressures, credit card expirations, subscribers’ perceptions that they do not use our services sufficiently and general economic conditions. Our subscribers maintain their subscriptions on average for approximately six and a half months. Our business depends on our ability to attract a large number of visitors, to convert visitors into registrants, to convert registrants into members, to convert members into subscribers and to retain our subscribers. As of December 31, 2010, we had approximately 1.0 million current subscribers. For more information about our key business metrics including, but not limited to, the number of subscribers and the conversion of members to subscribers, see the section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Internet Segment Historical Operating Data.” If we are unable to provide the pricing and content, features, functions or services necessary to attract new subscribers or retain existing subscribers, our operating results could suffer. To the extent free social networking and personals websites, or free adult content on the internet, continue to be available or increase in availability, our ability to attract and retain subscribers may be adversely affected. In addition, any decrease in our subscribers’ spending due to general economic conditions could also reduce our revenue or negatively impact our ability to grow our revenue.

We face significant competition from other websites.

Our adult-oriented websites face competition for visitors from other websites offering free adult-oriented content. We face competition from companies offering adult-oriented internet personals websites such as Cytek Ltd., the operator of SexSearch.com and Fling Incorporated and we compete with many adult-oriented and live

14




interactive video websites, such as Playboy.com and LiveJasmin.com. Our general audience social networking and personals websites, which contribute substantially less of our revenue and earnings, face significant competition from other social networking websites such as MySpace.com, Facebook.com and Friendster.com, as well as companies providing online personals services such as Match.com, L.L.C., Yahoo!Personals, Windows Live Profile, eHarmony, Inc., Lavalife Corp., Plentyoffish Media Inc. and Spark Networks Limited websites, including jdate.com, americansingles.com and relationships.com. Other social networking websites have higher numbers of worldwide unique users than our network of websites. According to comScore, in December 2010, Facebook.com and MySpace.com had approximately 662 million and 77 million worldwide unique visitors, respectively, compared to our websites’ 196 million worldwide unique visitors. In addition, the number of unique visitors on our general audience social networking and personals websites has decreased and may continue to decrease.

Internet-based social networking is characterized by significant competition, evolving industry standards and frequent product and service enhancements. Our competitors are constantly developing innovations in internet social networking. We must continually invest in improving our visitors’ experiences and in providing services that people expect in a high quality internet experience, including services responsive to their needs and preferences and services that continue to attract, retain and expand our user base.

If we are unable to predict user preferences or industry changes, or if we are unable to modify our services on a timely basis, we may lose visitors, licensees, affiliates and/or advertisers. Our operating results would also suffer if our innovations are not responsive to the needs of our users, advertisers, affiliates or licensees, are not appropriately timed with market opportunity or are not effectively brought to market. As internet-based social networking technology continues to develop, our competitors may be able to offer social networking products or services that are, or that are perceived to be, substantially similar or better than those generated by us. As a result, we must continue to invest resources in order to diversify our service offerings and enhance our technology. If we are unable to provide social networking technologies and other services which generate significant traffic to our websites, our business could be harmed, causing revenue to decline.

Some of our competitors may have significantly greater financial, marketing and other resources than we do. Our competitors may undertake more far-reaching marketing campaigns, including print and television advertisements, and adopt more aggressive pricing policies that may allow them to build larger member and subscriber bases than ours. Our competitors may also develop products or services that are equal or superior to our products and services or that achieve greater market acceptance than our products and services. Our attempts to increase traffic to and revenue from our general audience websites may be unsuccessful. Additionally, some of our competitors are not subject to the same regulatory restrictions that we are, including those imposed by our December 2007 settlement with the Federal Trade Commission over the use of sexually explicit advertising. For more information regarding our potential liability for third party activities see the risk factor entitled “—We may be held secondarily liable for the actions of our affiliates, which could result in fines or other penalties that could harm our reputation, financial condition and business.” These activities could attract members and paying subscribers away from our websites, reduce our market share and adversely affect our results of operations.

We heavily rely on our affiliate network to generate traffic to our websites. If we lose affiliates, our business could experience a substantial loss of traffic, which could harm our ability to generate revenue.

Our affiliate network generated approximately 45% of our revenue for the year ended December 31, 2010 from visitor traffic to our websites. We generally pay referring affiliates commissions based on the amount of revenue generated by the traffic they deliver to our websites. Typically, our affiliate arrangements can be terminated immediately by us or our affiliates for any reason. Typically, we do not have exclusivity arrangements with our affiliates, and some of our affiliates may also be affiliates for our competitors. If other websites, including our competitors, were to offer higher paying affiliate programs, we could lose some of our affiliates unless we increased the commission rates we paid under our marketing affiliate program. Any increase in the commission rates we pay our affiliates would result in higher cost of revenue and could negatively impact our results of operations. Finally, we could lose affiliates if their internal policies are revised to prohibit entering into business contracts with companies like ours that provide adult material. The loss of affiliates providing significant traffic and visitors to our websites could harm our ability to generate revenue.

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Increased subscriber churn or subscriber upgrade and retention costs could adversely affect our financial performance.

Turnover of subscribers in the form of subscriber service cancellations or failures to renew, or churn, has a significant financial impact on the results of operations of any subscription internet provider, including us, as does the cost of upgrading and retaining subscribers. For the year ended December 31, 2010, our average monthly churn rate for our social networking websites was 16.1%. Any increase in the costs necessary to upgrade and retain existing subscribers could adversely affect our financial performance. In addition, such increased costs could cause us to increase our subscription rates, which could increase churn. Churn may also increase due to factors beyond our control, including churn by subscribers who are unable or unwilling to pay their monthly subscription fees because of personal financial restrictions, the impact of a slowing economy or the attractiveness of competing services or websites. If excessive numbers of subscribers cancel or fail to renew their subscriptions, we may be required to incur significantly higher marketing expenditures than we currently anticipate in order to replace canceled or unrenewed subscribers with new subscribers, which could harm our financial condition.

We have never generated significant revenue from internet advertising and may not be able to in the future and a failure to compete effectively against other internet advertising companies could result in lost customers or could adversely affect our business and results of operations.

We have never generated significant revenue from internet advertising. In the future, we may shift some of our websites with lower subscription penetration to an advertising-based revenue model and may seek to provide selected targeted advertising on our subscriber-focused websites. Our user database serves as an existing source of potential members or subscribers for new websites we create and additionally presents opportunities for us to offer targeted online advertising to specific demographic groups.

Our ability to generate significant advertising revenue will also depend upon several factors beyond our control, including general economic conditions, changes in consumer purchasing and viewing habits and changes in the retail sales environment and the continued development of the internet as an advertising medium. If the market for internet-based advertising does not continue to develop or develops more slowly than expected, or if social networking websites are deemed to be a poor medium on which to advertise, our plan to use internet advertising revenue as a means of revenue growth may not succeed.

Because we allow our registrants to opt out of receiving certain communications from us and third parties, including advertisements, registrants who have opted out of receiving advertisements are potentially less valuable to us as a source of revenue than registrants who have not done so. The number of registrants who have opted out of receiving such communications are not identified in our gross number of registrants.

In addition, filter software programs that limit or prevent advertising from being delivered to an internet user’s computer are becoming increasingly effective and easy to use, making the success of implementing an advertising medium increasingly difficult. Widespread adoption of this type of software could harm the commercial viability of internet-based advertising and, as a result, hinder our ability to grow our advertising-based revenue.

Competition for advertising placements among current and future suppliers of internet navigational and informational services, high-traffic websites and internet service providers, or ISPs, as well as competition with non-internet media for advertising placements, could result in significant price competition, declining margins and/or reductions in advertising revenue. In addition, as we continue to expand the scope of our internet services, we may compete with a greater number of internet publishers and other media companies across an increasing range of different internet services, including in focused markets where competitors may have advantages in expertise, brand recognition and other areas. If existing or future competitors develop or offer services that provide significant performance, price, creative or other advantages over those offered by us, our business, results of operations and financial condition would be negatively affected. We would also compete with traditional advertising media, such as direct mail, television, radio, cable, and print, for a share of advertisers’ total advertising budgets. Many potential competitors would enjoy competitive advantages over us, such as longer operating histories, greater name recognition, larger customer bases, greater access to advertising space on high-traffic websites, and significantly greater financial, technical and marketing resources. As a result, we may not be able to compete successfully.

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Our business depends on strong brands, and if we are not able to maintain and enhance our brands, our ability to expand our base of users, advertisers and affiliates will be impaired and our business and operating results could be harmed.

We believe that the brand recognition that we have developed has significantly contributed to the success of our business. We also believe that maintaining and enhancing the “FriendFinder” and “AdultFriendFinder” brands is critical to expanding our base of users, advertisers and affiliates. Maintaining and enhancing our brands’ profiles may require us to make substantial investments and these investments may not be successful. If we fail to promote and maintain the “FriendFinder” and “AdultFriendFinder” brands’ profiles, or if we incur excessive expenses in this effort, our business and operating results could be harmed. We anticipate that, as our market becomes increasingly competitive, maintaining and enhancing our brands’ profiles may become increasingly difficult and expensive. Maintaining and enhancing our brands will depend largely on our ability to be a technology leader and to continue to provide attractive products and services, which we may not do successfully.

People have in the past expressed, and may in the future express, concerns over certain aspects of our products. For example, people have raised privacy concerns relating to the ability of our members to post pictures, videos and other information on our websites. Aspects of our future products may raise similar public concerns. Publicity regarding such concerns could harm our brands. Further, if we fail to maintain high standards for product quality, or if we fail to maintain high ethical, social and legal standards for all of our operations and activities, our reputation could be jeopardized.

In addition, affiliates and other third parties may take actions that could impair the value of our brands. We are aware that third parties, from time to time, use “FriendFinder” and “AdultFriendFinder” and similar variations in their domain names without our approval, and our brands may be harmed if users and advertisers associate these domains with us.

Our business, financial condition and results of operations may be adversely affected by unfavorable economic and market conditions.

Changes in global economic conditions could adversely affect the profitability of our business. Economic conditions worldwide have from time to time contributed to slowdowns in the technology industry, as well as in the specific segments and markets in which we operate, resulting in reduced demand and increased price competition for our products and services. Our operating results in one or more geographic regions may also be affected by uncertain or changing economic conditions within that region, such as the challenges that are currently affecting economic conditions in the United States and abroad. If economic and market conditions in the United States or other key markets, remain unfavorable or persist, spread or deteriorate further, we may experience an adverse impact on our business, financial condition and results of operations. If our entertainment segment continues to be adversely affected by these economic conditions, we may be required to take an impairment charge with respect to these assets. In addition, the current or future tightening of credit in financial markets could result in a decrease in demand for our products and services. The demand for entertainment and leisure activities tends to be highly sensitive to consumers’ disposable incomes, and thus a decline in general economic conditions may lead to our current and potential registrants, members, subscribers and paid users having less discretionary income to spend. This could lead to a reduction in our revenue and have a material adverse effect on our operating results. For the years ended December 31, 2010 and 2009, the growth of our internet and entertainment revenue was adversely impacted by negative global economic conditions. For more information regarding the effect of economic conditions on our operating results see the sections entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” “Management, Discussion and Analysis of Financial Condition and Results of Operations — Results of Operations — Year Ended December 31, 2010 as Compared to the Year Ended December 31, 2009 — Net Revenue,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Internet Segment Historical Operating Data for the Year Ended December 31, 2010 as Compared to the Year Ended December 31, 2009” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Internet Segment Historical Operating Data for the Year Ended December 31, 2009 as Compared to the Year Ended December 31, 2008.” Accordingly, the economic downturn in the United States and other countries may hurt our financial performance. We are unable to predict the likely duration and severity of the current disruption

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in financial markets and adverse economic conditions and the effects they may have on our business and financial condition and results of operations.

Continued imposition of tighter processing restrictions by credit card processing companies and acquiring banks would make it more difficult to generate revenue from our websites.

We rely on third parties to provide credit card processing services allowing us to accept credit card payments from our subscribers and paid users. As of December 31, 2010, two credit card processing companies accounted for approximately 48.9% of our accounts receivable. Our business could be disrupted if these or other companies become unwilling or unable to provide these services to us. We are also subject to the operating rules, certification requirements and rules governing electronic funds transfers imposed by the payment card industry seeking to protect credit cards issuers, which could change or be reinterpreted to make it difficult or impossible for us to comply with such rules or requirements. If we fail to comply, we may be subject to fines and higher transaction fees and lose our ability to accept credit card payments from our customers, and our business and operating results would be adversely affected. Our ability to accept credit cards as a form of payment for our online products and services could also be restricted or denied for a number of other reasons, including but not limited to:

•  
  if we experience excessive chargebacks and/or credits;

•  
  if we experience excessive fraud ratios;

•  
  if there is an adverse change in policy of the acquiring banks and/or card associations with respect to the processing of credit card charges for adult-related content;

•  
  if there is an increase in the number of European and U.S. banks that will not accept accounts selling adult-related content;

•  
  if there is a breach of our security resulting in the theft of credit card data;

•  
  if there is continued tightening of credit card association chargeback regulations in international commerce;

•  
  if there are association requirements for new technologies that consumers are less likely to use; and

•  
  if negative global economic conditions result in credit card companies denying more transactions.

In May 2000, American Express instituted a policy of not processing credit card transactions for online, adult-oriented content and terminated all of its adult website merchant accounts. If other credit card processing companies were to implement a similar policy, it would have a material adverse effect on our business operations and financial condition.

Our credit card chargeback rate is currently approximately 1.1% of the transactions processed and the reserves the banks require us to maintain are approximately 2.0% of our total net revenues. In addition, our required reserve balances have decreased from $7.9 million at December 31, 2008 to $7.4 million at December 31, 2010. If our chargeback rate increases or we are required to maintain increased reserves, this could increase our operating expenses and may have a material adverse effect on our business operations and financial condition.

Our ability to keep pace with technological developments is uncertain.

Our failure to respond in a timely and effective manner to new and evolving technologies could harm our business, financial condition and operating results. The internet industry is characterized by rapidly changing technology, evolving industry standards, changes in consumer needs and frequent new service and product introductions. Our business, financial condition and operating results will depend, in part, on our ability to develop the technical expertise to address these rapid changes and to use leading technologies effectively. We may experience difficulties that could delay or prevent the successful development, introduction or implementation of new features or services.

Further, if the new technologies on which we intend to focus our investments fail to achieve acceptance in the marketplace or our technology does not work and requires significant cost to replace or fix, our competitive position could be adversely affected, which could cause a reduction in our revenue and earnings. For example, our

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competitors could be the first to obtain proprietary technologies that are perceived by the market as being superior. Further, after incurring substantial costs, one or more of the technologies under development could become obsolete prior to its introduction.

To access technologies and provide products that are necessary for us to remain competitive, we may make future acquisitions and investments and may enter into strategic partnerships with other companies. Such investments may require a commitment of significant capital and human and other resources. The value of such acquisitions, investments and partnerships and the technology accessed may be highly speculative. Arrangements with third parties can lead to contractual and other disputes and dependence on the development and delivery of necessary technology on third parties that we may not be able to control or influence. These relationships may commit us to technologies that are rendered obsolete by other developments or preclude the pursuit of other technologies which may prove to be superior.

We may be held secondarily liable for the actions of our affiliates, which could result in fines or other penalties that could adversely affect our reputation, financial condition and business.

Under the terms of our December 2007 settlement with the Federal Trade Commission, we have agreed not to display sexually explicit online advertisements to consumers who are not seeking out sexually explicit content, and we require that members of our marketing affiliate network affirmatively agree to abide by this restriction as part of our affiliate registration process. We have also agreed to end our relationship with any affiliate that fails to comply with this restriction. Notwithstanding these measures, should any affiliate fail to comply with the restriction and display sexually explicit advertisements relating to our adult-oriented websites to any consumer not seeking adult content, we may be held liable for the actions of such affiliate and subjected to fines and other penalties that could adversely affect our reputation, financial condition and business.

In addition, we run the risk of being held responsible for the conduct or legal violations of our affiliates or those who have a marketing relationship with us, including, for example, with respect to their use of adware programs or other technology that causes internet advertisements to manifest in pop ups or similar mechanisms that can be argued to block or otherwise interfere with another website’s content or otherwise be argued to violate the Lanham Act or be considered an unlawful, unfair, or deceptive business practice.

We breached certain covenants contained in our previously existing note agreements and our Indentures. If we were to breach the covenants contained under our Indentures, which include that we must maintain certain financial ratios, satisfy certain financial tests and remain in compliance with our Indentures, we may be restricted in the way we run our business.

Our previously existing note agreements required, and our Indentures governing our New First Lien Notes, Cash Pay Second Lien Notes, and Non-Cash Pay Second Lien Notes require us to maintain certain financial ratios as well as comply with other financial covenants relating to minimum consolidated EBITDA and minimum consolidated coverage ratio and permitted investments. We and INI failed to comply with certain covenants contained within some of our previously existing note agreements and our Indentures.

On February 4, 2011, excess cash flow payments of $10.5 million and $0.5 million were paid under our Indentures to the holders of the New First Lien Notes and Cash Pay Second Lien Notes, respectively, which payments were in amounts equal to 102% of the principal amounts repaid, amounting to total principal reductions of $10.3 million and $0.5 million for the New First Lien Notes and Cash Pay Second Lien Notes, respectively. In the process of calculating the excess cash flow payments on February 4, 2011, we inadvertently used the methodology we applied pursuant to our previously existing note agreements, rather than the methodology from the New Financing. This error resulted in underpayments of $3.9 million on the New First Lien Notes and $0.2 million on the Cash Pay Second Lien Notes, causing an event of default under each of those notes. Upon discovery of the error on February 28, 2011, we recalculated the excess cash flow payments and, on March 2, 2011, we made additional excess cash flow payments in amounts sufficient to cure the underpayments and cure the related event of default, which resulted in further principal reductions of $3.8 million and $0.2 million for the New First Lien Notes and Cash Pay Second Lien Notes, respectively.

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If events of default occur in the future under any of the Indentures for our New First Lien Notes, Cash Pay Second Lien Notes, or Non-Cash Pay Second Lien Notes and our efforts to cure such events of default are unsuccessful it could result in the acceleration of our then-outstanding debt. In the event that the resolution of the lawsuit against us filed by Broadstream Capital Partners, Inc., or Broadstream, results in a liability in excess of $15.0 million (exclusive of the $3.0 million we already paid to Broadstream), it would constitute an event of default under our New First Lien Notes, Cash Pay Second Lien Notes and Non-Cash Pay Second Lien Notes. For more information regarding the lawsuit against us filed by Broadstream, see the risk factor entitled “If we have an unfavorable outcome of our pending litigation matter, we may fail to satisfy certain financial covenants which may result in a default under our debt documents.”

If all of our indebtedness was accelerated as a result of an event of default, we may not have sufficient funds at the time of acceleration to repay most of our indebtedness and we may not be able to find additional or alternative financing to refinance any such accelerated obligations on terms acceptable to us or on any terms, which could have a material adverse effect on our ability to continue as a going concern.

If any of our relationships with internet search websites terminate, if such websites’ methodologies are modified or if we are outbid by competitors, traffic to our websites could decline.

We depend in part on various internet search websites, such as Google.com, Bing.com, Yahoo.com and other websites to direct a significant amount of traffic to our websites. Search websites typically provide two types of search results, algorithmic and purchased listings. Algorithmic listings generally are determined and displayed as a result of a set of unpublished formulas designed by search engine companies in their discretion. Purchased listings generally are displayed if particular word searches are performed on a search engine. We rely on both algorithmic and purchased search results, as well as advertising on other internet websites, to direct a substantial share of visitors to our websites and to direct traffic to the advertiser customers we serve. If these internet search websites modify or terminate their relationship with us or we are outbid by our competitors for purchased listings, meaning that our competitors pay a higher price to be listed above us in a list of search results, traffic to our websites could decline. Such a decline in traffic could affect our ability to generate subscription revenue and could reduce the desirability of advertising on our websites.

If members decrease their contributions of content to our websites that depend on such content, the viability of those websites would be impaired.

Many of our websites rely on members’ continued contribution of content without compensation. We cannot guarantee that members will continue to contribute such content to our websites. In addition, we may offer discounts to members who provide content for our websites as an incentive for their contributions. In the event that contributing members decrease their contributions to our websites, or if the quality of such contributions is not sufficiently attractive to our audiences, or if we are required to offer additional discounts in order to encourage members to contribute content to our websites, this could have a negative impact on our business, revenue and financial condition.

Our business, financial condition and results of operations could be adversely affected if we fail to provide adequate security to protect our users and our systems.

Online security breaches could adversely affect our business, financial condition and results of operations. Any well-publicized compromise of security could deter use of the internet in general or use of the internet to conduct transactions that involve transmitting confidential information or downloading sensitive materials. In offering online payment services, we may increasingly rely on technology licensed from third parties to provide the security and authentication necessary to effect secure transmission of confidential information, such as customer credit card numbers. Advances in computer capabilities, new discoveries in the field of cryptography or other developments could compromise or breach the algorithms that we use to protect our customers’ transaction data. If third parties are able to penetrate our network security or otherwise misappropriate confidential information, we could be subject to liability, which could result in litigation. In addition, experienced programmers or “hackers” may attempt to misappropriate proprietary information or cause interruptions in our services that could require us to expend significant capital and resources to protect against or remediate these problems.

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Our business involves risks of liability claims arising from our media content, which could adversely affect our ability to generate revenue and could increase our operating expenses.

As a distributor of media content, we face potential liability for defamation, invasion of privacy, negligence, copyright or trademark infringement, obscenity, violation of rights of publicity and/or obscenity laws and other claims based on the nature and content of the materials distributed. These types of claims have been brought, sometimes successfully, against broadcasters, publishers, online services and other disseminators of media content. We could also be exposed to liability in connection with content made available through our online social networking and personals websites by users of those websites. Any imposition of liability that is not covered by insurance or is in excess of our insurance coverage could have a material adverse effect on us. In addition, measures to reduce our exposure to liability in connection with content available through our internet websites could require us to take steps that would substantially limit the attractiveness of our internet websites and/or their availability in certain geographic areas, which could adversely affect our ability to generate revenue and could increase our operating expenses.

Privacy concerns could increase our costs, damage our reputation, deter current and potential users from using our products and services and negatively affect our operating results.

From time to time, concerns may arise about whether our products and services compromise the privacy of users and others. Concerns about our practices with regard to the collection, use, disclosure or security of personal information or other privacy-related matters, even if unfounded, could damage our reputation and deter current and potential users from using our products and services, which could negatively affect our operating results. While we strive to comply with all applicable data protection laws and regulations, as well as our own posted privacy policies, any failure or perceived failure to comply may result in proceedings or actions against us by governmental entities or others, which could potentially have an adverse effect on our business. Increased scrutiny by regulatory agencies, such as the Federal Trade Commission and state agencies, of the use of customer information, could also result in additional expenses if we are obligated to reengineer systems to comply with new regulations or to defend investigations of our privacy practices.

In addition, as most of our products and services are web based, the amount of data we store for our users on our servers (including personal information) has been increasing. Any systems failure or compromise of our security that results in the release of our users’ data could seriously harm our reputation and brand and, therefore, our business. A security or privacy breach may:

•  
  cause our customers to lose confidence in our services;

•  
  deter consumers from using our services;

•  
  harm our reputation;

•  
  require that we expend significant additional resources related to our information security systems and result in a disruption of our operations;

•  
  expose us to liability;

•  
  subject us to unfavorable regulatory restrictions and requirements imposed by the Federal Trade Commission or similar authority;

•  
  cause us to incur expenses related to remediation costs; and

•  
  decrease market acceptance of the use of e-commerce transactions.

The risk that these types of events could adversely affect our business is likely to increase as we expand the number of products and services we offer as well as increase the number of countries where we operate, as more opportunities for such breaches of privacy will exist.

Proposed legislation concerning data protection is currently pending at the U.S. federal and state level as well as in certain foreign jurisdictions. In addition, the interpretation and application of data protection laws in Europe, the United States and elsewhere are still uncertain and in flux. It is possible that these laws may be interpreted and

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applied in a manner that is inconsistent with our data practices. If so, in addition to the possibility of fines, this could result in an order requiring that we change our data practices, which could have an adverse effect on our business. Complying with these laws as they evolve could cause us to incur substantial costs or require us to change our business practices in a manner adverse to our business.

We may not be able to protect and enforce our intellectual property rights.

We currently own and maintain approximately 100 U.S. trademark registrations and applications and over 900 foreign trademark registrations and applications. We believe that our trademarks, particularly the “AdultFriendFinder,” “FriendFinder,” “FastCupid,” “Penthouse,” “Penthouse Letters,” “Forum,” and “Variations” names and marks, the One Key Logo, and other proprietary rights are important to our success, potential growth and competitive position. Our inability or failure to protect or enforce these trademarks and other proprietary rights could have a material adverse effect on our business. Accordingly, we devote substantial resources to the establishment, protection and enforcement of our trademarks and other proprietary rights. Our actions to establish, protect and enforce our trademarks and other proprietary rights may not prevent imitation of our products, services or brands or control piracy by others or prevent others from claiming violations of their trademarks and other proprietary rights by us or prevent others from challenging the validity of our trademarks. In addition, the enforcement of our intellectual property rights, including trademark rights, through legal or administrative proceedings would be costly and time-consuming and would likely divert management from their normal responsibilities. An adverse determination in any litigation or other proceeding could put one or more of our intellectual property rights at risk of being invalidated or interpreted narrowly. On April 13, 2011, Facebook, Inc., or Facebook, filed a complaint against us and certain of our subsidiaries in the U.S. District Court for the Northern District of California, alleging trademark infringement. For a description of this complaint, please see “Legal Proceedings” below. There are factors outside of our control that pose a threat to our intellectual property rights. For example, effective intellectual property protection may not be available in every country in which our products and services are distributed or made available through the internet.

Intellectual property litigation could expose us to significant costs and liabilities and thus negatively affect our business, financial condition and results of operations.

We are, from time to time, subject to claims of infringement of third party patents and trademarks and other violations of third party intellectual property rights. For example, on April 13, 2011, Facebook filed a complaint against us and certain of our subsidiaries alleging trademark infringement. For a description of this complaint, please see “Legal Proceedings” below. Intellectual property disputes are generally time-consuming and expensive to litigate or settle, and the outcome of such disputes is uncertain and difficult to predict. The existence of such disputes may require the set-aside of substantial reserves, and has the potential to significantly affect our overall financial standing. To the extent that claims against us are successful, they may subject us to substantial liability, and we may have to pay substantial monetary damages, change aspects of our business model, and/or discontinue any of our services or practices that are found to be in violation of another party’s rights. Such outcomes may severely restrict or hinder ongoing business operations and impact the value of our business. Successful claims against us could also result in us having to seek a license to continue our practices. Under such conditions, a license may or may not be offered or otherwise made available to us. If a license is made available to us, the cost of the license may significantly increase our operating burden and expenses, potentially resulting in a negative effect on our business, financial condition and results of operations.

Although we have been and are currently involved in multiple areas of commerce, internet services, and high technology where there is a substantial risk of future patent litigation, we have not obtained insurance for patent infringement losses. If we are unsuccessful at resolving pending and future patent litigation in a reasonable and affordable manner, it could disrupt our business and operations, including by negatively impacting areas of commerce or putting us at a competitive disadvantage.

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If we are unable to protect the confidentiality of certain information, the value of its products and technology could be materially adversely affected.

Our commercial success depends on our know-how, trade secrets and other intellectual property, including the ability to protect our intellectual property. We rely upon unpatented proprietary technology, processes, know-how and data that we regard as trade secrets, including our proprietary source code for our software systems. We seek to protect our proprietary information in part through confidentiality agreements with employees and others. These agreements may be breached, and we may not have adequate remedies for any such breach. In addition, our trade secrets may otherwise become known or be independently developed by competitors in a manner providing us with no practical recourse against the competing parties. If any such events were to occur, there could be a material adverse effect on our business, financial position, results of operations and future growth prospects.

If we are unable to obtain or maintain key website addresses, our ability to operate and grow our business may be impaired.

Our website addresses, or domain names, are critical to our business. We currently own more than 3,200 domain names. However, the regulation of domain names is subject to change, and it may be difficult for us to prevent third parties from acquiring domain names that are similar to ours, that infringe our trademarks or that otherwise decrease the value of our brands. If we are unable to obtain or maintain key domain names for the various areas of our business, our ability to operate and grow our business may be impaired.

We may have difficulty scaling and adapting our existing network infrastructure to accommodate increased traffic and technology advances or changing business requirements, which could cause us to incur significant expenses and lead to the loss of users and advertisers.

To be successful, our network infrastructure has to perform well and be reliable. The greater the user traffic and the greater the complexity of our products and services, the more computer power we will need. We could incur substantial costs if we need to modify our websites or our infrastructure to adapt to technological changes. If we do not maintain our network infrastructure successfully, or if we experience inefficiencies and operational failures, the quality of our products and services and our users’ experience could decline. Maintaining an efficient and technologically advanced network infrastructure is particularly critical to our business because of the pictorial nature of the products and services provided on our websites. A decline in quality could damage our reputation and lead us to lose current and potential users and advertisers. Cost increases, loss of traffic or failure to accommodate new technologies or changing business requirements could harm our operating results and financial condition.

The loss of our main data center, our backup data center or other parts of our systems and network infrastructure would adversely affect our business.

Our main data center, our backup data center and most of our servers are located at external third-party facilities in Northern California, an area with a high risk of major earthquakes. If our main data center or other parts of our systems and network infrastructure was destroyed by, or suffered significant damage from, an earthquake, fire, flood, lightning, tornado, or other similar catastrophes, or if our main data center was closed because of the operator having financial difficulties, our business would be adversely affected. Our casualty insurance policies may not adequately compensate us for any losses that may occur due to the occurrence of a natural disaster.

Our internet operations are subject to system failures and interruptions that could hurt our ability to provide users with access to our websites, which could adversely affect our business and results of operations.

The uninterrupted performance of our computer systems is critical to the operation of our websites. Our ability to provide access to our websites and content may be disrupted by power losses, telecommunications failures or break-ins to the facilities housing our servers. Our users may become dissatisfied by any disruption or failure of our computer systems that interrupts our ability to provide our content. Repeated or prolonged system failures could substantially reduce the attractiveness of our websites and/or interfere with commercial transactions, negatively affecting our ability to generate revenue. Our websites must accommodate a high volume of traffic and deliver

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regularly-updated content. Some of our network infrastructure is not fully redundant, meaning that we do not have back-up infrastructure on site for our entire network, and our disaster recovery planning cannot account for all eventualities. Our websites have, on occasion, experienced slow response times and network failures. These types of occurrences in the future could cause users to perceive our websites as not functioning properly and therefore induce them to frequent other websites. We are also subject to risks from failures in computer systems other than our own because our users depend on their own internet service providers in order to access our websites and view our content. Our revenue could be negatively affected by outages or other difficulties users experience in accessing our websites due to internet service providers’ system disruptions or similar failures unrelated to our systems. Any disruption in the ability of users to access our websites could result in fewer visitors to our websites and subscriber cancellations or failures to renew, which could adversely affect our business and results of operations. We may not carry sufficient levels of business interruption insurance to compensate us for losses that may occur as a result of any events that cause interruptions in our service.

Because of our adult content, companies providing products and services on which we rely may refuse to do business with us.

Many companies that provide products and services we need are concerned that associating with us could lead to their becoming the target of negative publicity campaigns by public interest groups and boycotts of their products and services. As a result of these concerns, these companies may be reluctant to enter into or continue business relationships with us. For example, some domestic banks have declined providing merchant bank processing services to us and some credit card companies have ceased or declined to be affiliated with us. This has caused us, in some cases, to seek out and establish business relationships with international providers of the services we need to operate our business. There can be no assurance however, that we will be able to maintain our existing business relationships with the companies, domestic or international, that currently provide us with services and products. Our inability to maintain such business relationships, or to find replacement service providers, would materially adversely affect our business, financial condition and results of operations. We could be forced to enter into business arrangements on terms less favorable to us than we might otherwise obtain, which could lead to our doing business with less competitive terms, higher transaction costs and more inefficient operations than if we were able to maintain such business relationships or find replacement service providers.

Changes in laws could materially adversely affect our business, financial condition and results of operations.

Our businesses are regulated by diverse and evolving laws and governmental authorities in the United States and other countries in which we operate. Such laws relate to, among other things, internet, licensing, copyrights, commercial advertising, subscription rates, foreign investment, use of confidential customer information and content, including standards of decency/obscenity and record-keeping for adult content production. Promulgation of new laws, changes in current laws, changes in interpretations by courts and other government officials of existing laws, our inability or failure to comply with current or future laws or strict enforcement by current or future government officers of current or future laws could adversely affect us by reducing our revenue, increasing our operating expenses and/or exposing us to significant liabilities. The following laws relating to the internet, commercial advertising and adult content highlight some of the potential difficulties we face:

•  
  Internet. Several U.S. governmental agencies are considering a number of legislative and regulatory proposals that may lead to laws or regulations concerning different aspects of the internet, including social networking, online content, intellectual property rights, e-mail, user privacy, taxation, access charges, liability for third-party activities and personal jurisdiction. New Jersey enacted the Internet Dating Safety Act in 2008, which requires online dating services to disclose whether they perform criminal background screening practices and to offer safer dating tips on their websites. Other states have enacted or considered enacting similar legislation. While online dating and social networking websites are not currently required to verify the age or identity of their members or to run criminal background checks on them, any such requirements could increase our cost of operations or discourage use of our services. The Children’s Online Privacy Protection Act (COPPA) restricts the ability of online services to collect information from minors. The Protection of Children from Sexual Predators Act of 1998 requires online service providers to report evidence of violations of federal child pornography laws under certain circumstances.

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  In the area of data protection, many states have passed laws requiring notification to users when there is a security breach for personal data, such as California’s Information Practices Act. Congress, the FTC and at least thirty-seven states have promulgated laws and regulations regarding email advertising and the application of such laws and the extent of federal preemptions is still evolving. Under U.S. law, the Digital Millennium Copyright Act has provisions which limit, but do not eliminate, our liability to list or link to third-party websites that include materials that infringe copyrights, so long as we comply with the statutory requirements of this act. Furthermore, the Communications Decency Act (CDA), under certain circumstances, immunizes computer service providers from liability for certain non-intellectual property claims for content created by third parties. The interpretation of the extent of CDA immunity is evolving and we run the risk that in certain instances we may not qualify for such immunity. We face similar risks in international markets where our products and services are offered and may be subject to additional regulations and balkanized laws. The interpretation and application of data protection laws in the United States, Europe and elsewhere are still uncertain and in flux. It is possible that these laws may be interpreted and applied in a manner that is inconsistent with our data practices. If so, in addition to the possibility of fines and other monetary remedies, this could result in an order requiring that we change our data practices. In 2008, Nevada enacted a law prohibiting businesses from transferring a customer’s personal information through an electronic transmission, unless that information is encrypted. In practice, the law requires businesses operating in Nevada to purchase and implement data encryption software in order to send any electronic transmission (including e-mail) that contains a customer’s personal information.

   
  More recently, Massachusetts has adopted regulations, which, like the Nevada law, require businesses to encrypt data sent over the internet. However, these Massachusetts regulations also require encryption of data on laptops and flash drives or other portable devices, and apply to anyone who owns, licenses, stores, or maintains personal information about the state’s residents. Any failure on our part to comply with these regulations may subject us to additional liabilities.

   
  Regulation of the internet could materially adversely affect our business, financial condition and results of operations by reducing the overall use of the internet, reducing the demand for our services or increasing our cost of doing business. Proposed legislation concerning data protection is currently pending at the U.S. federal and state level as well as in certain foreign jurisdictions. Complying with these laws could cause us to incur substantial costs or require us to change our business practices in a manner adverse to our business.

•  
  Commercial advertising. We receive a significant portion of our print publications advertising revenue from companies that sell tobacco products. Significant limitations on the ability of those companies to advertise in our publications or on our websites because of legislative, regulatory or court action could materially adversely affect our business, financial condition and results of operations.

•  
  Adult content. Regulation, investigations and prosecutions of adult content could prevent us from making such content available in certain jurisdictions or otherwise have a material adverse effect on our business, financial condition and results of operations. Government officials may also place additional restrictions on adult content affecting the way people interact on the internet. The governments of some countries, such as China and India, have sought to limit the influence of other cultures by restricting the distribution of products deemed to represent foreign or “immoral” influences. Regulation aimed at limiting minors’ access to adult content both in the United States and abroad could also increase our cost of operations and introduce technological challenges by requiring development and implementation of age verification systems. U.S. government officials could amend or construe and seek to enforce more broadly or aggressively the adult content recordkeeping and labeling requirements set forth in 18 U.S.C. Section 2257 and its implementing regulations in a manner that is unfavorable to our business. Court rulings may place additional restrictions on adult content affecting how people interact on the internet, such as mandatory web labeling.

We could be held liable for any physical and emotional harm caused by our members and subscribers to other members or subscribers.

We cannot control the actions of our members and subscribers in their online behavior or their communication or physical actions with other members or subscribers. There is a possibility that one or more of our members or

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subscribers could be physically or emotionally harmed by the behavior of or following interaction with another of our members or subscribers. We warn our members and subscribers that member profiles are provided solely by third parties, and we are not responsible for the accuracy of information they contain or the intentions of individuals that use our sites. We are also unable to and do not take any action to ensure personal safety on a meeting between members or subscribers arranged following contact initiated via our websites. If an unfortunate incident of this nature occurred in a meeting between users of our websites following contact initiated on one of our websites or a website of one of our competitors, any resulting negative publicity could materially and adversely affect us or the social networking and online personals industry in general. Any such incident involving one of our websites could damage our reputation and our brands. This, in turn, could adversely affect our revenue and could cause the value of our common stock to decline. In addition, the affected members or subscribers could initiate legal action against us, which could cause us to incur significant expense, whether or not we were ultimately successful in defending such action, and damage our reputation.

Our websites may be misused by users, despite the safeguards we have in place to protect against such behavior.

Users may be able to circumvent the controls we have in place to prevent illegal or dishonest activities and behavior on our websites, and may engage in such activities and behavior despite these controls. For example, our websites could be used to exploit children and to facilitate individuals seeking payment for sexual activity and related activities in jurisdictions in which such behavior is illegal. The behavior of such users could injure our other members and may jeopardize the reputation of our websites and the integrity of our brands. Users could also post fraudulent profiles or create false or unauthorized profiles on behalf of other, non-consenting parties. This behavior could expose us to liability or lead to negative publicity that could injure the reputation of our websites and of social networking and online personals websites in general.

Our business is exposed to risks associated with online commerce security and credit card fraud.

Consumer concerns over the security of transactions conducted on the internet or the privacy of users may inhibit the growth of the internet and online commerce. To transmit confidential information such as customer credit card numbers securely, we rely on encryption and authentication technology. Unanticipated events or developments could result in a compromise or breach of the systems we use to protect customer transaction data. Furthermore, our servers may also be vulnerable to viruses and other attacks transmitted via the internet. While we proactively check for intrusions into our infrastructure, a new and undetected virus could cause a service disruption. Under current credit card practices, we may be held liable for fraudulent credit card transactions and other payment disputes with customers. A failure to control fraudulent credit card transactions adequately would adversely affect our business.

If one or more states or countries successfully assert that we should collect sales or other taxes on the use of the internet or the online sales of goods and services, our expenses could increase, resulting in lower margins.

In the United States, federal and state tax authorities are currently exploring the appropriate tax treatment of companies engaged in e-commerce and new state tax regulations may subject us to additional state sales and income taxes, which could increase our expenses and decrease our profit margins. The application of indirect taxes (such as sales and use tax, value added tax, goods and services tax, business tax and gross receipt tax) to e-commerce businesses such as ours and to our users is a complex and evolving issue. Many of the statutes and regulations that impose these taxes were established before the growth in internet technology and e-commerce. In many cases, it is not clear how existing statutes apply to the internet or e-commerce or communications conducted over the internet. In addition, some jurisdictions have implemented or may implement laws specifically addressing the internet or some aspect of e-commerce or communications on the internet. The application of existing or future laws could have adverse effects on our business.

Under current law, as outlined in the U.S. Supreme Court’s decision in Quill Corp. v. North Dakota, 504 U.S. 298 (1992), a seller with substantial nexus (usually defined as physical presence) in its customer’s state is required to collect state (and local) sales tax on sales arranged over the internet (or by telephone, mail order, or other means). In contrast, an out-of-state seller without substantial nexus in the customer’s state is not required to collect the sales tax. The U.S. federal government’s moratorium on states and other local authorities imposing new taxes on internet

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access or multiple or discriminatory taxes on internet commerce is scheduled to expire in October 31, 2014. This moratorium, however, does not prohibit the possibility that U.S. Congress will be willing to grant state or local authorities the authority to require remote (out-of-state) sellers to collect sales and use taxes on interstate sales of goods (including intellectual property) and services over the internet. Several proposals to that extent have been made at the U.S. federal, state and local levels (for example, the Streamlined Sales and the Use Tax initiative). These proposals, if adopted, would likely result in our having to charge state sales tax to some or all of our users in connection with the sale of our products and services, which would harm our business if the added cost deterred users from visiting our websites and could substantially impair the growth of our e-commerce opportunities and diminish our ability to derive financial benefit from our activities.

Certain states, including New York, Illinois, Colorado, North Carolina, Rhode Island and Tennessee, have adopted, or are in the process of adopting, state nexus laws, often referred to as Amazon tax laws, whereby the responsibility to collect sales or use taxes is imposed on an out-of-state- seller which used an in-state resident to solicit business from the residents of that state using internet sites. If it is determined that these laws are applicable to our operations, then we could be required to collect from our customers and remit additional sales or use taxes and, if any state determines that we should have been collecting such taxes previously, we may be subject to past tax, interest, late fees and penalties.

In addition, in 2007 we received a claim from the State of Texas for an immaterial amount relating to our failure to file franchise tax returns for the years 2000 through 2006. We believe that we are not obligated to file franchise tax returns because of the nature of our services provided and the lack of sufficient nexus to the State of Texas. If we are wrong in our assessment or if there is a clarification of the law against us it is possible that such taxes will need to be paid along with other remedies and penalties. We have received and could continue to receive similar inquiries from other states attempting to impose franchise, income or similar taxes on us.

We collect and remit VAT on digital orders from purchasers in most member states of the European Union. There can be no assurance that this increased cost will not adversely affect our ability to attract new subscribers within the European Union or to retain existing subscribers within the European Union and consequently adversely affect our results of operations. Certain member states, including the United Kingdom, have ruled that we are not required to register and account for VAT in their jurisdiction. There can be no assurance that the tax authorities of these jurisdictions will not, at some point in the future, revise their current position and require us to register and account for VAT.

Our liability to tax authorities in the European Union for the failure of Various and its subsidiaries to collect and remit VAT on purchases made by subscribers in the European Union could adversely affect our financial condition and results of operations.

After our acquisition of Various in December 2007, we became aware that Various and its subsidiaries had not collected VAT from subscribers in the European Union nor had Various remitted VAT to the tax jurisdictions requiring it. We have initiated discussions with most tax authorities in the European Union jurisdictions to attempt to resolve liabilities related to Various’ past failure to collect and remit VAT, and while we have resolved such prior liabilities in several jurisdictions on favorable terms, there can be no assurance that we will resolve or reach a favorable resolution in every jurisdiction. If we are unable to reach a favorable resolution with a jurisdiction, the terms of such resolution could adversely affect our financial condition or results of operations. For example, we might be required to pay substantial sums of money without the benefit of a payment deferral plan, which could adversely affect our cash position and impair operations. As of December 31, 2010, the total amount of historical uncollected VAT payments was approximately $39.4 million, including approximately $19.5 million in potential penalties and interest. For more information regarding the potential effect that our VAT liability could have on our operations see the section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources.”

Until we have reached a favorable resolution with a jurisdiction, the jurisdictions might take action against us and against our managers. For example, in an effort to recover VAT payments it claims it is owed, the German tax authority has attempted unsuccessfully to freeze assets in bank accounts maintained by subsidiaries of Various in Germany, and did freeze e610,343 of assets in a bank account in The Netherlands with the cooperation of the Dutch authorities and continues to enlist the Dutch tax authorities to assist in its collection efforts. If another

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jurisdiction were to freeze or seize our cash or other assets, our operations and financial condition could be impaired. In addition, in many jurisdictions the potential exists for criminal investigations or proceedings to be instituted against us and against individual members of prior or current management. Were members of our management to face criminal processes individually, their attention to operational matters could be diverted and their ability to continue to serve in their capacities could be impaired. Were Various or its subsidiaries to face criminal processes, it could result in additional fines and penalties, or substantially interfere with continued operations in such jurisdictions. We are actively engaged in efforts to resolve all issues, but there can be no assurance that we will be able to do so.

Unforeseen liabilities arising from our acquisition of Various could materially adversely affect our financial condition and results of operations.

Our acquisition of Various and its subsidiaries in December 2007 may expose us to undisclosed and unforeseen operating risks and liabilities arising from Various’s operating history. For example, after our acquisition of Various we became aware that VAT had not been collected from subscribers in the European Union and that VAT had not been paid to tax authorities in the European Union. There can be no assurance that other unforeseen liabilities related to the acquisition of Various and its subsidiaries (including, without limitation, VAT issues in other non-European Union jurisdictions) could materialize.

Our recourse for liabilities arising from our acquisition of Various is limited.

Under the agreement pursuant to which we purchased Various and its subsidiaries in December 2007, our sole recourse against the sellers for most losses suffered by us as a result of liabilities was to offset the principal amount of our Subordinated Convertible Notes by the amount of any such losses. The maximum amount of such offset available to us was $175 million. On October 8, 2009, we settled and released all indemnity claims against the sellers (whether the claims were VAT related or not) by reducing the original principal amount of the Subordinated Convertible Notes to $156 million from $170 million. In addition, the sellers agreed to make available to us, to pay VAT and certain VAT-related expenses, $10.0 million cash held in a working capital escrow account established at the closing of the Various transaction. If the actual costs to us of eliminating the VAT liability are less than $29.0 million, after applying amounts from the working capital escrow, then the principal amount of the Non-Cash Pay Second Lien Notes (notes issued in exchange for the Subordinated Convertible Notes in the New Financing) will be increased by the issuance of new Non-Cash Pay Second Lien Notes to reflect the difference between $29.0 million and the actual VAT liability, plus interest on such difference. Accordingly, any additional undisclosed liabilities arising from our acquisition of Various may result in losses that we can no longer attempt to recover from the sellers. Any such liabilities for which we have no recourse could adversely affect our financial condition and results of operations.

In pursuing future acquisitions we may not be successful in identifying appropriate acquisition candidates or consummating acquisitions on favorable or acceptable terms. Furthermore, we may face significant integration issues and may not realize the anticipated benefits of the acquisitions due to integration difficulties or other operating issues.

If appropriate opportunities become available, we may acquire businesses, products or technologies that we believe are strategically advantageous to our business. Transactions of this sort could involve numerous risks, including:

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  unforeseen operating difficulties and expenditures arising from the process of integrating any acquired business, product or technology, including related personnel, and maintaining uniform standards, controls, procedures and policies;

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  diversion of a significant amount of management’s attention from the ongoing development of our business;

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  dilution of existing stockholders’ ownership interests;

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  incurrence of additional debt;

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  exposure to additional operational risks and liabilities, including risks and liabilities arising from the operating history of any acquired businesses;

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•  
  negative effects on reported results of operations from acquisition-related charges and amortization of acquired intangibles;

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  entry into markets and geographic areas where we have limited or no experience;

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  the potential inability to retain and motivate key employees of acquired businesses;

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  adverse effects on our relationships with suppliers and customers; and

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  adverse effects on the existing relationships of any acquired companies, including suppliers and customers.

In addition, we may not be successful in identifying appropriate acquisition candidates or consummating acquisitions on favorable or acceptable terms, or at all. Failure to effectively manage our growth through acquisitions could adversely affect our growth prospects, business, results of operations and financial condition.

Our efforts to capitalize upon opportunities to expand into new markets may fail and could result in a loss of capital and other valuable resources.

One of our strategies is to expand into new markets to increase our revenue base. We intend to identify new markets by targeting identifiable groups of people who share common interests and the desire to meet other individuals with similar interests, backgrounds or traits. Our planned expansion into new markets will occupy our management’s time and attention and will require us to invest significant capital resources. The results of our expansion efforts into new markets are unpredictable and there is no guarantee that our efforts will have a positive effect on our revenue base. We face many risks associated with our planned expansion into new markets, including but not limited to the following:

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  competition from pre-existing competitors with significantly stronger brand recognition in the markets we enter;

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  our erroneous evaluations of the potential of such markets;

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  diversion of capital and other valuable resources away from our core business;

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  foregoing opportunities that are potentially more profitable; and

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  weakening our current brands by over expansion into too many new markets.

We face the risk that additional international expansion efforts and operations will not be effective.

One of our strategies is to increase our revenue base by expanding into new international markets and expanding our presence in existing international markets. Further expansion into international markets requires management time and capital resources. We face the following risks associated with our expansion outside the United States:

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  challenges caused by distance, language and cultural differences;

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  local competitors with substantially greater brand recognition, more users and more traffic than we have;

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  challenges associated with creating and increasing our brand recognition, improving our marketing efforts internationally and building strong relationships with local affiliates;

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  longer payment cycles in some countries;

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  credit risk and higher levels of payment fraud in some countries;

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  different legal and regulatory restrictions among jurisdictions;

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  political, social and economic instability;

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  potentially adverse tax consequences; and

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  higher costs associated with doing business internationally.

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Any remaining indebtedness after this offering could make obtaining additional capital resources difficult and could materially adversely affect our business, financial condition, results of operations and our growth strategy.

We intend to use all of the net proceeds from the sale of the shares of our common stock in this offering to repay some of our existing indebtedness. Based upon an initial offering price of $10.00 per share of common stock, after an aggregate of $40.8 million in principal repayments (and taking into consideration excess cash flow payments of $14.1 million and $0.6 million on our New First Lien Notes and Cash Pay Second Lien Notes, respectively, made in the first fiscal quarter of 2011), the remaining outstanding principal balances will be $251.9 million, $11.4 million and $237.2 million, respectively, under our New First Lien Notes, Cash Pay Second Lien Notes and Non-Cash Pay Second Lien Notes, respectively. We will require additional capital resources after this offering there can be no assurance that such funds will be available to us on favorable terms, or at all. The unavailability of funds could have a material adverse effect on our financial condition, results of operations and ability to expand our operations. Any remaining indebtedness after this offering could materially adversely affect us in a number of ways, including the following:

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  we may be unable to obtain additional financing for working capital, capital expenditures, acquisitions, repayment of debt at maturity and other general corporate purposes;

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  a significant portion of our cash flow from operations must be dedicated to debt service, which reduces the amount of cash we have available for other purposes;

•  
  we may be disadvantaged as compared to our competitors, such as in our ability to adjust to changing market conditions, as a result of the amount of debt we owe;

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  we may be restricted in our ability to make strategic acquisitions and to exploit business opportunities; and

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  additional dilution of stockholders may be required to service our debt.

Moreover, our Indentures contain covenants that limit our actions. These covenants could materially and adversely affect our ability to finance our future operations or capital needs or to engage in other business activities that may be in our best interest. The covenants limit our ability to, among other things:

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  incur or guarantee additional indebtedness;

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  repurchase capital stock;

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  make loans and investments;

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  enter into agreements restricting our subsidiaries’ abilities to pay dividends;

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  grant liens on assets;

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  sell or otherwise dispose of assets;

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  enter new lines of business;

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  merge or consolidate with other entities; and

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  engage in transactions with affiliates.

If we do not maintain certain financial ratios, satisfy certain financial tests and remain in compliance with our Indentures, we may be restricted in the way we run our business.

Our Indentures contain certain financial covenants and restrictions requiring us to maintain specified financial ratios and satisfy certain financial tests. As a result of these covenants and restrictions, we are limited in how we conduct our business and we may be unable to raise additional debt or equity financing, compete effectively or take advantage of new business opportunities.

Our failure to comply with the covenants and restrictions contained in our Indentures could lead to a default under these instruments. If such a default occurs and we are unable to cure such default or obtain a waiver, the holders of the debt in default could accelerate the maturity of the related debt, which in turn could trigger the cross-default and cross-acceleration provisions of our other financing agreements. If any of these events occur, we cannot assure you that we will have sufficient funds available to pay in full the total amount of obligations that become

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due as a result of any such acceleration, or that we will be able to find additional or alternative financing to refinance any such accelerated obligations on terms acceptable to us or on any terms.

We have defaulted on certain terms of our indebtedness in the past and we cannot assure you that we will be able to remain in compliance with these covenants in the future and, if we fail to do so, we cannot assure you that we will be able to cure such default, obtain waivers from the holders of the debt and/or amend the covenants as we have in the past. For more information regarding the potential risks associated with our breach of covenants on certain of our indebtedness see the risk factor entitled “We breached certain covenants contained in our previously existing note agreements and our Indentures. If we were to breach the covenants contained under our Indentures, which include that we must maintain certain financial ratios, satisfy certain financial tests and remain in compliance with our Indentures, we may be restricted in the way we run our business.”

Our business will suffer if we lose and are unable to replace key personnel, in the event that we fail or choose not to pay severance to Messrs. Bell and Staton and they choose to compete against us or solicit our employees or if the other obligations of our key personnel create conflicts of interest or otherwise distract these individuals.

We believe that our ability to successfully implement our business strategy and to operate profitably depends on the continued employment of our executive officers and other key employees. In particular, Marc Bell and Daniel Staton are critical to our overall management and our strategic direction. On or prior to the closing of this offering, we intend to enter into an employment agreement with each of Messrs. Bell and Staton which sets a term of employment and provides for certain bonuses and grants of our stock in order to incentivize performance. However, the executives are free to voluntarily terminate their employment upon 180 days’ prior written notice. Therefore, the agreements do not ensure continued service with us. In the event we do not pay severance to Messrs. Bell and Staton, including under circumstances pursuant to which either of Messrs. Bell or Staton are terminated by us for cause (as defined in their employment agreement) or terminate their employment for good reason (as defined in their employment agreement) and our board of directors fails or chooses not to pay severance to them, Messrs. Bell and Staton will not be subject to a non-compete or a non-solicitation agreement. If that occurs, Messrs. Bell and Staton could immediately compete against us and solicit our employees to work for them. We have not obtained key-man life insurance and there is no guarantee that we will be able to obtain such insurance in the future. Furthermore, most of our key employees are at-will employees. If we lose members of our senior management without retaining replacements, or in the event that we do not pay severance to Messrs. Bell and Staton and they choose to compete against us or solicit our employees to work for them, our business, financial condition and results of operations could be materially adversely affected.

Additionally, Mr. Staton serves as Chairman and Mr. Bell serves as a director of ARMOUR Residential REIT, Inc., or ARMOUR. Staton Bell Blank Check LLC, an entity affiliated with Messrs. Bell and Staton, is contractually obligated to provide services to ARMOUR Residential Management LLC, or ARRM, which entity will manage and advise ARMOUR, pursuant to a sub-management agreement. Staton Bell Blank Check LLC will be receiving a percentage of the net management fees earned by ARRM. Each of Messrs. Bell and Staton is permitted to devote up to twenty percent of his business time to other business activities. We expect that Messrs. Bell and Staton, will devote approximately ten percent of their combined time to ARMOUR. Messrs. Bell and Staton’s service as a director or an affiliate of the sub-manager of ARMOUR could cause them to be distracted from the management of our business and could also create conflicts of interest if they are faced with decisions that could have materially different implications for us and for ARMOUR, such as in the area of potential acquisitions. If such a conflict arises, we believe our directors and officers intend to take all actions necessary to comply with their fiduciary duties to our stockholders, including, where appropriate, abstaining from voting on matters that present a conflict of interest. However, these conflicts of interest, or the perception among investors that conflicts of interest could arise, could harm our business and cause our stock price to fall.

We rely on highly skilled personnel and, if we are unable to attract, retain or motivate key personnel or hire qualified personnel, we may not be able to grow effectively.

Our growth strategy and performance is largely dependent on the talents and efforts of highly skilled individuals. Our success greatly depends on our ability to attract, hire, train, retain and motivate qualified personnel, particularly in sales, marketing, service and support. There can be no assurance that we will be able to successfully

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recruit and integrate new employees. We face significant competition for individuals with the skills required to perform the services we offer and currently we do not have non-compete agreements with a number of our executive officers or key personnel. In addition, in the event we do not pay severance to Messrs. Bell and Staton, including under circumstances pursuant to which either of Messrs. Bell or Staton are terminated by us for cause (as defined in their employment agreement) or terminate their employment for good reason (as defined in their employment agreement) and our board of directors fails or chooses not to pay severance to them, Messrs. Bell and Staton will not be subject to a non-compete or a non-solicitation agreement. If that occurs, Messrs. Bell and Staton could immediately compete against us and solicit our employees to work for them. The loss of the services of our executive officers or other key personnel, particularly if lost to competitors, could materially and adversely affect our business. If we are unable to attract, integrate and retain qualified personnel or if we experience high personnel turnover, we could be prevented from effectively managing and expanding our business.

Moreover, companies in technology industries whose employees accept positions with competitors have in the past claimed that their competitors have engaged in unfair competition or hiring practices. If we received such claims in the future as we seek to hire qualified personnel, it could lead to material litigation. We could incur substantial costs in defending against such claims, regardless of their merit. Competition in our industry for qualified employees is intense, and certain of our competitors may directly target our employees. Our continued ability to compete effectively depends on our ability to attract new employees and to retain and motivate our existing employees.

Workplace and other restrictions on access to the internet may limit user traffic on our websites.

Many offices, businesses, libraries and educational institutions restrict employee and student access to the internet or to certain types of websites, including social networking and personals websites. Since our revenue is dependent on user traffic to our websites, an increase in these types of restrictions, or other similar policies, could harm our business, financial condition and operating results. In addition, access to our websites outside the United States may be restricted by governmental authorities or internet service providers. These restrictions could hinder our growth.

Adverse currency fluctuations could decrease revenue and increase expenses.

We conduct business globally in many foreign currencies, but report our financial results in U.S. dollars. We are therefore exposed to adverse movements in foreign currency exchange rates because depreciation of non-U.S. currencies against the U.S. dollar reduces the U.S. dollar value of the non-U.S. dollar denominated revenue that we recognize and appreciation of non-U.S. currencies against the U.S. dollar increases the U.S. dollar value of expenses that we incur that are denominated in those foreign currencies. Such fluctuations could decrease revenue and increase our expenses. We have not entered into foreign currency hedging contracts to reduce the effect of adverse changes in the value of foreign currencies but may do so in the future.

We are subject to litigation and adverse outcomes in such litigation could have a material adverse effect on our financial condition.

We are party to various litigation claims and legal proceedings including, but not limited to, actions relating to intellectual property, in particular patent infringement claims against us, breach of contract and fraud claims, some of which are described in this prospectus in the section entitled “Legal Proceedings” and the notes to our audited consolidated financial statements, that involve claims for substantial amounts of money or for other relief or that might necessitate changes to our business or operations. The defense of these actions may be both time consuming and expensive.

We evaluate these litigation claims and legal proceedings to assess the likelihood of unfavorable outcomes and to estimate, if possible, the amount of potential losses. Based on these assessments and estimates, we establish reserves and/or disclose the relevant litigation claims or legal proceedings, as appropriate. These assessments and estimates are based on the information available to management at the time and involve a significant amount of management judgment. As a result, actual outcomes or losses may differ materially from those envisioned by our current assessments and estimates. Our failure to successfully defend or settle any of these litigations or legal proceedings could result in liability that, to the extent not covered by our insurance, could have a material adverse

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effect on our financial condition, revenue and profitability and could cause the market value of our common stock to decline.

Industry reports may not accurately reflect the current economic climate.

Because industry reports and publications contain data that has been compiled for prior measurement periods, such reports and publications may not accurately reflect the current economic climate affecting the industry. The necessary lag time between the end of a measured period and the release of an industry report or publication may result in reporting results that, while not inaccurate with respect to the period reported, are out of date with the current state of the industry.

If we have an unfavorable outcome of our pending litigation matter, we may fail to satisfy certain financial covenants which may result in a default under our debt documents.

In December 2007, Broadstream Capital Partners, Inc. filed a lawsuit against us alleging , among other matters, breach of contract, and breach of covenant of good faith and fair dealing, arising out of a document titled “Non-Disclosure Agreement.” Broadstream has alleged, among other things, that Broadstream entered into a Non-Disclosure Agreement with us that required Broadstream’s prior written consent for us to knowingly acquire Various or any of its subsidiaries and that such consent was not obtained.

On July 20, 2009, we entered into an agreement with Broadstream under which, without admitting liability and in addition to paying Broadstream $3.0 million dollars, after January 20, 2011, but no later than January 20, 2012, Broadstream must choose either to refile its complaint in Federal District Court provided that it first repay us the $3.0 million or to demand arbitration. If Broadstream elects arbitration, the parties have agreed that there will be an arbitration award to Broadstream of at least $10.0 million but not more than $47.0 million (in addition to the $3.0 million we have already paid Broadstream). In December 2010, because Broadstream elected arbitration, we recognized a loss in connection with the matter of $13.0 million. In the event that the resolution of the matter results in a liability in excess of $15.0 million (exclusive of the $3.0 million we already paid to Broadstream), it would constitute an event of default under our New First Lien Notes, Cash Pay Second Lien Notes and Non-Cash Pay Second Lien Notes. See the risk factor entitled “We breached certain covenants contained in our previously existing note agreements. If we were to breach the covenants contained under our Indentures, which include that we must maintain certain financial ratios, satisfy certain financial tests and remain in compliance with our Indentures, we may be restricted in the way we run our business.”

If such default occurs and we are unable to cure such default or obtain a waiver, the holders of the debt could accelerate the maturity of the related debt. If this occurs, we cannot assure you that we will have sufficient funds available to pay in full the total amount of obligations that become due as a result of any such acceleration, or that we will be able to find additional or alternative financing to refinance any such accelerated obligations on terms acceptable to us or on any terms.

Risks Related to this Offering

If you purchase shares of our common stock in this offering, you will suffer immediate and substantial dilution in the net tangible book value of your shares and may be subject to additional future dilution.

Prior investors have paid less per share for our common stock than the price in this offering. Immediately after this offering there will be a per share net tangible book value deficiency of our common stock. Therefore, based on an initial offering price of $10.00 per share, if you purchase our common stock in this offering, you will suffer immediate and substantial dilution of approximately $(31.53) per share. If the underwriters exercise their over-allotment option, or if outstanding options and warrants to purchase our common stock are exercised, or if additional Series A Convertible Preferred Stock, or if the remaining Series B common stock or our Non-Cash Pay Second Lien Notes are converted into shares of common stock, the amount of your dilution may be affected. Any future equity issuances and the future exercise of employee stock options granted pursuant to our 2008 Stock Option Plan and 2009 Restricted Stock Plan will also affect the amount of dilution to holders of our common stock.

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Our executive officers, directors and principal stockholders will continue to own a substantial percentage of our common stock after this offering, which will likely allow them to control matters requiring stockholder approval. They could make business decisions for us with which you disagree and that cause our stock price to decline.

Upon the closing of this offering, our executive officers, directors and principal stockholders will beneficially own approximately 75% of our common stock, including shares of common stock issuable upon the exercise, exchange, or conversion, as applicable, of our warrants, Series B common stock, Series A Convertible Preferred Stock and Non-Cash Pay Second Lien Notes that are exercisable or exchangeable for, or convertible into, shares of our common stock within 60 days of the date of this prospectus. As a result, if they act in concert, they could control matters requiring approval by our stockholders, including the election of directors, and could have the ability to prevent or approve a corporate transaction, even if other stockholders, including those who purchase shares in this offering, oppose such action. This concentration of voting power could also have the effect of delaying, deterring, or preventing a change of control or other business combination, which could cause our stock price to decline.

There are a large number of shares of common stock underlying our warrants, Series A Convertible Preferred Stock and the Non-Cash Pay Second Lien Notes, which may be available for future sale and may cause the prevailing market price of our common stock to decrease and impair our capital raising abilities.

Immediately following this offering, we will have 26,724,598 shares of common stock outstanding, based on the assumptions we have made with respect to our outstanding securities. For more information see the section entitled “Prospectus Summary — The Offering.” We will also have an additional 98,242,437 shares of our common stock, and 21,111,876 shares of preferred stock, authorized and available for issuance, which we may, in general, issue without any action or approval by our stockholders, including in connection with acquisitions or otherwise except as required by relevant stock exchange requirements.

The 5,000,000 shares sold in this offering will be freely tradable, except for any shares purchased by our “affiliates” as defined in Rule 144 under the Securities Act of 1933, as amended. Holders of at least 20,917,936 of the other shares outstanding or convertible into our common stock have agreed with the underwriters, subject to certain exceptions and extensions, not to dispose of any of their securities for a period of 180 days following the date of this prospectus, except with the prior written consent of the underwriters. For more information regarding this lock-up, see the section entitled “Underwriting — No Sales of Similar Securities.” After the expiration of this 180-day lock-up period, these shares may be sold in the public market, subject to prior registration or qualification for an exemption from registration, including, in the case of shares held by our affiliates, compliance with the volume restrictions of Rule 144. The holders of 6,328,239 shares issued or issuable upon exercise of our warrants, as well as the holders of our Series A Convertible Preferred Stock convertible into 1,571,784 shares and holders of the Non-Cash Pay Second Lien Notes convertible into 8,310,763 shares (based on the initial offering price on the front cover of this prospectus), are also entitled to certain piggy back registration rights with respect to the public resale of their shares. In addition, following this offering, we intend to file a registration statement covering the shares issuable under our 2008 Stock Option Plan and our 2009 Restricted Stock Plan.

The market price for our common stock could decline as a result of sales of a large number of shares of our common stock in the market after this offering, and even the perception that these sales could occur may depress the market price. The sale of shares issued upon the exercise or conversion of our derivative securities could also further dilute your investment in our common stock. Further, the sale of any of the foregoing shares could impair our ability to raise capital through the sale of additional equity securities.

Public interest group actions targeted at our stockholders may cause the prevailing market price of our common stock to decrease and impair our capital raising abilities.

Public interest groups may target our stockholders, particularly institutional stockholders, seeking to cause those stockholders to divest their holdings of our securities because of the adult-oriented nature of parts of our business. The sale by any institutional investor of its holdings of our common stock, and the reluctance of other institutional investors to invest in our securities, because of such public interest group actions, or the threat of such actions, could cause the market price of our common stock to decline and could impair our ability to raise capital through the sale of additional equity securities.

34



We will incur increased costs as a result of being a public company.

As a public company, we will incur increased legal, accounting and other costs not incurred as a private company. The Sarbanes-Oxley Act of 2002 and related rules and regulations of the SEC and Nasdaq Global Market regulate the corporate governance practices of public companies. We expect that compliance with these requirements will increase our expenses and make some activities more time consuming than they have been in the past when we were a private company. Although we are currently unable to estimate these increased costs with any degree of certainty, such additional costs going forward could negatively impact our financial results.

Failure to achieve and maintain effective internal controls in accordance with Section 404 of the Sarbanes-Oxley Act could have a material adverse effect on our ability to produce accurate financial statements and on our stock price.

Pursuant to Section 404 of the Sarbanes-Oxley Act of 2002, we will be required to furnish a report by our management on our internal control over financial reporting. We have not been subject to these requirements in the past. The internal control report must contain (a) a statement of management’s responsibility for establishing and maintaining adequate internal control over financial reporting, (b) a statement identifying the framework used by management to conduct the required evaluation of the effectiveness of our internal control over financial reporting, and (c) management’s assessment of the effectiveness of our internal control over financial reporting as of the end of our most recent fiscal year, including a statement as to whether or not internal control over financial reporting is effective.

To achieve compliance with Section 404 within the prescribed period, we will be engaged in a process to document and evaluate our internal control over financial reporting, which is both costly and challenging. In this regard, we will need to dedicate internal resources, engage outside consultants and adopt a detailed work plan to (a) assess and document the adequacy of internal control over financial reporting, (b) take steps to improve control processes where appropriate, (c) validate through testing that controls are functioning as documented, and (d) implement a continuous reporting and improvement process for internal control over financial reporting. Despite our efforts, we can provide no assurance as to our, or our independent registered public accounting firm’s, conclusions with respect to the effectiveness of our internal control over financial reporting under Section 404. There is a risk that neither we nor our independent registered public accounting firm will be able to conclude within the prescribed timeframe that our internal controls over financial reporting are effective as required by Section 404. This could result in an adverse reaction in the financial markets due to a loss of confidence in the reliability of our financial statements.

We do not intend to pay dividends in the foreseeable future.

You should not rely on an investment in our common stock to provide dividend income. We do not currently pay any cash dividends on our common stock and do not anticipate paying any cash dividends in the foreseeable future. We intend to retain future earnings to fund our growth and repay existing indebtedness. In addition, our ability to pay dividends is prohibited by the terms of our currently outstanding notes and we expect that any future credit facility will contain terms prohibiting or limiting the amount of dividends that may be declared or paid on our common stock. Accordingly, you will receive a return on your investment in our common stock only if our common stock appreciates in value. You may therefore not realize a return on your investment even if you sell your shares.

Our stock price may be volatile, and you may not be able to resell shares of our common stock at or above the price you paid.

Prior to this offering, our common stock has not been traded in a public market. We cannot predict the extent to which a trading market will develop or how liquid that market might become. The initial public offering price will be determined by negotiation between the representatives of the underwriters and us and may not be indicative of prices that will prevail in the trading market. The trading price of our common stock following this offering is therefore likely to be highly volatile and could be subject to wide fluctuations in price in response to various factors, some of which are beyond our control. These factors include:

•  
  Quarterly variations in our results of operations or those of our competitors.

35



•  
  Announcements by us or our competitors of acquisitions, new products, significant contracts, commercial relationships or capital commitments.

•  
  Disruption to our operations or those of our marketing affiliates.

•  
  The emergence of new sales channels in which we are unable to compete effectively.

•  
  Our ability to develop and market new and enhanced products on a timely basis.

•  
  Commencement of, or our involvement in, litigation.

•  
  Any major change in our board or management.

•  
  Changes in governmental regulations or in the status of our regulatory approvals.

•  
  Changes in earnings estimates or recommendations by securities analysts.

•  
  General economic conditions and slow or negative growth of related markets.

In addition, the stock market in general, and the market for technology companies in particular, have experienced extreme price and volume fluctuations that have often been unrelated or disproportionate to the operating performance of those companies. Such fluctuations may be even more pronounced in the trading market shortly following this offering. These broad market and industry factors may seriously harm the market price of our common stock, regardless of our actual operating performance. In addition, in the past, following periods of volatility in the overall market and the market price of a company’s securities, securities class action litigation has often been instituted against these companies. This litigation, if instituted against us, could result in substantial costs and a diversion of our management’s attention and resources.

Anti-takeover provisions in our articles of incorporation and bylaws or provisions of Nevada law could prevent or delay a change in control, even if a change of control would benefit our stockholders.

Provisions of our articles of incorporation and bylaws, as well as provisions of Nevada law, could discourage, delay or prevent a merger, acquisition or other change in control, even if a change in control would benefit our stockholders. These provisions:

•  
  establish advance notice requirements for nominations for election to the board of directors or for proposing matters that can be acted upon by stockholders at stockholder meetings;

•  
  authorize our board of directors to issue “blank check” preferred stock to increase the number of outstanding shares and thwart a takeover attempt;

•  
  require the written request of at least 75% of the voting power of our capital stock in order to compel management to call a special meeting of the stockholders; and

•  
  prohibit stockholder action by written consent and require that all stockholder actions be taken at a meeting of our stockholders, unless otherwise specifically required by our articles of incorporation or the Nevada Revised Statutes.

In addition, the Nevada Revised Statutes contain provisions governing the acquisition of a controlling interest in certain Nevada corporations. These laws provide generally that any person that acquires 20% or more of the outstanding voting shares of certain Nevada corporations in the secondary public or private market must follow certain formalities before such acquisition or they may be denied voting rights, unless a majority of the disinterested stockholders of the corporation elects to restore such voting rights in whole or in part. These laws will apply to us if we have 200 or more stockholders of record, at least 100 of whom have addresses in Nevada, unless our articles of incorporation or bylaws in effect on the tenth day after the acquisition of a controlling interest provide otherwise. These laws provide that a person acquires a “controlling interest” whenever a person acquires shares of a subject corporation that, but for the application of these provisions of the Nevada Revised Statutes, would enable that person to exercise (1) one-fifth or more, but less than one-third, (2) one-third or more, but less than a majority or (3) a majority or more, of all of the voting power of the corporation in the election of directors. Once an acquirer crosses one of these thresholds, shares which it acquired in the transaction taking it over the threshold and within the 90

36




days immediately preceding the date when the acquiring person acquired or offered to acquire a controlling interest become “control shares.” These laws may have a chilling effect on certain transactions if our articles of incorporation or bylaws are not amended to provide that these provisions do not apply to us or to an acquisition of a controlling interest, or if our disinterested stockholders do not confer voting rights in the control shares. For more information regarding the specific provisions of Nevada corporate law to which we are subject see the section entitled “Description of Capital Stock — Nevada Anti-Takeover Laws and Certain Articles and Bylaws Provisions.”

Nevada law also provides that if a person is the “beneficial owner” of 10% or more of the voting power of certain Nevada corporations, such person is an “interested stockholder” and may not engage in any “combination” with the corporation for a period of three years from the date such person first became an interested stockholder, unless the combination or the transaction by which the person first became an interested stockholder is approved by the board of directors of the corporation before the person first became an interested stockholder. Another exception to this prohibition is if the combination is approved by the affirmative vote of the holders of stock representing a majority of the outstanding voting power not beneficially owned by the interested stockholder at a meeting called for that purpose, no earlier than three years after the date that the person first became an interested stockholder. These laws generally apply to Nevada corporations with 200 or more stockholders of record, but a Nevada corporation may elect in its articles of incorporation not to be governed by these particular laws. We have made such an election in our amended and restated articles of incorporation.

Nevada law also provides that directors may resist a change or potential change in control if the directors determine that the change is opposed to, or not in the best interest of, the corporation.

37



FORWARD-LOOKING STATEMENTS

This prospectus contains certain forward-looking statements. These forward-looking statements can be identified by the fact that they do not relate strictly to historical or current facts. Generally, the inclusion of the words “believe,” “expect,” “potential,” “may,” “should,” “plan,” “intend,” “estimate,” “anticipate,” “will,” and similar expressions also identify statements that constitute forward-looking statements. These forward-looking statements appear in a number of places throughout this prospectus and include statements regarding our intentions, beliefs, projections, outlook, analyses or current expectations concerning, among other things, our results of operations, financial condition, liquidity, prospects, growth, strategies, the industry in which we operate and the trends that may affect our industry. We have based these forward-looking statements largely on our current expectations and projections about future events and financial trends that we believe may affect our financial condition, results of operations, business strategy, short term and long term business operations and objectives and financial needs.

By their nature, forward-looking statements involve risks and uncertainties because they relate to events, competitive dynamics, customer and industry change and depend on the economic or technological circumstances that may or may not occur in the future or may occur on longer or shorter timelines than anticipated. We caution the investors that the forward-looking statements are not guarantees of future performance and that our actual results of operations, financial condition and liquidity and the development of the industry or results in which we operate may differ materially from those made in or suggested by the forward-looking statements contained in this prospectus. In addition, even if our results of operations, financial condition and liquidity and the development of the industry in which we operate are consistent with the forward-looking statements contained in this prospectus, they may not be predictive of results or developments in future periods.

Any or all of our forward-looking statements in this prospectus may turn out to be incorrect. They can be affected by inaccurate assumptions we might make or by known or unknown risks and uncertainties. Many of these factors will be important in determining future results. Consequently, no forward-looking statement can be guaranteed. Actual future results may vary materially.

Except as may be required under the federal securities laws, we undertake no obligation to publicly update forward-looking statements, whether as a result of new information, future events or otherwise. Under the caption “Risk Factors,” we provide a cautionary discussion of risks, uncertainties and possibly inaccurate assumptions relevant to our business. These are factors that we think could cause our actual results to differ materially from expected and historical results. Other factors besides those listed in the section entitled “Risk Factors” could also adversely affect us.

The following list represents some, but not necessarily all, of the factors that may cause our actual results to differ from those anticipated or predicted:

•  
  our history of significant operating losses and the risk of incurring additional net losses in the future;

•  
  our reliance on subscribers to our websites for most of our revenue;

•  
  competition from other social networking, internet personals and adult-oriented websites;

•  
  our reliance on our affiliate network to drive traffic to our websites;

•  
  increased subscriber churn or subscriber upgrade and retention costs’ impact on our financial performance;

•  
  our ability to generate significant revenue from internet advertising;

•  
  our ability to maintain and enhance our brands;

•  
  unfavorable economic and market conditions;

•  
  our reliance on credit cards as a form of payment;

•  
  our ability to keep up with new technologies and remain competitive;

•  
  we may be held secondarily liable for the actions of our affiliates;

38



•  
  our history of breaching certain covenants in our note agreements and the risk of future breaches;

•  
  our reliance on member-generated content to our websites;

•  
  security breaches may cause harm to our subscribers or our systems;

•  
  we may be subject to liability arising from our media content;

•  
  our ability to safeguard the privacy of the users of our websites;

•  
  our ability to enforce and protect our intellectual property rights;

•  
  we may be subject to claims that we have violated the intellectual property rights of others;

•  
  our ability to obtain or maintain key website addresses;

•  
  our ability to scale and adapt our network infrastructure;

•  
  the loss of our main data center or backup data center or other parts of our infrastructure;

•  
  systems failures and interruptions in our ability to provide access to our websites and content;

•  
  companies providing products and services on which we rely may refuse to do business with us;

•  
  changes in government laws affecting our business;

•  
  we may be liable if one of our members or subscribers harms another or misuses our websites;

•  
  risks associated with additional taxes being imposed by any states or countries;

•  
  we may have unforeseen liabilities from our acquisition of Various and our recourse may be limited;

•  
  we may not be successful in integrating any future acquisitions we make;

•  
  risks of international expansion;

•  
  any debt outstanding after the consummation of this offering could restrict the way we do business;

•  
  failure to maintain financial ratios;

•  
  our reliance on key personnel;

•  
  our ability to attract internet traffic to our websites;

•  
  risks associated with currency fluctuations; and

•  
  risks associated with our litigation and legal proceedings.

39



MARKET AND INDUSTRY DATA

This prospectus includes estimates of market share and industry data that we obtained from industry publications and surveys and internal company sources.

The market data and other statistical information used throughout this prospectus are based on third parties’ reports and independent industry publications. The reports and industry publications used by us to determine market share and industry data contained in this prospectus have been obtained from sources believed to be reliable. We have compiled and extracted the market share data and industry data, but have not independently verified the data provided by third parties or industry or general publications. Statements as to our market position are based on market data currently available to us. While we are not aware of any misstatements regarding our industry data presented in this prospectus, our estimates involve risks and uncertainties and are subject to change based on a variety of factors, including those discussed under the section entitled “Risk Factors” in this prospectus.

40



USE OF PROCEEDS

Based upon an initial offer price of $10.00 per share, we estimate that our net proceeds from the sale of the 5,000,000 shares of our common stock in this offering will be $44.9 million, or $51.8 million if the underwriters exercise their option to purchase additional shares in full. “Net proceeds” is what we expect to receive after paying the underwriters’ discounts and commissions and other expenses of the offering.

Assuming the underwriters do not exercise their over-allotment option, we have assumed gross offering proceeds of $50.0 million, less underwriting fees and commissions of approximately 7.25% of the gross proceeds, or $3.6 million, and other offering expenses incurred since our new financing of $1.5 million, resulting in $44.9 million of net proceeds. We intend to use such net proceeds to repay $39.0 million in principal amount of our New First Lien Notes and $1.8 million Cash Pay Second Lien Notes at a redemption price of 110%. As of May 9, 2011, Mr. Bell, our Chief Executive Officer, President and a director, and Mr. Staton, our Chairman of the Board and Treasurer, beneficially own $3.6 million and $3.6 million, respectively, of the New First Lien Notes and $6.6 million and $6.6 million, respectively, of the Cash Pay Second Lien Notes. After giving effect to this offering and application of the proceeds from this offering to repay a portion of our New First Lien Notes and our Cash Pay Second Lien Notes, based upon an initial offering price of $10.00 per share of common stock. Messrs. Bell and Staton will beneficially own $3.1 million and $3.1 million, respectively, of our New First Lien Notes and $5.7 million and $5.7 million, respectively, of our Cash Pay Second Lien Notes. Pursuant to the indentures governing the New First Lien Notes and Cash Pay Second Lien Notes, $17.2 million will be payable to our affiliates, including $3.0 million to affiliates of Messrs. Bell and Staton.

As of December 31, 2010, we had $305.0 million of New First Lien Notes and $13.8 million of Cash Pay Second Lien Notes outstanding. The New First Lien Notes and Cash Pay Second Lien Notes have a stated maturity date of September 30, 2013. Interest on the New First Lien Notes and Cash Pay Second Lien Notes accrues at a rate per annum equal to 14%. As of December 31, 2010, there was no accrued and unpaid interest on the New First Lien Notes and Cash Pay Second Lien Notes.

The underwriters’ over-allotment option, if exercised in full, provides for the issuance of up to 750,000 additional shares of our common stock, for additional net proceeds of $7.0 million, based upon an initial offering price of $10.00 per share of common stock. Any proceeds obtained upon exercise of the over-allotment option will be used to repay debt, as described above.

41



DIVIDEND POLICY

We have never paid or declared dividends on our common stock. Furthermore, we are prohibited by the provisions in our Indentures, on declaring dividends. In addition we expect that any future credit facility will contain terms prohibiting or limiting the amount of dividends that may be declared or paid on our common stock. We do not anticipate that we will pay any dividends to holders of our common stock in the foreseeable future, as we currently plan to retain any earnings to fund our future growth and repay existing indebtedness. Payments of any cash dividends in the future, however, is within the discretion of our board of directors and will depend on our financial condition, results of operations and capital and legal requirements as well as other factors deemed relevant by our board of directors.

42



CAPITALIZATION

Please read the following capitalization table together with the sections entitled “Selected Consolidated Financial Data” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and related notes included elsewhere in this prospectus.

The following table sets forth our cash, excluding restricted cash, and our consolidated capitalization as of December 31, 2010:

•  
  on an actual, historical basis;

•  
  on a pro forma basis reflecting (i) the issuance of 428,668 shares of common stock upon the conversion of 378,579 outstanding shares of our Series A Preferred Stock (the holders of which have notified us in writing that they intend to exercise their option to convert effective upon the consummation of this offering), (ii) the issuance of 8,444,853 shares of common stock upon the conversion of all of the outstanding shares of our Series B Convertible Preferred Stock (the holders of which have notified us in writing that they intend to exercise their option to convert effective upon the consummation of this offering), (iii) the issuance of 1,806,860 shares of common stock upon the exchange of 1,806,860 outstanding shares of our Series B common stock (the holders of which have notified us in writing that they intend to exercise their option to exchange), (iv) the issuance of 4,526,471 shares of common stock underlying 4,003,898 outstanding warrants with an exercise price of $0.0002 per share, which if not exercised will expire upon the closing of this offering (collectively, the “Conversions”); and (v) the principal repayment on our New First Lien Notes and our Cash Pay Second Lien Notes of $14.1 million and $0.6 million respectively in the first fiscal quarter of 2011 from excess cash flows of $15 million and the resultant approximately $1.6 million expense on repayment of debt including, a 2% repayment premium writeoff of deferred debt costs and discount, net of related deferred tax effect; and

•  
  on a pro forma as adjusted basis reflecting (i) all of the foregoing pro forma adjustments, (ii) the sale of 5,000,000 shares of our common stock in this offering at the initial offering price of $10.00 per share after deducting underwriting discounts and commissions of $3.6 million and related estimated offering expenses of $14.8 million (including $13.3 million incurred as of and paid at December 31, 2010) and giving effect to the receipt of the estimated proceeds of $44.9 million (which, is net of underwriting discount of $3.6 million and estimated offering expenses incurred since our new financing of $1.5 million), (iii) recognition of the contingent embedded beneficial conversion feature contained in the Non-Cash Pay Second Lien Notes of approximately $13.0 million with the resultant increase in capital in excess of par value and decrease in the carrying value of the Non-Cash Pay Second Lien Notes, (iv) the repayment of principal on our New First Lien Notes and our Cash Pay Second Lien Notes of $39.0 million and $1.8 million, respectively, and the resultant $7.8 million loss on extinguishment of debt (which include a 10% repayment premium as well as writeoff of deferred debt costs and discount), net of related deferred tax effect, and (v) $2.0 million of cumulative compensation expense and related increase in capital in excess of par value related to stock options deemed granted upon the completion of an IPO based on an assumed initial offering price of $10.00 per share.

        As of December 31, 2010
   
        Actual
    Pro Forma
    Pro Forma
as Adjusted
        (unaudited)
(dollars in thousands except share data)
   
Cash
              $ 34,585          $ 19,537          $ 19,537   
New First Lien Notes, net of unamortized discount of $10,974, $10,466 pro forma and $9,062 pro forma as adjusted
                 294,026             280,418             242,790   
Cash Pay Second Lien Notes, net of unamortized discount of $262, $250 pro forma and $216 pro forma as adjusted
                 13,516             12,890             11,160   
Non-Cash Pay Second Lien Notes, net of unamortized discount of $20,986, $20,986 pro forma and $33,954 pro forma as adjusted
                 216,225             216,225             203,257   
Other, net of unamortized discount of $457
                 1,793             1,793             1,793   
Total Indebtedness
                 525,560             511,326             459,000   

43



        As of December 31, 2010
   
        Actual
    Pro Forma
    Pro Forma
as Adjusted
        (unaudited)
(dollars in thousands except share data)
   
Stockholders’ Deficiency
                                                    
Preferred stock, $0.001 par value — authorized 22,500,000 shares; issued and outstanding 10,211,556, 1,388,124 pro forma and pro forma as adjusted
                                                       
Series A Convertible Preferred Stock, $0.001 per share — authorized 2,500,000 shares; issued and outstanding 1,766,703, 1,388,124 pro forma and pro forma as adjusted (liquidation preference $21,000 actual, $16,500 pro forma and pro forma as adjusted)
                 2              1              1    
Series B Convertible Preferred Stock, $0.001 per share — authorized 10,000,000 shares; issued and outstanding 8,444,853 (liquidation preference $5,000), none pro forma and none pro forma as adjusted
                 8                              
Common stock, $0.001 par value — authorized 125,000,000 shares
                                                    
Common stock voting — authorized 112,500,000 shares, issued and outstanding 6,517,746, 21,724,598 shares pro forma and 26,724,598 pro forma as adjusted
                 6              22              27    
Series B common stock non-voting — authorized 12,500,000 shares; issued and outstanding 1,839,825 shares, 32,965 pro forma and pro forma as adjusted
                 2                              
Capital in excess of par value
                 80,823             80,819             127,364   
Accumulated deficit
                 (230,621 )            (232,254 )            (242,007 )  
Total stockholders’ deficiency
                 (149,780 )            (151,412 )            (114,615 )  
Total Capitalization
              $ 375,780          $ 359,914          $ 344,385   
 

44



DILUTION

If you invest in our common stock, your interest will be diluted to the extent of the difference between the initial public offering price per share and the net tangible book value per share of the common stock after this offering. Our net tangible book value deficiency as of December 31, 2010 after giving effect to: (i) the issuance of 428,668 shares of common stock upon the conversion of 378,579 outstanding shares of our Series A Preferred Stock (the holders of which have notified us in writing that they intend to exercise their option to convert effective upon the consummation of this offering), (ii) the issuance of 8,444,853 shares of common stock upon the conversion of all of the outstanding shares of the Series B Convertible Preferred Stock (the holders of which have notified us in writing that they intend to exercise their option to convert effective upon the consummation of this offering), (iii) the issuance of 1,806,860 shares of common stock upon the exchange of 1,806,860 of the outstanding shares of our Series B common stock (the holders of which have notified us in writing that they intend to exercise their option to exchange), and (iv) the issuance of 4,526,421 shares of common stock underlying 4,003,898 outstanding warrants with an exercise price of $0.0002 per share, which if not exercised will expire upon the closing of this offering, would have been $(628.2) million, or $(28.92) per share of common stock based on 21,724,598 shares outstanding before this offering. Net tangible book value deficiency per share represents the amount that the total liabilities and the liquidation preference ($16.5 million) of the Series A Convertible Preferred Stock exceeds total tangible assets, divided by the number of shares of common stock that are outstanding.

After giving effect to the sale by us of 5,000,000 shares of common stock at an initial public offering price of $10.00 per share and after deducting the estimated underwriting discounts and commissions and offering expenses and prepaying a portion of our New First Lien Notes and our Cash Pay Second Lien Notes, as further described in the section entitled “Use of Proceeds,” the adjusted net tangible book value deficiency as of December 31, 2010 would have been $(575.3) million, or $(21.53) per share. This represents an immediate decrease in net tangible book value deficiency of $7.39 per share to existing stockholders and an immediate and substantial dilution of $(31.53) per share to investors purchasing common stock in this offering. The following table illustrates this per share dilution:

Initial public offering price per share
                               $ 10.00   
Net tangible book value deficiency per share as of December 31, 2010
              $ (28.92 )                  
Decrease in net tangible book value deficiency attributable to new investors
              $ 7.39                   
Adjusted net tangible book value deficiency per share after this offering
                               $ (21.53 )  
Dilution per share to new investors
                               $ (31.53 )  
 

The following table summarizes on an as adjusted basis as of December 31, 2010 the difference between the number of shares of common stock purchased from us, the total consideration paid to us and the average price per share paid by existing stockholders and to be paid by new investors in this offering at an initial public offering price of $10.00 per share, calculated before deduction of estimated underwriting discounts and commissions.

        Shares Purchased
    Total Consideration
   
        Amount
    Percent
    Amount
    Percent
    Average
price per
share
        (in thousands, except per share data)    
Existing stockholders
                 21,724             81 %         $ 22,842             31 %         $ 1.05   
Investors in this offering
                 5,000             19 %            50,000             69 %         $ 10.00   
Total
                 26,724             100 %         $ 72,842             100 %                  
 

45



SELECTED CONSOLIDATED FINANCIAL DATA

The following tables set forth selected historical consolidated financial data of the Company as of the dates and for the periods indicated. The statement of operations data for the years ended December 31, 2010, 2009 and 2008 as well as the balance sheet data as of December 31, 2010 and 2009 are derived from our audited consolidated financial statements also included as part of this prospectus. The statement of operations data for the years ended December 31, 2007 and 2006 and the balance sheet data as of December 31, 2008, 2007 and 2006 are derived from our audited consolidated financial statements which are not contained in this prospectus. The audited consolidated financial statements are prepared in accordance with GAAP and have been audited by EisnerAmper LLP, an independent registered public accounting firm.

These historic results are not necessarily indicative of results for any future period. You should read the following selected financial data in conjunction with the section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the financial statements and related notes included elsewhere in this prospectus.

        Consolidated Data
   
        Year Ended December 31,
   
        2010
    2009
    2008(1)
    2007(1)
    2006
        (in thousands, except per share data)
   
Statements of Operations and Per Share Data:
                                                                                      
Net revenue
              $ 345,997          $ 327,692          $ 331,017          $ 48,073          $ 29,965   
Cost of revenue
                 110,490             91,697             96,514             23,330             15,927   
Gross profit
                 235,507             235,995             234,503             24,743             14,038   
Operating expenses
                                                                                       
Product development
                 12,834             13,500             14,553             1,002                
Selling and marketing
                 37,258             42,902             59,281             7,595             1,430   
General and administrative
                 79,855             76,863             88,280             24,466             24,354   
Amortization of acquired intangibles and software
                 24,461             35,454             36,347             2,262                
Depreciation and other amortization
                 4,704             4,881             4,502             2,829             3,322   
Impairment of goodwill
                                           9,571             925              22,824   
Impairment of other intangible assets
                 4,660             4,000             14,860             5,131                
Total operating expenses
                 163,772             177,600             227,394             44,210             51,930   
Income (loss) from operations.
                 71,735             58,395             7,109             (19,467 )            (37,892 )  
Interest expense, net of interest income
                 (88,508 )            (92,139 )            (80,510 )            (15,953 )            (7,918 )  
Other finance expenses
                 (4,562 )                                                      
Interest and penalties related to VAT liability not charged to customers
                 (2,293 )            (4,205 )            (8,429 )            (1,592 )               
Net loss on extinguishment and modification of debt
                 (7,457 )            (7,240 )                                      (3,799 )  
Foreign exchange gain (loss) principally related to VAT liability not charged to customers
                 610              (5,530 )            15,195             546                 
Gain on elimination of liability for United Kingdom VAT not charged to customers
                              1,561                                          
Gain on settlement of VAT liability not charged to customers
                              232              2,690                             
Gain on liability related to warrants
                 38              2,744                                          
Other non-operating (expense) income, net
                 (13,202 )            (366 )            (197 )            119              (332 )  
Loss before income tax benefit
                 (43,639 )            (46,548 )            (64,142 )            (36,347 )            (49,941 )  
Income tax benefit
                 486              5,332             18,176             6,430                
Net loss
                 (43,153 )            (41,216 )            (45,966 )            (29,917 )            (49,941 )  

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        Consolidated Data
   
        Year Ended December 31,
   
        2010
    2009
    2008(1)
    2007(1)
    2006
        (in thousands, except per share data)
   
Non-cash dividends on convertible preferred stock
                                                        (4,396 )               
Net loss attributable to common stock
              $ (43,153 )         $ (41,216 )         $ (45,966 )         $ (34,313 )         $ (49,941 )  
Net loss per common share — basic and diluted(2)
              $ (3.14 )         $ (3.00 )         $ (3.35 )         $ (5.19 )         $ (8.99 )  
Weighted average common shares outstanding — basic and diluted(2)
                 13,735             13,735             13,735             6,610             5,554   
Pro forma net loss per common share — basic and diluted(3)
              $ (1.37 )                                                                  
Pro forma weighted average common shares outstanding — basic and diluted(3)
                 27,703                                                                   
 

        Consolidated Data(1)
   
        As of December 31,
   
        2010
    2009
    2008(2)
    2007(2)
    2006
        (in thousands)    
Consolidated Balance Sheet Data (at period end):
                                                       
Cash and restricted cash
              $ 41,970          $ 28,895          $ 31,565          $ 23,722          $ 2,998   
Total assets
                 532,817             551,881             599,913             649,868             70,770   
Long-term debt classified as current due to events of default, net of unamortized discount(4)
                                           415,606             417,310                
Long-term debt, net of unamortized discount
                 510,551             432,028             38,768             35,379             63,166   
Deferred revenue
                 48,302             46,046             42,814             27,214             6,974   
Total liabilities
                 682,597             657,523             657,998             661,987             91,516   
Redeemable preferred stock
                              26,000             26,000             26,000             21,000   
Accumulated deficit
                 (230,621 )            (187,468 )            (144,667 )            (98,701 )            (68,784 )  
Total stockholders’ deficiency
                 (149,780 )            (131,642 )            (84,085 )            (38,119 )            (41,746 )  
 

        Consolidated Data
   
        Year Ended December 31,
   
        2010
    2009
    2008(1)
    2007(1)
    2006
        (in thousands)    
Other Data
                                                                                   
Net cash provided by (used in) operating activities
              $ 42,640          $ 39,679          $ 50,948          $ 4,744          $ (16,600 )  
Net cash provided by (used in) investing activities
                 (1,250 )            4,204             (9,289 )            (149,322 )            (3,414 )  
Net cash provided by (used in) financing activities
                 (29,405 )            (44,987 )            (25,336 )            148,961             10,569   
 


(1)
  Net revenue for the years ended December 31, 2008 and 2007 does not reflect $19.2 million and $8.5 million, respectively, due to a non-recurring purchase accounting adjustment that required the deferred revenue at the date of the acquisition of Various to be recorded at fair value. Management believes that it is appropriate to add back the deferred revenue adjustment because the average renewal rate of the subscriptions that were the basis for the deferred revenue was approximately 63%. The renewal rate on subscriptions that had already been renewed at least one time since the acquisition was 78%. Therefore, management believes that historical results of Various are reflective, including those revenues that were added back to the adjusted net revenue, of our future results. Please refer to the table contained in the “Prospectus Summary” above entitled “Reconciliation of GAAP Net Loss to EBITDA and Adjusted EBITDA”.

(2)
  Basic and diluted loss per share is based on the weighted average number of shares of common stock outstanding, including Series B common stock, and shares underlying common stock purchase warrants which are exercisable at the nominal price of $0.0002 per share

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  and which if not exercised will expire upon closing of this offering. For information regarding the computation of per share amounts, refer to Note C(25), “Summary of Significant Accounting Policies — Per share data” of our consolidated financial statements included elsewhere in this prospectus.

(3)
  The following pro forma information reflects the following transactions as if they occurred on January 1, 2010: (i) the sale of 5,000,000 shares of our common stock at an initial offering price of $10.00 per share and the receipt of net proceeds of $44.9 million, (ii) the repayment of principal of $40.8 million on outstanding notes, (iii) the issuance of 8,444,853 shares of common stock upon the conversion of the outstanding shares of Series B convertible preferred stock and (iv) the issuance of 4,526,471 shares of common stock underlying 4,003,898 warrants with an exercise price of $0.0002 per share which if not exercised will expire upon the closing of the offering.

Net loss as reported
              $ (43,153 )  
Pro forma adjustments:
                       
1.A reduction in interest expense resulting from the repayment of a portion of the New First Lien Notes and Second Lien Notes using a weighted average effective interest rate of 20.3%
                 8,300   
2.Amortization of the $13.0 million beneficial conversion feature in the Non-Cash Pay Second Lien Notes which mature on April 30, 2014
                 (3,200 )  
Pro forma net loss
              $ (38,053 )(a)  
Weighted average common shares outstanding — basic and diluted
                 13,735   
Pro forma adjustments:
                       
1.Issuance of common stock upon the conversion of all of the outstanding shares of Series B Convertible Preferred Stock (the holders of which have notified us in writing that they intend to exercise their option to convert effective upon the consummation of this offering)
                 8,445   
2.An increase in the shares of common stock underlying certain of our warrants resulting from the anti-dilution provisions of such warrants
                 523    
3.The sale of common stock in this offering
                 5,000   
Pro forma weighted average shares outstanding
                 27,703   
Pro forma net loss per common share — basic and diluted
              $ (1.37 )(a)  
 
(a)  
  The pro forma net loss per common share excludes (i) loss on extinguishment of our New First Lien Notes and Cash Pay Second Lien Notes of $7.8 million and (ii) $2.0 million of cumulative compensation expense related to stock options deemed granted upon the completion of an IPO, representing non-recurring charges directly attributable to this offering.

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

The following discussion of our financial condition and results of operations should be read in conjunction with our audited consolidated financial statements and the related notes thereto included elsewhere in this prospectus. This discussion contains forward-looking statements, based on current expectations and related to future events and our future financial performance, that involve risks and uncertainties. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of many factors, including those set forth under the section entitled “Risk Factors” and elsewhere in this prospectus.

Overview

We are a leading internet and technology company providing services in the rapidly expanding markets of social networking and web-based video sharing. Our business consists of creating and operating technology platforms which run several of the most heavily visited websites in the world. Through our extensive network of more than 38,000 websites, since our inception, we have built a base of more than 445 million registrants and more than 298 million members in more than 200 countries. We are able to create and maintain, in a cost-effective manner, websites intended to appeal to users of diverse cultures and interest groups. In December 2010, we had more than 196 million unique visitors to our network of websites, according to comScore. We offer our members a wide variety of online services so that they can interact with each other and access the content available on our websites. Our most heavily visited websites include AdultFriendFinder.com, Amigos.com, AsiaFriendFinder.com, Cams.com, FriendFinder.com, BigChurch.com and SeniorFriendFinder.com. We generated net revenue for the year ended December 31, 2010 of $346.0 million.

We operate in two segments, internet and entertainment. Our internet segment offers services and features that include social networking, online personals, premium content, live interactive video, recorded video, online chatrooms, instant messaging, photo, video and voice sharing, blogs, message boards and free e-mail. Our revenues to date have been primarily derived from online subscription and paid-usage for our internet segment products and services. Our market strategy is to grow this segment and expand our service offerings with complimentary services and features. Our entertainment segment produces and distributes original pictorial and video content, licenses the globally-recognized Penthouse brand to a variety of consumer product companies and entertainment venues and publishes branded men’s lifestyle magazines. We continually seek to expand our licenses and products in new markets and retail categories both domestically and internationally.

Our History

Our predecessor company was incorporated in Delaware in 1993 under the name General Media, Inc., or GMI. GMI filed for bankruptcy on August 12, 2003 under Chapter 11 of the United States Bankruptcy Code and in September 2003, Marc H. Bell and Daniel C. Staton formed PET Capital Partners LLC, or PET, to acquire GMI’s secured notes and preferred stock.

On October 5, 2004, GMI emerged from Chapter 11 protection with all new equity distributed solely to the holders of the GMI secured notes. The reorganized capital structure also included approximately $35.8 million of term loan notes (the “Term Loan Notes”) distributed to former secured and unsecured creditors. Concurrently with the emergence from Chapter 11, we changed the name of the company to Penthouse Media Group Inc. and PET sold a minority position of non-voting Series B common stock to Interactive Brand Development Inc., or IBD.

During 2005, we consummated the sale of $33.0 million of 2005 Notes and $15.0 million of Series A Convertible Preferred Stock to fund the retirement of a $20.0 million credit facility, to fund the repayment of $11.8 million of the Term Loan Notes and to fund the purchase of certain trademark assets and for general corporate purposes. The remaining outstanding Term Loan Notes were reissued as subordinated term loan notes (the “Subordinated Term Loan Notes”).

On March 31, 2006, we changed our state of incorporation from Delaware to Nevada.

On August 28, 2006, we consummated an offering of $5.0 million of 2006 Notes and $6.0 million of additional Series A Convertible Preferred Stock to fund the acquisition of substantially all of the assets of the debtor estate of Jill Kelly Productions, Inc., a production company, and for general corporate purposes.

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On October 25, 2006, we acquired the outstanding shares of the Danni.com business, an adult internet content provider, for $1.4 million in cash and approximately 126,000 shares of common stock valued at $1.5 million, for which we issued an additional $0.9 million of Subordinated Term Loan Notes to fund part of the purchase price consideration.

In December 2007, we acquired Various for approximately $401.0 million. The purchase price of approximately $401.0 million paid to the sellers consisted of approximately (i) $137.0 million in cash, (ii) notes valued at approximately $248.0 million, and (iii) warrants to acquire approximately 2.9 million shares of common stock, subject to adjustment for certain anti-dilution provisions, valued at approximately $16.0 million. The purchase price gives effect to a $61.0 million reduction attributable to a post-closing working capital adjustment which resulted in a $51.0 million reduction in the value of notes issued and a $10.0 million reduction in cash paid which was held in escrow. This adjustment is the result of our indemnity claim against the sellers relating to the VAT liability. In addition, legal and other acquisition costs totaling approximately $4.0 million were incurred. The cash portion of the purchase price was obtained through the issuance of notes and warrants, including approximately $110.0 million from certain of our stockholders. On June 10, 2009, the United Kingdom taxing authority notified us that it had reversed its previous position and that we were not subject to VAT, which resulted in an approximately $39.5 million reduction in the VAT liability. On October 8, 2009, we settled all indemnity claims against the sellers (whether claims are VAT related or not) by adjusting the original principal amount of the Subordinated Convertible Notes to $156.0 million. In addition, the sellers agreed to make available to us, to pay VAT and certain VAT-related expenses, $10.0 million held in a working capital escrow account established at the closing of the Various transaction. As of December 31, 2010, a total of $10 million has been released from the escrow to reimburse us for VAT-related expenses already incurred. If the actual costs to us of eliminating the VAT liability are less than $29.0 million, after applying amounts from the working capital escrow, then the principal amount of the Non-Cash Pay Second Lien Notes (which were issued in exchange for the Subordinated Convertible Notes in the New Financing) will be increased by the issuance of new Non-Cash Pay Second Lien Notes to reflect the difference between $29.0 million and the actual VAT liability, plus interest on such difference.

In December 2007, we consummated an offering of $5.0 million of Series B Convertible Preferred Stock at a price of $0.59208 per share. The purchasers in the offering included certain current stockholders, including Messrs. Staton and Bell, Florescue Family Corporation, an entity affiliated with one of our directors, Barry Florescue, and Absolute Income Fund Ltd. We used the proceeds from the Series B Convertible Preferred Stock offering to pay expenses relating to our acquisition of Various in December 2007 and for working capital. On July 1, 2008, we changed our name from Penthouse Media Group Inc. to FriendFinder Networks Inc.

On October 27, 2010, the Company completed the New Financing. The First Lien Senior Secured Notes, with an outstanding principal amount of $167.1 million, the Second Lien Subordinated Notes, with an outstanding principal amount of $80.0 million and $32.8 million principal amount of 2005 and 2006 Notes were exchanged for, or redeemed with proceeds of, $305.5 million principal amount of New First Lien Notes. The remaining $13.5 million principal amount of 2005 Notes and 2006 Notes were exchanged for $13.8 million principal amount of Cash Pay Second Lien Notes. The Subordinated Convertible Notes and Subordinated Term Loan Notes, with outstanding principal amounts of $180.2 million and $42.8 million respectively, together with accrued interest of $9.5 million, were exchanged for $232.5 million principal amount of Non-Cash Pay Second Lien Notes. For further information regarding the New Financing, see the section entitled “Description of Indebtedness.”

Key Factors Affecting Our Results of Operations

Net Revenue

Our net revenue is affected primarily by the overall demand for online social networking and personals services. Our net revenue is also affected by our ability to deliver user content together with the services and features required by our users’ diverse cultures, ethnicities and interest groups.

The level of our net revenue depends to a large degree on the growth of internet users, increased internet usage per user and demand for adult content. Our net revenue also depends on demand for credit card availability and other payment methods in countries in which we have registrants, members, subscribers and paid users, general economic conditions, and government regulation. The demand for entertainment and leisure activities tends to be

50




highly sensitive to consumers’ disposable incomes, and thus a decline in general economic conditions may lead to our current and potential registrants, members, subscribers and paid users having less discretionary income to spend. This could lead to a reduction in our revenue and have a material adverse effect on our operating results. In addition, our net revenue could be impacted by foreign and domestic government laws that affect companies conducting business on the internet. Laws which may affect our operations relating to payment methods, including the use of credit cards, user privacy, freedom of expression, content, advertising, information security, internet obscenity and intellectual property rights are currently being considered for adoption by many countries throughout the world.

Internet Revenue

Approximately 93.0% of our net revenue for the year ended December 31, 2010 was generated from our internet segment comprised of social networking, live interactive video and premium content websites. This revenue is treated as service revenue in our financial statements. We derive our revenue primarily from subscription fees and pay-by-usage fees. These fees are charged in advance and recognized as revenue over the term of the subscription or as the advance payment is consumed on the pay-by-usage basis, which is usually immediately. VAT is presented on a net basis and is excluded from revenue.

Net revenue consists of all revenue net of credits back to customers for disputed charges and any chargeback expenses from credit card processing banks for such items as cancelled subscriptions, stolen cards and non-payment of cards. We estimate the amount of chargebacks and credits that will occur in future periods to offset current revenue. For the years ended December 31, 2010, 2009 and 2008, these credits and chargebacks were 6.0%, 4.7% and 3.6% of gross revenue, respectively, while chargebacks alone were 1.4%, 1.2% and 0.7% of gross revenue, respectively. The general trend has been an increase in chargebacks due to tighter credit card company processing restrictions.

In addition, our net revenue was reduced for the year ended December 31, 2008 in the amount of $19.2 million due to a purchase accounting adjustment that required deferred revenue at the date of acquisition to be recorded at fair value to reflect a normal profit margin for the cost required to fulfill the customer’s order after the acquisition (in effect a reduction to deferred revenue reflected in the historical financial statements of Various to eliminate any profit related to selling or other efforts prior to the acquisition date). This reduction did not impact the service to be provided to our online subscribers or the cash collected by us associated with these subscriptions. There were no further purchase accounting adjustments after December 31, 2008. Future revenue will not be impacted by this non-recurring adjustment.

We believe that we have new opportunities to substantially increase revenue by adding new features to our websites, expanding in foreign markets and generating third party advertising revenue from our internet websites, which allow us to target specific demographics and interest groups within our user base. However, our revenue growth rate may decline in the future as a result of increased penetration of our services over time and as a result of increased competition.

Entertainment Revenue

Approximately 7.0% of our net revenue for the year ended December 31, 2010 was generated by the entertainment segment. Entertainment revenue consists of studio production and distribution, licensing of the Penthouse name, logos, trademarks and artwork for the manufacture, sale and distribution of consumer products and publishing revenue. This revenue is treated as product revenue in our financial statements, with the exception of revenue derived from licensing, which is treated as service revenue. For more information regarding our net revenue by service and product, see Note N, “Segment Information” of our consolidated financial statements included elsewhere in this prospectus. We derive revenue through third party license agreements for the distribution of our programming where we either receive a percentage of revenue or a fixed fee. The revenue sharing arrangements are usually either a percentage of the subscription fee paid by the customer or a percentage of single program or title fee purchased by the customer. Our fixed fee contracts may receive a fixed amount of revenue per title, group of titles or for a certain amount of programming during a period of time. Revenue from the sale of magazines at newsstands is recognized on the on-sale date of each issue based on an estimate of the total sell through, net of estimated returns. The amount of estimated revenue is adjusted in subsequent periods as sales and returns

51




information becomes available. Revenue from the sale of magazine subscriptions is recognized ratably over their respective terms.

Cost of Revenue

Cost of revenue for the internet segment is primarily comprised of commissions, which are expensed as incurred, paid to our affiliate websites and revenue shares for online models and studios in connection with our live interactive video websites. We estimate that cost of revenue will decrease as a percentage of net revenue primarily due to improvement in our affiliate commission structure and revenue sharing arrangements with our models and studios as net revenue increases. Cost of revenue for the entertainment segment consists primarily of publishing costs including costs of printing and distributing magazines and studio costs which principally consist of the cost of the production of videos. These costs are capitalized and amortized over three years which represents the estimated period during which substantially all the revenue from the content will be realized.

Marketing Affiliates

Our marketing affiliates are companies that operate websites that market our services on their websites and direct visitor traffic to our websites by placing banners or links on their websites to one or more of our websites. The total net revenues derived from these marketing affiliates has increased from year to year during the three years shown, while the percentage of revenue contribution has increased as well. The compensation to affiliates can vary depending on whether an affiliate chooses to be compensated on a pay-per-order or revenue sharing basis. Under a pay-per-order agreement, we compensate an affiliate one-time for each new member that places an order. Under a revenue sharing agreement, we compensate the affiliate in perpetuity for as long as the member continues to renew their subscription. Depending on the longevity of the subscription, either of the two compensation methods can result in a higher expense to us. In addition, we occasionally modify the pay-per-order compensation amount as needed depending on the quality of the traffic sent by the affiliate, economic factors, competition and other criteria.

Our compensation to our marketing affiliates has increased and revenues from our marketing affiliates have increased modestly, reflecting small increases in the rate at which we compensate our marketing affiliates as well as the variability described above. The percentage of revenues derived from these affiliates and the compensation to our affiliates for the year ended December 31, 2010 and the previous two fiscal years are set forth below:

        Year Ended December 31,
   
        2010
    2009
    2008
Percentage of revenue contributed by affiliates
                 45 %            44 %            43 %  
Compensation to affiliates (in millions)
              $ 71.2          $ 56.7          $ 62.3   
 

Operating Expenses.

Product Development

Product development expense consists of the costs incurred for maintaining the technical staff which are primarily comprised of engineering salaries related to the planning and post-implementation stages of our website development efforts. These costs also include amortization of the capitalized website costs attributable to the application development stage. We expect our product development expenses to remain stable as a percentage of revenue as we continue to develop new websites, services, content and features which will generate revenue in the future.

Selling and Marketing

Selling and marketing expenses consist principally of advertising costs, which we pay to companies that operate internet search engines for key word searches in order to generate traffic to our websites. Selling and marketing expenses also include salaries and incentive compensation for selling and marketing personnel and related costs such as public relations. Additionally, the entertainment segment includes certain nominal promotional publishing expenses. We believe that our selling and marketing expenses will remain relatively constant as a percentage of revenue as these expenses are relatively variable and within the discretion of management.

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General and Administrative

General and administrative expenses relate primarily to our corporate personnel related costs, professional fees, occupancy, credit card processing fees and other overhead costs. We expect that the total amount of our general and administrative expenses will increase significantly due to the regulatory and compliance obligations associated with being a public company; however, we anticipate that these expenses will decrease as a percentage of net revenue as a large portion of these expenses are relatively fixed in nature and do not increase with a corresponding increase in net revenue.

Stock Based Compensation

Estimated stock-based compensation to be recognized subsequent to completion of this offering for options outstanding at December 31, 2010 will be approximately $2,367,000, based upon an initial price of $10.00 per share, which is expected to be recognized over a weighted-average period of two years. Of such amount a cumulative adjustment to compensation expense of approximately $1,974,000 will be realized upon completion of this offering.

Amortization of Acquired Intangibles and Software

Amortization of acquired intangibles and software is primarily attributable to intangible assets and internal-use software from acquisitions. As a result of purchase accounting rules, fair values were established for intangibles and internal-use software. The total fair value of these intangibles and internal-use software acquired from Various in 2007 was $182.5 million. Amortization of these intangibles and software are reflected in the statement of operations for periods beginning on December 7, 2007. The amortization periods vary from two to five years with the weighted average amortization period equaling approximately three years. We recognized amortization expense associated with these assets of $24.5 million, $35.5 million and $36.3 million for the years ended December 31, 2010, 2009 and 2008, respectively. If we acquire other businesses which results in us owning additional intangible assets, the amortization of any acquired intangible assets could cause our depreciation and amortization expense to increase as a percentage of net revenue.

Depreciation and Other Amortization

Depreciation and other amortization is primarily depreciation expense on our computer equipment. We expect our depreciation and other amortization expenses to decrease due to purchases of new hardware and software associated with our growth plans increasing at a slower rate than our anticipated growth in net revenue.

Impairment of Goodwill and Other Intangible Assets

Impairment of goodwill and other intangible assets is recognized when we determine that the carrying value of goodwill and indefinite-lived intangible assets is greater than the fair value. We assess goodwill and other indefinite-lived intangibles at least annually, and more frequently when circumstances indicate that the carrying value may be impaired. We recorded goodwill impairment charges of $6.8 million in 2008 related to our internet segment and $2.8 million in 2008 related to our entertainment segment. In addition, we also recorded impairment charges related to our trademarks of $4.7 million, $4.0 million and $14.9 million in 2010, 2009 and 2008, respectively, related to our entertainment segment. We do not expect that there will be future impairment recorded to goodwill and intangible assets based on current information available. However, if future circumstances change and the fair values of goodwill or intangible assets is less than the current carrying value, additional impairment losses will be recognized.

Interest Expense, Net of Interest Income

Interest expense, net of interest income mainly represents interest expense recognized from the debt incurred in connection with the acquisition of Various and the New Financing and an increase in interest expense related to our debt incurred prior to the acquisition. Included in interest expense is amortization of note discounts due to certain warrants issued in connection with our 2005 Notes, 2006 Notes, First Lien Senior Secured Notes and Second

53




Lien Subordinated Secured Notes and amortization of a discount to record the fair value of the Subordinated Convertible Notes at the date of issuance. As the exchange of such notes was not accounted for as extinguishment (as described in “Note J — Long-Term Debt” in our consolidated financial statements included elsewhere in this prospectus), subsequent to our debt restructuring on October 27, 2010, interest expense continues to include such amortization together with amortization of original issue discount related to our New First Lien Notes and Cash Pay Second Lien Notes and amortization of discount to record the fair value of certain Non-Cash Pay Second Lien Notes at the date of issuance. We expect interest expense to decline after we become a public company because the proceeds from this offering are expected to be used to repay certain long-term notes as required by the terms of such notes.

Other Finance Expenses

Other finance expenses relates to charges incurred with our New Financing that was completed on October 27, 2010. These expenses were for third party fees related to the New First Lien Notes which were determined to be not substantially different from the outstanding First Lien Notes and Second Lien Notes they were exchanged for, and therefore not accounted for as an extinguishment of debt (See “Net Loss on Extinguishment and Modification of Debt” below).

Interest and Penalties Related to VAT Liability not Charged to Customers

Interest and penalties related to VAT not charged to customers are due to our failure to file VAT tax returns and pay VAT based on the applicable law of each country in the European Union. Commencing in 2003, the member states of the European Union implemented rules requiring the collection and payment of VAT on revenues generated by non-European Union businesses that provide electronic services that are purchased by end users within the European Union. We did not begin collecting VAT from our subscribers until July 2008. At December 31, 2010, the total amount of uncollected VAT payments was approximately $39.4 million. For more information regarding our potential VAT liability, see the section entitled “Business — Legal Proceedings.” The majority of the penalties assessed by the various tax jurisdictions related to the VAT liability were incurred prior to our purchase of Various and thus charged back to the sellers by an offset in the principal amount of the Subordinated Convertible Notes held by the sellers. The portion of interest incurred prior to the purchase of Various was also charged back to the sellers by an offset in the principal amount of the Subordinated Convertible Notes held by the sellers, and subsequently continues to be recorded on the unpaid amounts. On October 14, 2008, we made an indemnity claim against these notes under the acquisition agreement for Various in the amount of $64.3 million. On June 10, 2009, the United Kingdom taxing authority notified us that it had reversed its previous position and that we were not subject to VAT, which resulted in an approximately $39.5 million reduction in the VAT liability. On October 8, 2009, we settled and released all indemnity claims against the sellers (whether claims are VAT related or not) by reducing the original principal amount of the Subordinated Convertible Notes by the full value of the then-outstanding VAT liability. In addition, the sellers agreed to make available to us, to pay VAT and certain VAT-related expenses, $10.0 million held in a working capital escrow account established at the closing of the Various transaction. As of December 31, 2010, the total $10.0 million has been released from the escrow to reimburse us for VAT-related expenses already incurred. If the actual costs to us of eliminating the VAT liability are less than $29.0 million, after applying amounts from the working capital escrow, then the principal amount of the Non-Cash Pay Second Lien Notes (notes issued in exchange for the Subordinated Convertible Notes in the New Financing) will be increased by the issuance of new Non-Cash Pay Second Lien Notes to reflect the difference between $29.0 million and the actual VAT liability, plus interest on such difference. For more information regarding the reductions of the principal amount of Subordinated Convertible Notes as a result of our VAT liability, see the section entitled “ — Legal Proceedings.”

Net Loss on Extinguishment and Modification of Debt

In 2010, we refinanced substantially all of our existing debt into New First Lien Notes, Cash Pay Second Lien Notes and Non-Cash Pay Second Lien Notes. As a result, we recorded a loss on extinguishment of $7.5 million for the year ended December 31, 2010. Such loss was determined by us reviewing each of our former lines of debt and determining if a substantial modification was made for each line. We determined that the New First Lien Notes

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and Cash Pay Second Lien Notes were substantially different than the outstanding principal amount of Senior Secured Notes for which they were exchanged, resulting in an extinguishment of the Senior Secured Notes. An extinguishment loss of $10.5 million was recorded for such exchange and for the Senior Secured Notes, First Lien Notes and Second Lien Notes redeemed for cash. Such loss includes payment of fees to lenders. We also determined that the Non-Cash Pay Second Lien Notes were substantially different than the non-convertible Subordinated Term Notes for which they were exchanged based on the conversion feature in the new notes, resulting in a gain on extinguishment of $3.0 million related to the excess of the carrying value of the Subordinated Term Notes over the fair value of the Non-Cash Pay Second Lien Notes for which they were exchanged. In 2009, the loss on modification of debt relates to our decision to eliminate the option to convert the Convertible Notes at our option into common stock and agreeing to set the principal amount at $156.0 million which was considered to result in an exchange of debt instruments with substantially different terms thereby requiring us to account for the modification like an extinguishment of the existing Convertible Notes and the creation of new Convertible Notes. This modification resulted in us recording a charge for the extinguishment of debt of approximately $7.2 million attributable to the excess of the fair value of the modified notes over the carrying value of the existing notes plus the $2.3 million present value of the $3.2 million of fees owed to the former owner of Various.

Foreign Exchange Gain/(Loss), Principally Related to VAT Liability not Charged to Customers

Foreign exchange gain or loss principally related to VAT liability not charged to customers is the result of the fluctuation in the U.S. dollar against foreign currencies. We record a gain when the dollar strengthens against foreign currencies and a loss when the dollar weakens against those currencies. Our primary exposure to foreign fluctuations is related to the liability related to VAT not charged to customers, the majority of which is denominated in Euros and, until June 2009 when the United Kingdom VAT liability was eliminated, British pounds.

Gain on Settlement of VAT Liability not Charged to Customers

Gain on settlement of liability related to VAT not charged to customers reflects our settlement of liabilities related to VAT not charged to customers owed at amounts less than what we had recorded. We have been able to settle with or pay in full certain tax jurisdictions on favorable terms, which resulted in the gain. However, we still have numerous tax jurisdictions remaining to be resolved that may result in our recording a gain or loss.

Gain on Elimination of Liability for United Kingdom VAT not Charged to Customers

Gain on elimination of liability for United Kingdom VAT not charged to customers reflects the elimination of liabilities related to VAT not charged to customers in the United Kingdom. This gain was due to the United Kingdom taxing authority notifying us that it had reversed its previous position and that we were not subject to VAT in the United Kingdom in connection with providing internet services.

Gain on Liability Related to Warrants

Gain on liability related to warrants reflects our warrants issued in conjunction with the August 2005 issuance of the Senior Secured Notes. We issued warrants to purchase 501,663 shares of our common stock (of which 476,573 are exercisable at $6.20 per share and 25,090 are exercisable at $10.25 per share). The warrants contain a provision that required a reduction of the exercise price if certain equity events occur. Under the provisions of authoritative guidance that became effective for us on January 1, 2009, such a reset provision no longer makes the warrants eligible for equity classification and as such, effective January 1, 2009, we classified these warrants as a liability at a fair value of $6.3 million with a corresponding increase of $1.6 million to accumulated deficit and a $4.8 million reduction to capital in excess of par value. The liability is measured at fair value with changes in fair value reflected in the statement of operations.

Our warrants are measured at fair value using a binomial options pricing model using valuation inputs which are based on internal assumptions (which are not readily observable) at December 31, 2009 and 2010, respectively, as follows: 1) dividend yield of 0% and 0%; 2) volatility of 54.7% and 43.3%; 3) risk free interest rate of 2.7% and 1.9%; and 4) expected life of 5.5 years and 4.75 years.

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Other Non-Operating Expenses, Net

Other non-operating expenses in 2010 includes a $13 million charge related to a matter in arbitration (see Note Q to the consolidated financial statements) and other miscellaneous transactions not related to our primary operations.

Income Tax Benefit

At December 31, 2010, we had net operating loss carryforwards for federal income tax purposes of approximately $69.0 million available to offset future taxable income, which expire at various dates from 2024 through 2028. Our ability to utilize approximately $9.0 million of these carryforwards is limited due to changes in our ownership, as defined by federal tax regulations. In addition, utilization of the remainder of such carryforwards may be limited by the occurrence of certain further ownership changes, including changes as a result of this offering. Realization of the deferred tax assets is dependent on the existence of sufficient taxable income within the carryforward period, including future reversals of taxable temporary differences.

Critical Accounting Policies and Estimates

The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect both the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. These estimates and judgments are subject to an inherent degree of uncertainty. Our significant accounting policies are more fully described in Note B to our consolidated financial statements, included elsewhere in this prospectus. However, certain of our accounting policies are particularly important to the portrayal of our financial position and results of operations. In applying these critical accounting policies, our management uses its judgment in making certain assumptions to be used in making such estimates. Those estimates are based on our historical experience, the terms of existing contracts, our observation of trends in our industry and information available from other outside sources as appropriate. Accounting policies that, in their application to our business, involve the greatest amount of subjectivity by way of management judgments and estimates are those relating to:

•  
  valuation of goodwill, identified intangibles and other long-lived assets, including business combinations; and

•  
  legal contingencies.

Valuation of Goodwill, Identified Intangibles and Other Long-lived Assets, including Business Combinations

We test goodwill and intangible assets for impairment in accordance with authoritative guidance. We also test property, plant and equipment for impairment in accordance with authoritative guidance. We assess goodwill, and other indefinite-lived intangible assets at least annually, or more frequently when circumstances indicate that the carrying value may not be recoverable. Factors we consider important and which could trigger an impairment review include the following:

•  
  a significant decline in actual or projected revenue;

•  
  a significant decline in performance of certain acquired companies relative to our original projections;

•  
  an excess of our net book value over our market value;

•  
  a significant decline in our operating results relative to our operating forecasts;

•  
  a significant change in the manner of our use of acquired assets or the strategy for our overall business;

•  
  a significant decrease in the market value of an asset;

•  
  a shift in technology demands and development; and

•  
  a significant turnover in key management or other personnel.

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When we determine that the carrying value of goodwill and indefinite-lived intangible assets and other long-lived assets may not be recoverable based upon the existence of one or more of the above indicators of impairment, we measure any impairment based on a projected discounted cash flow method using a discount rate determined by our management to be commensurate with the risk inherent in our current business model. In the case of finite-lived amortizable intangible assets and other long-lived assets, this measurement is only performed if the projected undiscounted cash flows for the asset are less than its carrying value.

In 2010, 2009 and 2008, a trademark impairment loss of approximately $4.7 million, $4.0 million and $14.9 million, respectively, was recognized related to our entertainment segment. Such loss, which is included in impairment of other intangible assets in the 2010, 2009 and 2008 consolidated statement of operations, resulted due to the estimated fair value of certain trademarks being less than their carrying value. We had impairment charges related to goodwill of approximately $6.8 million in 2008 related to our internet segment and $2.8 million related to our entertainment segment in 2008. These losses were attributable to downward revisions of earnings forecasted for future years and an increase in the discount rate due to an increase in the perceived risk of our business prospects related to negative global economic conditions and increased competition.

We have acquired the stock or specific assets of certain companies from 2006 through 2007 some of which were considered to be business acquisitions. Under the purchase method of accounting then in effect, the cost, including transaction costs, were allocated to the underlying net assets, based on their respective estimated fair values. The excess of the purchase price over the estimated fair values of identifiable net assets acquired was recorded as goodwill.

Intangible assets which resulted from the acquisition were recorded at estimated fair value at the date of acquisition. Identifiable intangible assets are comprised mainly of studio and service contracts, domain names, customer lists and a non-compete agreement. In addition, purchase accounting requires deferred revenue be restated to estimated cost incurred to service the liability in the future, plus a reasonable margin.

The judgments made in determining the estimated fair value of assets and liabilities acquired and the expected useful life assigned to each class of assets can significantly impact net income.

As with the annual testing described above, determining the fair value of certain assets and liabilities acquired is subjective in nature and often involves the use of significant estimates and assumptions.

In our impairment testing, our forecasts of future performance, the discount rates used in discounted cash flow analysis and comparable company comparisons are all subjective in nature and a change in one or more of the factors could have a material change in the results of such testing and our financial results.

Legal Contingencies

We are currently involved in certain legal proceedings, as discussed in the notes to our audited consolidated financial statements and under the section entitled “ — Legal Proceedings.” To the extent that a loss related to a contingency is probable and can reasonably be estimated, we accrue an estimate of that loss. Because of the uncertainties related to both the amount or range of loss on certain pending litigation, we may be unable to make a reasonable estimate of the liability that could result from an unfavorable outcome of such litigation. As additional information becomes available, we will assess the potential liability related to our pending litigation and make or, if necessary revise, our estimates. Such revisions in our estimates of the potential liability could materially impact our results of operations and financial position.

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Segment Information

We divide our business into two reportable segments: internet, which consists of social networking, live interactive video and premium content websites; and entertainment, which consists of studio production and distribution, licensing and publishing. Certain corporate expenses are not allocated to segments. The following table presents our results of operations for the periods indicated for our reportable segments:

        Year Ended December 31,
   
        2010
    2009
    2008
        (in thousands)    
Net revenue
                                                       
Internet
              $ 321,605          $ 306,213          $ 306,129   
Entertainment
                 24,392             21,479             24,888   
Total
                 345,997             327,692             331,017   
Cost of revenue
                                                       
Internet
                 97,959             78,627             81,815   
Entertainment
                 12,531             13,070             14,699   
Total
                 110,490             91,697             96,514   
Gross profit
                                                       
Internet
                 223,646             227,586             224,314   
Entertainment
                 11,861             8,409             10,189   
Total
                 235,507             235,995             234,503   
Income (loss) from operations
                                                       
Internet
                 76,142             64,962             34,345   
Entertainment
                 1,140             (439 )            (17,748 )  
Unallocated corporate
                 (5,547 )            (6,128 )            (9,488 )  
Total
              $ 71,735          $ 58,395          $ 7,109   
 

Internet Segment Historical Operating Data

The following table presents certain key business metrics for our adult social networking websites, general audience social networking websites and live interactive video websites for the years ended December 31, 2010, 2009 and 2008.

        Year Ended December 31,
   
        2010
    2009
    2008
Adult Social Networking
Websites
                                                      
New members
                 38,216,689             22,461,322             20,738,807   
Beginning subscribers
                 916,005             896,211             919,146   
New subscribers(1)
                 1,771,837             1,776,916             1,935,533   
Terminations
                 1,759,528             1,757,122             1,958,468   
Ending subscribers
                 928,314             916,005             896,211   
Conversion of members to subscribers
                 4.6 %            7.9 %            9.3 %  
Churn
                 16.0 %            16.3 %            17.8 %  
ARPU
              $ 20.47          $ 20.73          $ 22.28   
CPGA
              $ 48.43          $ 47.24          $ 51.26   
Average lifetime net revenue per subscriber
              $ 79.45          $ 79.64          $ 74.22   
Net revenue(2) (in millions)
              $ 226.6          $ 225.4          $ 242.7   

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        Year Ended December 31,
   
        2010
    2009
    2008
General Audience Social
Networking Websites
                                                      
New members
                 8,985,965             8,994,757             11,221,993   
Beginning subscribers
                 57,431             68,647             85,893   
New subscribers(1)
                 114,709             116,608             174,290   
Terminations
                 118,942             127,824             191,536   
Ending subscribers
                 53,198             57,431             68,647   
Conversion of members to subscribers
                 1.3 %            1.3 %            1.6 %  
Churn
                 17.3 %            15.5 %            18.6 %  
ARPU
              $ 20.72          $ 18.05          $ 19.21   
CPGA
              $ 29.04          $ 41.61          $ 36.68   
Average lifetime net revenue per subscriber
              $ 91.02          $ 74.71          $ 66.70   
Net revenue(2) (in millions)
              $ 13.8          $ 13.7          $ 17.8   
Live Interactive Video Websites
                                                      
Total minutes
                 19,566,551             17,293,702             19,101,202   
Average revenue per minute
              $ 3.90          $ 3.49          $ 2.87   
Net revenue(2) (in millions)
              $ 76.3          $ 60.4          $ 54.9   
 


(1)
  New subscribers are subscribers who have paid subscription fees to one of our websites during the period indicated in the table but who were not subscribers in the immediately prior period. Members who previously were subscribers, but discontinued their subscriptions either by notifying us of their decisions to discontinue or allowing their subscriptions to lapse by failing to pay their subscription fees, are considered new subscribers when they become subscribers again at any point after their previous subscriptions ended. If a current subscriber to one of our websites becomes a subscriber to another one of our websites, such new subscription would also be counted as a new subscriber since such subscriber would be paying the full subscription fee for each subscription.

(2)
  Net revenue for the year ended December 31, 2008 includes the adding back of $19.2 million due to a non-recurring purchase accounting adjustment that required deferred revenue at the date of acquisition of Various to be recorded at fair value. To provide meaningful comparisons between the years shown, management believes that the historical results of Various are reflective of our future results.

The table above includes the average lifetime net revenue per subscriber and the number of subscribers for the periods shown. While we monitor many statistics in the overall management of our business, we believe that average lifetime net revenue per subscriber and the number of subscribers are particularly helpful metrics for gaining a meaningful understanding of our business as they provide an indication of total revenue and profit generated from of our base of subscribers inclusive of affiliate commissions and advertising costs required to generate new subscriptions.

While we monitor trends in visitors, conversion rates of visitors to subscribers or visitors to paid users does not provide a meaningful understanding of our business. Our raw data of visitors is subject to duplicate entries from visitors using multiple user names and e-mail addresses or accessing our websites as a member on one website and as a subscriber on another website. We use statistically significant samples and measurements of visitor data that allow our management to make evaluations based on such data.

There is the possibility that a new subscriber reflected on the table above was either a discontinued or lapsed prior subscriber or is also a current subscriber on a different FriendFinder website. We do not identify which subscribers are discontinued or lapsed subscribers or which subscribers are existing subscribers on a different FriendFinder website. Furthermore, a subscriber may come to one of our websites using multiple user names, e-mail addresses or credit cards, and consequently might be double counted. We do not quantify the number of new subscribers attributable to the sources listed above because we believe our current method provides the most relevant measurement of our business.

With respect to our live interactive video websites, our goal is to maximize the number of minutes purchased and the revenue from those purchased minutes. Paid users are a subset of our members, and may also be subscribers, who purchase products or services on a pay-by-usage basis on our live interactive video websites. The number of paid users is less important than the number and cost of the minutes purchased. Thus, we monitor the revenue from

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paid users, the number of minutes purchased in any period and the average value of the minutes purchased, all of which are presented in the table above.

Our results of operations related to our adult and general audience websites, as distinguished from the live interactive video websites discussed above, reflects the interaction of the conversion of members to subscribers, the churn of subscribers, and the average value of purchased products and services. A negative movement in any one of these items may be offset by a positive movement in another. For more information see the sections entitled “— Results of Operations — Internet Segment Historical Operating Data for the Year Ended December 31, 2010 as Compared to the Year Ended December 31, 2009,” and “— Results of Operations — Internet Segment Historical Operating Data for the Year Ended December 31, 2009 as Compared to the Year Ended December 31, 2008.”

Results of Operations

Segments and Periods Presented

We operate in two segments, internet and entertainment. Our strategy is largely focused on the expansion of our internet segment. As a result, we expect our entertainment segment to become a decreasing percentage of our total net revenues. We expect our entertainment segment to continue to account for less than 10.0% and 5.0% of our net revenue and gross profit, respectively, for the next five years.

Our entertainment segment has higher fixed and variable costs associated with the business resulting in historically lower gross profit margins than our internet segment. We expect gross profit margins in our entertainment segment to continue to vary but remain within its historical range. We expect the internet gross profit percentage in future years to be consistent with the gross profit percentage in 2010.

We have provided a discussion of our results of operations on a consolidated basis and have also provided certain detailed discussions for each of our segments. In order to provide a meaningful discussion of our ongoing business, we have provided a discussion of the following:

•  
  our consolidated results of operations for the year ended December 31, 2010 compared to the year ended December 31, 2009;

•  
  our consolidated results of operations for the year ended December 31, 2009 compared to the year ended December 31, 2008.

•  
  an analysis of internet segment operating data which are key to an understanding of our operating results and strategies for the year ended December 31, 2010 as compared to the year ended December 31, 2009, and for the year ended December 31, 2009 as compared to the year ended December 31, 2008.

The following table presents our historical operating results as a percentage of our net revenue for the periods indicated:

        Year Ended December 31,
   
        2010
    2009
    2008
Net revenue
                 100.0 %            100.0 %            100.0 %  
Cost of revenue
                 31.9             28.0             29.2   
Gross profit
                 68.1             72.0             70.8   
Operating expenses:
                                                       
Product development
                 3.7             4.1             4.4   
Selling and marketing
                 10.8             13.1             17.9   
General and administrative
                 23.1             23.5             26.7   
Amortization of acquired intangibles and software
                 7.1             10.8             11.0   
Depreciation and other amortization
                 1.3             1.5             1.3   
Impairment of goodwill
                                           2.9   
Impairment of other intangible assets
                 1.4             1.2             4.5   
Total operating expenses
                 47.4             54.2             68.7   

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        Year Ended December 31,
   
        2010
    2009
    2008
Income from operations
                 20.7             17.8             2.1   
Interest expense, net of interest income
                 (25.6 )            (28.1 )            (24.3 )  
Other finance expenses
                 (1.3 )                            
Interest and penalty related to VAT liability not charged to customers
                 (0.7 )            (1.3 )            (2.5 )  
Net loss on extinguishment and modification of debt
                 (2.1 )            (2.2 )               
Foreign exchange (gain) loss principally related to VAT liability not charged to customers
                 0.2             (1.7 )            4.6   
Gain on elimination of liability for United Kingdom VAT not charged to customers
                              0.5                
Gain on settlement of liability related to VAT not charged to customers
                              0.1             0.8   
Gain on liability related to warrants
                 0.0             0.8                
Other non-operating expense net
                 (3.8 )            (0.1 )            (0.1 )  
Loss before income tax benefit
                 (12.6 )            (14.2 )            (19.4 )  
Income tax benefit
                 0.1             1.6             5.5   
Net loss
                 (12.5 )%            (12.6 )%            (13.9 )%  
 

Year Ended December 31, 2010 as Compared to the Year Ended December 31, 2009

Net Revenue. Net revenue for the years ended December 31, 2010 and 2009 was $346.0 million and $327.7 million, respectively, representing an increase of $18.3 million or 5.6%. Internet revenue for the years ended December 31, 2010 and 2009 was $321.6 million and $306.2 million, respectively, representing an increase of $15.4 million or 5.0%. Entertainment revenue for the years ended December 31, 2010 and 2009 was $24.4 million and $21.5 million, respectively, representing an increase of $2.9 million or 13.5%.

The increase in internet revenue was primarily attributable to an increase in our live interactive video websites of $15.9 million, or 26.3%, due to more effective marketing campaigns. In addition, we had an increase in our social networking websites revenue of $0.6 million, or 0.3% due to more effective marketing campaigns and increased features available on our websites. Negative global economic conditions (including, but not limited to, an increase in credit card companies denying transactions) affected the extent of our increases. Furthermore, we had a decrease in revenue for our premium content websites of $1.1 million, or 18.9%, due mainly to a decrease in traffic and negative global economic conditions.

Internet revenue for the year ended December 31, 2010 was comprised of 74.8% relating to our social networking websites, 23.7% relating to our live interactive video websites and 1.5% relating to our premium content websites, as compared to 78.3% for our social networking websites, 19.7% for our live interactive video websites and 2.0% for our premium content websites for the same period in 2009.

Entertainment revenue for the year ended December 31, 2010 was $24.4 million as compared to $21.5 million for the year ended December 31, 2009, representing an increase of $2.9 million or 13.5%.

Entertainment revenue for the year ended December 31, 2010 was comprised of 44.7% relating to magazine publishing, 44.6% relating to broadcasting and 10.7% relating to licensing, as compared to 56.9% for magazine publishing, 30.0% for broadcasting and 13.1% for licensing for the same period in 2009.

The increase in entertainment revenue was primarily due to an increase in our video entertainment revenue of $4.5 million due mainly to our recognition of a $3.3 million prepayment due to one of our exclusive agents prematurely terminating a broadcast contract. We also had an increase in our entertainment revenue of $1.2 million due to entering into new video contracts. The above increase was offset by a decrease in publication revenue of $1.3 million as a result of a decline in the number of magazines sold from 4.3 million to 3.5 million issues, as well as a $0.2 million decrease in our licensing revenue.

Cost of Revenue. Cost of revenue for the years ended December 31, 2010 and 2009 was $110.5 million and $91.7 million, respectively, representing an increase of $18.8 million or 20.5%. The increase in cost of revenue

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was primarily attributable to an increase in affiliate commission expense of $14.5 million, from $56.7 million for the year ended December 31, 2009 to $71.2 million for the same period in 2010. The increase was mainly due to affiliates switching from a revenue share basis to a pay-per-order basis, as well as an increase in the live interactive video websites activity. The increase in cost of revenue was also due to an increase in our studio and model payouts of $5.9 million as a result of increased revenue for our live interactive video websites and a change in the way we compensate our studios and models. Included in 2009 was a $2.0 million refund related to affiliate commissions, as well as a $2.0 million reduction for affiliates that didn’t comply with certain contractual requirements of our affiliate agreement. There were no such refunds or reductions for the same period in 2010. The above increases were offset by a decrease in publishing costs of $1.9 million that was related to the decrease in publishing revenue discussed previously. We also had a decrease in our premium content costs of $0.9 million due to the decrease in premium content revenue discussed previously.

Operating Expenses.

Product Development. Product development expense for the years ended December 31, 2010 and 2009 was $12.8 million and $13.5 million, respectively, representing a decrease of $0.7 million or 5.2%. The primary reason for the decrease in product development expense was due to a decrease in headcount as we reallocated technology resources.

Selling and Marketing. Selling and marketing expense for the years ended December 31, 2010 and 2009 was $37.3 million and $42.9 million, respectively, representing a decrease of $5.6 million or 13.1%. The decrease in selling and marketing expense was primarily due to a $4.5 million decrease in our ad buy expenses for our internet segment over the period, from $36.1 million for the year ended December 31, 2009 to $31.6 million for the same period in 2010. The largest single sales and marketing expense item is our ad buy expense, the cost of purchasing key word searches from major search engines. The decrease was also due to a $0.9 million reduction in general advertising expenses as well as a $0.2 million reduction in salaries and benefits as a result of lower headcount.

General and Administrative. General and administrative expense for the years ended December 31, 2010 and 2009 was $79.9 million and $76.9 million, respectively, representing an increase of $3.0 million or 3.9%. The increase in general and administrative expense is primarily due to a $3.5 million increase in merchant processing expenses due to higher costs to process our transactions. There was also an increase of $2.0 million in our general corporate expenses. The above increase was offset by a decrease in legal expense of $1.4 million primarily attributable to significantly less usage of legal firms in the year ended December 31, 2010 as compared to the same period in the prior year. In the year ended December 31, 2009, we also had a $2.7 million reimbursement related to a prior lawsuit in which the sellers of Various repaid a portion of the settlement payment and litigation expenses to us pursuant to the acquisition agreement for Various. There was no such reimbursement for the same period in 2010. There was also a decrease of $1.1 million in our internet expenses due to a reduction in cost for services.

Amortization of Acquired Intangibles and Software. Amortization of acquired intangibles and software for the years ended December 31, 2010 and 2009 was $24.5 million and $35.5 million, respectively. The decrease was primarily due to a portion of the acquired intangibles becoming fully amortized during 2010. We have had no significant acquisitions since we acquired Various, Inc. on December 6, 2007.

Depreciation and Other Amortization. Depreciation and other amortization expense for the years ended December 31, 2010 and 2009 was $4.7 million and $4.9 million, respectively, representing a decrease of $0.2 million or 4.1%. The decrease in depreciation and other amortization is primarily related to certain assets becoming fully depreciated, offset by the purchase of additional fixed assets.

Impairment of Other Intangible Assets. Impairment of other intangible assets for the years ended December 31, 2010 and 2009 was $4.7 million and $4.0 million, respectively, representing an increase of $0.7 million or 17.5%. The losses for 2010 and 2009 were attributable to the entertainment segment and due to the estimated fair value of trademarks being less than their carrying value.

Interest Expense, Net of Interest Income. Interest expense for the years ended December 31, 2010 and 2009 was $88.5 million and $92.1 million, respectively, representing a decrease of $3.6 million or 3.9%. The decrease was due mainly to debt payments during the year ended December 31, 2010. The above decrease was offset by

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additional original issue discount, or OID, amortization on our first lien debt from excess cash flow payments and an increase in our Subordinated Convertible Notes of $38.0 million due to the elimination of the United Kingdom VAT liability in 2009 described below.

Other Finance Expenses. Other finance expenses for the year ended December 31, 2010 were due to debt restructuring costs of $4.6 million related to our New Financing that was completed in October 2010. We expensed the third party fees related to the New First Lien Notes which were determined to be not substantially different from the First Lien Notes and Second Lien Notes for what they were exchanged, and therefore they are not accounted for as extinguished debt (See “Net Loss on Extinguishment and Modification of Debt” below). We had no such comparable costs in the same period for 2009.

Interest and Penalties Related to VAT Liability not Charged to Customers. Effective July 1, 2003, as a result of a change in the law in the European Union, VAT was required to be collected from customers in connection with their use of internet services in the European Union countries. A provision and related liability have been recorded for interest and penalties related to VAT not charged to customers and failure to file tax returns based on the applicable law of each relevant country in the European Union.

Interest and penalties related to VAT liability not charged to customers for the year ended December 31, 2010 was $2.3 million as compared to $4.2 million for the year ended December 31, 2009. The decrease in interest and penalties related to VAT not charged to customers is due to VAT settlements with numerous countries. We continue to record interest expense in the applicable unsettled European Union countries in which we have an estimated $39.4 million of unremitted VAT liability.

Net Loss on Extinguishment and Modification of Debt. Loss on extinguishment and modification of debt for the year ended December 31, 2010 was $7.5 million as compared to a loss of $7.2 million for the year ended December 31, 2009. In 2010, the Company refinanced substantially all of its existing debt into New First Lien, Cash Pay Second Lien and Non-Cash Pay Second Lien Notes. The Company determined that the New First Lien Notes and Cash Pay Second Lien Notes were substantially different than the outstanding principal amount of Senior Secured Notes for which they were exchanged, resulting in an extinguishment of the Senior Secured Notes. An extinguishment loss of $10.5 million was recorded for such exchange and for the Senior Secured Notes, First Lien Notes and Second Lien Notes redeemed for cash. Such loss includes payment of fees to lenders. The above was offset by the determination that the Non-Cash Pay Second Lien Notes were substantially different than the non-convertible Subordinated Term Notes for which they were exchanged based on the conversion feature in the new notes, resulting in a gain on extinguishment of $3.0 million related to the excess of the carrying value of the Subordinated Term Notes over the fair value of the Non-Cash Pay Second Lien Notes for which they were exchanged.

In 2009, the loss related to the elimination of the Company’s option to convert the INI Seller Subordinated Notes (the “INI Seller Subordinated Notes”) into common stock and was attributable to the excess of the fair value of the modified notes over the carrying value of the existing notes. In addition, the loss includes the $2.3 million present value of fees to the former owners of Various aggregating $3.2 million to be paid during the period from December 2010 to the first quarter of 2013.

Foreign Exchange Gain/(Loss) Principally Related to VAT Liability not Charged to Customers. Foreign exchange gain principally related to VAT not charged to customers for the year ended December 31, 2010 was $0.6 million as compared to a loss of $5.5 million for the year ended December 31, 2009. The gain for the year ended December 31, 2010 is primarily related to the decrease in the U.S. dollar amount of the VAT liability assumed from Various which was denominated in Euros due to the strengthening of the U.S. dollar. The loss for the year ended December 31, 2009 is primarily related to the weakening of the U.S. dollar against the Euro and British Pound.

Gain on Elimination of Liability for United Kingdom VAT not Charged to Customers. Gain on elimination of liability for United Kingdom VAT not charged to customers for the year ended December 31, 2009 was $1.6 million. This gain was due to the United Kingdom taxing authority notifying us that it had reversed its previous position and that we were not subject to VAT in the United Kingdom in connection with providing internet services.

Gain on Settlement of Liability Related to VAT not Charged to Customers. Gain on settlement of liability related to VAT not charged to customers for the year ended December 31, 2009 was $0.2 million. The gain was due to

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VAT settlements with foreign countries in which we had recorded more liability than the actual settlement. There were no gains related to VAT liability not charged to customers in the same period for 2010.

Gain on Liability Related to Warrants. Gain on liability related to warrants for the year ended December 31, 2010 was $38,000 as compared to a gain of $2.7 million for the same period in 2009. For the year ended December 31, 2010 and 2009, the liability related to the 501,663 warrants issued in August 2005 was established as a result of new authoritative guidance becoming effective for us as of January 1, 2009. For further information, see “Note K — Liability Related to Warrants” in our consolidated financial statements included elsewhere in this prospectus.

Other Non-operating Expense, Net. Other non-operating expense for the year ended December 31, 2010 was $13.2 million as compared to $0.4 million for the same period in 2009. The expense in 2010 was primarily due to a $13.0 million charge related to our lawsuit with Broadstream Capital Partners, Inc. or Broadstream. The Company entered into an agreement in 2009 to postpone litigation and paid an aggregate of $3.0 million to Broadstream during 2009 and 2010. The agreement provided that if Broadstream elected to choose arbitration as a means of resolving the dispute, the arbitration award range to Broadstream would be at least $10.0 million but would not exceed $47.0 million. In December 2010, Broadstream elected arbitration. The Company believes it has meritorious defenses and will not be required to pay in excess of $10.0 million. The remainder of the other expense in 2010 and 2009, respectively, was due mainly to miscellaneous gains and losses.

Income Tax Benefit. Income tax benefit for the year ended December 31, 2010 was $0.5 million as compared to a benefit of $5.3 million for the same period in 2009. The difference was due to a larger amount of net operating loss for which no tax benefit was recognized in 2010 due to an increase in the valuation allowance against deferred tax assets. The 2009 tax benefit was reduced by a write-off of a deferred tax asset.

Net Loss. Net loss for the years ended December 31, 2010 and 2009 was $43.2 million and $41.2 million, representing an increase of $2.0 million or 4.9%. The larger loss in 2010 was primarily due to an increase of $13.3 million from operations offset by a net increase of $10.5 million in non-operating expenses and a $4.8 million decrease in tax benefit.

Year Ended December 31, 2009 as Compared to the Year Ended December 31, 2008

Net Revenue. Net revenue for the years ended December 31, 2009 and 2008 was $327.7 million and $331.0 million, respectively, representing a decrease of $3.3 million or 1.0% due to the performance of our internet segment. Internet revenue for the years ended December 31, 2009 and 2008 remained constant at $306.2 million and $306.1 million, respectively, Entertainment revenue for the years ended December 31, 2009 and 2008 was $21.5 million and $24.9 million, respectively, representing a decrease of $3.4 million or 13.7%. Included above for the year ended December 31, 2008 was a reduction to Internet net revenue of $19.2 million due to a purchase accounting adjustment that required the deferred revenue to be recorded at fair value as of the day of acquisition of Various in 2007. There was no impact of purchase accounting adjustments on internet or entertainment revenue in 2009.

Without the effect of the purchase accounting adjustment, internet revenue would have been $325.3 million for the year ended December 31, 2008 as compared to $306.2 million for the year ended December 31, 2009, representing a decrease of $19.1 million or 5.9%. The decrease in revenue adjusted for purchase accounting was primarily attributable to a decrease in our social networking websites of $23.1 million, or 8.8%, due to negative global economic conditions (including, but not limited to, an increase in credit card companies denying transactions) which caused a decrease in our conversions from free members to paying subscribers. We also substantially decreased our sales and marketing expense, principally in advertising, which had a negative impact in revenue. Furthermore, we had a decrease in revenue for our premium content websites of $1.6 million, or 20.9%, due mainly to a decrease in traffic and negative global economic conditions. Those decreases were offset by an increase in revenue adjusted for purchase accounting of $5.6 million or 10.2% in our live interactive video websites due to more effective marketing campaigns.

Internet revenue for the year ended December 31, 2009 was comprised of 78.3% relating to our social networking websites, 19.7% relating to our live interactive video websites and 2.0% relating to our premium content websites, as compared to internet revenue of 80.8% for our social networking websites, 16.9% for our live interactive

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video websites and 2.3% for our premium content websites for the same period in 2008 adjusted for the purchase accounting adjustment.

Entertainment revenue for the year ended December 31, 2009 was $21.5 million as compared to $24.9 million for the year ended December 31, 2008, representing a decrease of $3.4 million or 13.7%. This decrease can be primarily attributed to a decline in publication revenue of $3.4 million as a result of a decline in the number of magazines sold from 6.0 million to 4.3 million issues, as well as a $0.4 million decrease in licensing revenues. The above decreases were offset by a $0.4 million increase resulting from entering into new video contracts.

Entertainment revenue for the year ended December 31, 2009 was comprised of 56.9% relating to magazine publishing, 30.0% relating to broadcasting and 13.1% relating to licensing.

The following table presents the purchase accounting related adjustments to revenue:

        Year Ended December 31,
   
($in millions)
        2009
    2008
Net revenue
              $ 327.7          $ 331.0   
Purchase accounting adjustment
                              19.2   
Adjusted revenue
              $ 327.7          $ 350.2   
Internet revenue
              $ 306.2          $ 306.1   
Purchase accounting adjustment
                              19.2   
Adjusted net internet revenue
                 306.2             325.3   
Entertainment revenue
                 21.5             24.9   
Total adjusted revenue
              $ 327.7          $ 350.2   
 

Cost of Revenue. Cost of revenue for the year ended December 31, 2009 and 2008 was $91.7 million and $96.5 million, respectively, representing a decrease of $4.8 million or 5.0%. The decrease in cost of revenue was primarily attributable to a reduction in affiliate commission expense of $5.6 million, from $62.3 million for the year ended December 31, 2008 to $56.7 million for the same period in 2009. This decrease was mainly due to a decline in net internet revenue adjusted for purchase accounting attributable to marketing affiliates offset partially by a small increase in the rate at which we compensate our marketing affiliates. Included in the decrease was a $2.0 million refund related to affiliate commissions and a $2.0 million cumulative reduction for affiliates that did not comply with certain contractual requirements of our affiliate agreement.

Operating Expenses

Product Development. Product development expense for the year ended December 31, 2009 and 2008 was $13.5 million and $14.6 million, respectively, representing a decrease of $1.1 million or 7.5%. The primary reason for the decrease in product development expense was due to a decrease in headcount as we reallocated technology resources.

Selling and Marketing. Selling and marketing expense for the year ended December 31, 2009 and 2008 was $42.9 million and $59.3 million, respectively, representing a decrease of $16.4 million or 27.7%. The decrease in selling and marketing expense is primarily attributable to a $15.8 million decrease in our ad buy expenses for our internet segment over the period, from $51.9 million for the year ended December 31, 2008 to $36.1 million for the same period in 2009.

General and Administrative. General and administrative expense for the year ended December 31, 2009 and 2008 was $76.9 million and $88.3 million, respectively, representing a decrease of $11.4 million or 12.9%. The decrease in general and administrative expense is primarily due to a $6.5 million decrease in legal fees. The decrease in legal expense was primarily attributable to a $2.7 million reimbursement related to a prior lawsuit in which the Sellers repaid a portion of the settlement payment and litigation expenses to us pursuant to the acquisition agreement for Various. The decrease in general and administrative expense was also due to a decrease in temporary help expenses of $1.4 million and in consulting and professional fees of $2.7 million due to the majority of integration work being completed by March 31, 2008; and a $2.5 million decrease in other corporate expenses. The decreases were offset by a $2.6 million increase in our salaries, wages and benefits to help enhance our corporate infrastructure.

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Amortization of Acquired Intangibles and Software. Amortization of acquired intangibles and software for the year ended December 31, 2009 and 2008 was $35.5 million and $36.3 million, respectively. The decrease relates to some of the acquired intangibles becoming fully amortized during 2009. We have had no significant acquisitions during 2009 and 2008.

Depreciation and Other Amortization. Depreciation and other amortization expense for the year ended December 31, 2009 and 2008 was $4.9 million and $4.5 million, respectively, representing an increase of $0.4 million or 8.9%. The increase in depreciation and other amortization is primarily related to the purchase of additional fixed assets.

Impairment of Goodwill and Other Intangible Assets. Impairment of goodwill and other intangible assets for the years ended December 31, 2009 and 2008 was $4.0 million and $14.9 million, respectively, representing a decrease of $10.9 million or 73.2%. The losses for 2009 and 2008 were attributable to the entertainment segment and due to the estimated fair value of trademarks being less than their carrying value.

Other Income (Expense)

Interest Expense, Net of Interest Income. Interest expense for the year ended December 31, 2009 and 2008 was $92.1 million and $80.5 million, respectively, representing an increase of $11.6 million or 14.4%. The increase was due mainly to additional original issue discount, or OID, amortization on our first lien debt from excess cash flow payments and an increase in our Subordinated Convertible Notes of $38.0 million due to the elimination of the United Kingdom VAT liability described below. Those increases were offset by debt payments during the year ended December 31, 2009.

Interest and Penalties Related to VAT Liability not Charged to Customers. Effective July 1, 2003, as a result of a change in the law in the European Union, VAT was required to be collected from customers in connection with their use of internet services in the European Union countries. A provision and related liability have been recorded for interest and penalties related to VAT not charged to customers and failure to file tax returns based on the applicable law of each relevant country in the European Union.

Interest and penalties related to VAT not charged to customers for the year ended December 31, 2009 was $4.2 million as compared to $8.4 million for the year ended December 31, 2008. The decrease in interest and penalties related to VAT not charged to customers is due to VAT settlements with numerous countries. We continue to record interest expense in the applicable unsettled European Union countries in which we have an estimated $43.1 million of unremitted VAT liability.

Net Loss on Extinguishment and Modification of Debt. Loss on extinguishment and modification of debt was $7.2 million for the year ended December 31, 2009. The debt modification was to eliminate the Company’s option to convert the INI Seller Subordinated Notes into common stock and was attributable to the excess of the fair value of the modified notes over the carrying value of the existing notes. In addition, the Company will pay fees to the previous owners of Various aggregating $3.2 million during the period from December 31, 2010 to the first quarter of 2013, of which the Company expensed the $2.3 million present value of the $3.2 million. There was no modification of debt in 2008.

Foreign Exchange Gain/(Loss) Principally Related to VAT Liability not Charged to Customers. Foreign exchange loss on VAT not charged to customers for the year ended December 31, 2009 was $5.5 million as compared to a gain of $15.2 million for the year ended December 31, 2008. The loss for the year ended December 31, 2009 is primarily related to the increase in the U.S. dollar amount of the VAT liability assumed from Various which was denominated in Euros and, until June 2009 when the United Kingdom VAT liability was eliminated, British Pounds due to the weakening of the U.S. dollar against these currencies.

Gain on Elimination of Liability for United Kingdom VAT not Charged to Customers. Gain on elimination of liability for United Kingdom VAT not charged to customers for the year ended December 31, 2009 was $1.6 million. This gain was due to the United Kingdom taxing authority notifying us that it had reversed its previous position and that we were not subject to VAT in the United Kingdom in connection with providing internet services. There were no gains for the same period in 2008, since we discovered our VAT liability in July 2008 and subsequently began settlement conversations with the United Kingdom.

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Gain on Settlement of Liability Related to VAT not Charged to Customers. Gain on settlement of liability related to VAT not charged to customers for the year ended December 31, 2009 was $0.2 million as compared to $2.7 million for the same period in 2008. The gains were due to VAT settlements with foreign countries in which we had recorded more liability than the actual settlement.

Gain on Liability Related to Warrants. Gain on liability related to warrants for the year ended December 31, 2009 was $2.7 million. There was no gain or loss for the year ended December 31, 2008 as the liability related to the 501,666 warrants issued in August 2005 was established as a result of new authoritative guidance becoming effective for us as of January 1, 2009. For further information, see “Note K — Liabilities Related to Warrants” in our unaudited condensed consolidated financial statements and related notes for the years ended December 31, 2009 and 2008 included elsewhere in this prospectus.

Other Non-operating Expenses, Net. Other non-operating expenses for the year ended December 31, 2009 was $0.4 million as compared to income of $0.2 million for the same period in 2008. The other income and expense in 2008 and 2009, respectively, were due mainly to miscellaneous gains and losses.

Income Tax Benefit. Income tax benefit for the year ended December 31, 2009 and 2008 was $5.3 million and $18.2 million, respectively. The decrease was mainly due to the smaller loss before income tax benefit in 2009 and additional discrete items mainly related to the United Kingdom VAT liability elimination in 2009 as compared to 2008.

Net Loss. Net loss for the year ended December 31, 2009 and 2008 was $41.2 million and $46.0 million, representing a decrease of $4.8 million or 10.4%. The decrease was due to the factors listed above.

Internet Segment Historical Operating Data for the Year Ended December 31, 2010 as Compared to the Year Ended December 31, 2009

Adult Social Networking Websites

Subscribers. Subscribers for the year ended December 31, 2010 were 928,314 as compared to 916,005 for the year ended December 31, 2009, representing an increase of 12,309 or 1.3%. The increase was driven by the decrease in subscriber churn for our adult social networking websites from 16.3% for the year ended December 31, 2009 to 16.0% for the year ended December 31, 2010. Churn is influenced by a combination of factors including the perceived value of the content and quality of the user experience.

Churn. Churn for the year ended December 31, 2010 was 16.0% as compared to 16.3% for the year ended December 31, 2009, representing a decrease of 30 basis points, or a 2.0% decrease. Churn is the most direct measurement of the value our subscribers get for the price we charge. We strive to provide our subscribers with a positive user experience, minimize technical difficulties and provide a competitively priced service. Our activities and efforts seek to lower churn rates as much as possible.

Average Revenue per Subscriber. ARPU for the year ended December 31, 2010 was $20.47 as compared to $20.73 for the year ended December 31, 2009, representing a decrease of $0.26. The numbers declined due to a proportionally larger increase in the average number of subscribers compared to revenue.

Cost Per Gross Addition. CPGA for the year ended December 31, 2010 was $48.43 as compared to $47.24 for the year ended December 31, 2009, representing an increase of $1.19 or 2.5%. The increase was primarily driven by an increase in our affiliate expense on our adult social networking websites from $51.8 million in the year ended December 31, 2009 to $59.3 million in the year ended December 31, 2010 driven by affiliates switching to upfront payment plans.

Average Lifetime Net Revenue Per Subscriber. Average Lifetime Net Revenue Per Subscriber for the year ended December 31, 2010 was $79.45 as compared to $79.64 for the year ended December 31, 2009, representing a decrease of $0.19 or 0.2%. The decrease was driven by an increase in the CPGA from $47.24 for the year ended December 31, 2009 to $48.43 for the year ended December 31, 2010.

General Audience Social Networking Websites

Subscribers. Subscribers for the year ended December 31, 2010 were 53,198 as compared to 57,431 for the year ended December 31, 2009, representing a decrease of 4,233 or 7.4%. The decrease was driven by the increase

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in new subscribers churn for our general audience social networking websites from 15.5% for the year ended December 31, 2009 to 17.3% for the year ended December 31, 2010.

Churn. Churn for the year ended December 31, 2010 was 17.3% as compared to 15.5% for the year ended December 31, 2009, representing an increase of 170 basis points, or 11.2%. Churn is the most direct measurement of the value our subscribers get for the price we charge. We strive to provide our subscribers with a positive user experience, minimize technical difficulties and provide a competitively priced service. Our activities and efforts seek to lower churn rates as much as possible.

Average Revenue per Subscriber. ARPU for the year ended December 31, 2010 was $20.72 as compared to $18.05 for the year ended December 31, 2009, representing an increase of $2.67 or 14.8%. The primary reason for the increase is the decrease in general audience subscribers coupled with an increase in general audience revenue from $13.7 million for the year ended December 31, 2009 to $13.8 million for the year ended December 31, 2010.

Cost Per Gross Addition. CPGA for the year ended December 31, 2010 was $29.04 as compared to $41.61 for the year ended December 31, 2009, representing a decrease of $12.57 or 30.2%. The decrease was primarily driven by significant reduction in our ad buy expense from $1.5 million for the year ended December 31, 2009 to $0.6 million and for the year ended December 31, 2010.

Average Lifetime Net Revenue Per Subscriber. Average Lifetime Net Revenue Per Subscriber for the year ended December 31, 2010 was $91.02 as compared to $74.71 for the year ended December 31, 2009, representing an increase of $16.31 or 21.8%. The increase was driven by the increase in ARPU and the significant decrease in CPGA described above.

Live Interactive Video Websites

Average Revenue Per Minute. Average Revenue Per Minute for the year ended December 31, 2010 was $3.90 as compared to $3.49 for the year ended December 31, 2009, representing an increase of $0.41, or 11.7%. The primary reason for the increase is that the higher value paid users continued to buy our products and services while lower value paid users curtailed spending on the site as a result of the general economic slowdown.

Total Purchased Minutes. Total purchased minutes for the year ended December 31, 2010 were 19.6 million as compared to 17.3 million for the year ended December 31, 2009, representing an increase of $2.3 million or 13.3%. The primary reason for the increase in purchased minutes was the improvement in our technology and product offering with the expansion of high definition video and improvement in lag times.

Internet Segment Historical Operating Data for the Year Ended December 31, 2009 as Compared to the Year Ended December 31, 2008

Adult Social Networking Websites

Subscribers. Subscribers for the year ended December 31, 2009 were 916,005 as compared to 896,211 for the year ended December 31, 2008, representing an increase of 19,794 or 2.2%. The increase was driven by the decrease in subscriber churn for our adult social networking websites from 2.0 million for the year ended December 31, 2008 to 1.8 million for the year ended December 31, 2009, which was partially offset by a decrease in new subscribers from 1.9 million for the year ended December 31, 2008 to 1.8 million for the year ended December 31, 2009. New subscribers result from marketing activities that drive visitors to our websites, encouraging visitors to become registrants, providing limited services to members and the up-selling of special features including premium content. Churn is influenced by a combination of factors including the perceived value of the content and quality of the user experience.

Churn. Churn for the year ended December 31, 2009 was 16.3% as compared to 17.8% for the year ended December 31, 2008, representing a decrease of 150 basis points, or a 8.0% decrease. Churn is the most direct measurement of the value our subscribers get for the price we charge. We strive to provide our subscribers with a positive user experience, minimize technical difficulties and provide a competitively priced service. Our activities and efforts seek to lower churn rates as much as possible.

Average Revenue per Subscriber. ARPU for the year ended December 31, 2009 was $20.73 as compared to $22.28 for the year ended December 31, 2008, representing a decrease of $1.55, or 7.0%. The primary reason for

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the decrease was the reduction in net revenue during this period as compared to a increase in the number of subscribers over the same period. For more information regarding our 2008 revenue, adjusted for purchase accounting, see the sections entitled “Prospectus Summary — Certain Non-Financial Operating Data” and “ — Year Ended December 31, 2009 as Compared to the Year Ended December 31, 2008.”

Cost Per Gross Addition. CPGA for the year ended December 31, 2009 was $47.24 as compared to $51.26 for the year ended December 31, 2008, representing a decrease of $4.02 or 7.8%. The decrease was driven by a decrease in our affiliate commission expense from $53.6 million for the year ended December 31, 2008 to $51.8 million for the year ended December 31, 2009 and a decrease in our ad buy expense from $45.8 million for the year ended December 31, 2008 to $32.2 million for the year ended December 31, 2009.

Average Lifetime Net Revenue Per Subscriber. Average Lifetime Net Revenue Per Subscriber for the year ended December 31, 2009 was $79.64 as compared to $74.22 for the year ended December 31, 2008, representing an increase of $5.42 or 7.3%. The increase was driven by a decrease in churn from 17.8% for the year ended December 31, 2008 to 16.3% for the year ended December 31, 2009.

General Audience Social Networking Websites

Subscribers. Subscribers for the year ended December 31, 2009 were 57,431 as compared to 68,647 for the year ended December 31, 2008, representing a decrease of 11,216 or 16.3%. The decline was driven by the decrease in new subscribers to our general audience social networking websites from 174,290 for the year ended December 31, 2008 to 116,608 for the year ended December 31, 2009, which was partially offset by a decrease in terminations of existing subscribers from 191,536 for the year ended December 31, 2008 to 127,824 for the year ended December 31, 2009.

Churn. Churn for the year ended December 31, 2009 is 15.5% as compared to 18.6% for the year ended December 31, 2008, representing a decrease of 310 basis points, or a 16.5% decrease. Churn is the most direct measurement of the value our subscribers get for the price we charge. We strive to provide our subscribers with a positive user experience, minimize technical difficulties and provide a competitively priced service. Our activities and efforts seek to lower churn rates as much as possible.

Average Revenue per Subscriber. ARPU for the year ended December 31, 2009 was $18.05 as compared to $19.21 for the year ended December 31, 2008, representing a decrease of $1.16 or 6.0%. The primary reason for the decrease is the decrease in general audience social networking subscribers from 174,290 for the year ended December 31, 2008 to 116,608 for the year ended December 31, 2009, which was partially offset by a decrease in terminations of existing subscribers from 191,536 for the year ended December 31, 2008 to 127,824 for the year ended December 31, 2009. For more information regarding our 2008 revenue adjusted for purchase accounting, see the sections entitled “Prospectus Summary — Certain Non-Financial Operating Data” and “— Year Ended December 31, 2009 as Compared to Year Ended December 31, 2008.”

Cost Per Gross Addition. CPGA for the year ended December 31, 2009 was $41.61 as compared to $36.68 for the year ended December 31, 2008, representing an increase of $4.93 or 13.4%. The increase was primarily driven by a decrease in new subscribers on our general audience social networking websites from 174,290 for the year ended December 31, 2008 to 116,608 for the year ended December 31, 2009, which was partially offset by a decrease in ad buy expense from $2.6 million for the year ended December 31, 2008 to $1.5 million for the year ended December 31, 2009.

Average Lifetime Net Revenue Per Subscriber. Average Lifetime Net Revenue Per Subscriber for the year ended December 31, 2009 was $74.71 as compared to $66.70 for the year ended December 31, 2008, representing an increase of $8.01 or 12.0%. The increase was caused by a decrease in churn from 18.6% for the year ended December 31, 2008 to 15.5% for the year ended December 31, 2009.

Live Interactive Video Websites

Average Revenue Per Minute. Average Revenue Per Minute for the year ended December 31, 2009 was $3.49 as compared to $2.87 for the year ended December 31, 2008, representing an increase of $0.62 or 21.6%. The primary reason for the increase was the increase in live interactive video websites revenue adjusted for purchase

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accounting from $54.9 million for the year ended December 31, 2008 to $60.4 million for the year ended December 31, 2009. For more information regarding our 2008 revenue adjusted for purchase accounting, see the sections entitled “Prospectus Summary — Certain Non-Financial Operating Data” and “ — Year Ended December 31, 2009 as Compared to the Year Ended December 31, 2008.” The live interactive video websites are in large part a pay-by-usage service subject to the highly discretionary decisions of our users. As such, the decline in both revenues and number of minutes is in large part a result of the general economic slowdown.

Total Purchased Minutes. Total purchased minutes for the year ended December 31, 2009 were 17.3 million as compared to 19.1 million for the year ended December 31, 2008, representing a decrease of $1.8 million or 9.5%. The primary reason for the decrease was the condition of the overall economy.

Liquidity and Capital Resources

As of December 31, 2010 and December 31, 2009, we had cash of $42.0 million and $28.9 million, including restricted cash of $7.3 million and $6.3 million, respectively. We generate our cash flows from operations. We have no working capital line of credit.

On October 27, 2010, the Company completed the New Financing. The First Lien Senior Secured Notes, with an outstanding principal amount of $167.1 million, the Second Lien Subordinated Secured Notes, with an outstanding principal amount of $80.0 million and $32.8 principal amount of Senior Secured Notes were exchanged for, or redeemed with proceeds of, $305.0 million principal amount of the New First Lien Notes. Accrued interest on the First Lien Senior Secured Notes, Second Lien Subordinated Secured Notes and Senior Secured Notes was paid in cash at closing. The remaining $13,502,000 principal amount of Senior Secured Notes were exchanged for $13.8 million of the Cash Pay Second Lien Notes. The Subordinated Convertible Notes and Subordinated Term Notes, with outstanding principal amounts of $180.2 million and $42.8 million respectively, together with accrued interest of $9.5 million were exchanged for $232.5 million principal amount of the Non-Cash Pay Second Lien Notes. The principal amount of the Non-Cash Pay Second Lien Notes at December 31, 2010 included $4.8 million of interest which was paid with the issuance of additional Non-Cash Pay Second Lien Notes.

In December 2007, we acquired Various for approximately $401.0 million. The purchase price of approximately $401.0 million paid to the sellers consisted of approximately (i) $137.0 million in cash, (ii) notes valued at approximately $248.0 million, and (iii) warrants to acquire approximately 2.9 million shares of common stock, subject to adjustment for certain anti-dilution provisions, valued at approximately $16.0 million. The purchase price gives effect to a $61.0 million reduction attributable to a post-closing working capital adjustment which resulted in a $51.0 million reduction in the value of notes issued and a $10.0 million reduction in cash paid which is being held in escrow. This adjustment is the result of our indemnity claim against the sellers relating to the VAT liability. In addition, legal and other acquisition costs totaling approximately $4.0 million were incurred. The cash portion of the purchase price was obtained through the issuance of notes and warrants, including approximately $110.0 million from certain of our stockholders. On October 8, 2009, we settled all indemnity claims against the sellers (whether claims are VAT related or not) by adjusting the original principal amount of the Subordinated Convertible Notes to $156.0 million. In addition, the sellers agreed to make available to us, to pay VAT and certain VAT-related expenses, $10.0 million held in a working capital escrow established at the closing of the Various transaction. As of December 31, 2010, the total of $10.0 million had been released from the escrow to reimburse us for VAT-related expenses already incurred. If the actual costs to us of eliminating the VAT liability are less than $29.0 million, after applying amounts from the working capital escrow, then the principal amount of the Non-Cash Pay Second Lien Notes (which were issued in exchange for the Subordinated Convertible Notes in the New Financing) will be increased by the issuance of new Non-Cash Pay Second Lien Notes to reflect the difference between $29.0 million and the actual VAT liability, plus interest on such difference.

The total amount of uncollected payments related to VAT not charged to customers as of December 31, 2010 was $39.4 million, including $19.5 million in potential penalties and interest. We are currently negotiating with tax authorities in the applicable European Union jurisdictions to extend the maturity of the payments. We have settled with tax authorities or paid our tax liabilities in full in certain countries. We are in different stages of negotiations with many other jurisdictions, and we are not able to estimate when the rest of the jurisdictions will be settled or paid in full. However, if we were forced to pay the total amount in the next year, it would have a material adverse effect on our liquidity and capital resources since we will not have sufficient cash flow over the next year to pay these obligations and we expect that our ability to borrow funds to pay these obligations would be limited.

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Cash Flow

Net cash provided by operations was $42.6 million for the year ended December 31, 2010 compared to $39.7 million for the same period in 2009. The increase was primarily attributable to reduced levels of accounts receivable and prepaid expenses together with reduced amounts of deferred debt and offering costs paid in 2010 as compared with 2009 offset by reductions in accounts payable and lower interest payments and increases in restricted cash for processing reserve requirements. The reduced level of accounts receivable is primarily attributable to a repayment for certain VAT taxes from the United Kingdom in 2010. The reduced level of prepaid expenses is attributable to prepaid commissions and state taxes paid in 2009. Reduced interest payments are attributable to reduction on principal amounts of long-term debt due to prepayments from excess cash flow.

Net cash used in investing activities for the year ended December 31, 2010 was $1.3 million compared to $4.2 million provided by for the same period in 2009. This decrease resulted from cash received from escrow in connection with the Various acquisition.

Net cash used in financing activities for the year ended December 31, 2010 was $29.4 million, compared to $45.0 million for the same period in 2009. The decrease is primarily due to reductions in repayment on our First Lien Senior Secured Notes.

Net cash provided by operations was $39.7 million for the year ended December 31, 2009 compared to $50.9 million for the same period in 2008. The decrease is primarily due to the cash flows generated from our internet segment as a result of the acquisition of Various in December 2007.

Net cash provided by investing activities for the year ended December 31, 2009 was $4.2 million compared to net cash used in investing activities of $9.3 million for the same period in 2008. This increase resulted from cash received from the acquisition escrow and decreased purchases of property and equipment.

Net cash used in financing activities for the year ended December 31, 2009 was $45.0 million compared to $25.3 million for the same period in 2008. The increase is primarily due to required repayments on our First Lien Senior Secured Notes issued in connection with the acquisition of Various. In addition to the required annual amortization, we were required to make quarterly principal payments on the First Lien Senior Secured Notes, in an aggregate amount equal to 90% of the Excess Cash Flow (as defined in the securities purchase agreement governing the First Lien Senior Secured Notes, or the 2007 Securities Purchase Agreement).

Information Regarding EBITDA Covenants

Our prior note agreements contained certain financial covenants regarding EBITDA. For the year ended December 31, 2008 and for the quarters ended March 31, 2008, June 30, 2008, September 30, 2008, March 31, 2009 and June 30, 2009, we failed to satisfy our EBITDA covenants with respect to our 2006 Notes and 2005 Notes because of operating performance. For the quarters ended March 31, 2008, June 30, 2008 and September 30, 2008 we failed to satisfy our EBITDA covenants with respect to the First Lien Senior Secured Notes and the Second Lien Subordinated Secured Notes due to the liability related to VAT not charged to customers and the purchase accounting adjustment due to the required reduction of the deferred revenue liability to fair value. On October 8, 2009, these events of default were cured. For the quarter ended September 30, 2009, we met our EBITDA covenants with respect to our 2006 Notes and 2005 Notes, each as amended. For the year ended December 31, 2009 and the quarters ended March 31, 2010, June 30, 2010 and September 30, 2010, we met our EBITDA covenants with respect to the First Lien Senior Secured Notes and the Second Lien Subordinated Secured Notes. The above mentioned debt was paid off with the proceeds of the New Financing. For more information regarding this and other events of default under our note agreements, see the section entitled “Description of Indebtedness.”

Giving effect to the New Financing, we are required to maintain the following levels of EBITDA (as it is defined in the particular agreement as noted below):

•  
  For the last four quarters for any period ended through September 30, 2011, September 30, 2012 and September 30, 2013, our EBITDA on a consolidated basis for the year ended on such date needs to be greater than $85.0 million, $90.0 million and $95.0 million, respectively. Our EBITDA for the four quarters ended December 31, 2010, as defined in the relevant documents, was $105.4 million.

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We met our EBITDA covenant requirements for the quarter and year ended December 31, 2010.

Financing Activities

We are currently highly leveraged and our outstanding notes are secured by substantially all of our assets. We intend to repay some of our long-term debt with the proceeds of this offering. Our note agreements contain many restrictions and covenants, including financial covenants regarding EBITDA. As disclosed in the risk factor entitled We breached certain covenants contained in our previously existing note agreements and our Indentures....” above, we breached and subsequently cured a covenant in our Indentures. We are currently in compliance with the covenants under our outstanding notes, including all financial covenants. See the section entitled “ — Information Regarding EBITDA Covenants” above. To the extent certain of our notes are not fully repaid in connection with this offering, we will remain subject to such restrictions and covenants. Interest expense for the year ended December 31, 2010 totaled $88.5 million.

As of December 31, 2010, we had $42.0 million in cash and restricted cash.

On October 27, 2010, we completed the New Financing. $305.0 million principal amount of New First Lien Notes due 2013 were co-issued by us and INI of which (a) $200.2 million was exchanged for $130.5 million outstanding principal amount of First Lien Notes, $49.4 million outstanding principal amount of Second Lien Notes and $14.5 million outstanding principal amount of Senior Secured Notes, (b) $91.4 million was issued for cash proceeds of $89.6 million before payment of related fees and expenses of $5.8 million and (c) $13.4 million was used to pay commitment fees to the holders of First Lien Notes and Second Lien Notes. Cash of $86.2 million was used to redeem $36.6 million of First Lien Notes at 102% of principal, $30.6 million of Second Lien Notes (representing the remaining outstanding principal amounts of First and Second Lien Notes) and $18.3 million outstanding principal amount of Senior Secured Notes. Cash was also used to pay $4.1 million of accrued interest on the exchanged and redeemed notes, an $825,000 redemption premium on certain exchanged First Lien Notes and $435,000 in commitment fees to certain noteholders.

The remaining $13.5 million outstanding principal amount of Senior Secured Notes were exchanged for $13.8 million principal amount of Cash Pay Second Lien Notes. Subordinated Convertible Notes and Subordinated Term Notes, with outstanding principal amounts of $180.2 million and $42.8 million, respectively, together with accrued interest of $9.5 million, were exchanged for $232.5 million of 11.5% Non-Cash Pay Second Lien Notes due 2014 co-issued by us and INI.

New First Lien Notes

The New First Lien Notes, in the principal amount of $305.0 million, of which approximately $112.0 million principal amount were issued to our stockholders including $7.5 million to entities controlled by certain officers and directors, were issued with an original issue discount of $6.1 million or 2.0%. The New First Lien Notes mature on September 30, 2013 and accrue interest at a rate per annum equal to 14.0%. Interest on the New First Lien Notes is payable quarterly on March 31, June 30, September 30 and December 31 of each year. Principal on the New First Lien Notes is payable quarterly to the extent of 75% of Excess Cash Flow as defined at 102% of principal, subject to pro-rata sharing with the Cash Pay Second Lien Notes. The New First Lien Notes are guaranteed by our domestic subsidiaries and are collateralized by a first-priority lien on all their assets as well as a pledge of our subsidiaries stock. The guarantees are the senior secured obligations of each such subsidiary guarantor. The New First Lien Notes are redeemable prior to maturity at our option in whole but not in part, at 110% of principal, and at principal at maturity on September 30, 2013, plus accrued and unpaid interest. In the event of our initial public offering of common stock, or IPO, the net proceeds must be used to redeem the New First Lien Notes and Cash Pay Second Lien Notes pro-rata at 110% of principal, plus accrued and unpaid interest. In addition, noteholders have the option of requiring us to repay the New First Lien Notes in full upon a Change of Control, as defined in the indenture governing the New First Lien Notes, or the New First Lien Notes Indenture, at 110% of principal, plus accrued and unpaid interest. We do not expect this offering to result in a Change of Control. We shall also repay or offer to pay the New First Lien Notes and, in certain circumstances, the Cash Pay Second Lien Notes, with proceeds received from any debt or equity financing (including a secondary offering) and asset sales of $25 million or more at 110% of principal, plus accrued and unpaid interest, other asset sales, insurance claims,

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condemnation and other extraordinary cash receipts at principal, plus accrued and unpaid interest, subject to certain exceptions.

The New First Lien Notes Indenture contains covenants applicable to us and our subsidiaries, including covenants relating to limitations and requirements with respect to indebtedness, restricted payments, dividends and other payments affecting our subsidiaries, sale-leaseback transactions, consolidations and mergers, asset sales, acquisitions and provision of financial statements and reports.

Cash Pay Second Lien Notes

The Cash Pay Second Lien Notes, in the principal amount of $13.8 million, all of which were issued to entities controlled by stockholders who are also officers and directors, were issued with an original issue discount of $276,000 or 2%, are identical to the terms of the New First Lien Notes except as to matters regarding collateral, subordination, enforcement and voting. The Cash Pay Second Lien Notes are secured by a fully subordinated second lien on substantially all of our assets, parri passu with the Non-Cash Pay Second Lien Notes, and will be included with the New First Lien Notes on a dollar for dollar basis for purposes of determining required consents or waivers on all matters except for matters relating to collateral, liens and enforcement of rights and remedies. As to such matters, the Cash-Pay Second Lien Notes will be included with the Non-Cash Pay Second Lien Notes for purposes of determining required consents or waivers.

Non-Cash Pay Second Lien Notes

The Non-Cash Pay Second Lien Notes, in the principal amount of $232.5 million, of which approximately $228.5 million principal amount were issued to our stockholders including $44.4 million to entities controlled by certain officers and directors, mature on April 30, 2014 and bear interest at 11.5%, payable semi-annually on June 30 and December 31, which may be paid in additional notes at our option. While the New First Lien Notes are in place, interest must be paid with additional Non-Cash Pay Second Lien Notes. The Non-Cash Pay Second Lien Notes are guaranteed by our domestic subsidiaries and collateralized by a second priority lien on all of their assets and a pledge of our subsidiaries stock; however, such security interest is subordinate to the prior payment of the New First Lien Notes. The guarantees are the senior secured obligations of each such subsidiary guarantor subordinate only to the first-priority lien granted to the holders of the New First Lien Notes. The Non-Cash Pay Second Lien Notes are redeemable, at our option, in whole but not in part, at 100% of principal, plus accrued and unpaid interest, subject to the rights of the holders of the New First Lien Notes under the intercreditor agreement between the holders of the New First Lien Notes, the holders of the Cash Pay Second Lien Notes and the holders of the Non-Cash Pay Second Lien Notes. This agreement provides that no redemption of the Non-Cash Pay Second Lien Notes may occur until the New First Lien Notes are repaid in full.

Upon the payment in full of the New First Lien Notes, principal on the Non-Cash Pay Second Lien Notes is payable quarterly to the extent of 75% of Excess Cash Flow as defined at 102% of principal subject to pro-rata sharing with the Cash Pay Second-Lien Notes. Upon an IPO, if the New First Lien Notes are paid in full, the remaining proceeds must be used to redeem the Non-Cash Pay Second Lien Notes and the Cash Pay Second Lien Notes on a pro-rata basis at 110% of principal, plus accrued and unpaid interest. In addition, noteholders have the option of requiring us to repay the Non-Cash Pay Second Lien Notes in full upon a Change of Control, as defined in the indenture governing the Non-Cash Pay Second Lien Notes, or the Non-Cash Pay Second Lien Indenture, at 110% of principal, plus accrued and unpaid interest. We do not expect this offering to result in a Change of Control. If the New First Lien Notes are paid in full, we shall repay the remaining Non-Cash Pay Second Lien Notes and the Cash Pay Second Lien Notes on a pro-rata basis with proceeds received from any debt or equity financing (including a secondary offering), and asset sales of over $25 million at 110% of principal, plus accrued and unpaid interest, and other asset sales, insurance claim, condemnation and other extraordinary cash receipts at principal, subject to certain exceptions.

The Non-Cash Pay Second Lien Notes will be convertible into shares of our common stock upon or after an IPO. The conversion price of the Non-Cash Pay Second Lien Notes will be at the per share offering price for shares of our common stock upon consummation of the IPO provided that such conversion option shall be limited to approximately 21.1% of the fully diluted equity. The $183.7 million principal amount of Non-Cash Pay Second Lien Notes exchanged for outstanding Subordinated Convertible Notes were recorded at the carrying amount for

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such Convertible Notes as the exchange was accounted for as if the outstanding Convertible Notes were not extinguished. The $48.8 million principal amount of Non-Cash Pay Second Lien Notes exchanged for non-convertible Subordinated Term Notes have been recorded at estimated fair value at the date of issuance as the exchange was accounted for as an extinguishment of the Subordinated Term Notes.

The Non-Cash Pay Second Lien Indenture contains covenants applicable to us and our subsidiaries, including covenants relating to limitations and requirements with respect to indebtedness, restricted payments, dividends and other payments affecting our subsidiaries, sale-leaseback transactions, consolidations and mergers, asset sales and acquisitions and provision of financial statements and reports. These covenants are substantially identical to those contained in the New First Lien Notes.

We have determined that the New First Lien Notes are not substantially different from the formerly outstanding First Lien Senior Secured Notes and Second Lien Subordinated Secured Notes for which they were exchanged, nor are the Non-Cash Pay Second Lien Notes substantially different from the formerly outstanding Subordinated Convertible Notes for which they were exchanged, based on the less than 10% differences in present values of cash flows of the respective debt instruments and, accordingly, such exchanges are accounted for as if the formerly outstanding notes were not extinguished. Accordingly, a new effective interest rate has been determined for the outstanding notes based on the carrying amount of such notes and the revised cash flows of the newly issued notes. In connection therewith, commitment fees paid to the note holders, together with an allocable portion of existing unamortized discount, and debt issuance and modification costs will be amortized as an adjustment of interest expense over the remaining term of the new notes using the effective interest method. Private placement fees related to the New First Lien Notes together with legal and other fees aggregating approximately $4.6 million allocated to the exchanges was charged to other finance expense.

We have determined that the New First Lien Notes and Cash Pay Second Lien Notes are substantially different than the outstanding $28.1 million principal amount of 2005 Notes and 2006 Notes for which they were exchanged based on the more than 10% difference in present values of cash flows of the respective debt instruments and, accordingly, the exchanges are accounted for as an extinguishment of the 2005 Notes and 2006 Notes. We recorded a pre-tax loss on debt extinguishment in the quarter ended December 31, 2010 of $10.5 million related to such exchanged 2005 Notes and 2006 Notes and to the 2005 Notes and 2006 Notes, and INI First Lien Senior Secured Notes and Second Lien Subordinated Secured Notes redeemed for cash. The loss includes the writeoff of unamortized costs and fees aggregating $8.6 million related to the notes which were extinguished.

We also determined that the Non-Cash Pay Second Lien Notes are substantially different than the non-convertible Subordinated Term Loan Notes for which they were exchanged based on the conversion feature in the new notes and, accordingly, the exchange was accounted for as an extinguishment of the Subordinated Term Loan Notes. We recorded a gain on extinguishment of $3.0 million.

Registration Rights

We have agreed to consummate an exchange offer pursuant to an effective registration statement to be filed with the SEC to allow the holders of the New First Lien Notes, Cash Pay Second Lien Notes and Non-Cash Pay Second Lien Notes to exchange their notes for a new issue of substantially identical notes. In addition, we have agreed to file, under certain circumstances, a shelf registration statement to cover resales of the New First Lien Notes, Cash Pay Second Lien Notes and Non-Cash Pay Second Lien Notes. We have agreed to use our reasonable best efforts, subject to applicable law, to cause to become effective a registration statement within 210 calendar days and to consummate an exchange offer within 240 days following the consummation of this offering. In the event that we fail to satisfy the registration and/or exchange requirements within the prescribed time periods, the interest rate on the New First Lien Notes, Cash Pay Second Lien Notes and Non-Cash Pay Second Lien Notes will be increased by 3.5%.

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Contractual Obligations

The following table sets forth our contractual obligations as of December 31, 2010:

            Payments due by period
   
        Total
    Less
Than
1 Year
    1-3
Years
    3-5
Years
    More
Than
5
Years
        ($in thousands)
   
Long-term Notes Payable, including current portion:
                                                                                       
New First Lien Notes(1)
              $ 305,000          $ 14,115          $ 290,885          $           $    
Cash Pay Second Lien Notes(1)
                 13,778             638              13,140                                
Non-Cash Pay Second Lien Notes(1)
                 237,210                                       237,210                
Seller Agreements(2)
                 2,250             1,000             1,250                             
Capital Lease Obligations and
                                                                                       
Miscellaneous Notes(3)
              $ 13           $ 13           $           $           $    
Operating Leases(4)
                 12,413             2,076             6,320             4,017                  
Other(5)
                 6,069             5,271             798                              
Total(6)
              $ 576,733          $ 23,113          $ 312,393          $ 241,227          $    
 


(1)
  We are required to use the net cash proceeds from an initial public offering of our common stock to repay a portion of the New First Lien Notes and Cash Pay Second Lien Notes pro rata at a redemption price of 110%, plus accrued and unpaid interest. The First Lien and Cash Pay Second Lien Notes mature on September 30, 2013. The Non-Cash Pay Second Lien Notes mature on April 30, 2014.

(2)
  Please refer to the section entitled “Certain Relationships and Related Party Transactions — Confirmation of Certain Consent and Exchange Fees.”

(3)
  Represents our contractual commitments for lease payments on computer hardware equipment.

(4)
  Represents our minimum rental commitments for non-cancellable operating leases of office space.

(5)
  Other commitments and obligations are comprised of contracts with software licensing, communications, computer hosting, and marketing service providers. These amounts totaled $5.3 million for less than one year and $0.8 million between one and three years. Contracts with other service providers are for 30 day terms or less.

(6)
  Interest expense has been excluded from the Contractual Obligations table above. As of December 31, 2010 the Company had $305 million and $13.8 million of New First Lien Notes and Cash Pay Second Lien Notes, respectively, which would result in an annual cash interest expense obligation of $44.6 million before giving effect to required quarterly principal reductions from excess cash flow. No cash interest payments are payable in respect of the Non-Cash Pay Second Lien Notes.

Off-Balance Sheet Transactions

As of December 31, 2010, we did not have any off-balance sheet arrangements.

Quantitative and Qualitative Disclosures about Market Risk

We are exposed to market risk attributed to interest and foreign currency exchange rates.

Interest Rate Risk

We are not exposed to any interest rate fluctuations.

Foreign Currency Exchange Risk

Our exposure to foreign currency exchange risk is primarily due to our international operations. As of December 31, 2010, we had a $42.2 million liability for VAT denominated in Euros, which represents substantially all of our foreign currency exchange rate exposure. In addition, revenue derived from international websites are paid in advance primarily with credit cards and are denominated in local currencies. Substantially all such currencies are converted into U.S. dollars on the dates of the transactions at rates of exchange in effect on such dates and remitted to us and accordingly, is recorded based on the U.S. dollars received by us. As a result, our foreign currency exchange risk exposure is not material and is limited to the amount of foreign exchange rate changes on any individual day on the portion of our net revenue received in other currencies. Accounts receivable due from restricted

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cash held by foreign credit card processors and VAT liabilities denominated in foreign currencies are converted into U.S. dollars using current exchange rates in effect as of the balance sheet date. Gains and losses resulting from transactions denominated in foreign currencies are recorded in the statement of operations. The potential loss resulting from a hypothetical 10.0% adverse change in quoted foreign currency exchange rates is approximately $4.2 million. We do not utilize any currency hedging strategies.

Inflation

We are subject to the effects of changing prices. We have, however, generally been able to pass along inflationary increases in our costs by increasing the prices of our products and subscriptions.

Sarbanes-Oxley Compliance and Corporate Governance

As a public company, we will be subject to the reporting requirement of the Sarbanes-Oxley Act of 2002. Beginning immediately, we will be required to establish and regularly evaluate the effectiveness of internal controls over financial reporting. In order to maintain and improve the effectiveness of disclosure controls and procedures and internal control over financial reporting, significant resources and management oversight will be required. We also must comply with all corporate governance requirements of Nasdaq Global Market, including independence of our audit committee and independence of the majority of our board of directors.

We plan to timely satisfy all requirements of the Sarbanes-Oxley Act and Nasdaq Global Market applicable to us. We have taken, and will continue to take, actions designed to enhance our disclosure controls and procedures. We have adopted a Code of Business Conduct and Ethics applicable to all of our directors, officers and employees. We will establish a confidential and anonymous reporting process for the receipt of concerns regarding questionable accounting, auditing or other business matters from our employees. We intend for our General Counsel to assist us in the continued enhancement of our disclosure controls and procedures. In addition, we intend to put additional personnel and systems in place which we expect will provide us the necessary resources to be able to timely file the required periodic reports with the SEC as a publicly traded company. We intend for our Chief Financial Officer, Controller and other financial personnel to lead our existing staff in the performance of the required accounting and reporting functions.

On an ongoing basis we intend to conduct a controls evaluation to identify control deficiencies and to confirm that appropriate corrective action, including process improvements, are being undertaken. We expect to conduct this type of evaluation on a quarterly basis so that the conclusions concerning the effectiveness of our controls can be reported in our periodic reports. The overall goals of these evaluation activities will be to monitor our internal controls for financial reporting and our disclosure controls and procedures and to make modifications as necessary. Our intent in this regard is that our internal controls for financial reporting and our disclosure controls and procedures will be maintained as dynamic systems that change, including with improvements and corrections, as conditions warrant.

Our ability to enhance our disclosure controls and procedures, to conduct controls evaluations and to modify controls and procedures on an ongoing basis may be limited by the current state of our staffing, accounting system and internal controls since any enhancements and modifications may require additional staffing and improved systems and controls.

Recent Accounting Pronouncements

In June 2009, the Financial Accounting Standards Board, or the FASB, established the Accounting Standards Codification, or the Codification, as the single source of authoritative U.S. generally accepted accounting principles, or GAAP, to be applied by nongovernmental entities. Rules and interpretive releases of the SEC under authority of federal securities laws are also sources of authoritative GAAP for SEC registrants. The Codification, which does not change GAAP, is effective for interim and annual periods ending after September 15, 2009. We adopted the Codification for the nine months ended September 30, 2009. Other than the manner in which new accounting guidance is referenced, our adoption of the Codification had no impact on our consolidated financial statements.

In September 2006, the FASB issued new authoritative guidance which clarifies the definition of fair value, establishes a framework for measuring fair value, and expands the disclosures on fair value measurements. This

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authoritative guidance is effective for fiscal years beginning after November 15, 2007. In February 2008, the FASB issued further authoritative guidance which delayed the effective date of such guidance for fair value measurements for all non-financial assets and non-financial liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis (that is at least annually), to fiscal years beginning after November 15, 2008. Effective January 1, 2008, we adopted this authoritative guidance with respect to our financial assets and liabilities and effective January 1, 2009 we adopted this authoritative guidance with respect to non-financial assets and liabilities. The adoption of this authoritative guidance had no impact on our financial statements.

In February 2007, the FASB issued new authoritative guidance which provides companies with an option to report selected financial assets and liabilities at fair value and establishes presentation and disclosure requirements designed to facilitate comparisons between companies that choose different measurement attributes for similar types of assets and liabilities. This authoritative guidance became effective for us on January 1, 2008 and had no effect on our financial statements for the year ended December 31, 2008, as we did not elect to apply the provisions of the authoritative guidance.

Effective January 1, 2009, we adopted new authoritative guidance which establishes principles and requirements for how an acquirer in a business combination (i) recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, and any noncontrolling interest in the acquiree, (ii) recognizes and measures the goodwill acquired in a business combination or a gain from a bargain purchase and (iii) determines what information to disclose to enable users of financial statements to evaluate the nature and financial effects of the business combination. The adoption of this authoritative guidance did not have any effect on our financial statements.

In April 2008, the FASB issued new authoritative guidance which is effective for fiscal years beginning after December 15, 2008, amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset acquired after the effective date. The intent of this authoritative guidance is to improve the consistency between the useful life of a recognized intangible asset and the period of expected cash flows used to measure the fair value of the asset under other U.S. GAAP. We adopted this authoritative guidance on January 1, 2009, which did not have any effect on our financial statements.

Effective January 1, 2009, we adopted new authoritative guidance which clarifies the determination of whether an instrument (or an embedded feature) is indexed to an entity’s own stock. If an instrument is not considered indexed to an entity’s own stock, the instrument is not eligible to be classified as equity. In connection with our August 2005 issuance of 2005 Notes, we also issued warrants to purchase shares of our common stock. We determined that these warrants were not indexed to our stock based on the provisions of this authoritative guidance. Accordingly, as of January 1, 2009, the fair value of these warrants, was reclassified from equity to a liability. The fair value of these warrants will be periodically remeasured with any changes in value recognized in the statement of operations.

In December 2010, the FASB issued new authoritative accounting guidance which provides that entities with reporting units with zero or negative carrying amounts are required to determine an implied fair value of goodwill if management concludes that it is more likely than not that a goodwill impairment exists considering any adverse qualitative factors. For public entities, the new guidance is effective for fiscal years and interim period within those years beginning after December 15, 2010. Early adoption is not permitted. We adopted this guidance effective January 1, 2011. We do not expect adoption to have any impact on our financial statements.

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OUR INDUSTRY

Overview

We participate in the global online social networking industry. We believe that our industry offers the potential for substantial future growth for a number of reasons, including:

•  
  internet penetration, particularly broadband penetration, continues to grow, expanding our potential client base and permitting us to offer more services and a better user experience to our customers;

•  
  online social networking continues to expand rapidly, as social networking interactions become increasingly mobile, media-rich and content-driven, and social networking by adult users remains relatively underpenetrated;

•  
  the usage of credit cards and other online payment mechanisms in emerging markets continues to increase, facilitating online user transactions; and

•  
  worldwide internet advertising spending is expected to increase given the internet’s interactive nature, reach and ability to target niche audiences.

We believe that we are well-positioned to capitalize on these growth trends and be a leader in social networking in both the adult content and general audience segments.

The Growth of the Internet and Broadband Adoption

Greater worldwide availability and affordability of internet and broadband access and the increasing significance of the internet as a communication and entertainment medium has led to global growth in the number of internet users and the time that they spend online. In recent years the rapid growth of the internet has continued, with the number of internet users worldwide reaching approximately 2.0 billion in June 2010 according to Internet World Statistics, having grown by approximately 445% since 2000. In North America and Europe the number of internet users grew to approximately 266 million and 475 million, respectively, in June 2010, having grown by approximately 146% and 352% since 2000. Major Asian markets have grown at an even greater rate, achieving a total growth rate of approximately 622% since 2000, with the total number of users reaching 825 million in June 2010. Notably, broadband internet is the fastest growing segment of the internet allowing for faster delivery of complex content, such as photos and video. According to the Economist Intelligence Unit, in 2010, worldwide broadband penetration was approximately 9.8% of the global population and is expected to reach 12.4% by 2014, a 6.1% compounded annual growth rate in penetration. We believe that the increase in broadband penetration will have a positive effect on e-commerce transactions, including the purchase of content and services online as broadband connections provide faster and more convenient transaction experiences.

Global Broadband Penetration (as a percentage of population)

        2014a
    2013a
    2012a
    2011a
    2010a
    2009b
Broadband subscriptions (m)
                 668.7             636.3             600.8             556.9             506.6             453.1   
Broadband subscriptions (per 100 people)
                 12.4             11.9             11.4             10.6             9.8             8.8   
 

a Economist Intelligence Unit Forecasts. b Economist Intelligence Unit Estimates.

Source: Economist Intelligence Unit, September 2010

The Growth of Social Networking

Online social networking is a communications and personal expression medium that has become one of the most popular services in internet history as individuals seek to combine the exchange of information, content and entertainment within an online community environment. According to eMarkets, social networking has recently been marked by rapid growth: in 2008, U.S. social networking accounted for 42% of time spent online, which increased to 58% by 2010. In terms of actual visitors, in December 2010, out of 1.3 billion unique worldwide visitors to internet websites, approximately 1.0 billion visited social networking websites according to comScore. Adult users represent the group with the largest growth potential in the social networking arena. According to eMarkets,

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by 2014, the number of adult users in the U.S. is expected to grow to 139.6 million individuals, representing a 7.2% compounded annual growth rate from 2010 levels.

United States Online Social Networking by Adult Users

        2014
    2013
    2012
    2011
    2010
    2009
Number of adult social networking users (in millions)
                 139.6             133.5             126.7             117.7             105.8             89.6   
Percentage of adult internet users
                 69.3 %            67.9 %            66.3 %            63.6 %            59.2 %            52.4 %  
 

Source: eMarketer, May 2010

We participate in the social networking industry in both the adult content and general audience online categories. In general, traditional online social networking is an activity in which internet users link personal websites about themselves and their interests to those of their friends or individuals with similar interests. Users engage in a number of activities within social networking environments, including communication, such as e-mailing and instant messaging; content sharing, such as photos and videos; and publishing, such as blogging, to establish a network of social relationships with friends, colleagues and acquaintances and to meet other individuals with similar interests. Recently, technological advancements including improvements in multimedia delivery technology and bandwidth speeds have provided users with a social networking experience that is increasingly mobile, media-rich and content-driven. Many social networking participants now actively utilize interactive video chatting and video sharing and are less reliant upon static web pages and instant text messaging to establish and maintain connections with others.

Adult content social networking websites offer a suite of applications and communications tools similar to general interest social networking websites. The distinction lies in the user’s purpose for accessing the website. Whereas most general interest social networking users log-on to remain generally connected to their friends and interest groups, adult content social networking participants log on specifically to meet others. Adult content social networking appeals to many users by providing participants with a convenient and secure medium to facilitate interactions between prospective partners and the potential to establish future face-to-face meetings.

Growth of Online Payments

The continued increase in worldwide credit card penetration and alternative online payment mechanisms is expected to drive significant subscriber growth for subscription-based online companies. The main drivers of purchasing adult content services online are payment mechanisms, including credit cards, and the emergence of alternative online payment methods in emerging markets. According to Euromonitor, emerging markets, where we have a large number or members, such as China and Brazil, experienced growth in credit card circulation of 30.3% and 6.3% for 2009, respectively, which allows for significant increases in online spending for goods and services. The chart below also implies significant room for growth as countries such as China and India are less than 15% and 5% penetrated, respectively, compared to a developed country like the United States which is close to 200% penetrated. In other words, each U.S. person averaged nearly two credit cards.

Emerging Market Credit Card Circulation Growth (in millions)

        2009
    2008
    2007
    2006
China
                 185.3             142.1             90.3             49.6   
Growth %
                 30.3 %            57.5 %            82.1 %            22.6 %  
Brazil
                 175.0             164.6             138.0             109.2   
Growth %
                 6.3 %            19.2 %            26.4 %            17.8 %  
Mexico
                 23.9             26.5             24.2             19.6   
Growth %
                 (9.9 %)            9.5 %            23.4 %            41.9 %  
India
                 20.7             26.1             26.2             21.6   
Growth %
                 (20.4 %)            (0.6 %)            21.5 %            24.5 %  
United States
                 632.5             695.8             739.1             701.2   
Growth %
                 (9.1 %)            (5.9 %)            5.4 %            5.5 %  
 

Source: Euromonitor, International Marketing Data and Statistics, 2011

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In developing economies, access to credit cards is currently limited due to a less developed banking sector, limited credit histories for customers and customer aversion to debt. Credit cards are expected to grow rapidly in emerging markets. Additionally, a number of alternative payment systems, such as prepaid cards, mobile phone payments, cash payments and bank transfers, are becoming more and more prevalent for online payments in these markets.

Growth in Online Advertising

Online advertising is currently an underpenetrated business segment, representing less than 0.1% of net revenue for the year ended December 31, 2010. With continued worldwide growth in this advertising segment, we see this as a significant growth opportunity. For more information, please refer to the section entitled “Business — Our Strategy — Generate Online Advertising Revenue.”

Since internet users share a wealth of personal information, such as age, location, occupation and hobbies, social networking websites are highly attractive to advertisers who are able to target advertisements to specific demographic groups. Additionally, given the internet’s interactive nature, reach and ability to target niche audiences, we expect the social networking space to create new opportunities for advertisers to target customers online.

As shown in the chart below, internet advertising worldwide is expected to grow at a compounded annual growth rate of 14% from 2009 to 2013, maintaining significantly higher growth rates than other advertising media.

Worldwide Advertising Spending (Growth in millions of dollars)

        2013
    2012
    2011
    2010
    2009
Print
                 134,208             134,672             135,663             137,383             141,081   
Growth %
                 (0.3 %)            (0.7 %)            (1.3 %)            (2.6 %)                  
Television
                 213,878             202,380             191,198             180,280             165,260   
Growth %
                 5.7 %            5.8 %            6.1 %            9.1 %                  
Radio
                 35,054             33,815             32,580             31,979             31,855   
Growth %
                 3.7 %            3.8 %            1.9 %            0.4 %                  
Cinema
                 2,681             2,538             2,393             2,258             2,104   
Growth %
                 5.6 %            6.1 %            6.0 %            7.3 %                  
Outdoor
                 34,554             32,821             30,945             29,319             28,120   
Growth %
                 5.3 %            6.1 %            5.5 %            4.3 %                  
Internet
                 91,516             80,672             70,518             61,884             54,209   
Growth %
                 13.4 %            14.4 %            14.0 %            14.2 %                    
Total
                 511,891             486,898             463,297             443,102             422,629   
Growth %
                 5.1 %            5.1 %            4.6 %            4.8 %                    
 

Source: ZenithOptimedia, December 2010

Additionally, the share of internet advertising spending as a percentage of worldwide total advertising spending continues to increase and is expected to reach 18% in 2013.

Worldwide Online Advertising Spending

        2013
    2012
    2011
    2010
    2009
Print
                 26.2 %            27.7 %            29.3 %            31.0 %            33.4 %  
Television
                 41.8 %            41.6 %            41.3 %            40.7 %            39.1 %  
Radio
                 6.8 %            6.9 %            7.0 %            7.2 %            7.5 %  
Cinema
                 0.5 %            0.5 %