10-Q 1 form10q.htm YOU ON DEMAND HOLDINGS INC 10-Q 9-30-2011 form10q.htm


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
 
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended September 30, 2011

o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the transition period from __________ to __________

Commission File Number: 000-19644
 
Graphic
YOU On Demand Holdings, Inc.
(Exact name of registrant as specified in its charter)

Nevada
 
20-1778374
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification No.)

27 Union Square West, Suite 502
New York, New York  10003
 (Address of principal executive offices)

212-206-1216
 (Registrant's telephone number, including area code)
 

 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes x No o
  
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes x No o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “larger accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer o
Accelerated filer o
Non-accelerated filer o
Smaller reporting company x
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes o No x

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date: 785,034,721 shares as of November 14, 2011.
 


 
 

 
 
QUARTERLY REPORT ON FORM 10-Q
OF YOU ON DEMAND HOLDINGS, INC.
FOR THE PERIOD ENDED SEPTEMBER 30, 2011

 
PART I
-
FINANCIAL INFORMATION
 
       
Item 1.
  3
Item 2.
  22
Item 3
  35
Item 4.
  35
       
PART II
-
OTHER INFORMATION
 
       
Item 1.
  36
Item 1A.
  36
Item 2.
  36
Item 3.
  36
Item 4.
  36
Item 5.
  36
Item 6.
  36
37

References

Except as otherwise indicated by the context, references in this report to (i) the “Company,” “we,” “us,” and “our” are to the combined business of YOU On Demand Holdings, Inc. (formerly China Broadband, Inc.), a Nevada corporation, and its consolidated subsidiaries; (ii) “CB Cayman” are to our wholly-owned subsidiary China Broadband, Ltd., a Cayman Islands company; (iii) “WFOE” are to our wholly-owned subsidiary Beijing China Broadband Network Technology Co., Ltd., a PRC company; (iv) “Jinan Broadband” are to our 51% owned subsidiary Jinan Guangdian Jia He Broadband Co. Ltd, a PRC company; (v) “Shandong Media” are to our 50% joint venture Shandong Lushi Media Co., Ltd., a PRC company; (vi) “Jinan Zhong Kuan” are to Jinan Zhong Kuan Information Technology Co. Ltd., a PRC company controlled by CB Cayman through a trust agreement with shareholder(s); (vii) “AdNet” are to our previously controlled subsidiary Wanshi Wangjing Media Technologies (Beijing) Co., Ltd. (a/k/a AdNet Media Technologies (Beijing) Co., Ltd.), a PRC company; (viii) “Sinotop Hong Kong” are to Sinotop Group Limited, a Hong Kong company wholly-owned by CB Cayman; (ix) “Sinotop WFOE” are to Youdian Interaction (Beijing) Technology Co, Ltd., a PRC company wholly-owned by Sinotop Hong Kong; (x) “Sinotop Beijing” or “Sinotop” are to Beijing Sino Top Scope Technology Co., Ltd, a PRC company controlled by Sinotop Hong Kong through contractual arrangements; (xii) “Zhong Hai Video” are to Zhong Hai Shi Xun Information Technology Co., Ltd., a PRC company 80% owned by Sinotop Beijing; (xiii) “Hua Cheng” are to Hua Cheng Hu Dong (Beijing) Film and Television Communication Co., Ltd., a PRC company 39% owned by Sinotop Beijing; (xiv) “SEC” are to the United States Securities and Exchange Commission; (xv) “Securities Act” are to Securities Act of 1933, as amended; (xvi) “Exchange Act” are to the Securities Exchange Act of 1934, as amended; (xvii) “PRC” and “China” are to People’s Republic of China; (xviii) “Renminbi” and “RMB” are to the legal currency of China; (xix) “U.S. dollar,” “$” and “US$” are to United States dollars; and (xx) “VIEs” refers to our variable interest entities, including Jinan Broadband, Shandong Media and Sinotop Beijing.
 
 
PART I — FINANCIAL INFORMATION
 
Item 1. Financial Statements.
 
YOU ON DEMAND HOLDINGS, INC.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2011 AND 2010

 
Page
Consolidated Balance Sheets
4
Unaudited Consolidated Statements of Operations
5
Unaudited Consolidated Statement of Changes in Shareholders’ Equity and Comprehensive Loss
6
Unaudited Consolidated Statements of Cash Flows
7
Notes to Unaudited Consolidated Financial Statements
8
 
 
YOU On Demand Holdings, Inc. and Subsidiaries
(Formerly China Broadband, Inc.)
 CONSOLIDATED BALANCE SHEETS
 
   
September 30,
   
December 31,
 
   
2011
   
2010
 
   
(Unaudited)
       
ASSETS
           
Current assets:
           
Cash and cash equivalents
  $ 10,126,289     $ 6,584,396  
Marketable equity securities, available for sale
    1,714       9,433  
Accounts receivable, net
    429,040       220,926  
Inventory
    450,393       428,280  
Licensed content, current
    150,325       -  
Prepaid expenses
    378,510       756,461  
Loan receivable from related party
    314,843       304,529  
Amounts due from shareholders
    407,672       184,086  
Amount due from non-controlling interest
    1,563,674       1,512,448  
Other current assets
    411,724       597,362  
Total current assets
    14,234,184       10,597,921  
                 
Property and equipment, net
    5,281,363       4,463,920  
Licensed content, noncurrent
    488,556       -  
Intangible assets, net
    7,380,881       8,592,244  
Goodwill
    6,105,478       6,105,478  
Investment in equity investment
    586,346       574,486  
Other assets
    93,819       299,163  
Total assets
  $ 34,170,627     $ 30,633,212  
                 
LIABILITIES AND SHAREHOLDERS' EQUITY
               
Current liabilities:
               
Accounts payable
  $ 3,175,093     $ 1,620,481  
Accrued expenses and liabilities
    1,230,022       804,341  
Deferred revenue
    1,736,167       1,711,796  
Loan payable
    -       398,960  
Payable to Jinan Parent
    142,464       137,797  
Other current liabilities
    687,102       792,413  
Contingent purchase consideration liability, current
    926,878       -  
Total current liabilities
    7,897,726       5,465,788  
                 
Contingent purchase consideration liability
    1,497,705       3,362,105  
Deferred tax liability and uncertain tax position liability
    918,760       1,180,323  
Total liabilities
    10,314,191       10,008,216  
                 
Commitments and Contingencies
               
                 
Convertible reedeemable preferred stock, $.001 par value; 50,000,000 shares authorized
               
Series A - 7,000,000 shares issued and outstanding, liquidation preference of $3,500,000
    1,261,995       1,261,995  
Series B - 10,266,800 shares issued and outstanding, liquidation preference of $5,133,400
    3,950,358       3,950,358  
                 
Shareholders' equity
               
Common stock, $.001 par value; 1,500,000,000 shares authorized, 785,034,721 and 660,768,748 issued and outstanding
    785,035       660,769  
Additional paid-in capital
    53,522,199       42,255,089  
Accumulated deficit
    (39,739,414 )     (32,434,324 )
Accumulated other comprehensive income
    142,462       246,983  
Total YOU On Demand shareholders' equity
    14,710,282       10,728,517  
Noncontrolling interests
    3,933,801       4,684,126  
                 
Total shareholders' equity
    18,644,083       15,412,643  
                 
Total liabilities and shareholders' equity
  $ 34,170,627     $ 30,633,212  
 
See notes to consolidated financial statements.
 
 
YOU On Demand Holdings, Inc. and Subsidiaries
(Formerly China Broadband, Inc.)
UNAUDITED CONSOLIDATED STATEMENTS OF OPERATIONS
 
    Three Months Ended     Nine Months Ended  
   
September 30,
   
September 30,
   
September 30,
   
September 30,
 
   
2011
   
2010
   
2011
   
2010
 
                         
Revenue
  $ 1,980,878     $ 2,054,800     $ 5,573,198     $ 5,747,787  
Cost of revenue
    1,440,666       1,262,776       3,791,411       3,371,860  
Gross profit
    540,212       792,024       1,781,787       2,375,927  
                                 
Selling, general and adminstrative expenses
    2,214,997       587,819       6,311,346       1,927,222  
Professional fees
    790,891       185,566       1,657,895       735,602  
Depreciation and amortization
    1,087,002       1,177,704       3,280,656       3,080,462  
Impairments of long-lived assets
    19,023       -       340,771       1,650,000  
                                 
Loss from operations
    (3,571,701 )     (1,159,065 )     (9,808,881 )     (5,017,359 )
                                 
Interest & other income / (expense)
                               
Interest income
    2,168       2,202       7,295       4,492  
Interest expense
    (325 )     (256,514 )     (1,241 )     (530,062 )
Right to purchase expense
    -       -       (155,166 )     -  
Inducement to convert and reduction in conversion
                               
price of convertible notes
    -       (6,706,141 )     -       (6,706,141 )
Cost of reduction in exercise price of certain warrants
    -       (150,017 )     -       (150,017 )
Change in fair value of warrant liabilities
    -       755,404       -       819,150  
Change in fair value of contingent consideration
    3,189,048       -       937,522       -  
Gain on sale of securities
    -       -       -       1,350  
Gain (loss) on equity investment
    5,604       -       (7,300 )     -  
Gain on deconsolidation of AdNet
    470,041       -       470,041       -  
Other
    (43,736 )     (53 )     (41,954 )     423  
                                 
Net income (loss) before income taxes and noncontrolling interest
    51,099       (7,514,184 )     (8,599,684 )     (11,578,164 )
                                 
Income tax benefit
    74,631       75,634       261,563       335,745  
                                 
Net income (loss), net of tax
    125,730       (7,438,550 )     (8,338,121 )     (11,242,419 )
                                 
Plus:  Net loss attributable to noncontrolling interests
    418,060       208,193       1,071,000       1,788,402  
                                 
Net income (loss) attributable to YOU On Demand shareholders
  $ 543,790     $ (7,230,357 )   $ (7,267,121 )   $ (9,454,017 )
                                 
Dividends on preferred stock
    -       (2,315,309 )     -       (2,315,309 )
                                 
Net income (loss) attributable to YOU On Demand  common s/h
  $ 543,790     $ (9,545,666 )   $ (7,267,121 )   $ (11,769,326 )
                                 
Net income (loss) per share
                               
Basic
  $ -     $ (0.05 )   $ (0.01 )   $ (0.10 )
Diluted
  $ -     $ (0.05 )   $ (0.01 )   $ (0.10 )
                                 
Weighted average shares outstanding
                               
Basic
    785,034,721       209,661,044       716,695,566       113,700,299  
Diluted
    808,570,570       209,661,044       716,695,566       113,700,299  
 
See notes to consolidated financial statements.
 
 
YOU On Demand Holdings, Inc. and Subsidiaries
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY AND COMPREHENSIVE LOSS
For the Periods Ended September 30, 2011 (Unaudited) and December 31, 2010
 
                           
Accumulated
   
YOU On
                   
               
Additional
         
Other
   
Demand
                   
   
Common
   
Par
   
Paid-in
   
Accumulated
   
Comprehensive
   
Shareholders'
   
Noncontrolling
   
Total
   
Comprehensive
 
   
Shares
   
Value
   
Capital
   
Deficit
   
Income(loss)
   
(Deficit)/Equity
   
Interest
   
Equity
   
Loss
 
                                                       
Balance December 31, 2009
    64,761,396     $ 64,762     $ 14,901,493     $ (17,215,041 )   $ 331,283     $ (1,917,503 )   $ 5,259,427     $ 3,341,924     $ (5,428,700 )
                                                                         
Shares issued as payment  for convertible note interest
    653,119       653       131,982       -       -       132,635       -       132,635          
                                                                         
Stock option compensation expense
    -       -       503,372       -       -       503,372       -       503,372          
                                                                         
Interest expense related to discount and beneficial convertible features in connection with convertible note and warrants issuance
    -       -       90,000       -       -       90,000       -       90,000          
                                                                         
Common shares issued for services
    5,100,000       5,100       249,900       -       -       255,000       -       255,000          
                                                                         
Other adjustment
    -       -       22,126       -       -       22,126       -       22,126          
                                                                         
Common shares issued for cash
    62,500,000       62,500       1,997,164       -       -       2,059,664       -       2,059,664          
                                                                         
Beneficial conversion feature of Series A and Series B preferred stock issued
    -       -       2,315,309       -       -       2,315,309       -       2,315,309          
                                                                         
Warrants issued with common stock,Series A and Series B preferred stock
    -       -       4,486,383       -       -       4,486,383       -       4,486,383          
                                                                         
Common shares and warrants issued and costs related to the conversion of convertible notes
    62,855,048       62,855       9,786,038       -       -       9,848,893       -       9,848,893          
                                                                         
Warrants issued to placement agent
    -       -       135,774       -       -       135,774       -       135,774          
                                                                         
Issuance costs related to the issuance of shares and warrants
    -       -       (632,503 )     -       -       (632,503 )     -       (632,503 )        
                                                                         
Warrant liability reclassified to equity
    -       -       150,017       -       -       150,017       -       150,017          
                                                                         
Shares issued for Sinotop Group Ltd acquisition
    90,859,389       90,859       4,452,110       -       -       4,542,969       -       4,542,969          
                                                                         
Warrants and options issued for Sinotop Group Ltd acquisition
    -       -       4,039,964       -       -       4,039,964       -       4,039,964          
                                                                         
Sinotop Beijing joint venture
    -       -       -       -       -       -       1,492,961       1,492,961          
                                                                         
Shares issued in warrant exchange
    374,039,793       374,040       (374,040 )     -       -       -       -       -          
                                                                         
Comprehensive loss:
                                                                       
Net loss
    -       -       -       (15,219,283 )     -       (15,219,283 )     (2,616,032 )     (17,835,315 )     (15,219,283 )
Foreign currency translation adjustments
    -       -       -       -       (70,489 )     (70,489 )     547,770       477,281       477,281  
                                                                         
Unrealized loss on marketable equity securities
    -       -       -       -       (13,811 )     (13,811 )     -       (13,811 )     (13,811 )
Balance December 31, 2010
    660,768,748     $ 660,769     $ 42,255,089     $ (32,434,324 )   $ 246,983     $ 10,728,517     $ 4,684,126     $ 15,412,643     $ (14,755,813 )
                                                                         
                                                                         
Common shares issued for services
    200,000       200       9,800       -       -       10,000       -       10,000          
                                                                         
Warrants issued for service
    -       -       12,408       -       -       12,408       -       12,408          
                                                                         
Stock option compensation expense
    -       -       441,701       -       -       441,701       -       441,701          
                                                                         
Stock issuance for right to purchase
    -       -       155,166       -       -       155,166       -       155,166          
                                                                         
Stock warrants issued pursuant to licensed content
    -       -       676,462       -       -       676,462       -       676,462          
                                                                         
Common shares issued for cash
    124,065,973       124,066       10,793,740       -       -       10,917,806       -       10,917,806          
                                                                         
Issuance costs related to the issuance of shares
    -       -       (822,167 )     -       -       (822,167 )     -       (822,167 )        
                                                                         
Contribution from noncontrolling interest
    -       -       -       -       -       -       151,759       151,759          
                                                                         
Comprehensive loss:
                                                                       
Net loss
    -       -       -       (7,267,121 )     -       (7,267,121 )     (1,071,000 )     (8,338,121 )     (7,267,121 )
Foreign currency translation adjustments
    -       -       -       -       (96,802 )     (96,802 )     130,947       34,145       34,145  
                                                                         
Unrealized loss on marketable equity securities
    -       -       -       -       (7,719 )     (7,719 )     -       (7,719 )     (7,719 )
                                                                         
Balance September 30, 2011
    785,034,721     $ 785,035     $ 53,522,199     $ (39,701,445 )   $ 142,462     $ 14,748,251     $ 3,895,832     $ 18,644,083     $ (7,240,695 )
 
See notes to consolidated financial statements.
 
 
YOU On Demand Holdings, Inc. and Subsidiaries
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
 
    Nine Months Ended  
   
September 30,
   
September 30,
 
   
2011
   
2010
 
Cash flows from operating
           
Net loss
  $ (8,338,121 )   $ (11,242,419 )
Adjustments to reconcile net loss to net cash used in operating activities
               
Stock compensation expense
    464,109       414,193  
Interest expense related to discount and beneficial convertible features  in connection with convertible note and warrant issuance
    -       90,000  
Bad debt allowance
    48,445       -  
Depreciation and amortization
    3,280,656       3,080,462  
Licensed content
    37,581       -  
Noncash interest expense - original issue discount
    -       305,944  
Deferred income tax
    (261,563 )     (335,745 )
Gain on sale of marketable equity securities
    -       (1,350 )
Change in fair value of warrant liabilities
    -       (819,150 )
Change in fair value of contingent consideration liability
    (937,522 )     -  
Cost of right to purchase
    155,166       -  
Inducement to convertible note holders and reduction in conversion price in connection to the July 2010 financing
    -       6,706,141  
Cost of reduction in exercise price of certain warrants
    -       150,017  
Adjustment to foreign currency translation account
    -       378,332  
Impairment charge to Shandong Media intangibles
    -       900,000  
Impairment charge to Jinan Broadband equipment
    -       750,000  
Impairment charge to Sinotop equipment
    130,566       -  
Impairment charge to AdNet assets, net of cash
    209,497       -  
Gain on deconsolidation of AdNet
    (470,041 )     -  
Change in assets and liabilities,
               
Accounts receivable
    (246,148 )     (107,629 )
Inventory
    (4,428 )     (5,846 )
Prepaid expenses and other assets
    601,755       (774,657 )
Accounts payable and accrued expenses
    2,134,018       (748,091 )
Deferred revenue
    78,041       (74,062 )
Other
    (5,075 )     48  
Net cash used in operating activities
    (3,123,064 )     (1,333,812 )
                 
Cash flows from investing activities:
               
Proceeds from sale of marketable equity securities
    -       9,350  
Acquisition of property and equipment
    (2,395,875 )     (1,161,654 )
Leasehold improvements
    -       (68,975 )
Loan advances to Shandong Media shareholders
    (214,570 )     (525,218 )
Loan repayments from Shandong Media shareholders
    -       17,458  
Loan to related party
    (3,350 )     (4,804 )
Investment in equity investment
    -       (574,907 )
Investments in intangibles
    (428,313 )     -  
Other
    (77,199 )     -  
Net cash used in investing activities
    (3,119,307 )     (2,308,750 )
                 
Cash flows from financing activities
               
Proceeds from sale of equity securities
    10,917,806       9,025,000  
Proceeds from issuance of convertible notes payable
    -       600,000  
Costs associated with financings and share issuances
    (822,167 )     (496,728 )
Capital contribution from Jinan Parent
    151,759       -  
Payments to Jinan Parent
    -       (16,246 )
Net cash provided by financing activities
    10,247,398       9,112,026  
                 
Effect of exchange rate changes on cash
    (463,134 )     148,847  
                 
Net increase in cash and cash equivalents
    3,541,893       5,618,311  
Cash and cash equivalents at beginning of period
    6,584,396       2,190,494  
                 
Cash and cash equivalents at end of period
  $ 10,126,289     $ 7,808,805  
                 
Supplemental Cash Flow Information:
               
                 
Cash paid for taxes
  $ -     $ -  
Cash paid for interest
  $ 1,241     $ 1,176  
Value assigned to shares as payment for interest expense
  $ -     $ 132,635  
Value of warrants issued for licensed content
  $ 676,462     $ -  
Cancellation of notes payable by issuance of common stock
  $ -     $ 20,000  
Issuance of common stock through assignment of notes receivable
  $ -     $ 580,000  
Common stock, warrants and stock options issued for Sinotop acquisition
  $ -     $ 8,346,251  
Contingent consideration liabiltiy associated with earnout shares related to Sinotop acquisition
  $ -     $ 2,750,966  
Value of warrants issued to placement agent
  $ -     $ 135,774  
Deemed dividend on preferred stock
  $ -     $ 2,315,309  
Value of common stock issued upon conversion of convertible notes
  $ -     $ 3,142,752  
Value of preferred stock issued upon conversion of convertible notes
  $ -     $ 2,133,400  
Amount due from noncontrolling interest
  $ -     $ 1,492,961  
 
See notes to consolidated financial statements.
 
 
YOU ON DEMAND HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

1.             Basis of Presentation

YOU On Demand Holdings, Inc., a Nevada corporation (“YOU On Demand”, “we”, “us”, or “the Company”) (formerly China Broadband, Inc.), operates in the Chinese media segment through our Chinese subsidiaries and variable interest entities (“VIEs”) (1) a cable broadband business, Jinan Guangdian Jia He Broadband Co. Ltd. ( “Jinan Broadband”), based in the Jinan region of China through which we provide cable and wireless broadband services, principally internet services, Internet Protocol Point wholesale services, related network equipment rental and sales, and fiber network construction and maintenance through our VIE, Jinan Broadband, (2) a print based media and television programming guide publication, Shandong Lushi Media Co., Ltd. ( “Shandong Media”) and (3) an integrated value-added service solutions business for the delivery of pay-per-view (“PPV”), video on demand (“VOD”), and enhanced premium content for cable providers, Beijing Sino Top Scope Technology Co., Ltd. (“Sinotop Beijing” or “Sinotop”).
 
The unaudited consolidated financial statements include the accounts of YOU On Demand and (a) its wholly-owned subsidiary China Broadband, Ltd., ("CB Cayman"), (b) two wholly-owned subsidiaries of CB Cayman:  Beijing China Broadband Network Technology Co, Ltd. (“WFOE”) and Sinotop Group Limited (“Sinotop Hong Kong”) and (c) six entities located in the PRC: Jinan Zhong Kuan, Jinan Broadband, Shandong Media, Sinotop, Zhong Hai Shi Xun Information Technology Co., Ltd. (“Zhong Hai Video”), and Youdian Interaction (Beijing) Technology Co, Ltd. (“Sinotop WFOE”), which are controlled by the Company through contractual arrangements, as if they are wholly-owned subsidiaries of the Company.  The unaudited consolidated financial statements included the accounts of AdNet Media Technologies (Beijing) Co. Ltd (“AdNet”) through the third quarter of 2011 when it was deconsolidated as a result of the Company’s termination of control.  All material intercompany transactions and balances are eliminated in consolidation.

In the opinion of management, our Financial Statements reflect all adjustments, which are of a normal, recurring nature necessary for a fair statement of the results for the periods presented in accordance with U.S. Generally Accepted Accounting Principles (“U.S. GAAP”) and with the instructions to Form 10-Q in Article 10 of SEC Regulation S-X.  The results of operations for the interim periods presented are not necessarily indicative of results for the full year.

Certain information and footnote disclosures normally included in the annual consolidated financial statements prepared in accordance with U.S. GAAP have been condensed or omitted.  These unaudited financial statements should be read in conjunction with the Company’s audited consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2010. 
 
2.             Going Concern and Management’s Plans
 
The Company incurred significant continuing losses during 2010 and the nine months ended September 30, 2011 and has relied on debt and equity financings to fund operations.  These conditions raise substantial doubt about the Company’s ability to continue as a going concern.  The Company believes that the acquisition of Sinotop in 2010 and the expected launch of its PPV and VOD business during the fourth quarter of 2011 will generate positive cash flows for the business.

The consolidated financial statements have been prepared assuming that the Company will continue as a going concern and, accordingly, do not include any adjustments that might result from the outcome of this uncertainty.  The Company's independent registered public accounting firm's report of the financial statements for the year ended December 31, 2010, contained an explanatory paragraph regarding the Company's ability to continue as a going concern.
 

3.             Sinotop Contingent Consideration

In connection with the acquisition of Sinotop on July 30, 2010, if specified performance milestones are achieved, Weicheng Liu (“Mr. Liu” or “the Seller”) will be entitled to earn up to (i) an additional 30,286,464 shares of common stock of the Company, (ii) three-year warrants to purchase 42,845,654 shares of the Company’s common stock, equivalent to 5.0% of the total number of shares of the Company’s common stock underlying all outstanding warrants as of immediately following the closing of the financing  and  (iii) a four-year option to purchase a number of shares of the Company’s common stock that is equal to 5% of the total number of shares of the Company’s common stock underlying all outstanding options of the Company granted to individuals employed by the Company as of September 1, 2010 (collectively, the securities referred to in clauses (i), (ii) and (iii) are referred to herein as the “Earn-Out Securities”). The milestones are as follows:  Sinotop will ensure that (i) at the end of the first earn-out year (July 1, 2012), at least 3 million homes will have access to the Company’s PPV services, (ii) at the end of the second earn-out year (July 1, 2013), at least 11 million homes will have access to the Company’s PPV services, and (iii) at the end of the third earnout year (July 1, 2014), at least 30 million homes will have access to the Company’s PPV services. Although not yet formalized by the Board of the Directors, the intent is for the Seller to receive one-third of the total earn-out each year if the annual performances are achieved.

Subsequent to the acquisition of Sinotop, the Company underwent a warrant exchange that converted the three-year warrants to be potentially earned under clause (i) above to 24,900,152 shares of common stock.  As such, the Earn-Out Securities subject to the achievement of the specified performance milestones are 55,186,616 shares of common stock and a four-year option to purchase a number of shares of the Company's common stock that is equal to 5% of the total number of shares of the Company's common stock underlying all options of the Company granted simultaneous with the adoption of the Equity Incentive Plan to individuals employed by the Company as of September 1, 2010. 
 
The amount of contingent consideration recognized as of December 31, 2010 totaled $3,362,105, representing the fair value of the estimated payment of the full earn-out.   The contingent consideration is classified as a liability because the earn-out securities do not meet the fixed-for-fixed criteria under ASC 815-40-15 for equity classification.  Further ASC 815-40-15 requires us to re-measure the contingent consideration obligation at the end of every reporting period with the change in value reported in the consolidated statements of operations and, accordingly, we reported a gain of $937,522 and $3,189,048 for the three and nine months ended September 30, 2011, respectively.
 
The following is a summary of the estimated fair value of contingent consideration for the acquisition of Sinotop at December 31, 2010 and September 30, 2011.
 
Class of consideration
 
Number of
Instruments
   
Warrant
Exchange
Adjustment
(a)
   
Post Warrant
 Exchange
Number of
 Instruments
   
December 31,
2010 Fair
Value
   
Change in
Fair Value
   
September 30,
2011 Fair
Value
 
Common stock of the Company
   
30,286,464
     
24,900,152
     
55,186,616
   
$
1,817,187
   
$
479,496
   
$
2,296,683
 
Warrants
   
42,845,654
     
(42,845,654
)    
-
   
$
1,358,715
   
$
(1,358,715
)
 
$
-
 
Stock options
   
6,000,000
     
-
     
6,000,000
   
$
186,203
   
$
(58,803)
   
$
127,900
 
Total contingent consideration
           
 
           
$
3,362,105
   
$
(937,522)
   
$
2,424,583
 
 
(a)  As a result of the Company's warrant exchange, the 42,845,654 warrants were exchanged for 24,900,152 shares of common stock in October 2010.
 
The following table represents the estimated fair value of the current and the noncurrent portion of the contingent consideration liability for the acquisition of Sinotop at September 30, 2011.
 

   
As of September 30, 2011
 
   
Number of
   
Current
   
Noncurrent
   
Total
 
   
Instruments
   
Liability
   
Liability
   
Liability
 
Shares July 2012
    18,395,539     $ 881,698     $ -     $ 881,698  
Shares July 2013
    18,395,539       -       776,660       776,660  
Shares July 2014
    18,395,539       -       638,325       638,325  
Total Shares
    55,186,616     $ 881,698     $ 1,414,985     $ 2,296,683  
                                 
Options July 2012
    2,000,000     $ 45,180     $ -     $ 45,180  
Options July 2013
    2,000,000       -       43,760       43,760  
Options July 2014
    2,000,000       -       38,960       38,960  
Total Options
    6,000,000     $ 45,180     $ 82,720     $ 127,900  
                                 
Total Shares and Options
    61,186,616     $ 926,878     $ 1,497,705     $ 2,424,583  
 
4.             Shandong Media Joint Venture - Cooperation Agreement Additional Payment
 
In connection with the Shandong Newspaper Cooperation Agreement, based on certain financial performance thresholds we were required to make an additional payment of RMB 5,000,000 (approximately US $781,800).  In 2008, we recorded the additional payment due as an increase to our Shandong Media non-controlling interest account.  We are currently in discussions with Shandong Broadcast & TV Weekly Press and Modern Movie & TV Biweekly Press with regards to this payment.
 
5.             Deconsolidation of AdNet
 
We acquired AdNet during the first half of 2009.  Due to the shift of our business model to the PPV and VOD business, as of December 31, 2009 we permanently suspended day-to-day operations of AdNet.  Subsequently, we continued to maintain the technology and assets of AdNet, which we planned to use in our PPV and VOD business.
 
Due to recent advancements in other advertising technologies, the Company determined that AdNet’s remaining assets would no longer be used to support the PPV and VOD business.  As such, on August 3, 2011, the Company provided thirty-day notice of its termination of the VIE arrangement with AdNet, which served to relinquish the Company’s control and any right to economic benefit, as well as release the Company of any future liability, upon effectiveness of such termination on September 2, 2011.  Accordingly, as of June 30, 2011, the Company recognized a loss on the impairment of AdNet’s remaining assets in the amount of $212,180 and reversed the related deferred tax liability in the amount of $36,102.   Upon the effectiveness of termination during the third quarter of 2011, the Company deconsolidated AdNet’s liabilities and recognized a gain of $470,000 in accordance with ASC 810-10-40, Deconsolidation of a Subsidiary.
 
6.             Variable Interest Entities
 
Financial accounting standards require the “primary beneficiary” of a VIE to include the VIE’s assets, liabilities and operating results in its consolidated financial statements.   In general, a VIE is a corporation, partnership, limited-liability company, trust or any other legal structure used to conduct activities or hold assets that either (a) has an insufficient amount of equity to carry out its principal activities without additional subordinated financial support, (b) has a group of equity owners that are unable to make significant decisions about its activities, or (c) has a group of equity owners that do not have the obligation to absorb losses or the right to receive returns generated by its operations. 
 
Our consolidated VIEs were recorded at fair value on the date we became the primary beneficiary.  Our VIEs include Sinotop Beijing, Zhong Hai Video, AdNet (through September 6, 2011), Jinan Broadband and Shandong Media.
 
7.             Fair Value Measurements
 
Accounting standards require the categorization of financial assets and liabilities, based on the inputs to the valuation technique, into a three-level fair value hierarchy. The various levels of the fair value hierarchy are described as follows:
 
 
 
·
Level 1 — Financial assets and liabilities whose values are based on unadjusted quoted market prices for identical assets and liabilities in an active market that we have the ability to access.
 
 
·
Level 2 — Financial assets and liabilities whose values are based on quoted prices in markets that are not active or model inputs that are observable for substantially the full term of the asset or liability.
 
 
·
Level 3 — Financial assets and liabilities whose values are based on prices or valuation techniques that require inputs that are both unobservable and significant to the overall fair value measurement.
  
Accounting standards require the use of observable market data, when available, in making fair value measurements. When inputs used to measure fair value fall within different levels of the hierarchy, the level within which the fair value measurement is categorized is based on the lowest level input that is significant to the fair value measurement.

Common stocks are valued at closing price reported on the active market on which the individual securities are traded.

The fair value of the contingent purchase consideration liabilities at September 30, 2011 was valued using the Monte Carlo simulation method, which is based on valuation theories underlying the Black-Scholes Merton model.  Our valuation incorporates the following assumptions: risk-free interest rate of 0.58%, expected volatility of 60% based on the (High – Low) / (High + Low) method, expected life of 4 years and expected dividend yield of 0%.
 
The fair value of the contingent purchase liabilities at December 31, 2010 was valued using the Black-Scholes Merton model which incorporates the following assumptions: risk-free interest rate of 0.6% to 1.7%, expected volatility of 60% based on the (High – Low) / (High + Low) method, expected life of 2.0 to 4.5 years and expected dividend yield of 0%.

The following tables present the fair value hierarchy for those assets and liabilities measured at fair value on a recurring basis at September 30, 2011 and December 31, 2010:
 
   
September 30, 2011
       
   
Fair Value Measurements
(Unaudited)
       
   
Level 1
   
Level 2
   
Level 3
   
Total Fair
Value
 
Assets
                       
Available-for-sale securities
 
$
1,714
   
$
-
   
$
-
   
$
1,714
 
Liabilities
                               
Contingent purchase consideration, current
 
$
-
   
$
-
   
$
926,878
   
$
   926,878
 
                                 
Contingent purchase consideration, noncurrent   $ -     $ -     $ 1,497,705     $ 1,497,705  
 
   
December 31, 2010
         
   
Fair Value Measurements
         
   
Level 1
   
Level 2
   
Level 3
   
Total Fair
Value
 
Assets
                               
Available-for-sale securities
 
$
9,433
   
$
-
   
$
-
   
$
9,433
 
Liabilities
                               
Contingent purchase consideration, noncurrent
 
$
-
   
$
-
   
$
3,362,105
   
$
3,362,105
 
 
The following table summarizes the activity for financial liabilities utilizing Level 3 fair value measurements:
 
 
   
September 30,
   
December 31,
 
    2011     2010  
   
Contingent
Purchase
   
Contingent
Purchase
       
   
Consideration
   
Consideration
   
Warrants
 
   
(Unaudited)
                 
Fair value at January 1,
 
$
3,362,105
   
$
-
   
$
    819,150
 
Purchases, sales and issuances and settlements
   
-
     
2,860,978
     
-
 
Realized losses
   
-
     
-
     
(669,133)
 
Unrealized (gains) losses
   
(937,522)
     
501,127
     
-
 
Transfer to equity
   
-
     
-
     
(150,017)
 
   
$
2,424,583
   
$
3,362,105
   
$
-
 
 
8.           Cash and Cash Equivalents

Included in cash is $4,711,235 of funds that were temporarily held by the PRC government as part of a customary capital verification process pursuant to a transfer of RMB 30 million (US$4,711,235) to Sinotop WFOE via Sinotop Hong Kong.  These funds were released on October 24, 2011, upon completion of the capital verification process and Sinotop WFOE obtaining its license to operate.

9.            Related Party Transactions
 
Loan Receivable

During the nine months ended September 30, 2011, our loan receivable increased approximately $10,000, due to currency fluctuations.  At September 30, 2011 and December 31, 2010, approximately $315,000 and $305,000, respectively, is due the Company from Music Magazine.  The Company advanced funds in the form of a loan to Music Magazine to fund its operations.  The loan is unsecured, interest-free and is due on December 31, 2011.  Music Magazine is an affiliate of Modern Movie & TV Biweekly Press, our partner in our Shandong Media joint venture company.
 
Prepaid Expense
 
As of September 30, 2011, Shandong Media prepaid $206,000 to Modern Movie & TV Biweekly Press for rental of space for company functions.
 
Amounts due from Shareholders

As of September 30, 2011 and December 31, 2010, amounts due from shareholders include approximately $407,000 and $184,000, respectively, advanced to both Shandong Broadcast & TV Weekly Press and to Modern Movie & TV Biweekly Press.  All of the parties are our partners in our Shandong Media joint venture company.  The amount due of approximately $98,000 and $95,000 at September 30, 2011 and December 31, 2010, respectively, from Shandong Broadcast & TV Weekly Press is unsecured, interest free and has no fixed repayment terms.  The amount due of approximately $310,000 and $89,000 at September 30, 2011 and December 31, 2010, respectively, from Modern Movie & TV Biweekly Press is unsecured, interest free and is due on December 31, 2011.
 
Other Payable

As of September 30, 2011, Shandong Media has an other payable of approximately $81,000 related to a vehicle usage agreement with Shandong Broadcast & TV Weekly Press, our partner in our Shandong Media joint venture. 
 
Payable to Jinan Parent

During the nine months ended September 30, 2011, our payable to Jinan Parent increased approximately $4,000, due to currency fluctuations.  At September 30, 2011 and December 31, 2010, approximately $142,000 and $138,000, respectively, remained due to Jinan Parent.  This amount represents the remaining balance due from the initial acquisition which is unsecured, interest free and has no fixed repayment terms.
 
Revenue
 
During the three and nine months ended September 30, 2011, Jinan Broadband generated $120,000 of value-added service revenue from an affiliate, Jinan Radio and Television Networks Center (“Jinan Networks Center”).  Jinan Networks Center is the owner of Jinan Guangdian Jiahe Digital Television Co., Ltd. (“Jinan Parent”), our partner in our Jinan joint venture company, Jinan Broadband.  Jinan Parent has a 49% ownership interest in Jinan Broadband.

General and Administrative Expense
 
During the three and nine months ended September 30, 2011, Jinan Broadband incurred service fees to Jinan Networks Center of approximately $7,000 and $20,000, respectively.  To minimize administrative fees and maintain a low headcount at Jinan Broadband, Jinan Networks Center collects customer payments on behalf of Jinan Broadband, then remits the funds to Jinan Broadband.  Jinan Networks Center charges Jinan Broadband a 2% service fee on the payments collected.

Accounts Payable
 
As of September 30, 2011, Jinan Broadband had accounts payable to Jinan Networks Center of approximately $267,000 relating to maintenance, network leasing and facility rental fees.  Jinan Broadband’s operation is located in a building that is owned by Jinan Networks Center.  As such, Jinan Broadband shares the cable network usage with Jinan Networks Center.  Additionally, Jinan Broadband utilizes Jinan Networks Center’s staff to provide cable network maintenance support to their customers.  As such Jinan Network Center charges Jinan Broadband fees for these services and usage of their facility.
 
Amount due from Non-controlling Interest

Subsequent to our acquisition of Sinotop in July 2010, Sinotop and Hua Cheng entered into a variable interest entity agreement to form and operate Zhong Hai Video with equity ownership interests of 80% and 20%, respectively, on total registered capital of RMB 50 million.  Sinotop has contributed RMB 10 million and has a commitment to fund the remaining RMB 30 million.  As of September 30, 2011, Hua Cheng has not made its capital contribution of RMB 10 million.  Accordingly, we recorded an amount due from non-controlling interest in the amount of $1,563,674.
 
 
Receivable from Trustee

At the time we acquired Sinotop Hong Kong, one of the bank accounts acquired was in Zhang Yan’s name, our PRC trustee in the VIE agreements.  At December 31, 2010 this account remained open with a $172,000 balance and the amount was reported in other current assets in the consolidated balance sheet at December 31, 2010.  During the first quarter of 2011, the account was settled in full.
 
Other Revenue
 
During the quarter ended September 30, 2011, Zhong Hai Video, our 80% owned subsidiary, provided to Hua Cheng Film and Television Digital Program Co., Ltd. (“CHC”) consulting services for consideration of $23,000.  The Company recognized this amount as other revenue.  CHC is the 51% owner of Hua Cheng which in turns holds 20% ownership in Zhong Hai Video. In addition, our subsidiary, Sinotop Beijing holds 39% ownership in Hua Cheng and 80% ownership in Zhong Hai Video.
 
10.           Property and Equipment

During 2010, the Company analyzed for impairment the equipment at its Jinan Broadband subsidiary, as the equipment was taken out of service in July 2010 due to changes in customer needs.  As of December 31, 2010, the Company determined there were no other uses for the equipment and that the equipment cannot be sold.  As such, the Company recorded a total equipment impairment charge of approximately $1,505,000 in 2010.  During 2011, the impairment from 2010 was allocated to headend facilities and machinery.
 
During the second quarter of 2011, the Company reclassified approximately $144,000 of leasehold improvements from other assets to property and equipment and has reported the December 31, 2010 balance on a comparative basis.

Property and equipment approximated the following:

   
September 30,
   
December 31,
 
   
2011
   
2010
 
   
(Unaudited)
       
Furniture and office equipment
 
$
2,026,000
   
$
1,097,000
 
Headend facilities and machinery
   
16,341,000
     
15,762,000
 
Leasehold improvements
   
309,000
     
144,000
 
Vehicles
   
30,000
     
30,000
 
Total property and equipment
   
18,706,000
     
17,033,000
 
Less:  accumulated depreciation
   
(13,289,000
)
   
(11,064,000
)
Less:  impairment charge
   
 (136,000
)    
(1,505,000
)
Net carrying value
 
$
5,281,000
   
$
4,464,000
 
 
We recorded depreciation expense of approximately $650,000 and $1,818,000 for the three and nine months ended September 30, 2011, respectively.
 

11.           Goodwill and Intangible Assets
 
The Company has intangible assets relating to the acquisitions of its Jinan Broadband subsidiary, Shandong Media joint venture and Sinotop.  The Company amortizes its intangible assets that have finite lives.  The service agreement, publication rights, operating permits and charter/cooperation agreements are amortized over 20 years.  Customer relationships, non-compete agreement, and software technology are amortized over 10 years, 2.5 years and 3 years, respectively.  Software and licenses are amortized over 3 years and 5 years. As discussed in Note 5, the Company determined during 2011 that AdNet’s remaining assets would no longer be used.  As such, the Company recognized an impairment loss related to AdNet’s software technology in the amount of $189,241 during the quarter ended June 30, 2011.
 
A roll forward of our intangible assets activity from December 31, 2010 to September 30, 2011 follows:
 
   
Balance at
December 31,
2010
   
Additions
   
Amortization
Expense
   
Impairment
Charge
   
Foreign
Currency
Transl Adj
   
Balance at
September 30,
2011
 
Amortized intangible assets:
                                   
Service agreement
  $ 1,397,042     $ -     $ (64,660 )   $ -     $ -     $ 1,332,382  
Publication rights
    425,253       -       (18,225 )     -       -       407,028  
Customer relationships
    88,359       -       (8,836 )     -       -       79,523  
Operating permits
    636,519       -       (27,279 )     -       -       609,240  
Software technology
    315,403       -       (126,162 )     (189,241 )     -       -  
Charter / Cooperation agreements
    2,698,408       -       (103,343 )     -       -       2,595,065  
Noncompete agreement
    3,031,260       -       (1,091,253 )     -       -       1,940,007  
Software and licenses
    -       207,253       (23,063 )     -       (844 )     183,346  
Total amortized intangible assets
  $ 8,592,244     $ 207,253     $ (1,462,821 )   $ (189,241 )   $ (844 )   $ 7,146,591  
                                                 
Unamortized intangible assets:
                                               
Website
    -       234,290       -       -       -       234,290  
Goodwill
    6,105,478       -       -       -       -       6,105,478  
Total unamortized intangible assets
  $ 6,105,478     $ 234,290     $ -     $ -     $ -     $ 6,339,768  

In accordance with ASC 250, we recorded amortization expense related to our intangible assets of $436,872 and $530,098 for the three months ended September 30, 2010 and 2011, respectively, and $1,462,821 and $812,686 for the nine months ended September 30, 2011 and 2010, respectively.
 
The following table outlines the amortization expense for the next five years and thereafter:

   
Jinan
   
Shandong
         
Zhong Hai
       
Years ending December 31,
 
Broadband
   
Media
   
Sinotop
   
Video
   
Total
 
2011 (three months)
  $ 21,490     $ 18,962     $ 398,199     $ 15,697     $ 454,348  
2012
    85,961       75,852       1,592,796       62,789       1,817,398  
2013
    85,961       75,002       259,041       62,789       482,793  
2014
    85,961       72,454       137,791       31,135       327,341  
2015
    85,961       72,454       137,791       2,485       298,691  
Thereafter
    967,048       787,862       2,009,454       1,656       3,766,020  
Total amortization to be recognized
  $ 1,332,382     $ 1,102,586     $ 4,535,072     $ 176,551     $ 7,146,591  
 
 
12.           Accrued Expenses and Liabilities
 
Accrued expenses and liabilities consist of the following:

   
September 30,
2011
   
December 31,
 
   
(Unaudited)
   
2010
 
             
Accrued expenses and liabilities
 
$
1,139,000
   
$
720,000
 
Accrued payroll
   
91,000
     
 84,000
 
   
$
1,230,000
   
$
804,000
 
 
13.           Private Financings, July 2010
 
In connection with our July 2010, Private Financing, we entered into a Registration Rights Agreement with the investors under which we agreed to use commercially reasonable efforts to file a registration statement with the Securities and Exchange Commission, registering the shares of common stock and the shares of common stock underlying the Series A and Series B Preferred Stock and the Warrants.  The Agreement required us to file the registration statement within 45 days of the closing (by September 13, 2010) and to have it effective within 180 days (by January 26, 2011).  The registration statement which was initially filed on October 7, 2010, and amended thereafter on May 10, 2011, became effective on May 13, 2011.  The agreement did not provide for any specific penalties for non-performance and we did not record any liability for any penalties. 

14.           Private Financings, June 2011

On June 3, 2011, we completed a private placement transaction with FIL Investment Management (Hong Kong) Limited (“Fidelity”), professional fiduciary for various accounts from time to time. Pursuant to a securities purchase agreement between us and Fidelity, we issued to funds managed by Fidelity and its affiliates an aggregate of 73,440,972 shares of our common stock at a per share price of $0.088, resulting in aggregate gross proceeds to the Company of $6,462,806.  Pursuant to the securities purchase agreement with Fidelity, we may not, during the six month period following the closing, without the prior written consent of Fidelity, issue any shares of our common stock, including securities that are exercisable or convertible into common stock except for (i) up to 146,881,944 shares of our common stock at a per share price equal to or greater than US$0.088, (ii) shares of our common stock upon the exercise, exchange or conversion of our securities which were outstanding prior to the closing, (iii) shares of our common stock upon the exercise, exchange or conversion of callable warrants to purchase up to 50,000,000 shares of our common stock, with a per share exercise price equal to or greater than US$0.088, and (iv) pursuant to our 2010 Equity Incentive Plan, options to purchase up to an aggregate of 33,000,000 shares of our common stock to new and existing employees in the normal course of business.

In connection with the private placement transaction with Fidelity, we entered into a registration rights agreement with Fidelity pursuant to which we are obligated to file a registration statement with the U.S. Securities and Exchange Commission within thirty days following the closing to register the shares of common stock issued to Fidelity.  The registration statement was filed on June 29, 2011 and declared effective on July 8, 2011.

On June 7, 2011, we completed a private placement transaction with a group of twenty-seven accredited investors.  Pursuant to a securities purchase agreement between us and the investors, we issued to the investors an aggregate of 50,625,000 shares of our common stock at a per share price of $0.088, resulting in aggregate gross proceeds of $4,455,000.  The offer and sale of the shares to the accredited investors was made in compliance with the securities purchase agreement with Fidelity, and following the private placement with the accredited investors we may, without the prior written consent of Fidelity, sell up to an aggregate of 96,256,944 shares of our common stock during the six month period following the closing of the private placement transaction with Fidelity at a per share price equal or greater to US$0.088.

The Company paid issuance costs of $822,167 related to the June 2011 financings.
 

In connection with the June 3, 2011 private placement, we granted to Fidelity a right of first refusal during the six month period following the closing to purchase up to ten percent of the number of shares of common stock offered to other investors, as permitted in the securities purchase agreement, at a per share price of $0.088 and on identical terms as set forth in the securities purchase agreement.  This right qualifies as a derivative equity instrument in accordance with ASC 815, Derivatives and Hedging.  In the event the Company offers the maximum common shares permitted in the securities purchase agreement, the fair value of the derivative would have been approximately $333,000 using the Black-Scholes Merton model.  Due to the short window in which this right exists, as well as the current intentions of the Company’s management, we determined the fair value of the derivative to be insignificant.

In connection with the June 7, 2011 private placement, Fidelity had the right to purchase up to 5,625,000 shares of our common stock, or up to ten percent of the number of shares sold to the accredited investors, at a per share price of $0.088.  On June 7, 2011, we agreed with Fidelity that they will maintain the right to purchase such shares until December 3, 2011.  We valued this right at approximately $155,000 based on the Black-Scholes Merton model and recorded it as a right to purchase shares expense in connection with the placement.
 
15.           Net Loss Per Common Share
 
Basic net loss per common share is calculated by dividing the net loss by the weighted average number of outstanding common shares during the period. Diluted net loss per common share includes the weighted average dilutive effect of stock options, warrants and series preferred stocks.
 
The following securities were not included in the computation of diluted net earnings per share as their effect would have been antidilutive:

   
 
Three Months Ended
   
 
Nine Months Ended
 
   
September 30,
   
September 30,
   
September 30,
   
September 30,
 
   
2011
   
2010
   
2011
   
2010
 
   
(Unaudited)
   
(Unaudited)
   
(Unaudited)
   
(Unaudited)
 
                         
Net income
  $ 543,790     $ (9,545,666 )   $ (7,267,121 )   $ (11,769,326 )
                                 
Weighted average number of common shares outstanding
    785,034,721       209,661,044       716,695,566       113,700,299  
                                 
Incremental shares from the assumed exercise of dilutive stock options
    23,535,849       -       -       -  
                                 
Dilutive potential common shares
    808,570,570       209,661,044       716,695,566       113,700,299  
                                 
Net income (loss) per share:
                               
Basic
  $ 0.00     $ (0.05 )   $ (0.01 )   $ (0.10 )
Diluted
  $ 0.00     $ (0.05 )   $ (0.01 )   $ (0.10 )
 
The following securities were not included in the computation of diluted net earnings per share as their effect would have been antidilutive:
 
 
    Three Months Ended     Nine Months Ended  
   
September 30,
   
September 30,
   
September 30,
   
September 30,
 
   
2011
   
2010
   
2011
   
2010
 
   
(Unaudited)
   
(Unaudited)
   
(Unaudited)
   
(Unaudited)
 
Warrants
    26,643,500       643,684,822       26,643,500       643,684,822  
Right to Purchase
    5,625,000       -       5,625,000       -  
Options
    1,417,500       317,500       100,217,500       317,500  
Series A Preferred Stock
    70,000,000       70,000,000       70,000,000       70,000,000  
Series B Preferred Stock
    102,668,000       102,668,000       102,668,000       102,668,000  
Total
    206,354,000       816,670,322       305,154,000       816,670,322  
 
16.           Comprehensive Income (Loss)
 
Comprehensive income (loss) for the periods ended September 30, 2011 and 2010 are as follows:
 
   
3 Months Ended
 
9 Months Ended
 
   
September 30,
 
September 30,
 
   
2011
   
2010
 
2011
 
2010
 
   
(Unaudited)
   
(Unaudited)
 
(Unaudited)
 
(Unaudited)
 
Net income (loss) attributable to shareholders
 
$
543,790
   
$
(9,545,666
)
 
$
(7,267,121
)
 
$
(11,769,326
)
Other comprehensive income (loss):
                               
Currency translation adjustment
   
35,800
     
(13,059)
     
34,145
     
397,290
 
Unrealized loss on marketable equity securities
   
(2,573
)
   
(14,291
)
   
(7,719
)
   
       (5,660
)
Comprehensive income (loss)
 
$
577,017
   
$
(9,573,016
)
 
$
(7,240,695
)
 
$
(11,377,696
)
 
During the second quarter of 2010, the Company received payments in full satisfaction of the amounts due from non-controlling interests.  Subsequently, the Company made certain balance sheet reclassifications to correct an error related to the original purchase accounting for our Shandong Media Joint Venture.  The reclassification had the effect of increasing foreign currency translation by approximately $378,000.  The Company assessed the impact of this adjustment and determined that the effect of this adjustment would not have been material to the full year 2008 or 2009, and the reclassification during the second quarter 2010 did not result in a material misstatement to any previously issued annual or quarterly financial statements.

17.           Interest Expense and Share Issuance

In connection with the Convertible Notes issued in 2008 and 2009, there was no interest expense incurred for the nine months ended September 30, 2011 because the note holders converted 100% of the outstanding principal and interest owing on such notes into shares of common stock and warrants in connection with the closing of the financings on July 30, 2010 and pursuant to a Waiver and Agreement to Convert, dated May 20, 2010.  The Company incurred $439,000 of interest expense related to the notes in the nine months ended September 30, 2010.  This amount includes the balance of the unamortized amount that was remaining on the original issue discount due to the conversion of the notes into shares and common stock, as described in Note 13.
 
Also, as set forth in the related documents and with the consent of the note holders, we issued 653,119 shares to the note holders as payment for convertible note interest of approximately $133,000 for the nine months ended September 30, 2010 (none in 2011).
 
 
18.           Content Accounting

The Company obtains content through content license agreements and revenue sharing agreements with studios and distributors.  The license agreement may or may not be recognized in licensed content.

When the license fee is not known or reasonably determinable for a specific title, the title does not meet the criteria for recognition in licensed content in accordance with ASC 920-350-25-2.  The license fee is not known or reasonably determinable for a specific title in content license agreements that do not specify the license fee per title.  We expense as costs of revenues the greater of revenue sharing costs incurred through the end of the reporting period or the proportionate value of total minimum license fees expensed on a straight-line basis over the term of each license agreement.  Accrued license fees are classified on the consolidated balance sheets as “Other current liabilities”.  Commitments for license agreements that do not meet the criteria for recognition in licensed content are included in Note 23 to the consolidated financial statements.

Current and non-current licensed content reported on the balance sheet represent a $676,462 prepayment of content in the form of warrants issued as described in Note 19 to the consolidated financial statements.
 
19.           Warner Bros. License Agreement

On June 15, 2011, the Company, through its Chinese joint ventures Hua Cheng Hu Dong (Beijing) Film and Television Communication Co., Ltd. (“Hua Cheng”) and Zhong Hai Shi Xun Information Technology Co., Ltd. (“Zhong Hai Video”) entered into a Transactional Video on Demand and Pay-Per-View License Agreement (the “WB Agreement”) with CAV Warner Home Entertainment Co., Ltd. (“CAVW”), Warner Bros. Home Entertainment Group’s joint venture in China.  Pursuant to the WB Agreement, Hua Cheng was granted a license under copyright for a total term of fifty-four months beginning on July 1, 2011. The contract is subject to annual minimum payments. 
  
In connection with the WB Agreement, the Company issued 15,000,000 warrants to Warner Bros. Entertainment Inc. exercisable at a price per share of $0.088 for a term of five years beginning on May 12, 2011. These warrants are subject to a right of redemption exercisable by the Company in the event the closing price of the Company's common stock shall equal or exceed $0.176 per share for twenty consecutive trading days.  In accordance with ASC 505-50, Equity-based Payments to Non-employees, the fair value of equity instruments issued in the acquisition of goods or services should be recognized in the same manner as if an enterprise had paid cash.  As such, the Company estimated the fair value of the warrants granted using the Black-Scholes Merton model at $676,462 and capitalized the amount as licensed content.  Further, we classified the portion of total licensed content that we expect to amortize over the next twelve months in the amount of $150,325 as current licensed content with the remaining portion classified as non-current licensed content in the amount of $526,137.  The Black-Scholes Merton model incorporated the following assumptions:  risk-free interest rate of 1.89%, expected volatility of 60.0%, expected life of 5.0 years and expected dividend yield of 0%.  The Company began amortizing this asset during the third quarter of 2011 and accordingly recognized $38,000 during the three and nine months ended September 30, 2011.
 
20.           Share-Based Payments

Through September 30, 2011, we have 100,217,500 options and 32,268,500 warrants outstanding to purchase shares of our common stock.

Effective as of December 3, 2010, our board of directors of the company amended our 2008 Stock Incentive Plan and approved the YOU On Demand Holdings, Inc. 2010 Stock Incentive Plan (“the Plan”) pursuant to which options or other similar securities may be granted. The maximum aggregate number of shares of our common stock that may be issued under the Plan is 300,000,000 shares.

The following table provides the details of the approximate total share based payments during the periods ended September 30, 2011 and 2010:
 
   
Three Months Ended
   
Nine Months Ended
 
   
September 30,
   
September 30,
   
September 30,
   
September 30,
 
   
2011
   
2010
   
2011
   
2010
 
Stock option amortization
 
$
150,000
   
$
-
   
$
442,000
   
$
27,000
 
Stock issued as payment for interest
   
-
     
-
     
-
     
132,000
 
Stock issued for services
   
-
     
-
     
10,000
     
-
 
Stock warrants issued for services
   
-
     
-
     
12,000
     
-
 
Right to purchase shares
   
-
     
-
     
155,000
     
-
 
Total
 
$
150,000
   
$
-
   
$
619,000
   
$
159,000
 
 
 
The Company accounts for its stock warrant issuances pursuant to the provisions of ASC 505-50, Equity-based Payments to Nonemployees.  The fair value of each warrant issued is estimated on the date of grant using the Black-Scholes Merton valuation model.  The Black-Scholes Merton model incorporated the following assumptions for the warrants issued in 2011:  risk-free interest rate of 0.11% to 1.89%, expected volatility of 60.0%, expected life of 6 months to 5.0 years and expected dividend yield of 0%.

The Company accounts for its stock option awards pursuant to the provisions of ASC 718, Stock Compensation.  The fair value of each option award is estimated on the date of grant using the Black-Scholes Merton valuation model.  The Company recognizes the fair value of each option as compensation expense ratably using the straight-line attribution method over the service period, which is generally the vesting period.  The Black-Scholes Merton model incorporated the following assumptions for the options issued in 2011 and 2010:  risk-free interest rate of 2.92% to 3.43%, expected volatility of 60.0%, expected life of 10.0 years and expected dividend yield of 0%.
 
The Company recorded a charge of approximately $150,000 during the three months ended September 30, 2011 (none in 2010) and $619,000 and $159,000 for the nine months ended September 30, 2011 and 2010, respectively, in connection with share based payments.  Common shares were also issued to pay for consulting services and were recorded at the closing price of $0.05 per share on the issue date and expensed in an amount of $10,000 for the nine months ended September 30, 2011.

Stock option activity at September 30, 2011 and 2010 is summarized as follows:

   
September 30,
     
September 30,
   
   
2011
     
2010
   
   
(Unaudited)
     
(Unaudited)
   
   
Shares
   
Weighted
Average
Exercise
Price
   
Aggregate
Intrinsic
Value
   
Shares
   
Weighted
Average
Exercise
 Price
   
Aggregate
Intrinsic
 Value
 
Options outstanding at beginning of year
   
96,417,500
   
$
0.04
   
$
1,249,300
     
317,500
   
$
0.66
   
$
-
 
Granted
   
4,800,000
     
0.05
     
11,100
     
-
     
-
     
-
 
Exercised
   
-
     
-
     
-
     
-
     
-
     
-
 
Cancelled/expired
   
(1,000,000
)
   
0.04
     
(13,000
)
   
-
     
-
     
-
 
Options outstanding at end of period
   
100,217,500
   
$
0.04
   
$
1,247,400
     
317,500
   
$
0.66
   
$
-
 
Options exercisable at end of period
   
48,958,125
   
$
0.04
   
$
631,234
     
292,500
   
$
0.63
   
$
-
 
Options available for issuance
   
199,782,500
                     
2,182,500
                 
 
As of September 30, 2011, there were 100,217,500 options outstanding with 48,958,125 options exercisable at a weighted average exercise price of $0.04 with a weighted average remaining life of 9.13 years.
 
As of September 30, 2011 the Company had total unrecognized compensation expense related to options granted of approximately $1,487,000 which will be recognized over a remaining service period of 3.75 years.
 
21.          Warrants
 
In connection with the Company’s Share Exchange, capital raising efforts in 2007, the Company’s January 2008 Financing of Convertible Notes and Class A Warrants, the April 2010 Convertible Note, the July 2010 and June 2011 financings, the WB Agreement and a service agreement, the Company issued warrants to investors and service providers to purchase common stock of the Company.  As of September 30, 2011, the weighted average exercise price was $0.49 and the weighted average remaining life was 2.77 years.  The following table outlines the warrants outstanding as of September 30, 2011 and December 31, 2010:
 
 
   
September 30,
   
December 31,
         
   
2011
   
2010
         
Warrants Outstanding
 
Number of
Warrants
Issued
   
Number of
Warrants
Issued
   
Exercise
Price
 
Expiration
Date
Share Exchange Consulting Warrants ($0.60 exercise price)
   
4,474,800
     
4,474,800
   
$
0.600
 
1/11/2013
2007 Private Placement Broker Warrants ($0.60 exercise price)
   
640,000
     
640,000
   
$
0.600
 
1/11/2013
2007 Private Placement Investor Warrants ($2.00 exercise price)
   
4,000,000
     
4,000,000
   
$
2.000
 
1/11/2013
July 2010 Sinotop Acquisition Warrants ($0.60 exercise price)
   
1,278,700
     
1,278,700
   
$
0.600
 
1/11/2013
July 2010 Sinotop Acquisition Warrants ($2.00 exercise price)
   
1,000,000
     
1,000,000
   
$
2.000
 
1/11/2013
May 2011 Warner Brothers Warrants ($0.088 exercise price)
   
15,000,000
     
-
   
$
0.088
 
     5/11/2016
June 2011 Fidelity Right to Purchase ($0.088 exercise price)
   
5,625,000
     
-
   
$
0.088
 
    12/3/2011
2011 Service Warrants ($0.096 exercise price)
   
250,000
     
-
   
$
0.096
 
     6/15/2016
     
32,268,500
     
11,393,500
           
 
22.           Income Taxes
 
Deferred taxes are recognized for the future tax consequences attributable to temporary differences between the carrying amounts of assets and liabilities for financial statement purposes and income tax purposes using enacted rates expected to be in effect when such amounts are realized or settled.  The effect on deferred taxes of a change in tax rates is recognized in income in the period that includes the enactment date.  The income tax benefit for the three and nine month periods ended September 30, 2011 and 2010 results primarily from changes in calculated deferred taxes, particularly liabilities associated with intangible assets.  Deferred tax assets associated with net operating losses have a full valuation allowance recorded against them except in those instances in which they can offset deferred tax liabilities. The income tax benefit for the three and nine months ended September 30, 2011 is net of a $476 and $1,398 expense for estimated penalties and interest that would be due on unrecognized tax positions.
 
The Company’s current management does not believe that the Company has filed United States corporate income tax returns for several years prior to the January 23, 2007 merger transaction and accompanying change in management. Management believes that because of the lack of taxable income there will be no material penalties resulting from any previous non-compliance.
 
The estimation of the income tax effect of any future repatriation of the Company’s share of any profits generated by its interests in its Chinese and Hong Kong subsidiaries is not practicable.  This is because it may involve additional Chinese taxation on the distributions, or sale proceeds, to the extent that they are in excess of the investments made, but with credits for some or all of the Chinese taxes against U.S. taxes, plus the utilization of operating losses of the WFOE.  All of the foregoing would be subject to various tax-planning strategies.
 
The Company’s United States income tax returns are subject to examination by the Internal Revenue Service (“IRS”) for at least 2006 and later years. Because of the uncertainty regarding the filing of tax returns for earlier years it is possible that the Company is subject to examination by the IRS for earlier years. All of the Chinese tax returns for the Chinese operating companies are subject to examination by the Chinese tax authorities for all periods from the companies’ inceptions in years from 2007 to 2010 as applicable.
 
 
China passed a new Enterprise Income Tax Law (“EIT Law”) and implementing rules, both of which became effective January 1, 2008. Under the EIT Law, an enterprise established outside of China with “de facto management bodies” within China is considered a “resident enterprise,” meaning that it can be treated in a manner similar to a Chinese enterprise for enterprise income tax purposes.
 
If the EIT Law were to be applied to You On Demand Holdings, Inc., (the Nevada Corporation itself) and/or to China Broadband, Ltd., those entities would be subject to Chinese corporate income tax, currently at a rate of 25%. To date, these two entities have generated no net income so there would be no Chinese tax liability even if the EIT Law were to apply to them.
 
23.           Commitments and Contingencies
 
The Company has employment agreements with certain employees that provide severance payments upon termination of employment under certain circumstances, as defined in the applicable agreements. As of September 30, 2011, the Company's potential minimum cash obligation to these employees was approximately $810,000.
  
The Company is committed to paying leased property costs related to our Sinotop office during the rest of 2011, 2012 and 2013 in the amounts of RMB 373,126 (USD 58,345), RMB 1,949,391 (USD 304,821), and RMB 1,774,251 (USD 277,435), respectively.

The Company is committed to paying product related costs during the rest of 2011, 2012, 2013, 2014, and 2015 in the amounts of RMB 1,462,511 (USD 228,689), RMB 1,462,511 (USD 228,689), RMB 2,925,022 (USD 457,378), RMB 5,850,044 (USD 914,755), and RMB 5,850,044 (USD 914,755), respectively. 
 
According to the purchase agreement with “Shandong Fu Ren”, Zhong Hai Video is obligated to pay RMB 1 million (USD 156,367) to “Shandong Fu Ren” if Zhong Hai Video ceases the purchase agreement (investment in Shanghai Tian Duo).  
 
From time to time, we may become involved in various lawsuits and legal proceedings which arise in the ordinary course of business.  However, litigation is subject to inherent uncertainties, and an adverse result in these or other matters may arise from time to time that may harm our business.  We are currently not aware of any such legal proceedings or claims that we believe will have a material adverse effect on our business, financial condition or operating results.
 
 
Cautionary Note Regarding Forward Looking Statements

This Form 10-Q contains “forward-looking” statements that involve risks and uncertainties. You can identify these statements by the use of forward-looking words such as "may", "will", "expect", "anticipate", "estimate", "believe", "continue", or other similar words. You should read statements that contain these words carefully because they discuss our future expectations, contain projections of our future results of operations or financial condition or state other "forward-looking" information. We believe that it is important to communicate our future expectations to our investors. However, these forward-looking statements are not guarantees of future performance and actual results may differ materially from the expectations that are expressed, implied or forecasted in any such forward-looking statements. There may be events in the future that we are unable to accurately predict or control, including weather conditions and other natural disasters which may affect demand for our products, and the product–development and marketing efforts of our competitors. Examples of these events are more fully described in the Company’s Annual Report on Form 10-K for the year ended December 31, 2010 under Part I. Item 1A. Risk Factors.

Unless required by law, the Company undertakes no obligation to update publicly any forward-looking statements, whether as a result of new information, future events or otherwise. However, readers should carefully review the reports and documents the Company files from time to time with the SEC, particularly its Quarterly Reports on Form 10-Q, Annual Report on Form 10-K , Current Reports on Form 8-K and all amendments to those reports.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

The following management’s discussion and analysis should be read in conjunction with our financial statements and the notes thereto and the other financial information appearing elsewhere in this report. In addition to historical information, the following discussion contains certain forward-looking information. See “Cautionary Note Regarding Forward Looking Statements” above for certain information concerning those forward looking statements.

Overview

We operate in the Chinese media segment, through our Chinese subsidiaries and VIEs, (1) a business which provides integrated value-added service solutions for the delivery of PPV, VOD, and enhanced premium content for cable providers to be launched in 2011, (2) a cable broadband business based in the Jinan region of China and (3) a television program guide, newspaper and magazine publishing business based in the Shandong region of China.

Through our VIE, Sinotop, and it’s 80% owned operating joint-venture Zhong Hai Shi Xun Information Technology Co., Ltd ("Zhong Hai Video"), we will provide integrated value-added service solutions for the delivery of PPV, VOD, and enhanced premium content for cable providers.  Zhong Hai Video's revenue will be derived primarily from a VOD model, consisting of a fee to view movies, popular titles and live events.
 
Through our VIE, Jinan Broadband, we provide cable and wireless broadband services, principally internet services, Internet Protocol Point wholesale services, related network equipment rental and sales, and fiber network construction and maintenance.  Jinan Broadband’s revenue consists primarily of sales to our PRC-based internet consumers, cable modem consumers, business customers and other internet and cable services.

Through our VIE Shandong Media, we operate our publishing business, which includes the distribution of periodicals, the publication of advertising, the organization of public relations events, the provision of information related services, copyright transactions, the production of audio and video products, and the provision of audio value added communication services. Shandong Media's revenue consists primarily of sales of publications and advertising revenues.

We acquired AdNet, a business that provided internet content advertising in cafés, during the first half of 2009.  Due to the shift of our business model to the PPV and VOD business, as of December 31, 2009 we permanently suspended day-to-day operations of AdNet.  Effective September 2, 2011, we terminated the VIE arrangement with AdNet, which served to relinquish our control and any right to economic benefit with respect to AdNet, as well as release us of any future liability.

June 2011 Private Placements
 

On June 3, 2011, we completed a private placement transaction with FIL Investment Management (Hong Kong) Limited or Fidelity, as professional fiduciary for various accounts from time to time. Pursuant to a securities purchase agreement between us and Fidelity, we issued to funds managed by Fidelity and its affiliates an aggregate of 73,440,972 shares of our common stock at a per share price of $0.088, resulting in aggregate gross proceeds to the Company of $6,462,806.  Pursuant to the securities purchase agreement with Fidelity, we may not, during the six month period following the closing, without the prior written consent of Fidelity, issue any shares of our common stock, including securities that are exercisable or convertible into common stock except for (i) up to 146,881,944 shares of our common stock at a per share price equal to or greater than US$0.088, (ii) shares of our common stock upon the exercise, exchange or conversion of our securities which were outstanding prior to the closing, (iii) shares of our common stock upon the exercise, exchange or conversion of callable warrants to purchase up to 50,000,000 shares of our common stock, with a per share exercise price equal to or greater than US$0.088, and (iv) pursuant to our 2010 Equity Incentive Plan, options to purchase up to an aggregate of 33,000,000 shares of our common stock to new and existing employees in the normal course of business.

In connection with the private placement transaction with Fidelity, we entered into a registration rights agreement with Fidelity pursuant to which we are obligated to file a registration statement with the U.S. Securities and Exchange Commission within thirty days following the closing to register the shares of common stock issued to Fidelity.  The registration statement was filed on June 29, 2011 and declared effective on July 8, 2011.
 
On June 7, 2011, we completed a private placement transaction with a group of twenty-seven accredited investors.  Pursuant to a securities purchase agreement between us and the investors, we issued to the investors an aggregate of 50,625,000 shares of our common stock at a per share price of $0.088, resulting in aggregate gross proceeds of $4,455,000.  The offer and sale of the shares to the accredited investors was made in compliance with the securities purchase agreement with Fidelity, and following the private placement with the accredited investors we may, without the prior written consent of Fidelity, sell up to an aggregate of 96,256,944 shares of our common stock during the six month period following the closing of the private placement transaction with Fidelity at a per share price equal or greater to US$0.088.

Principal Factors Affecting Our Financial Performance

Our operating results are primarily affected by the following factors:
 
 
Growth in the Chinese Economy. We operate in China and derive almost all of our revenues from sales to customers in China. Economic conditions in China, therefore, affect virtually all aspects of our operations, including the demand for our products, the availability and prices of our raw materials and our other expenses. China has experienced significant economic growth, achieving an average annual growth rate of over 10% in gross domestic product from 1996 through 2010. China is expected to experience continued growth in all areas of investment and consumption, even in the face of a global economic recession. However, China has not been entirely immune to the global economic slowdown and is experiencing a slowing of its growth rate.
 
 
PRC Economic Stimulus Plans. The PRC government has issued a policy entitled “Central Government Policy On Stimulating Domestic Consumption To Counter The Damage Result From Export Business Of The Country,” pursuant to which the PRC Central Government is dedicating approximately $580 billion to stimulate domestic consumption. Companies that are either directly or indirectly related to construction, and to the manufacture and sale of building materials, electrical household appliances and telecommunication equipment, are expected to benefit.   We could potentially benefit if the stimulus plan injects funds into cable infrastructure allowing access to our PPV network.
 
 
Deployment of Value-added Services. To augment our product offerings and create other revenue sources, we work with strategic partners to deploy value-added services to our cable customers.  Value-added services, including but not limited to the synergies created by the additions of our new assets, will become a focus of revenue generation for our company.  No assurance can be made that we will add other value-added services, or if added, that they will succeed.
 
Taxation

United States

YOU On Demand Holdings, Inc. is subject to United States tax at a tax rate of 34%. No provision for income taxes in the United States has been made as YOU On Demand Holdings, Inc. had no income taxable in the United States.
 

Cayman Islands

CB Cayman was incorporated in the Cayman Islands. Under the current law of the Cayman Islands, it is not subject to income or capital gains tax. In addition, dividend payments are not subject to withholding tax in the Cayman Islands.

Hong Kong

Our indirect subsidiary, Sinotop Hong Kong, was incorporated in Hong Kong and under the current laws of Hong Kong, is subject to Profits Tax of 16.5%. No provision for Hong Kong Profits Tax has been made as Sinotop Hong Kong has no taxable income.
 
The People’s Republic of China

Under the EIT Law, our Chinese subsidiaries and VIEs are subject to an earned income tax of 25.0%.

Our future effective income tax rate depends on various factors, such as tax legislation, the geographic composition of our pre-tax income and non-tax deductible expenses incurred.  Our management carefully monitors these legal developments to determine if there will be any change in the statutory income tax rate.

Consolidated Results of Operations

Comparison of Three Months Ended September 30, 2011 and 2010

The following table sets forth key components of our results of operations (unaudited) for the periods indicated.
 

    3 Months Ended              
   
September 30,
   
September 30,
   
Amount
   
%
 
   
2011
   
2010
   
Change
   
Change
 
                         
Revenue
  $ 1,981,000     $ 2,055,000     $ (74,000 )     -4 %
Cost of revenue
    1,441,000       1,263,000       178,000       14 %
Gross profit
    540,000       792,000       (252,000 )     -32 %
                                 
Selling, general and adminstrative expenses
    2,215,000       588,000       1,627,000       277 %
Professional fees
    791,000       185,000       606,000       328 %
Depreciation and amortization
    1,087,000       1,178,000       (91,000 )     -8 %
Impariments of long-lived assets
    19,000       -       19,000       -  
                                 
Loss from operations
    (3,572,000 )     (1,159,000 )     (2,413,000 )     208 %
                                 
Interest & other income / (expense)
                               
Interest income
    2,000       2,000       -       -  
Interest expense
    -       (257,000 )     257,000       -100 %
Inducement to convert and reduction in conversion price of convertible notes
    -       (6,706,000 )     6,706,000       -100 %
Cost of reduction in exercise price of certain warrants
    -       (150,000 )     150,000       -100 %
Change in fair value of warrant liabilities
    -       755,000       (755,000 )     -100 %
Change in fair value of contingent consideration
    3,189,000       -       3,189,000       -  
Gain on equity investment
    6,000       -       6,000       -  
Gain on deconsolidation of AdNet
    470,000       -       470,000       -  
Other
    (44,000 )     -       (44,000 )     -  
Income (loss) before income taxes and noncontrolling interests
    51,000       (7,515,000 )     7,566,000       -101 %
                                 
Income tax benefit
    75,000       76,000       (1,000 )     -1 %
                                 
Net income (loss), net of tax
    126,000       (7,439,000 )     7,565,000       -102 %
                                 
Net loss attributable to noncontrolling interests
    418,000       208,000       210,000       101 %
                                 
Net income (loss) attributable to YOU On Demand shareholders
    544,000       (7,231,000 )     7,775,000       -108 %
                                 
Dividends on preferred stock
    -       (2,315,000 )     2,315,000       -100 %
                                 
Net income (loss) attributable to YOU On Demand common s/h
  $ 544,000     $ (9,546,000 )   $ 10,090,000       -106 %
 
The following table breaks down the results of operations (unaudited) for the three months ended September 30, 2011 and 2010 between our VIE operating companies and our non-operating companies.  Our VIE operating companies include Jinan Broadband, Shandong Media and Zhong Hai Video.
 
 
   
3 Months Ended
    3 Months Ended  
   
September 30, 2011
    September 30, 2010  
         
% of
                     
% of
             
         
Total
   
Non-
               
Total
   
Non-
       
   
Operating
   
Revenue
   
Operating
   
Total
   
Operating
   
Revenue
   
Operating
   
Total
 
                                                 
                                                 
Revenue
  $ 1,981,000           $ -     $ 1,981,000     $ 2,055,000           $ -     $ 2,055,000  
Cost of revenue
    1,441,000             -       1,441,000       1,263,000             -       1,263,000  
Gross profit
    540,000       27 %     -       540,000       792,000       39 %     -       792,000  
                                                                 
Selling, general and adminstrative expenses
    1,016,000       51 %     1,199,000       2,215,000       580,000       28 %     8,000       588,000  
Professional fees
    6,000       0 %     785,000       791,000       -       0 %     185,000       185,000  
Depreciation and amortization
    669,000       34 %     418,000       1,087,000       648,000       32 %     530,000       1,178,000  
Impairments to long-lived assets
    19,000       1 %     -       19,000       -       0 %     -       -  
                                                                 
Loss from operations
    (1,170,000 )     -59 %     (2,402,000 )     3,572,000       (436,000 )     -21 %     (723,000 )     (1,159,000 )
                                                                 
Interest & other income / (expense)
                                                               
Interest income
    2,000               -       2,000       2,000               -       2,000  
Interest expense
    -               -       -       (1,000 )             (256,000 )     (257,000 )
Inducement to convert and reduction in conversion price of convertible notes
    -               -               -               (6,706,000 )     (6,706,000 )
Cost of reduction in exercise price of certain warrants
    -               -               -               (150,000 )     (150,000 )
Change in fair value of warrant liabilities
    -               -       -       -               755,000       755,000  
Change in fair value of contingent consideration
    -               3,189,000       3,189,000       -               -       -  
Loss on equity investment
    -               6,000       6,000       -               -       -  
Gain on deconsolidation of AdNet
    470,000               -       470,000       -               -       -  
Other     (43,000             -       (43,000 )     -               -       -  
                                                                 
Income (loss) before income taxes and noncontrolling interest
    (741,000 )             793,000       52,000       (435,000 )             (7,080,000 )     (7,515,000 )
                                                                 
Income tax benefit
    9,000               65,000       74,000       -               76,000       76,000  
                                                                 
Net income (loss)
    (732,000 )             858,000       126,000       (435,000 )             (7,004,000 )     (7,439,000 )
                                                                 
Net loss attributable to noncontrolling interest
    418,000               -       418,000       208,000               -       208,000  
                                                                 
Net income (loss) attributable to YOU on Demand shareholders
  $ (314,000 )           $ 858,000     $ 544,000     $ (227,000 )           $ (7,004,000 )   $ (7,231,000 )
                                                                 
Dividends on preferred stock
    -               -       -       -               (2,315,000 )     (2,315,000 )
                                                                 
Net income (loss) attributable to YOU On Demand common s/h
  $ (314,000 )             858,000       544,000     $ (227,000 )           $ (9,319,000 )   $ (9,546,000 )

Revenues

Our revenues are primarily generated by our operating companies in the PRC, primarily Jinan Broadband and Shandong Publishing.  As of September 30, 2011, Zhong Hai Video, our VOD business, had not fully commenced operations and, therefore, had minimal revenues through September 30, 2011.

Revenues for the three months ended September 30, 2011 totaled $1,981,000, as compared to $2,055,000 for the same period of 2010.  The decrease in revenue of approximately $74,000, or 4%, is attributable to decreases in revenue from Shandong Media as discussed below.

For the three months ended September 30, 2011, Jinan Broadband’s revenue consisted primarily of sales to our PRC based Internet consumers, cable modem consumers, business customers and other internet and cable services of $1,160,000 and the same for 2010.

For the three months ended September 30, 2011, Shandong Publishing’s revenue consisted primarily of sales of publications and advertising revenue of $798,000, a decrease of $96,000, or 11%, as compared to $894,000 in 2010.  The decrease is attributable to decreases in our publication revenues.
 
For the three months ended September 30, 2011, Zhong Hai Video earned $23,000 in other revenue, an increase of $23,000 as compared to $0 in 2010.  The increase is attributable to consulting services provided.
 
 
Gross Profit

Our gross profit for the three months ended September 30, 2011 was $540,000, as compared to $792,000 for the same period of 2010.  The decrease in gross profit of approximately $252,000, or 32%, is mainly due to increased telecom bandwidth costs at Jinan Broadband.

Gross profit as a percentage of revenue was 27% for the three months ended September 30, 2011, as compared to 39% for same period in 2010.  The decrease is mainly due to increased costs at Jinan Broadband and licensed content costs related to our new PPV and VOD business.

Selling, General and Administrative Expenses

Our selling, general and administrative expenses for the three months ended September 30, 2011 increased approximately $1,627,000 to $2,215,000, as compared to $588,000 for the three months ended September 30, 2010.  The increase is mainly due to increased costs related to the development of our new PPV and VOD business.

Salaries and personnel costs are the primary components of selling, general and administrative expenses.  For the three months ended September 30, 2011, salaries and personnel costs accounted for 48% of our selling, general and administrative expenses.  During the three months ended September 30, 2011, salaries and personnel costs totaled $1,070,000, an increase of $937,000, or 704%, as compared to $133,000 for the same period of 2010.  The increase in salaries and personnel costs is primarily attributable to corporate costs related to our new PPV and VOD business.

The other major components of our selling, general and administrative expenses include marketing and promotions, rent and travel.  For the three months ended September 30, 2011, these costs totaled $512,000, an increase of $369,000, or 259% as compared to $143,000 for the same period of 2010.
 
As we continue to grow our new PPV and VOD business, other expenses that have increased include investor relations, office and telephone.
 
Professional Fees

Professional fees are generally related to public company reporting and governance expenses as well as legal fees related to our new PPV and VOD business.  Our costs for professional fees increased $606,000, or 326%, to $791,000 in the three months ended September 30, 2011, from $185,000 during the same period of 2010, primarily due to legal fees related to our new PPV and VOD business.
 
Depreciation and Amortization

Our depreciation expense decreased $2,000, or 0%, to $650,000 in the three months ended September 30, 2011 from $648,000 during the same period of 2010.   
 
Our amortization expense decreased $93,000, or 18%, to $437,000 in the three months ended September 30, 2011 from $530,000 during the same period of 2010  The decrease is mainly attributable to amortization related to our AdNet software technology no longer being recognized due to the deconsolidation of AdNet.
 
Interest and Other Income (Expense), net

Interest income
Our interest income was $2,000 for both three month periods ended September 30, 2011 and 2010.

Interest expense
Interest expense was primarily related to our 5% Convertible Notes issued in January 2008 and June 2009.  All convertible notes were converted to common stock in 2010 and therefore we had no interest expense for the three months ended September 30, 2011.  Interest expense for the three months ended September 30, 2010 was $257,000.  The interest expense in 2010 included amortization of the original issue discount on the notes resulting from the allocation of fair value to the warrants issued in the financing.  Interest on the Notes compounded monthly at the annual rate of five percent (5%).
 
 
Inducement to convert and reduction in conversion price of convertible notes
For three months ended September 30, 2010, the Company recorded a charge of $6,706,000 related to the cost of new warrants issued and reduction in the conversion price of the 2008 and 2009 Convertible Notes in connection with the July 2010 financings and pursuant to a Waiver and Agreement to Convert, dated May 20, 2010, the note holders agreed to convert 100% of the outstanding principal and interest owing on such notes into shares of common stock and warrants.

Cost of reduction in exercise price of certain warrants
The Company recorded a charge of $150,000 in 2010 related to the initial Class A Investor and Broker warrants issued in 2008.

Change in fair value of warrant liabilities
We recorded a gain of $755,000 classified as a change in fair value of warrants on our statement of operations for the three months ended September 30, 2010.
 
There was no gain or charge recorded in 2011 because in connection with the July 2010 financings, the Company and the investors agreed to amend the warrants to remove the non-standard anti-dilution protection. As a result, the warrants were fair valued at July 30, 2010 and were then re-classified to equity.

Change in fair value of contingent consideration
Our contingent consideration related to our acquisition of Sinotop is classified as a liability because the earn-out securities do not meet the fixed-for-fixed criteria under ASC 815-40-15.  Further, ASC 815-40-15 requires us to re-measure at the end of every reporting period with the change in value reported in the statement of operations and accordingly we reported a gain of approximately $3,189,000 for the three months ended September 30, 2011 (none in 2010).
 
Loss on equity investment
In July 2010, our VIE, Sinotop Beijing, acquired a 39% equity interest in Hua Cheng.  We account for this investment under the equity method, which applies to investments in affiliates that are not controlled by the Company but where the Company has the ability to exercise significant influence.  In accordance with this method, we recorded the earnings and losses attributable to the investment in the accompanying consolidated statements of operations.  Accordingly, for the three months ended September 30, 2011 we recorded a gain on equity investment of approximately $6,000 (none in 2010).
 
Gain on Deconsolidation of AdNet
Upon the effectiveness of termination during the third quarter of 2011, the Company deconsolidated AdNet’s liabilities and recognized a gain of $470,000.
 
Net Loss Attributable to Non-controlling Interest

49% of the operating loss of our Jinan Broadband subsidiary is allocated to Jinan Parent, the 49% co-owner of this business.  During the three months ended September 30, 2011, $192,000 of our operating losses from Jinan Broadband was allocated to Jinan Parent, as compared to $141,000 during the same period of 2010.
 
50% of the operating loss of our Shandong Media joint venture is allocated to our 50% Shandong Newspaper joint venture partner.  During the three months ended September 30, 2011, $107,000 of our operating loss from Shandong Media was allocated to Shandong Newspaper, as compared to $49,000 loss during the same period of 2010.

20% of the operating loss of our Zhong Hai Video joint venture is allocated to Hua Cheng, our 20% joint venture partner.  During the three months ended September 30, 2011, $119,000 of our operating loss from Zhong Hai Video was allocated to Hua Cheng, as compared to $18,000 during the same period of 2010.

Net Income (Loss) Attributable to Common Shareholders

Net income attributable to common shareholders for the three months ended September 30, 2011 was $544,000.  For the same period 2010, the Company had a net loss attributable to common shareholders of $9,546,000, a net income increase of $10,052,000, or 105%.  The increase is primarily due to significant costs in 2010 associated with the issuance of new warrants from the July 2010 financings, the reduction in conversion price of the convertible notes which were converted to equity at the same time and dividends on preferred stock.   Further, there was a $3,189,000 gain recognized in 2011 from the change in fair value of contingent consideration.  This increase in net income was then offset by increases in 2011 from selling, general and administrative expenses associated with our new PPV and VOD business.
 

Dividends on preferred stock
 
We recorded a beneficial conversion feature associated with the Series A and Series B Preferred Stocks, which was limited to the proceeds allocated to them.  Because the preferred stocks are immediately convertible at the option of the holder, we recorded deemed dividends of $2,315,000 from the beneficial conversion feature associated with the issuances of the Series A and Series B Preferred Stock.

Comparison of Nine Months Ended September 30, 2011 and 2010

The following table sets forth key components of our results of operations for the periods indicated.

    9 Months Ended              
   
September 30,
   
September 30,
   
Amount
   
%
 
   
2011
   
2010
   
Change
   
Change
 
                         
Revenue
  $ 5,573,000     $ 5,748,000     $ (175,000 )     -3 %
Cost of revenue
    3,791,000       3,372,000       419,000       12 %
Gross profit
    1,782,000       2,376,000       (594,000 )     -25 %
                                 
Selling, general and adminstrative expenses
    6,311,000       1,927,000       4,384,000       228 %
Professional fees
    1,658,000       736,000       922,000       125 %
Depreciation and amortization
    3,281,000       3,080,000       201,000       7 %
Impariments of long-lived assets
    341,000       1,650,000       (1,309,000 )     -79 %
                                 
Loss from operations
    (9,809,000 )     (5,017,000 )     (4,792,000 )     96 %
                                 
Interest & other income / (expense)
                               
Interest income
    7,000       4,000       3,000       75 %
Interest expense
    (1,000 )     (530,000 )     529,000       -100 %
Right to purchase expense
    (155,000 )     -       (155,000 )     -  
Inducement to convert and reduction in conversion price of convertible notes
    -       (6,706,000 )     6,706,000       -100 %
Cost of reduction in exercise price of certain warrants
    -       (150,000 )     150,000       -100 %
Change in fair value of warrant liabilities
    -       819,000       (819,000 )     -100 %
Change in fair value of contingent consideration
    937,000       -       937,000       -  
Gain on sale of securities
    -       1,000       (1,000 )     -100 %
Loss on equity investment
    (7,000 )     -       (7,000 )     -  
Gain on deconsolidation of AdNet
    470,000       -       470,000          
Other
    (42,000 )     1,000       (43,000 )     -4300 %
                                 
Loss before income taxes and noncontrolling interests
    (8,600,000 )     (11,578,000 )     2,978,000       -26 %
                                 
Income tax benefit
    262,000       336,000       (74,000 )     -22 %
                                 
Net loss, net of tax
    (8,338,000 )     (11,242,000 )     2,904,000       -26 %
                                 
Net loss attributable to noncontrolling interests
    1,071,000       1,788,000       (717,000 )     -40 %
                                 
Net loss attributable to YOU On Demand shareholders
    (7,267,000 )     (9,454,000 )     2,187,000       -23 %
                                 
Dividends on preferred stock
    -       (2,315,000 )     2,315,000       -100 %
                                 
Net loss attributable to YOU On Demand common s/h
  $ (7,267,000 )   $ (11,769,000 )   $ 4,502,000       -38 %
 

The following table breaks down the results of operations (unaudited) for the nine months ended September 30, 2011 and 2010 between our VIE operating companies and our non-operating companies.  Our VIE operating companies include Jinan Broadband, Shandong Media and Zhong Hai Video.

   
9 Months Ended
    9 Months Ended  
   
September 30, 2011
    September 30, 2010  
         
% of
                     
% of
             
         
Total
   
Non-
               
Total
   
Non-
       
   
Operating
   
Revenue
   
Operating
   
Total
   
Operating
   
Revenue
   
Operating
   
Total
 
                                                 
                                                 
Revenue
  $ 5,573,000           $ -     $ 5,573,000     $ 5,748,000           $ -     $ 5,748,000  
Cost of revenue
    3,791,000             -       3,791,000       3,372,000             -       3,372,000  
Gross profit
    1,782,000       32 %     -       1,782,000       2,376,000       41 %     -       2,376,000  
                                                                 
Selling, general and adminstrative expenses
    2,795,000       50 %     3,516,000       6,311,000       1,531,000       27 %     396,000       1,927,000  
Professional fees
    122,000       2 %     1,536,000       1,658,000       2,000       0 %     734,000       736,000  
Depreciation and amortization
    1,929,000       35 %     1,352,000       3,281,000       2,270,000       39 %     810,000       3,080,000  
Impairments to long-lived assets
    129,000       2 %     212,000       341,000       1,650,000       29 %     -       1,650,000  
                                                                 
Loss from operations
    (3,193,000 )     -57 %     (6,616,000 )     (9,809,000 )     (3,077,000 )     -54 %     (1,940,000 )     (5,017,000 )
                                                                 
Interest & other income / (expense)
                                                               
Interest income
    7,000               -       7,000       4,000               -       4,000  
Interest expense
    (2,000 )             -       (2,000 )     (1,000 )             (529,000 )     (530,000 )
Right to purchase expense
    -               (155,000 )     (155,000 )     -               -       -  
Inducement to convert and reduction in conversion price of convertible notes
    -               -               -               (6,706,000 )     (6,706,000 )
Cost of reduction in exercise price of certain warrants
    -               -               -               (150,000 )     (150,000 )
Change in fair value of warrant liabilities
    -               -       -       -               819,000       819,000  
Change in fair value of contingent consideration
    -               938,000       938,000       -               -       -  
Gain on sale of securities
    -               -       -                       1,000       1,000  
Loss on equity investment
    -               (7,000 )     (7,000 )     -               -       -  
Gain on deconsolidation of AdNet
    -               470,000       470,000       -               -       -  
Other
    (42,000 )             -       (42,000 )     -               1,000       1,000  
                                                                 
Income (loss) before income taxes and noncontrolling interest
    (3,230,000 )             (5,370,000 )     (8,600,000 )     (3,074,000 )             (8,504,000 )     (11,578,000 )
                                                                 
Income tax benefit
    30,000               232,000       262,000       -               336,000       336,000  
                                                                 
Net income (loss)
    (3,200,000 )             (5,138,000 )     (8,338,000 )     (3,074,000 )             (8,168,000 )     (11,242,000 )
                                                                 
Net loss attributable to noncontrolling interest
    1,071,000               -       1,071,000       1,788,000               -       1,788,000  
                                                                 
Net income (loss) attributable to YOU on Demand shareholders
  $ (2,129,000 )           $ (5,138,000 )   $ (7,267,000 )   $ (1,286,000 )           $ (8,168,000 )   $ (9,454,000 )
                                                                 
Dividends on preferred stock
    -               -               -               (2,315,000 )     (2,315,000 )
                                                                 
Net income (loss) attributable to YOU On Demand common s/h
  $ (2,129,000 )             (5,138,000 )     (7,267,000 )   $ (1,286,000 )           $ (10,483,000 )   $ (11,769,000 )

Revenues

Our revenues are generated by our operating companies in the PRC, primarily Jinan Broadband and Shandong Media.  As of September 30, 2011, Zhong Hai Video, our VOD business, had not fully commenced operations and, therefore, had minimal revenues through September 30, 2011.

Revenues for the nine months ended September 30, 2011 totaled $5,573,000, as compared to $5,748,000 for the same period of 2010.  The decrease in revenue of approximately $175,000, or 3%, is attributable to decreases in revenue from both Jinan Broadband and Shandong Media as discussed below.
 

For the nine months ended September 30, 2011, Jinan Broadband’s revenue consisted primarily of sales to our PRC based Internet consumers, cable modem consumers, business customers and other internet and cable services of $3,366,000 a decrease of $104,000, or 3%, as compared to revenues of $3,470,000 for 2010. The decrease is attributable to a decrease in our value-added services and HDMI services.

For the nine months ended September 30, 2011, Shandong Media's revenue consisted primarily of sales of publications and advertising revenue of $2,184,000, a decrease of $94,000, or 4%, as compared to $2,278,000 in 2010.  The decrease is attributable to decreases in our publication revenues.

For the nine months ended September 30, 2011, Zhong Hai Video earned $23,000 in other revenue, an increase of $23,000 as compared to $0 in 2010.  The increase is attributable to consulting services provided.

Gross Profit

Our gross profit for the nine months ended September 30, 2011 was $1,782,000, as compared to $2,376,000 for the same period of 2010.  The decrease in gross profit of approximately $594,000, or 25%, is due to both decreased revenue and increased costs at both Jinan Broadband and Shandong Media.  The increase in costs attributable to Jinan Broadband was due to increases in salaries and fixed maintenance costs.  The increase in costs attributable to Shandong Media was due to increases in printing costs.

Gross profit as a percentage of revenue was 32% for the nine months ended September 30, 2011, as compared to 41% for same period in 2010.  The decrease is due to both decreased revenue and increased costs at both Jinan Broadband and Shandong Media. In addition, we had increased costs attributable to licensed content related to our new PPV and VOD business.

Selling, General and Administrative Expenses

Our selling, general and administrative expenses for the nine months ended September 30, 2011 increased approximately $4,384,000 to $6,311,000, as compared to $1,927,000 for the nine months ended September 30, 2010.  The increase is mainly due to increased costs related to the development of our new PPV and VOD business.

Salaries and personnel costs are the primary components of selling, general and administrative expenses.  For the nine months ended September 30, 2011, salaries and personnel costs accounted for 53% of our selling, general and administrative expenses.  During the nine months ended September 30, 2011, salaries and personnel costs totaled $3,344,000, an increase of $2,363,000, or 241%, as compared to $981,000 for the same period of 2010.  The increase in salaries and personnel costs is primarily attributable to corporate costs related to our new PPV and VOD business.
 
The other major components of our selling, general and administrative expenses include marketing and promotions, rent, and travel.  For the nine months ended September 30, 2011, these costs totaled $1,499,000, an increase of $1,097,000, or 273% as compared to $402,000 for the same period of 2010.

As we continue to grow our new PPV and VOD business, other expenses that have increased include investor relations, maintenance, office and telephone.

Professional Fees

Professional fees are generally related to public company reporting and governance expenses as well as legal fees related to our new PPV and VOD business.  Our costs for professional fees increased $922,000, or 125%, to $1,658,000 in the nine months ended September 30, 2011, from $736,000 during the same period of 2010, primarily due to our new PPV and VOD business.
  
Depreciation and Amortization

Our depreciation expense decreased $450,000, or 20%, to $1,818,000 in the nine months ended September 30, 2011 from $2,267,000 during the same period of 2010.   The decrease is due to equipment at Jinan Broadband being taken out of service due to changes in customer needs.  As such, the Company ceased depreciating such equipment as of July 2010.
 
 
Our amortization expense increased $650,000, or 80%, to $1,463,000 in the nine months ended September 30, 2011 from $813,000 during the same period of 2010.  The increase is mainly attributable to $1,195,000 amortization costs related to intangible assets acquired in our Sinotop acquisition.

Interest income
Our interest income increased $3,000, or 75%, to $7,000 for the nine months ended September 30, 2011 from 4,000 during the same period of 2010.

Interest expense
For the nine months ended September 30, 2010, interest expense was primarily related to our 5% Convertible Notes issued in January 2008 and June 2009.  All convertible notes were converted to common stock in 2010 and therefore we had minimal interest of $1,000 for the nine months ended September 30, 2011.   Interest expense for the nine months ended September 30, 2010 was $530,000.  The interest expense in 2010 included amortization of the original issue discount on the notes resulting from the allocation of fair value to the warrants issued in the financing.  Interest on the Notes compounded monthly at the annual rate of five percent (5%).
 
Right to purchase shares
We recorded a charge of $155,000 related to Fidelity’s right to purchase up to 5,625,000 shares of our common stock pursuant to the June 7, 2011 private placement, as discussed in Note 14 to the unaudited consolidated financial statements.

Inducement to convert and reduction in conversion price of convertible notes
For the nine months ended September 30, 2010, the Company recorded a charge of $6,706,000 related to the cost of new warrants issued and reduction in the conversion price of the 2008 and 2009 Convertible Notes in connection with the July 2010 financings and pursuant to a Waiver and Agreement to Convert, dated May 20, 2010, the note holders agreed to convert 100% of the outstanding principal and interest owing on such notes into shares of common stock and warrants.

Cost of reduction in exercise price of certain warrants
For the nine months ended September 30, 2010, the Company recorded a charge of $150,000 related to the initial Class A Investor and Broker warrants issued in 2008.

Change in fair value of warrant liabilities
We recorded a gain of $819,000 classified as a change in fair value of warrants on our statement of operations for the nine months ended September 30, 2010.
 
There was no gain or charge recorded in 2011 because in connection with the July 2010 financings, the Company and the investors agreed to amend the warrants to remove the non-standard anti-dilution protection. As a result, the warrants were fair valued at July 30, 2010 and were then re-classified to equity.

Change in fair value of contingent consideration
The contingent consideration related to our acquisition of Sinotop is classified as a liability because the earn-out securities do not meet the fixed-for-fixed criteria under ASC 815-40-15.  Further, ASC 815-40-15 requires us to re-measure at the end of every reporting period with the change in value reported in the statement of operations and accordingly we reported a gain of approximately $937,000 for the nine months ended September 30, 2011 (none in 2010).

Gain on sale of marketable equity securities
We had no sales of marketable equity securities during the nine month period ended September 30, 2011.   We recorded a gain of approximately $1,000 on the sale of our Cablecom Holding shares during the same period in 2010.

Loss on equity investment
In July 2010, our VIE, Sinotop Beijing, acquired a 39% equity interest in Hua Cheng.  We account for this investment under the equity method, which applies to investments in affiliates that are not controlled by the Company but where the Company has the ability to exercise significant influence.  In accordance with this method, we recorded the earnings and losses attributable to the investment in the accompanying consolidated statements of operations.  Accordingly, for the nine months ended September 30, 2011 we recorded a loss on equity investment of approximately $7,000 (none in 2010).
 
Gain on Deconsolidation of AdNet
Upon the effectiveness of termination during the third quarter of 2011, the Company deconsolidated AdNet’s liabilities and recognized a gain of $470,000.
 
Net Loss Attributable to Non-controlling Interest
 

49% of the operating loss of our Jinan Broadband subsidiary is allocated to Jinan Parent, the 49% co-owner of this business.  During the nine months ended September 30, 2011, $506,000 of our operating losses from Jinan Broadband was allocated to Jinan Parent, as compared to $1,079,000 during the same period of 2010.

50% of the operating loss of our Shandong Media joint venture is allocated to our 50% Shandong Newspaper joint venture partner.  During the nine months ended September 30, 2011, $219,000 of our operating loss from Shandong Media was allocated to Shandong Newspaper, as compared to $691,000 during the same period of 2010.

20% of the operating loss of our Zhong Hai Video joint venture is allocated to Hua Cheng, our 20% joint venture partner.  During the nine months ended September 30, 2011, $345,000 of our operating loss from Zhong Hai Video was allocated to Hua Cheng, as compared to $18,000 during the same period of 2010.

Net Loss Attributable to Common Shareholders

Net loss attributable to common shareholders for the nine months ended September 30, 2011 was $7,267,000, a decrease of $4,502,000, or 38%, as compared to $11,769,000 for the nine months ended September 30, 2010.  The decrease is primarily due to significant costs in 2010 associated with the issuance of new warrants from the July 2010 financings, the reduction in conversion price of the convertible notes which were converted to equity at the same time and dividends on preferred stock.   Further, there was a $937,000 gain recognized in 2011 from the change in fair value of contingent consideration.  This decrease in net loss was then offset by increases in 2011 from selling, general and administrative expenses associated with our new PPV and VOD business.

Dividends on preferred stock

We recorded a beneficial conversion feature associated with the Series A and Series B Preferred Stocks, which was limited to the proceeds allocated to them.  Because the preferred stocks are immediately convertible at the option of the holder, we recorded deemed dividends of $2,315,000 in 2010 from the beneficial conversion feature associated with the issuances of the Series A and Series B Preferred Stock.
 
Liquidity and Capital Resources

As of September 30, 2011 we had cash and cash equivalents (including restricted cash) of approximately $10,126,000.  The following table provides a summary of our net cash flows from operating, investing, and financing activities.

   
Nine months Ended
 
   
September 30, 2011
   
September 30, 2010
 
   
(Unaudited)
   
(Unaudited)
 
Net cash used in operating activities
 
$
(3,123,000)
   
$
(1,334,000)
 
Net cash used in investing activities
   
(3,119,000)
     
(2,309,000)
 
Net cash provided by financing activities
   
10,247,000
      9,112,000  
Effect of exchange rate change in cash
   
(463,000)
     
149,000
 
Net increase in cash and cash equivalents
   
3,542,000
     
5,618,000
 
Cash and cash equivalents at beginning of the period
   
6,584,000
     
2,191,000
 
Cash and cash equivalents at end of the period
   
10,126,000
     
7,809,000
 
 
Operating Activities

Net cash used in operating activities for the nine months ended September 30, 2011 and 2010 was $3,123,000 and $1,334,000, respectively.  The increased cash used relates to corporate and Sinotop operation costs incurred in the development of our new PPV and VOD business.

Investing Activities

Investing activities for the nine months ended September 30, 2011 and 2010 used cash of $3,119,000 and $2,309,000, respectively.  For 2011, this amount consisted primarily of (i) $2,396,000 for additions to property and equipment and (ii) $215,000 loan to our Shandong Media shareholder and (iii) investments in intangibles of $428,000.  For 2010, this amount consisted of (i) $1,162,000 for additions to property and equipment, (ii) $575,000 investment in an equity company associated with Sinotop and (iii) $508,000 net loans to our Shandong Media shareholders.
 
 
Financing activities

Cash provided by financing activities for the nine months ended September 30, 2011and 2010 was $10,247,000 and $9,112,000 respectively.  For 2011, the amount consisted primarily of proceeds received from the sale of our equity securities from our June 2011 financings.  For 2010, the amount consisted primarily of net proceeds of $9,128,000 from the sale of equity securities.
 
As previously disclosed, the Company consummated financings in June 2011 and July 2010 which resulted in gross proceeds of $10.9 million and $9.625 million, respectively.  While we believe that our current cash balance in addition to anticipated cash inflows will sustain our present level of business operations for the next twelve months, we anticipate that we may need to raise additional funds to fully implement our business model and related strategies.  The fact that we have incurred significant continuing losses and have relied on debt and equity financings to fund our operations to date, could raise substantial doubt about our ability to continue as a going concern.

Obligations Under Material Contracts

On March 7, 2008, we entered into a cooperation agreement with Shandong Broadcast and Modern Movie, pursuant to which Shandong Broadcast and Modern Movie contributed their entire businesses and transferred certain employees to Shandong Media in exchange for a 50% stake in Shandong Media.  In exchange, we were required to pay 10 million RMB (approximately $1.5 million), which was contributed to Shandong Media as working and acquisition capital.  Based on certain financial performance requirements, we were required to make an additional payment of 5 million RMB (approximately US $781,800).  In 2008, we recorded the additional payment due as an increase to our Shandong Media noncontrolling interest account.  We are currently in discussions with Shandong Broadcast and Modern Movie with regards to the outstanding $781,800 payment.

Effects of Inflation

Inflation and changing prices have not had a material effect on our business and we do not expect that inflation or changing prices will materially affect our business in the foreseeable future. However, our management will closely monitor the price change and continually maintain effective cost control in operations.

Off Balance Sheet Arrangements

We do not have any off balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity or capital expenditures or capital resources that is material to an investor in our securities.

Seasonality
 
Our operating results and operating cash flows historically have not been subject to seasonal variations. This pattern may change, however, as a result of new market opportunities or new product introductions.

Critical Accounting Policies and Significant Judgments and Estimates

The discussion and analysis of our financial condition and results of operation are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America.  Note 2 to the consolidated financial statements in our Annual Report on Form 10-K for the year ended December 31, 2010 includes a summary of our most significant accounting policies.  There have been no material changes to the critical accounting policies previously disclosed in our 2010 Annual Report on Form 10-K.  The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of assets and liabilities.  On an ongoing basis, we evaluate our estimates and judgments, including those related to revenue recognition, inventories, securities available for sale, income taxes, stock-based compensation and warrant liabilities.  Management bases its estimates on historical experience and on various other factors that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources.  Actual results may differ from these estimates under different assumptions or conditions.  Periodically, we review our critical accounting estimates with the Audit Committee of our Board of Directors.
 

Recent Accounting Pronouncements

In June 2011, the FASB issued Accounting Standards Update (ASU) No. 2011-05, Comprehensive Income (Topic 220): Presentation of Comprehensive Income, (“ASU 2011-05”), which eliminates the option to present components of other comprehensive income as part of the statement of changes in shareholders’ equity and requires that all non-owner changes in shareholders’ equity be presented either in a single continuous statement of comprehensive income or in two separate but consecutive statements.  In the two-statement approach, the first statement should present total net income and its components followed consecutively by a second statement that should present total other comprehensive income, the components of other comprehensive income, and the total of comprehensive income.  ASU 2011-05 does not change the items that must be reported in other comprehensive income.  ASU 2011-05 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2011, and the guidance of ASU 2011-05 must be applied retrospectively for all periods presented in the financial statements.  Early adoption is permitted, and ASU 2011-05 does not require any incremental disclosures in addition to those already required under ASC 2505 or under any transition disclosures.  We do not expect that the adoption of ASU 2011-05 will have a material impact on our consolidated financial statements.

In September 2011, the FASB issued Accounting Standards Update (ASU) No. 2011-08, Intangibles—Goodwill and Other (Topic 350): Testing Goodwill for Impairment, (“ASU 2011-08”), which amends current guidance to allow a company to first assess qualitative factors to determine whether it is necessary to perform the two-step quantitative goodwill impairment test. The amendment also improves previous guidance by expanding upon the examples of events and circumstances that an entity should consider between annual impairment tests in determining whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount. ASU 2011-08 is effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011.  Early adoption is permitted, including for annual and interim goodwill impairment tests performed as of a date before September 15, 2011, if an entity’s financial statements for the most recent annual or interim period have not yet been issued. We do not expect that the adoption of ASU 2011-08 will have a material impact on our consolidated financial statements.

Management does not believe that any recently issued, but not yet effective, accounting standards, if currently adopted, would have a material effect on the accompanying financial statements.
 
Item 3.    Quantitative and Qualitative Disclosures about Market Risk

We are a smaller reporting company as defined by Rule 12b-2 of the Securities Exchange Act of 1934 and are not required to provide the information under this item.

Item 4.    Controls and Procedures

Evaluation of Disclosure Controls and Procedures

We maintain disclosure controls and procedures (as defined in Rule 13a-15(e) under the Exchange Act) that are designed to ensure that information that would be required to be disclosed in Exchange Act reports is recorded, processed, summarized and reported within the time period specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including to our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.

As required by Rule 13a-15 under the Exchange Act, our management, including our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of the design and operation of our disclosure controls and procedures as of September 30, 2011. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that as of September 30, 2011, and as of the date that the evaluation of the effectiveness of our disclosure controls and procedures was completed, our disclosure controls and procedures were not effective to satisfy the objectives for which they are intended.

Changes in Internal Control over Financial Reporting
 
 
There were no changes in our internal control over financial reporting identified in connection with the evaluation performed that occurred during the period covered by this report that have materially affected or are reasonably likely to materially affect, our internal control over financial reporting.
 
PART II - OTHER INFORMATION
 
Item 1.    Legal Proceedings.

There are no material pending legal proceedings to which we are a party or to which any of our property is subject. To the best of our knowledge, no such actions against us are contemplated or threatened.

Item 1A. Risk Factors
 
In addition to the other information set forth in this report, you should carefully consider the factors discussed in Part I, "Item 1A. Risk Factors" in our Annual Report on Form 10-K for the year ended December 31, 2010, which could materially affect our business, financial condition or future results. The risks described in our Annual Report on Form 10-K are not the only risks facing our Company. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition or future results.

Item 2.    Unregistered Sales of Equity Securities and Use of Proceeds.

There were no unregistered sales of equity securities during the fiscal quarter ended September 30, 2011.

Item 3.    Defaults Upon Senior Securities.
 
There were no defaults upon senior securities during the fiscal quarter ended September 30, 2011.

Item 4. [Removed and Reserved]
 
Item 5. Other Information.
 
None.

Item 6.    Exhibits.
 
EXHIBIT INDEX
 
Exhibit No.
 
Description
31.1
 
Certification by Chief Executive Officer pursuant to Sarbanes Oxley Section 302.
31.2
 
Certification by Chief Financial Officer pursuant to Sarbanes Oxley Section 302.
32.1
 
Certification by Chief Executive Officer pursuant to 18 U.S.C. Section 1350.
32.2
 
Certification by Chief Financial Officer pursuant to 18 U.S.C. Section 1350.
101.INS   Instance Document
101.SCH   XBRL Taxonomy Extension Schema Document
101.CAL   XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF   XBRL Taxonomy Extension Definition Linkbase Document
101.LAB   XBRL Taxonomy Extension Label Linkbase Document
101.PRE   XBRL Taxonomy Extension Presentation Linkbase Document
 
 

In accordance with the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized on November 14, 2011.

 
YOU ON DEMAND HOLDINGS, INC
     
 
By:
/s/ Marc Urbach
   
Name: Marc Urbach
   
Title: President and Chief Financial Officer (Principal Accounting Officer and Principal Financial Officer)

 
Exhibit Index

Exhibit No.
 
Description
 
Certification by Chief Executive Officer pursuant to Sarbanes Oxley Section 302.
 
Certification by Chief Financial Officer pursuant to Sarbanes Oxley Section 302.
 
Certification by Chief Executive Officer pursuant to 18 U.S.C. Section 1350.
 
Certification by Chief Financial Officer pursuant to 18 U.S.C. Section 1350.
101.INS   Instance Document
101.SCH   XBRL Taxonomy Extension Schema Document
101.CAL   XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF   XBRL Taxonomy Extension Definition Linkbase Document
101.LAB   XBRL Taxonomy Extension Label Linkbase Document
101.PRE   XBRL Taxonomy Extension Presentation Linkbase Document
 
 
38