10-Q 1 coactive_q.txt FORM 10-Q ================================================================================ UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended September 30, 2004 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to --------------- --------------- Commission file number 0-20394 COACTIVE MARKETING GROUP, INC. ------------------------------------------------------ (Exact name of registrant as specified in its charter) Delaware 06-1340408 ------------------------------- ---------------------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number) 415 Northern Boulevard Great Neck, New York 11021 ---------------------------------------- ---------- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (516) 622-2800 -------------- 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. [X] Yes [ ] No Indicate by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). [ ] Yes [X] No As of November 3, 2004, 5,941,856 shares of the Registrant's Common Stock, par value $.001 per share, were outstanding. ================================================================================ INDEX ----- COACTIVE MARKETING GROUP, INC. AND SUBSIDIARIES Page ---- PART I - FINANCIAL INFORMATION ------------------------------ Item 1. Consolidated Financial Statements of CoActive Marketing Group, Inc. and Subsidiaries (Unaudited) Consolidated Balance Sheets - September 30, 2004 and March 31, 2004 3 Consolidated Statements of Operations - Three and six months ended September 30, 2004 and September 30, 2003 4 Consolidated Statement of Stockholders' Equity - Six months ended September 30, 2004 5 Consolidated Statements of Cash Flows - Six months ended September 30, 2004 and September 30, 2003 6 Notes to Unaudited Consolidated Financial Statements 7 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 10 Item 3. Quantitative and Qualitative Disclosures About Market Risk 17 Item 4. Controls and Procedures 17 PART II - OTHER INFORMATION --------------------------- Items 1-3. Not Applicable 17 Item 4. Submission of Matters to a Vote of Security Holders 17 Item 5. Not Applicable 18 Item 6. Exhibits and Reports on Form 8-K. 18 SIGNATURES 19 ---------- 2 PART I - FINANCIAL INFORMATION COACTIVE MARKETING GROUP, INC. Consolidated Balance Sheets September 30, 2004 and March 31, 2004
September 30, 2004 March 31, 2004* ----------------- ----------------- (Unaudited) Assets Current assets: Cash and cash equivalents $ 4,083,900 $ 3,164,158 Accounts receivable, net of allowance for doubtful accounts of $184,557 at September 30, 2004 and $295,981 at March 31, 2004 15,662,674 10,504,973 Unbilled contracts in progress 2,578,921 2,083,507 Deferred contract costs 1,038,116 339,100 Prepaid taxes 357,139 449,582 Prepaid expenses and other current assets 425,959 608,175 ----------------- ----------------- Total current assets 24,146,709 17,149,495 Property and equipment, net 2,416,597 2,598,929 Note and interest receivable from officer 776,253 762,276 Goodwill, net 19,895,694 19,895,694 Intangible asset 200,000 200,000 Deferred financing costs, net 92,175 72,905 Other assets 17,398 17,398 ----------------- ----------------- Total assets $ 47,544,826 $ 40,696,697 ================= ================= Liabilities and Stockholders' Equity Current liabilities: Accounts payable $ 10,045,332 $ 7,525,683 Deferred revenue 8,409,755 7,932,115 Accrued job costs 5,255,345 2,860,550 Accrued compensation 61,344 96,127 Other accrued liabilities 1,954,013 1,480,070 Deferred taxes payable 595,659 63,016 Notes payable bank - current 1,950,000 1,450,000 Subordinated notes payable - current 425,000 425,000 ----------------- ----------------- Total current liabilities 28,696,448 21,832,561 Notes payable bank - long term 2,559,500 3,534,500 Minority interest of consolidated subsidiary 262,085 151,806 ----------------- ----------------- Total liabilities 31,518,033 25,518,867 ----------------- ----------------- Stockholders' equity: Class A convertible preferred stock, par value $.001; -- -- authorized 650,000 shares; none issued and outstanding Class B convertible preferred stock, par value $.001; -- -- authorized 700,000 shares; none issued and outstanding Preferred stock, undesignated; authorized 3,650,000 shares; none -- -- issued and outstanding Common stock, par value $.001; authorized 25,000,000 shares; issued and outstanding 5,941,856 shares at September 30, 2004 and March 31, 2004 5,941 5,941 Additional paid-in capital 8,844,766 8,853,166 Retained earnings 7,176,086 6,318,723 ----------------- ----------------- Total stockholders' equity 16,026,793 15,177,830 ----------------- ----------------- Total liabilities and stockholders' equity $ 47,544,826 $ 40,696,697 ================= =================
* The consolidated balance sheet as of March 31, 2004 has been summarized from the Company's audited balance sheet as of that date. See accompanying notes to unaudited consolidated financial statements. 3 COACTIVE MARKETING GROUP, INC. Consolidated Statements of Operations Three and Six Months Ended September 30, 2004 and September 30, 2003 (Unaudited)
Three Months Ended September 30, Six Months Ended September 30, -------------------------------- -------------------------------- 2004 2003 2004 2003 -------------- -------------- -------------- -------------- Sales $ 23,223,187 $ 16,557,568 $ 42,626,281 $ 36,761,491 Operating expenses: Reimbursable costs and expenses 4,973,908 4,264,837 11,566,267 8,628,096 Outside production costs and expenses 9,892,344 5,036,636 14,974,337 12,590,048 Salaries, payroll taxes and benefits 4,898,849 4,789,336 10,142,005 9,305,741 General and administrative expense 2,228,742 2,384,840 4,305,333 4,621,245 -------------- -------------- -------------- -------------- Total operating expenses 21,993,843 16,475,649 40,987,942 35,145,130 -------------- -------------- -------------- -------------- Operating income 1,229,344 81,919 1,638,339 1,616,361 Interest expense, net 63,830 55,400 120,952 118,701 -------------- -------------- -------------- -------------- Income before provision for income taxes, minority interest in net (income) loss of consolidated subsidiary and cumulative effect of change in accounting principle for revenue recognition 1,165,514 26,519 1,517,387 1,497,660 Provision for income taxes 434,402 5,872 549,745 616,882 -------------- -------------- -------------- -------------- Net income before minority interest in net (income) loss of consolidated subsidiary and cumulative effect of change in accounting principle for revenue recognition 731,112 20,647 967,642 880,778 Minority interest in net (income) loss of consolidated subsidiary (71,286) (8,801) (110,279) 9,273 -------------- -------------- -------------- -------------- Net income before cumulative effect of change in accounting principle for revenue recognition 659,826 11,846 857,363 890,051 Cumulative effect of change in accounting principle for revenue recognition, net of income taxes -- -- -- (2,182,814) -------------- -------------- -------------- -------------- Net income (loss) $ 659,826 $ 11,846 $ 857,363 $ (1,292,763) ============== ============== ============== ============== Net income per common share before cumulative effect of change in accounting principle for revenue recognition: Basic $ .11 $ -- $ .14 $ .17 ============== ============== ============== ============== Diluted $ .10 $ -- $ .13 $ .15 ============== ============== ============== ============== Cumulative effect of change in accounting principle for revenue recognition, net of income taxes $ -- $ -- $ -- $ (.42) -------------- -------------- -------------- -------------- Net income (loss) per common share after cumulative effect of change in accounting principle for revenue recognition: Basic $ .11 $ -- $ .14 $ (.25) ============== ============== ============== ============== Diluted $ .10 $ -- $ .13 $ (.25) ============== ============== ============== ============== Weighted average number of common shares outstanding before cumulative effect of change in accounting principle for revenue recognition: Basic 5,941,856 5,135,035 5,941,856 5,127,780 Dilutive effect of options and warrants 413,439 1,088,784 430,207 995,079 -------------- -------------- -------------- -------------- Diluted 6,355,295 6,223,819 6,372,063 6,122,859 ============== ============== ============== ============== Weighted average number of shares outstanding after cumulative effect of change in accounting principle for revenue recognition: Basic 5,941,856 5,135,035 5,941,856 5,127,780 ============== ============== ============== ============== Diluted 6,355,295 6,223,819 6,372,063 6,122,859 ============== ============== ============== ==============
See accompanying notes to unaudited consolidated financial statements. 4 COACTIVE MARKETING GROUP, INC. Consolidated Statement of Stockholders' Equity Six Months Ended September 30, 2004 (Unaudited)
Common Stock par value $.001 Total --------------------------------- Additional Retained Stockholders' Shares Amount Paid-in Capital Earnings Equity --------------- --------------- --------------- --------------- --------------- Balance, March 31, 2004 5,941,856 $ 5,941 $ 8,853,166 $ 6,318,723 $ 15,177,830 Costs incurred in connection with sale of stock -- -- (8,400) -- (8,400) Net income -- -- -- 857,363 857,363 --------------- --------------- --------------- --------------- --------------- Balance, September 30, 2004 5,941,856 $ 5,941 $ 8,844,766 $ 7,176,086 $ 16,026,793 =============== =============== =============== =============== ===============
See accompanying notes to unaudited consolidated financial statements. 5 COACTIVE MARKETING GROUP, INC. Consolidated Statements of Cash Flows Six Months Ended September 30, 2004 and 2003 (Unaudited)
2004 2003 ------------ ------------ Cash flows from operating activities: Net income (loss) $ 857,363 $ (1,292,763) Adjustments to reconcile net income (loss) to net cash provided by operating activities: (Credit) provision for bad debt expense (101,544) 18,000 Depreciation and amortization 326,170 360,104 Deferred income taxes 532,643 206,973 Minority interest of consolidated subsidiary 110,279 (4,832) Cumulative effect of change in accounting principle for revenue recognition -- 2,182,814 Other -- (4,441) Changes in operating assets and liabilities: (Increase) in accounts receivable (5,056,157) (839,027) (Increase) decrease in unbilled contracts in progress (495,414) 640,163 (Increase) in deferred contract costs (699,016) -- Decrease in prepaid taxes 92,443 -- Decrease (increase) in prepaid expenses and other assets 182,216 (591,565) Increase (decrease) in accounts payable 2,519,649 (950,586) Increase (decrease) in deferred revenue 477,640 (646,998) Increase in accrued job costs 2,394,795 1,013,662 Increase in accrued taxes payable -- 139,727 Increase (decrease) in other accrued liabilities 473,943 (266,899) (Decrease) increase in accrued compensation (34,783) 101,197 ------------ ------------ Net cash provided by operating activities 1,580,227 65,529 ------------ ------------ Cash flows from investing activities: Purchases of fixed assets (126,164) (955,287) Increase in note receivable from officer (13,977) (14,679) Increase in cash for consolidation of variable interest entity -- 35,691 ------------ ------------ Net cash used in investing activities (140,141) (934,275) ------------ ------------ Cash flows from financing activities: Repayments of debt (475,000) (90,500) Costs incurred in connection with sale of stock (8,400) -- Financing costs (36,944) (5,000) Proceeds from exercise of stock options -- 5,000 ------------ ------------ Net cash used in financing activities (520,344) (90,500) ------------ ------------ Net increase (decrease) in cash and cash equivalents 919,742 (959,246) Cash and cash equivalents at beginning of period 3,164,158 1,336,886 ------------ ------------ Cash and cash equivalents at end of period $ 4,083,900 $ 377,640 ============ ============ Supplemental disclosures of cash flow information: Interest paid during the period $ 133,067 $ 136,694 ============ ============ Income tax paid during the period $ 10,577 $ 192,152 ============ ============ Noncash activities relating to investing and financing activities: Stock issued in payment of earnout $ -- $ 218,000 ============ ============
See accompanying notes to unaudited consolidated financial statements. 6 CoActive Marketing Group, Inc. and Subsidiaries Notes to the Unaudited Consolidated Financial Statements September 30, 2004 and 2003 (1) Basis of Presentation --------------------- The interim financial statements of CoActive Marketing Group, Inc. (the "Company") for the three and six months ended September 30, 2004 and 2003 have been prepared without audit. The consolidated statements of operations have been modified to break out and reclassify as an operating expense those costs and expenses which were previously reported as direct expenses, namely, reimbursable costs and expenses, outside production costs and expenses, and the salaries, payroll taxes and benefit costs directly related to servicing client projects. In the opinion of management, such consolidated financial statements reflect all adjustments, consisting of normal recurring accruals, necessary to present fairly the Company's results for the interim periods presented. The results of operations for the three and six months ended September 30, 2004 are not necessarily indicative of the results for a full year. The consolidated financial statements of the Company include the financial statements of the Company and its wholly-owned subsidiaries. In addition, the consolidated financial statements include the accounts of a variable interest entity, Garcia Baldwin, Inc. d/b/a MarketVision ("MarketVision"), an affiliate that provides ethnically oriented marketing and promotional services. The Company has determined that it is the primary beneficiary of this entity and has included the accounts of this entity, pursuant to the requirements of Financial Accounting Standards Board's ("FASB") Interpretation No. 46 (revised 2003), "Consolidation of Variable Interest Entities - an Interpretation of ARB No. 51." All significant intercompany balances and transactions have been eliminated in consolidation. The Company owns 49% of the common stock of MarketVision. A third party owns the remaining 51%. The third party owned portion of MarketVision is accounted for as minority interest in the Company's consolidated financial statements. On October 29, 2003, a newly formed wholly-owned subsidiary of the Company, TrikMedia LLC ("TrikMedia"), acquired certain assets and assumed certain liabilities of TrikMedia, Inc. for a purchase price of $885,000, consisting of a cash payment in the amount of $700,000 and the assumption of $185,000 of deferred revenue. In addition, the Company acquired fixed assets with a fair value of $36,000 and assumed additional liabilities in the amount of $17,000. The Company has accounted for the acquisition as a purchase whereby the excess of the purchase price over the fair value of net assets acquired, including costs of the acquisition, of approximately $866,000 has been classified as goodwill. On September 23, 2004, TrikMedia changed its name to Digital Intelligence Group LLC ("Digital Intelligence"). The results of operations of Digital Intelligence are not material and have been integrated into and included with the pre-existing operations of the Company. Pro forma information regarding the acquisition has not been provided, as the results of operations of Digital Intelligence are not material. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted. These consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company's Annual Report on Form 10-K for the year ended March 31, 2004. (2) Adoption of EITF 00-21 ---------------------- The Company adopted EITF 00-21, "Accounting for Revenue Arrangements with Multiple Deliverables" ("EITF 00-21"), in the fourth quarter of Fiscal 2004. EITF 00-21, which became effective for revenue arrangements entered into in fiscal periods beginning after June 15, 2003, provides guidance on how to determine when an arrangement that involves multiple revenue-generating activities or deliverables should be divided into separate units of accounting for revenue recognition purposes, and if this division is required, how the arrangement consideration should be allocated among the separate units of accounting. Prior to the adoption of EITF 00-21, the Company recognized revenue on its broadcast media and special event contracts on the percentage-of-completion method over the life of the contract as identifiable phases of services, such as concept creation and development, media purchase, production, media airing and event execution occurred. Under that method, the Company generally recognized a portion of the revenue attributable to those contracts upon signing by the Company's clients. Pursuant to EITF 00-21, the Company now recognizes all of the contract's revenue as the media is aired and the events take place, without regard to the timing of the contracts signing or when cash is received under these contracts. The adoption of EITF 00-21 (effective April 1, 2003) resulted in a non-cash charge 7 reported as a cumulative effect of a change in accounting principle of $2,183,000. For the three months ended September 30, 2003, the adoption of EITF 00-21 resulted in a decrease in sales of $743,000 and a decrease in direct expenses of $335,000. For the six months ended September 30, 2003, the adoption of EITF 00-21 resulted in an increase in sales of $1,526,000 and an increase in direct expenses of $1,019,000. After giving effect to the implementation of EITF 00-21 and before the cumulative effect of the change in method of accounting for revenue recognition, the Company had net income of $12,000 or $.00 per basic common share and $890,000 or $.17 per basic common share for the three and six months ended September 30, 2003, respectively. (3) Adoption of FIN 46R ------------------- In January 2003, the FASB issued Interpretation No. 46 ("FIN 46"), "Consolidation of Variable Interest Entities - an Interpretation of ARB No. 51," with the objective of improving financial reporting by companies involved with variable interest entities. A variable interest entity is a corporation, partnership, trust, or any other legal structure used for business purposes that either (a) does not have equity investors with voting rights, or (b) has equity investors that do not provide sufficient financial resources for the entity to support its activities. Historically, entities generally were not consolidated unless the entity was controlled through voting interests. FIN 46 changes that by requiring a variable interest entity to be consolidated by a company if that company is subject to a majority of the risk of loss from the variable interest entity's activities or entitled to receive a majority of the entity's residual returns or both. A company that consolidates a variable interest entity is called the "primary beneficiary" of that entity. The provisions regarding implementation dates were revised by FIN 46 (Revised) ("FIN 46R"). The consolidation requirements of FIN 46R apply to variable interest entities in the first year or interim period ending after March 15, 2004. Effective in the fourth quarter of Fiscal 2004, the Company adopted FIN 46R as it relates to the activities of its MarketVision affiliate. Accordingly, the operations and financial statements of MarketVision for the three and six months ended September 30, 2004 are included in the consolidated financial statements of the Company, whereas for prior fiscal periods, under the equity method of accounting, the Company reported its investment in MarketVision as adjusted for its share of net income or loss in each fiscal period in the Company's financial statements. The consolidated financial statements of the Company for the three and six months ended September 30, 2003 have been restated to reflect the Company's adoption of FIN 46R effective April 1, 2003. The effect of the Company's adoption of FIN 46R did not impact the Company's net income (loss). For the three and six months ended September 30, 2004, MarketVision had net income of $140,000 and $216,000, respectively. For the three and six months ended September 30, 2003, MarketVision had net income of $16,000 and a net loss of $10,000, respectively. (4) Revenue Recognition ------------------- The Company's revenues are generated from projects subject to contracts requiring the Company to provide its services within specified time periods generally ranging up to twelve months. As a result, on any given date, the Company has projects in process at various stages of completion. Depending on the nature of the contract, revenue is recognized as follows: (i) on time and material service contracts, revenue is recognized as services are rendered and the costs are incurred; (ii) on fixed price retainer contracts, revenue is recognized on a straight-line basis over the term of the contract; (iii) on fixed price multiple services contracts, revenue is recognized over the term of the contract for the fair value of segments of the services rendered which qualify as separate activities or delivered units of service, to the extent multi-service arrangements are deemed inseparable, revenue on these contracts is recognized as the contracts are completed; (iv) on certain other fixed price contracts, revenue is recognized on a percentage of completion basis, whereby the percentage of completion is determined by relating the actual cost of labor performed to date to the estimated total cost of labor for each contract. Costs associated with the fulfillment of projects are accrued and recognized proportionately to the related revenue in order to ensure a matching of revenue and expenses in the proper period. Provisions for anticipated losses on uncompleted projects are made in the period in which such losses are determined. The Company's revenue recognition policy reflects the adoption of EITF 00-21 effective April 1, 2003. (5) Goodwill and Intangible Asset ----------------------------- Goodwill consists of the cost in excess of the fair value of the acquired net assets of the Company's subsidiary companies. The Company's other intangible asset consists of an Internet domain name and any and all related intellectual property rights associated therewith which are used in the Company's operations. At September 30, 2004, the Company had approximately $19,896,000 of goodwill and $200,000 as an intangible asset. During Fiscal 2004, the Company increased goodwill in the amount of $866,000 and $244,000 to reflect the goodwill relating to its acquisition of Digital Intelligence and its consolidation of MarketVision, respectively. In accordance with Statements of Financial Accounting Standards No. 141 ("SFAS 141"), "Business Combinations," and No. 142 ("SFAS 142"), "Goodwill and Other Intangible Assets," goodwill and intangible assets deemed to have indefinite lives are no longer amortized but are subject to annual impairment tests. Goodwill impairment tests require the 8 comparison of the fair value and carrying value of reporting units. Measuring fair value of a reporting unit is generally based on valuation techniques using multiples of earnings. The Company assesses the potential impairment of goodwill annually and on an interim basis whenever events or changes in circumstances indicate that the carrying value may not be recoverable. Upon completion of such annual review, if impairment is found to have occurred, a corresponding charge will be recorded. Based on the guidance of SFAS 142, the Company has determined that it has four operating units representing each of its subsidiaries. The Company has completed its impairment review for each reporting unit as of March 31, 2004 and no impairment in the recorded goodwill and intangible asset was identified. During the six months ended September 30, 2004, the Company has not identified any indication of goodwill impairment. Goodwill and the intangible asset will be tested annually at the end of each fiscal year to determine whether they have been impaired. Upon completion of each annual review, there can be no assurance that a material charge will not be recorded. (6) Earnings Per Share ------------------ Options and warrants, which expire through April 30, 2014, to purchase 1,706,232 shares of common stock at prices ranging from $2.31 to $10.00 for the three and six months ended September 30, 2004 and 478,000 shares of common stock at prices ranging from $4.00 to $10.00 per share for the three and six months ended September 30, 2003, respectively, were excluded from the computation of diluted earnings per share for each period because the exercise prices exceeded the then fair market value of the Company's common stock. (7) Unbilled Contracts in Progress ------------------------------ Unbilled contracts in progress represent revenue recognized in advance of billings rendered based on work performed to date on certain contracts. Accrued job costs are also recorded for such contracts to properly match costs and revenue. (8) Deferred Contract Costs ----------------------- Deferred contract costs represent direct contract costs and expenses incurred prior to the Company's related revenue recognition on such contracts. (9) Deferred Revenue ---------------- Deferred revenue represents contract amounts billed and client advances in excess of costs incurred and estimated profit earned. (10) Notes Payable Bank ------------------ At March 31, 2004, the Company was not in compliance with certain financial covenants of its credit agreement. On July 22, 2004, the bank waived the Company's defaults arising as a result of such noncompliance and entered into an Amended and Restated Credit Agreement with the Company that modified the financial covenants applicable to the Company. In addition, pursuant to the Amended and Restated Credit Agreement (i) the revolving loan facility was reduced from $3,500,000 to $1,100,000, and $2,400,000 of outstanding revolving loans were converted to a term loan, requiring principal monthly repayments in the amount of $100,000 each commencing September 1, 2004, (ii) interest on term loans (including the $2,400,000 of revolving loans converted to a term loan) was increased to the bank's prime rate plus 1.0%, and interest on revolving loans was increased to the bank's prime rate plus .50%, (iii) effective July 22, 2004, the Company's cash deposits maintained with the bank cannot be less than $3,000,000 at any time, and (iv) the Company paid the bank a $25,000 amendment fee. The Company's consolidated balance sheet at March 31, 2004 retroactively reflects the new repayment terms of the loans. At September 30, 2004, the Company was in compliance with the covenants of its Amended and Restated Credit Agreement. (11) Income Taxes ------------ The provision for income taxes for the three and six months ended September 30, 2004 and 2003 is based upon the Company's estimated effective tax rate for the respective fiscal years. (12) Accounting for Stock-Based Compensation --------------------------------------- The Company applies the intrinsic-value based method of accounting prescribed by Accounting Principles Board ("APB") No. 25, "Accounting for Stock Issued to Employees," and related interpretations, in accounting for its stock-based compensation plans and accordingly, no compensation cost has been recognized for the issuance of stock options in the consolidated financial statements. The Company has elected not to implement the fair value based accounting method for employee stock options under SFAS No. 123, "Accounting for Stock-Based Compensation" 9 ("SFAS No. 123"), but has elected to disclose the pro forma net income (loss) per share for employee stock option grants made beginning in fiscal 1997 as if such method had been used to account for stock-based compensation costs described in SFAS No. 148, "Accounting for Stock Based Compensation - Transition and Disclosure an amendment of SFAS No. 123." The following table illustrates the effects on net income (loss) and earnings (loss) per share as if the Company had applied the fair value recognition provisions of SFAS No. 123 to its stock based incentive plans:
Three Months Three Months Six Months Six Months Ended Ended Ended Ended Sept. 30, 2004 Sept. 30, 2003 Sept. 30, 2004 Sept. 30, 2003 -------------- -------------- -------------- -------------- Net income (loss) as reported $ 659,826 $ 11,846 $ 857,363 $ (1,292,763) Less compensation expense determined under the fair value method 91,156 60,976 182,312 121,952 -------------- -------------- -------------- -------------- Pro forma net income (loss) $ 568,670 $ (49,130) $ 675,051 $ (1,414,715) ============== ============== ============== ============== Net income (loss) per share - Basic: As reported $ .11 $ -- $ .14 $ (.25) Pro forma $ .10 $ (.01) $ .11 $ (.28) Net income (loss) per share - Diluted: As reported $ .10 $ -- $ .13 $ (.25) Pro forma $ .09 $ (.01) $ .11 $ (.28)
(13) New Accounting Standards ------------------------ In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain Financial Instruments with Characteristics of Both Liabilities and Equity." This statement establishes standards for how a company classifies and measures certain financial instruments with characteristics of both liabilities and equity. This statement is effective for financial instruments entered into or modified after May 31, 2003 and otherwise is effective at the beginning of the first interim period beginning after December 15, 2004. The statement is to be implemented by reporting the cumulative effect of a change in accounting principle for financial instruments created before the issuance date of the statement and still existing at the beginning of the period of adoption. The effect of this pronouncement did not have an impact on the Company's financial statements. In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on Derivative Instruments and Hedging Activities" ("SFAS No. 149"), which amends and clarifies financial accounting and reporting derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities under SFAS No. 133. In particular, SFAS No. 149 clarifies under what circumstances a contract with an initial net investment meets the characteristic of a derivative discussed in SFAS No. 133, clarifies when a derivative contains a financing component, amends the definition of an underlying (as initially defined in SFAS No. 133) to conform it to language used in FIN No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Other," and amends other existing pronouncements. The effect of this pronouncement did not have an impact on the financial statements of the Company. (14) Reclassifications ----------------- Certain amounts as previously reported have been reclassified to conform to current year classifications. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations. ----------------------------------------------------------------------- This report contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, that are based on beliefs of the Company's management as well as assumptions made by and information currently available to the Company's management. When used in this report, the words "estimate," "project," "believe," "anticipate," "intend," "expect," "plan," "predict," "may," "should," "will," the negative thereof or other variations thereon or comparable terminology are intended to identify forward-looking statements. Such statements reflect the current views of the Company with respect to future events based on currently available information and are subject to risks and uncertainties that could cause actual results to differ materially from those contemplated in those forward-looking statements. 10 Factors that could cause actual results to differ materially from the Company's expectations are set forth under the caption "Risk Factors," in addition to other information set forth herein and elsewhere in our other public filings with the Securities and Exchange Commission. The forward-looking statements contained in this report speak only as of the date hereof. The Company does not undertake any obligation to release publicly any revisions to these forward-looking statements to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events. Overview The Company is a full service multi-cultural marketing, sales promotion and interactive media services and e-commerce provider, and designs, develops and implements turnkey customized national, regional and local consumer and trade promotion programs principally for Fortune 500 consumer product companies. The Company's programs are designed to enhance the value of its clients' budgeted expenditures and achieve, in an objectively measurable way, its clients' specific marketing and promotional objectives which include reinforcement of product brand recognition and providing incentives which generate near term sales. Having developed a wide variety of specialties, the Company is a multi-disciplined agency. The full range of marketing and sales promotional services offered by the Company consists of strategic marketing, creative services, broadcast and print media, direct marketing, multi cultural marketing, event marketing, entertainment marketing, in-store sampling and merchandising, Internet web site designing and hosting, e-commerce tools, electronic sales tools and computer based training. By providing a wide range of programs and services, the Company affords its clients a total solutions resource for strategic planning, creative development, production, implementation and sales training aids, including in-store and special event activities, and enhanced product brand name recognition on a multicultural basis. On October 29, 2003, TrikMedia LLC ("TrikMedia"), a newly formed wholly-owned subsidiary of the Company, acquired certain of the assets and assumed certain of the liabilities of TrikMedia, Inc. in a transaction accounted for as a purchase by the Company. Accordingly, the following discussion compares the Company's consolidated results of operations for the three and six months ended September 30, 2004, including the operations of TrikMedia for the three and six months ended September 30, 2004, to the Company's consolidated results of operations for the three and six months ended September 30, 2003, excluding the operations of TrikMedia. On September 23, 2004, TrikMedia changed its name to Digital Intelligence Group LLC ("Digital Intelligence"). The results of operations of Digital Intelligence are not material and have been integrated into and included with the pre-existing operations of the Company. Adoption of Accounting Standards The Company adopted EITF 00-21, "Accounting for Revenue Arrangements with Multiple Deliverables" ("EITF 00-21"), in the fourth quarter of Fiscal 2004. EITF 00-21, which became effective for revenue arrangements entered into in fiscal periods beginning after June 15, 2003, provides guidance on how to determine when an arrangement that involves multiple revenue-generating activities or deliverables should be divided into separate units of accounting for revenue recognition purposes, and if this division is required, how the arrangement consideration should be allocated among the separate units of accounting. Prior to the adoption of EITF 00-21, the Company recognized revenue on its broadcast media and special event contracts on the percentage-of-completion method over the life of the contract as identifiable phases of services, such as concept creation and development, media purchase, production, media airing and event execution occurred. Under that method, the Company generally recognized a portion of revenues attributable to those contracts upon signing by the Company's clients. Pursuant to EITF 00-21, the Company now recognizes all of the contract's revenue as the media is aired and the events take place, without regard to the timing of the contract's signing or when cash is received under these contracts. The adoption of EITF 00-21 (effective April 1, 2003) resulted in a non-cash charge reported as a cumulative effect of a change in accounting principle of $2,183,000. For the three months ended September 30, 2003, the adoption of EITF 00-21 resulted in a decrease in sales of $743,000 and a decrease in direct expenses of $335,000. For the six months ended September 30, 2003, the adoption of EITF 00-21 resulted in an increase in sales of $1,526,000 and an increase in direct expenses of $1,019,000. After giving effect to the implementation of EITF 00-21 and before the cumulative effect of the change in method of accounting for revenue recognition, the Company had net income of $12,000 or $.00 per basic common share and $890,000 or $.17 per basic common share for the three and six months ended September 30, 2003, respectively. In January 2003, the FASB issued Interpretation No. 46 ("FIN 46"), "Consolidation of Variable Interest Entities - an Interpretation of ARB No. 51," with the objective of improving financial reporting by companies involved with variable interest entities. A variable interest entity is a corporation, partnership, trust, or any other legal structure used for business purposes that either (a) does not have equity investors with voting rights, or (b) has equity investors that do not provide sufficient financial resources for the entity to support its activities. Historically, entities generally were not consolidated unless the entity was controlled through voting interests. FIN 46 changes that by requiring a variable interest entity to be consolidated by a company if that company is subject to a majority of the risk of loss from the variable interest entity's activities or entitled to receive a majority of the entity's residual returns or both. A company that consolidates a variable 11 interest entity is called the "primary beneficiary" of that entity. The provisions regarding implementation dates were revised by FIN 46 (revised) ("FIN 46R"). The consolidation requirements of FIN 46R apply to variable interest entities in the first year or interim period ending after March 15, 2004. Effective in the fourth quarter of Fiscal 2004, the Company adopted FIN 46R as it relates to it the activities of its MarketVision affiliate. Accordingly, the operations and financial statements of MarketVision for the three and six months ended September 30, 2004 are included in the consolidated financial statements of the Company, whereas for prior fiscal periods, under the equity method of accounting, the Company reported its investment in MarketVision as adjusted for its share of net income or loss in each fiscal period in the Company's financial statements. The consolidated financial statements of the Company for the three and six months ended September 30, 2003 have been restated to reflect the Company's adoption of FIN 46R effective April 1, 2003. The effect of the Company's adoption of FIN 46R did not impact the Company's net income (loss) for these periods. For the three and six months ended September 30, 2004, MarketVision had net income of $140,000 and $216,000, respectively. For the three and six months ended September 30, 2003, MarketVision had net income of $16,000 and a net loss of $10,000, respectively. The information herein should be read together with the consolidated financial statements and notes thereto included in the Company's Annual Report on Form 10-K for the year ended March 31, 2004. Results of Operations The following table presents operating data of the Company expressed as a percentage of sales for each of the three and six months ended September 30, 2004 and 2003, respectively, retroactively adjusted for the (i) the operating results of MarketVision effective April 1, 2003 and (ii) EITF 00-21 accounting change effective April 1, 2003, exclusive of the associated cumulative effect of the change in accounting principle:
Three Months Ended Six Months Ended September 30, September 30, --------------------- --------------------- 2004 2003 2004 2003 -------- -------- -------- -------- Statement of Operations Data: Sales 100.0% 100.0% 100.0% 100.0% Reimbursable costs and expenses 21.4% 25.8% 27.1% 23.5% Outside production costs and expenses 42.6% 30.4% 35.1% 34.2% Salaries, payroll taxes and benefits 21.1% 28.9% 23.8% 25.3% General and administrative expense 9.6% 14.4% 10.1% 12.6% Total operating expenses 94.7% 99.5% 96.2% 95.6% Operating income 5.3% 0.5% 3.8% 4.4% Interest expense, net 0.3% 0.3% 0.3% 0.3% Income before provision for income taxes and minority interest in net (income) loss of consolidated subsidiary 5.0% 0.2% 3.6% 4.1% Provision for income taxes 1.9% -- 1.3% 1.7% Minority interest in net (income) loss of consolidated subsidiary (0.3)% (0.1)% (0.3)% -- Net income 2.8% 0.1% 2.0% 2.4%
Sales. Sales for the quarter ended September 30, 2004 were $23,223,000, compared to sales of $16,557,000 for the quarter ended September 30, 2003, an increase of $6,666,000. Sales for the six months ended September 30, 2004 were $42,626,000, compared to sales of $36,761,000 for the six months ended September 30, 2003, an increase of $5,865,000. The following table presents a comparative summary of the components of sales for the quarter and six month periods ended September 30, 2004 and 2003:
Three Months Ended Six Months Ended September 30, September 30, ----------------------------------------------------- ----------------------------------------------------- Sales 2004 % 2003 % 2004 % 2003 % ----- ------------ ---------- ------------ ---------- ------------ ---------- ------------ ---------- Core business $ 14,302,581 61.6 $ 11,872,949 71.7 $ 25,597,597 60.1 $ 25,851,701 70.3 Reimbursable costs and expenses 4,973,908 21.4 4,264,837 25.8 11,566,267 27.1 8,628,096 23.5 MarketVision 3,946,698 17.0 419,782 2.5 5,462,417 12.8 2,281,694 6.2 ------------ ---------- ------------ ---------- ------------ ---------- ------------ ---------- Total sales $ 23,223,187 100.0 $ 16,557,568 100.0 $ 42,626,281 100.0 $ 36,761,491 100.0 ============ ========== ============ ========== ============ ========== ============ ==========
In the delivery of certain services to our clients, the Company purchases a variety of items and services on their behalf for which it is reimbursed. The amount of reimbursable costs and expenses, which are included in revenues, will vary from period to period, based on the service provided. 12 The increase in sales attributable to MarketVision for both the quarter and six months ended September 30, 2004 was due to an increase in client demand for the Company's Hispanic marketing services. In addition to increased sales attributable to increased reimbursable costs and expenses and increased sales by Market Vision, the Company experienced increased sales in the quarter ended September 30, 2004 attributable to increased business from both new and existing clients. Operating Expenses. Operating expenses for the three and six months ended September 30, 2004 increased by $5,518,000 and $5,843,000, respectively, and amounted to $21,994,000 and $40,988,000, respectively, compared to $16,476,000 and $35,145,000, respectively, for the three and six months ended September 30, 2003. The increase in operating expenses for the three and six month periods resulted from the aggregate of the following: Reimbursable Costs and Expenses. In the delivery of certain services to our clients, the Company purchases a variety of items and services on their behalf for which it is reimbursed. The amount of reimbursable costs and expenses will vary from period to period, based on the service provided. Outside Production Costs and Expenses. Outside production costs consist of the cost of purchased materials, media, services and other expenditures incurred in connection with and directly related to sales. Outside production costs for the three and six months ended September 30, 2004 were $9,892,000 and $14,974,000, respectively, compared to $5,037,000 and $12,590,000, respectively, for the comparable prior year three and six month periods, an increase of $4,855,000 and $2,384,000, respectively. The increase in these costs for the three and six months were primarily attributable to the increased costs of $3,210,000 and $2,570,000, respectively, related to the increase in MarketVision's sales for the three and six months ended September 30, 2004. The weighted mix of outside production costs and in-house labor and the mark-up related to these components may vary significantly from project to project. Accordingly, for the three and six months ended September 30, 2004, outside production costs as a percentage of sales are reflective of the aggregate mix of client projects during such periods. Salaries, Payroll Taxes and Benefits. Salaries, payroll taxes and benefits consist of the salaries, payroll taxes and benefit costs related to all direct labor, indirect labor and overhead personnel. For the three and six months ended September 30, 2004, salaries, payroll taxes and benefits were $4,899,000 and $10,142,000, respectively, compared to $4,789,000 and $9,306,000, respectively, for the comparative prior year three and six month periods, an increase of $110,000 and $836,000, respectively. The increase in these costs for the three and six months ended September 30, 2004 was primarily attributable to the net effect of the increased costs of $141,000 and $241,000, respectively, related to added personnel of MarketVision to support MarketVision's increased level of operations, offset by a decrease in costs associated a reduction of personnel at other subsidiaries of the Company. General and Administrative Expense. General and administrative expenses consist of office and equipment rent, depreciation and amortization, professional fees and other overhead expenses which for the three and six months ended September 30, 2004 were $2,229,000 and $4,305,000, respectively, compared to $2,385,000 and $4,621,000, respectively, for the comparative prior year three and six month periods, a decrease of $156,000 and $316,000, respectively. The decrease in these expenses for the three and six month periods was primarily the result of an overall reduction in overhead expenses offset by the inclusion of increased expenses attributable to MarketVision of $293,000 and $585,000, respectively, for the three and six months ended September 30, 2004. Operating Income. As a result of the changes in sales and operating expenses, the Company's operating income for the three and six months ended September 30, 2004 increased to $1,229,000 and $1,638,000, respectively, from $82,000 and $1,616,000 for the three and six months ended September 30, 2003. The operating income for the three and six months ended September 30, 2004 included $164,000 and $254,000, respectively, of operating income attributable to MarketVision. Interest Expense, Net. Net interest expense, consisting of interest expense of $71,000 offset by interest income of $7,000, for the quarter ended September 30, 2004, amounted to $64,000, an increase of $9,000, compared to net interest expense of $55,000, consisting of interest expense of $64,000 offset by interest income of $9,000, for the quarter ended September 30, 2003. Net interest expense, consisting of interest expense of $135,000 offset by interest income of $14,000, for the six months ended September 30, 2004 amounted to $121,000, an increase of $2,000, compared to net interest expense of $119,000, consisting of interest expense of $135,000 offset by interest income of $16,000, for the six months ended September 30, 2003. The increase in interest expense for the quarter and six month period ended September 30, 2004 was primarily related to the increase in interest rates on the Company's outstanding bank and subordinated debt borrowings during such periods. Income Before Provision for Income Taxes, Minority Interest in Net (Income) Loss of Consolidated Subsidiary and Cumulative Effect of Change in Accounting Principle for Revenue Recognition. The Company's income before provision for income taxes, minority interest in net (income) loss of consolidated subsidiary and cumulative effect of change in accounting principle 13 for revenue recognition for the three and six months ended September 30, 2004 was $1,165,000 and $1,517,000, respectively, compare to income of $27,000 and $1,498,000 for the three and six months ended September 30, 2003, respectively. Income for the six months ended September 30, 2004 includes $84,000 of income resulting from the reversal of an allowance previously established for a particular doubtful account that was collected during the first quarter. Provision For Income Taxes. The provision for federal, state and local income taxes for the quarters and six month periods ended September 30, 2004 and 2003, were based upon the Company's estimated effective tax rate for the respective fiscal years. Minority Interest in Net (Income) Loss of Consolidated Subsidiary. For the three and six months ended September 30, 2004, the Company reflected a non-cash charge of $(71,000) and $(110,000), respectively, representing a third party's 51% ownership interest in the net income of MarketVision, compared to a non-cash charge of $(9,000) and $9,000 for such third party's interest in the net (income) loss of Market Vision for the three and six months ended September 30, 2003, respectively. Cumulative Effect of Change in Accounting Principle for Revenue Recognition. For the six months ended September 30, 2003, the Company incurred a non-cash charge of $2,183,000 representing the cumulative effect of a change in accounting principle related to its adoption of EITF 00-21 on a cumulative basis as of April 1, 2003. Net Income. As a result of the items discussed above, net income for the three and six months ended September 30, 2004 was $660,000 and $857,000, respectively, compared to net income of $12,000 and net loss of $(1,293,000), respectively, for the prior year quarter and six month period ended September 30, 2003. Liquidity and Capital Resources On October 31, 2002, the Company entered into a Credit Agreement (the "Credit Agreement") with Signature Bank (the "Lender") pursuant to which the Company obtained a $3,000,000 term loan (the "Term Loan") and a $3,000,000 three year revolving loan credit facility (the "Revolving Loan," and together with the Term Loan, the "Loans"). The principal amount of the Term Loan is repayable in equal installments over 48 months, with the final payment due October 30, 2006. Contemporaneously with the closing of the Credit Agreement, the Company borrowed $3,000,000 under the Term Loan and $1,200,000 under the Revolving Loan and used approximately $3,700,000 of the proceeds of the Loans to repay in full the Company's indebtedness under its prior credit agreement. The remaining loan proceeds were used to increase the Company's working capital. Borrowings under the Credit Agreement are evidenced by promissory notes and are secured by all of the Company's assets. The Company paid a $60,000 closing fee to the Lender plus its legal costs and expenses and pays the Lender a quarterly fee equal to .25% per annum on the unused portion of the credit facility. Interest on the Loans is due on a monthly basis, and prior to the post-quarter amendments described below, accrued at an annual rate equal to the Lender's prime rate plus .25% with respect to the Revolving Loans and .50% with respect to the Term Loan. The Credit Agreement provides for a number of affirmative and negative covenants, restrictions, limitations and other conditions including among others, (i) limitations regarding the payment of cash dividends, (ii) use of proceeds, (iii) maintenance of minimum net worth, (iv) maintenance of minimum quarterly earnings, (v) compliance with senior debt leverage ratio and debt service ratio covenants, and (vi) maintenance of 15% of beneficially owned shares of the Company held by certain members of the Company's management. On July 18, 2003, the Credit Agreement was amended pursuant to which the revolving loan credit facility was increased by $500,000 to $3,500,000. At March 31, 2004, the Company was not in compliance with certain financial covenants of the Credit Agreement, and in addition, the Lender determined that the Company's Revolving Loan borrowings exceeded the amount of borrowings permitted under the Credit Agreement. On July 22, 2004, the Lender waived the Company's defaults arising as a result of such noncompliance and entered into an Amended and Restated Credit Agreement with the Company. The Amended and Restated Credit Agreement subjects the Company to the following financial covenants: o beginning June 30, 2005 and on the last day of each succeeding fiscal quarter, the Company's ratio of consolidated senior funded debt to earnings before interest, taxes, depreciation and amortization (calculated in accordance with the Amended and Restated Credit Agreement), cannot exceed 1.50:1.00; o beginning June 30, 2005 and on the last day of each succeeding fiscal quarter, the Company's debt service coverage ratio (calculated in accordance with the Amended and Restated Credit Agreement), cannot be less than 2.00:1.00; o the Company is required to have a minimum net worth (calculated in accordance with the Amended and Restated Credit Agreement), of at least $15,500,000 on March 31, 2005 and March 31, 2006; and o the Company is required to generate net income before taxes (calculated in accordance with the Amended and Restated Credit Agreement) of at least $250,000 for the fiscal quarter ended June 30, 2004 and at least $1,000,000 for each succeeding fiscal quarter. 14 In addition, pursuant to the Amended and Restated Credit Agreement (i) the revolving loan facility was reduced from $3,500,00 to $1,100,000, and $2,400,000 of outstanding Revolving Loans were converted to a term loan, requiring principal monthly repayments in the amount of $100,000 each commencing September 1, 2004, (ii) interest on the term loans (including the $2,400,000 of Revolving Loans converted to a term loan) was increased to the Lender's prime rate plus 1.0%, and interest on the Revolving Loans was increased to the Lender's prime rate plus .50% (5.75% and 5.25%, respectively, at September 30, 2004), (iii) effective July 22, 2004, the Company's cash deposits maintained with the Lender cannot be less than $3,000,000 at any time, and (iv) the Company paid the Lender a $25,000 amendment fee. The following analysis of the Company's statements of cash flows is inclusive of the cash flows of MarketVision. Summarized financial information of MarketVision at September 30, 2004 is as follows: Cash $ 71,000 Current assets 3,147,000 Current liabilities 2,748,000 Working capital 399,000 Net cash used in operating activities 13,000 At September 30, 2004, the Company had cash and cash equivalents totaling $4,084,000, working capital deficit of $4,550,000, inclusive of $8,410,000 of deferred revenue; bank debt in the amount of $4,510,000 exclusive of an outstanding bank letter of credit of $500,000 under the Company's Revolving Loan with no additional availability under the Revolving Loan, outstanding subordinated debt of $425,000 and stockholders' equity of $16,027,000. In comparison, at March 31, 2004, the Company had cash and cash equivalents of $3,164,000, a working capital deficit of $4,683,000, which included $7,932,000 of deferred revenue, outstanding bank loans of $4,985,000 and an outstanding bank letter of credit of $500,000 under the Revolving Loan, with no additional availability under the Revolving Loan, outstanding subordinated debt of $425,000 and stockholders' equity of $15,178,000. Operating Activities. Net cash provided by operating activities was $1,580,000 for the six months ended September 30, 2004. The net cash provided by operating activities was primarily attributable to the Company's net income for the six months ended September 30, 2004 and the net effect of increases from March 31, 2004 in components of working capital, specifically, accounts receivable, unbilled contracts in progress, deferred contract costs, accounts payable and accrued job costs resulting from increased client business. Investing Activities. Cash used in investing activities amounted to $140,000, as a result of $126,000 used to purchase fixed assets and an increase in notes receivable from an officer of $14,000 attributable to accrued interest. Financing Activities. Cash used in financing activities was $520,000, of which $475,000 was used to repay bank borrowings, $37,000 used to pay costs associated with the Company's amended credit agreement and $8,000 used to pay costs incurred in connection with the sale of the Company's stock. As a result of the net effect of the foregoing, the Company's cash and cash equivalents at September 30, 2004 increased by $920,000. For the six months ended September 30, 2004, the Company's activities were funded from working capital with no additional borrowings available under the Revolving Loan. Management believes that cash generated from operations will be sufficient to meet the Company's cash requirements for the remainder of the fiscal year, although there can be no assurance in this regard. To the extent that the Company is required to seek additional external financing, there can be no assurance that the Company will be able to obtain such additional funding to satisfy cash requirements for the current fiscal year or as subsequently required to repay Loans under the Credit Agreement. Outlook Trends are positively impacting the Company's business. As clients seek to derive greater efficiency and effectiveness from their marketing dollars, the call for the services the Company provides, which are oriented to deliver measurable results, are increasing in demand. As such, the Company anticipates that sales and net income for the third quarter ending December 31, 2004 will exceed sales and net income reported in the prior year's third quarter ended December 31, 2003. The Company recently received a letter from the Securities and Exchange Commission stating that it appears that some portion of the Company's goodwill balance associated with the acquisition of U.S. Concepts in 1998 should have been classified as an intangible asset separate from goodwill, subject to amortization. The Company is discussing this matter with the SEC and subject to its resolution the Company may, or may not, be required to restate prior and current financial statements to give effect to non-cash amortization charges. However, management cannot currently determine the amount of any potential adjustment or what the effect would be on the Company's financial statements. 15 Critical Accounting Policies The preparation of consolidated financial statements in accordance with accounting principles generally accepted in the United States of America requires management to use judgment in making estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. Certain of the estimates and assumptions required to be made relate to matters that are inherently uncertain as they pertain to future events. While management believes that the estimates and assumptions used were the most appropriate, actual results could differ significantly from those estimates under different assumptions and conditions. Please refer to the Company's 2004 Annual Report on Form 10-K for a discussion of the Company's critical accounting policies relating to revenue recognition and goodwill and other intangible asset. During the six months ended September 30, 2004, there were no material changes to these policies. Risk Factors Any investment in the Company's common stock involves a high degree of risk. Investors should consider carefully the risks described below, together with the other information contained in this report. Due to the following risks, our business, financial condition and results of operations may suffer materially. As a result, the market price of our common stock could decline, and you could lose all or part of your investment in our common stock. Outstanding Indebtedness; Security Interest. At September 30, 2004, loans outstanding under the Company's Credit Agreement amounted to $4,510,000 and the Company had no borrowing availability under the Credit Agreement revolving credit facility. As security for all its obligations under the Credit Agreement, the Company granted the lender a first priority security interest in all of its assets. In the event of default under the Credit Agreement, at the lender's option, (i) the principal and interest of the loans and all other obligations under the Credit Agreement will immediately become due and payable, and (ii) the lender may exercise its rights and remedies provided for in the Credit Agreement and the related Security Agreements, the rights and remedies of a secured party under the Uniform Commercial Code, and all other rights and remedies that may otherwise be available to it under applicable law. At March 31, 2004, the Company was again not in compliance with the financial covenants in the Credit Agreement; namely, the maximum permitted ratio of consolidated senior funded debt to earnings before interest, taxes, depreciation and amortization, the minimum permitted debt service coverage ratio and the requirement of no net loss for a fiscal quarter. On July 22, 2004 the bank waived the Company's defaults arising as a result of such noncompliance and entered into an Amended and Restated Credit Agreement with the Company, pursuant to which, among other things, the financial covenants were amended with respect to future periods. Although the Company expects that it will comply with such amended financial covenants, there can be no assurance in such regard. Need for Additional Funding. At September 30, 2004, the Company had no borrowing availability under its revolving line of credit. To satisfy cash requirements during Fiscal 2004, the Company issued 652,000 shares of its common stock to certain directors and officers to raise $1,630,000, and temporarily increased its revolving loan facility by $500,000. The Company may have to seek additional outside funding sources in the future to satisfy working capital requirements if operations do not produce the level of revenue required to operate the Company's business. There can be no assurance that outside funding will be available to the Company at the time it is needed or in the amount necessary to satisfy the Company's needs, or, that if such funds are available, they will be available on terms that are favorable to the Company. If the Company is unable to secure financing when needed, its businesses may be adversely affected. If the Company issues additional shares of common stock or securities convertible into common stock in order to secure additional funding, current stockholders may experience dilution of their ownership. In the event the Company issues securities or instruments other than common stock, the Company may be required to issue such instruments with greater rights than those currently possessed by holders of common stock. Recent Loss. The Company sustained a net loss of approximately $2,745,000 for Fiscal 2004. This loss was due in part to the unpredictable revenue patterns associated with the Company's business, as described below. Although the Company expects to be profitable for Fiscal 2005, there can be no assurance in such regard or with respect to future periods. Dependence on Key Personnel. The Company's business is managed by a limited number of key management and operating personnel, the loss of certain of whom could have a material adverse impact on the Company's business. The Company believes that its future success will depend in large part on its continued ability to attract and retain highly skilled and qualified personnel. Each of the Company's key executives is either a party to an employment agreement that expires in 2006 or is expected to enter into an amendment to an employment agreement that would extend the term thereof to expire in 2006. 16 Customers. A substantial portion of the Company's sales has been dependent on one client or a limited concentration of clients. To the extent such dependency continues, significant fluctuations in revenues, results of operations and liquidity could arise should such client or clients reduce their budgets allocated to the Company's activities. Unpredictable Revenue Patterns. A significant portion of the Company's revenues is derived from large promotional programs which originate on a project by project basis. Since these projects are susceptible to change, delay or cancellation as a result of specific client financial or other marketing and manufacturing related circumstantial issues as well as changes in the overall economy, the Company's revenue is unpredictable and may vary significantly from period to period. Competition. The market for promotional services is highly competitive, with hundreds of companies claiming to provide various services in the promotion industry. Certain of these companies may have greater financial and marketing resources than those available to the Company. The Company competes on the basis of the quality and the degree of comprehensive service which it provides to its clients. There can be no assurance that the Company will be able to continue to compete successfully with existing or future industry competitors. Risks Associated with Acquisitions. An integral part of the Company's growth strategy is evaluating and, from time to time, engaging in discussions regarding acquisitions and strategic relationships. No assurance can be given that suitable acquisitions or strategic relationships can be identified, financed and completed on acceptable terms, or that the Company's future acquisitions, if any, will be successful. Expansion Risk. The Company has in the past experienced periods of rapid expansion. This growth has increased the operating complexity of the Company as well as the level of responsibility for both existing and new management personnel. The Company's ability to manage its expansion effectively will require it to continue to implement and improve its operational and financial systems and to expand, train and manage its employee base. The Company's inability to effectively manage its expansion could have a material adverse effect on its business. Control by Executive Officers and Directors. The executive officers of the Company collectively beneficially own a significant percentage of its voting stock, and, in effect, have the power to influence strongly the outcome of all matters requiring stockholder approval, including the election or removal of directors and the approval of significant corporate transactions. Such voting could also delay or prevent a change in the control of the Company in which the holders of the Company's common stock could receive a substantial premium. In addition, the Credit Agreement requires the executive officers of the Company maintain, at a minimum, a 15% beneficial ownership of common stock during the term of the Credit Agreement. Item 3. Quantitative and Qualitative Disclosures About Market Risk ---------------------------------------------------------- The Company's earnings and cash flows are subject to fluctuations due to changes in interest rates primarily from its investment of available cash balances in money market funds with portfolios of investment grade corporate and U.S. government securities and, secondarily, from its long-term debt arrangements. Under its current policies, the Company does not use interest rate derivative instruments to manage exposure to interest rate changes. Item 4. Controls and Procedures ----------------------- Evaluation of Disclosure Controls and Procedures An evaluation was performed, under the supervision of, and with the participation of, the Company's management, including the Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company's disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-(e) to the Securities and Exchange Act of 1934). Based on that evaluation, the Company's management, including the Chief Executive Officer and Chief Financial Officer, concluded that the Company's disclosure controls and procedures were adequate and effective, as of the end of the period covered by this Quarterly Report on Form 10-Q for the quarter ended September 30, 2004 (the "Report"), in timely alerting them to all material information relating to the Company and its consolidated subsidiaries that is required to be included in this Report. Changes in Internal Controls There have been no significant changes in the Company's internal controls over financial reporting that occurred during the most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting. 17 PART II - OTHER INFORMATION --------------------------- Items 1-3. Not Applicable Item 4. Submission of Matters to a Vote of Security Holders --------------------------------------------------- The Annual Meeting of Stockholders of the Company was held on September 28, 2004 at 10:00 a.m. at the Company's offices at 415 Northern Boulevard, Great Neck, New York 11021. A majority of the Company's voting shares were present at the meeting, either in person or by proxy. At such meeting, as set forth in the table below, the stockholders elected Paul A. Amershadian, John P. Benfield, Donald A. Bernard, James H. Feeney, Herbert M. Gardner, Thomas E. Lachenman, Brian Murphy and John A. Ward, III to the Board of Directors. All of these individuals will serve on the Board of Directors until the next annual meeting of stockholders and until their successors are duly elected and qualified, except for Paul A. Amershadian, who resigned following the annual meeting so that the Company would be in compliance with the Nasdaq listing rule requiring that a majority of the Company's Board of Directors be "independent" as defined by Nasdaq. The Nasdaq requirement became applicable to the Company on the date of the Annual Meeting. Directors Votes For Votes Withheld --------- --------- -------------- Paul A. Amershadian 4,430,185 75,187 John P. Benfield 4,430,385 74,987 Donald A. Bernard 4,430,385 74,987 James H. Feeney 4,441,164 64,208 Herbert M. Gardner 4,441,164 64,208 Thomas E. Lachenman 4,430,385 74,987 Brian Murphy 4,430,385 74,987 John A. Ward III 4,441,164 64,208 Item 5. Not Applicable Item 6. Exhibits and Reports on Form 8-K -------------------------------- (a) Exhibits. See Exhibit Index (b) Reports on Form 8-K. On September 28, 2004, the Company filed a Current Report on Form 8-K with respect to the resignation of Paul A. Amershadian as a director of the Company. 18 SIGNATURES Pursuant to 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. COACTIVE MARKETING GROUP, INC. Dated: November 3, 2004 By: /s/ JOHN P. BENFIELD ------------------------------------- John P. Benfield, President (Principal Executive Officer) and Director Dated: November 3, 2004 By: /s/ DONALD A. BERNARD ------------------------------------- Donald A. Bernard, Executive Vice President and Chief Financial Officer (Principal Accounting and Financial Officer) and Director 19 EXHIBIT INDEX EXHIBIT NO. DESCRIPTION OF EXHIBIT 31.1 Certification of Chief Executive Officer Pursuant to Rule 13a-14(a) of the Exchange Act. 31.2 Certification of Chief Financial Officer Pursuant to Rule 13a-14(a) of the Exchange Act. 32.1 Certification of Chief Executive Officer pursuant to Rule 13a-14(b) of the Exchange Act. 32.2 Certification of Chief Financial Officer pursuant to Rule 13a-14(b) of the Exchange Act. 20