Notes
to Condensed Consolidated Financial Statements
(Unaudited)
NOTE
1 — ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Business
— Red Mile
Entertainment, Inc. (“Red Mile” or “the Company”) was incorporated in Delaware
in August of 2004. The Company is a developer and publisher of interactive
entertainment software across multiple hardware platforms, with a focus on
creating or licensing intellectual properties. The Company sells its
games directly to distributors, retailers, and video rental companies in North
America. In Europe and Australia, the Company either sells its games directly to
distributors or licenses its games with major international game co-publishers
in exchange for payment to the Company of either development fees or guaranteed
minimum payments. The guaranteed minimum payments are recoupable by the
distributor or co-publisher against amounts owed computed under the various
agreements. Once the distributor or co-publisher recoups the guaranteed minimum
payments, the Company is entitled to additional payments as computed under the
agreements. The Company operates in one business segment, interactive software
publishing.
Going Concern
— The
accompanying financial statements have been prepared in conformity with
accounting principles generally accepted in the United States of America, which
contemplates continuation of the Company as a going concern. However, the
Company has an accumulated deficit of $30,891,407
at December 31, 2007, and
has incurred negative cash flows from operations since inception.
The
Company shipped its first products in August and September of calendar 2005
generating its initial revenue. The Company expects that sales growth from
existing as well as new products will continue. The continuation of the Company
as a going concern is dependent upon the continued financial support of current
shareholders, and new investors, of which management cannot make any
assurances.
The
accompanying financial statements do not include any adjustments relating to the
recoverability and classification of recorded asset amounts or the amounts and
classifications of liabilities or any other adjustment that might result from
these uncertainties.
Basis of Presentation
— The
unaudited condensed consolidated financial statements of the Company have been
prepared in accordance with the instructions for Form 10-QSB and Article 10 of
Regulation SX. The March 31, 2007 balance sheet was derived from audited
financial statements filed with our 10-KSB as of March 31, 2007 and therefore
may not include all the information and disclosures necessary for a presentation
of the Company’s financial position, results of operations and cash flows in
conformity with generally accepted accounting principals in the United States of
America. In the opinion of management, the financial statements reflect all
adjustments (consisting only of normal recurring accruals) necessary for a fair
statement of the Company’s financial position, results of operations and cash
flows. The results of operations for an interim period are not necessarily
indicative of the results for the full year. The financial statements should be
read in conjunction with the audited financial statements and notes thereto
contained in the Company’s Annual Report on Form 10-KSB for the fiscal year
ended March 31, 2007.
On
January 30, 2007, the company amended its Certificate of Incorporation to affect
a 1 for 3 reverse stock split of the company’s common stock. The unaudited
condensed consolidated financial statements for the current and prior periods
have been adjusted to reflect the change in the number of shares.
Principles of Consolidation
—
The consolidated financial statements of Red Mile Entertainment, Inc. include
the accounts of the Company, and its wholly-owned subsidiaries, 2WG Media, Inc.,
Roveractive Ltd., and Red Mile Australia Pty Ltd. All inter-company accounts and
transactions have been eliminated in consolidation.
Use of
Estimates
– The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of America (GAAP)
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosures of contingent assets and
liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Such estimates include sales
returns and allowances, price protection estimates, retail sell through
estimates, provisions for doubtful accounts, accrued liabilities, estimates
regarding the recoverability of advanced royalties, inventories, software
development costs, long lived assets, estimates of when a game in development
has reached technological feasibility, and deferred tax assets. These estimates
generally involve complex issues and require us to make judgments, involve
analysis of historical and future trends, can require extended periods of time
to resolve, and are subject to change from period to period. Actual results
could differ materially from our estimates.
Concentration of Credit Risk
—
Financial instruments which potentially subject us to concentration of credit
risk consist of temporary cash investments and accounts receivable. During the
periods ended December 31, 2007 and March 31, 2007, we had deposits in excess of
the Federal Deposit Insurance Corporation (“FDIC”) limit at one U.S. based
financial institution and at one financial institution outside of the
U.S.
At December 31, 2007 and March 31,
2007, Red Mile had uninsured bank balances and certificates of deposit totaling
approximately $1,267,000 and $1,731,000, respectively
.
Receivable Allowances
–
Receivables are stated net of allowances for price protection, returns,
discounts, doubtful accounts, allowances for value added services by retailers,
and deductions for cooperative marketing costs.
We may
grant price protection to, and sometimes allow product returns from our
customers and customers of our distributors under certain
conditions. Therefore, we record a reserve for potential price
protection and returns at each balance sheet date. The provision
related to this allowance is reported in net revenues. Price
protection means credits relating to retail price markdowns on our products
previously sold by us to customers or customers of our
distributors. We base these allowances on expected trends and
estimates of future retail sell through of our games. Actual price
protection and product returns may materially differ from our estimates as our
products are subject to changes in consumer preferences, technological
obsolescence due to new platforms or competing products. At December
31, 2007 and March 31, 2007, Red Mile had price protection and returns reserves
of $404,333 and $171,841, respectively. Changes in these factors could change
our judgments and estimates and result in variances in the amount of reserve
required. If customers request price protection in amounts exceeding
the rate expected and if management agrees to grant it, then we may incur
additional charges against our net revenues, but we are not required to grant
price protection to retailers who purchase our products from distributors and
the decision to grant price protection is discretionary. At December 31, 2007
and March 31, 2007, Red Mile had allowance reserves for doubtful accounts of
$471,108 and $93,924, respectively. We may also incur cooperative marketing
costs for our products owed to our customers, or to customers of our
distributors. These costs are deducted from accounts receivable due to us from
our customers. At December 31, 2007 and March 31, 2007, Red Mile had cooperative
marketing deductions of $102,500 and $0, respectively, recorded as deductions
from accounts receivable. We may also incur value added service costs for
certain services performed by retailers carrying our products. At December 31,
2007 and March 31, 2007, Red Mile had allowance reserves for value added
services of $523 and $0, respectively.
Intangible Assets
— Intangible
assets primarily consist of a website and customer list in conjunction with the
acquisition of the assets of Rover Active, Ltd. These intangible
assets are being amortized by the straight-line method over their useful lives,
ranging from 12 to 120 months. Amortization of these intangible
assets totaled $10,760 and $32,281 for the three and nine months ended December
31, 2007 and $0 and $0 for the three and nine months ended December 31, 2006,
respectively.
Other Assets –
Other assets
consist primarily of our 18% equity investment in the outstanding shares of IR
Gurus Pty Ltd/Transmission Games, a developer of interactive video games
headquartered in Melbourne, Australia.
Inventories
— Inventories,
consisting primarily of finished goods and components, are made up of materials
(including manufacturing royalties paid to console manufacturers), labor charges
from third parties, and freight-in. Inventories are stated at the lower of cost
or market, using the first-in, first-out method. The Company performs
periodic assessments to determine the existence of obsolete, slow moving and
non-saleable inventories, and records necessary provisions to reduce such
inventories to net realizable value. We recognize all inventory
reserves as a component of cost of goods sold. All inventories are
produced by third party manufacturers, and substantially all inventories are
located at third party warehouses on consignment in North America.
Software Development Costs and
Advanced Royalties
— Software development costs and advanced royalties to
developers include milestone payments or advances on milestone payments made to
software developers and other third parties and direct labor
costs. Advanced royalties also include license payments made to
licensors of intellectual property we license.
Software
development costs and advanced royalty payments made to developers are accounted
for in accordance with Statement of Financial Standards No. 86, “Accounting for
the Costs of Computer Software to be Sold, Leased or Otherwise
Marketed”.
Software development costs and advanced royalty payments to
developers are capitalized once technological feasibility of a product is
established and such costs are determined to be recoverable. For products where
proven technology exists, this may occur very early in the development cycle.
Factors we consider in determining when technological feasibility has been
established include (i) whether a proven technology exists; (ii) the quality and
experience levels of the development studio developing the game; (iii) whether
the game is a sequel to an already completed game which has used the same or
similar technology; and (iv) whether the game is being developed with a proven
underlying game engine. Technological feasibility is evaluated on a
product-by-product basis. Capitalized costs for those products that are
cancelled or abandoned are charged immediately to cost of sales. The
recoverability of capitalized software development costs and advanced royalty
payments to developers are evaluated based on the expected performance of the
specific products for which the costs relate.
Commencing
upon a product’s release, capitalized software development costs and advanced
royalty payments to developers are amortized to cost of sales using the greater
of the ratio of actual cumulative revenues during the quarter to the total of
actual cumulative revenues during the quarter plus projected future revenues for
each game or straight-line over the remaining estimated life of the
product.
For
products that have been released in prior periods, we evaluate the future
recoverability of capitalized amounts on a quarterly basis or when events or
circumstances indicate the capitalized costs may not be recoverable. The primary
evaluation criterion is actual title performance.
Significant
management judgments and estimates are utilized in the assessment of when
technological feasibility is established, as well as in the ongoing assessment
of the recoverability of capitalized development costs and advanced royalty
payments to developers. In evaluating the recoverability of
capitalized software development costs and advanced royalty payments to
developers, the assessment of expected product performance utilizes forecasted
sales quantities and prices and estimates of additional costs to be incurred or
expensed.
If
revised forecasted or actual product sales are less than and/or revised
forecasted or actual costs are greater than the original forecasted amounts
utilized in the initial recoverability analysis, the net realizable value may be
lower than originally estimated in any given quarter, which could result in a
larger charge to cost of sales in future quarters or an impairment charge to
cost of sales.
Advanced
royalty payments made to licensors of intellectual property are capitalized and
evaluated for recoverability based on the expected performance of the underlying
games for which the intellectual property was licensed. Any royalty payments
made to licensors of intellectual property determined to be unrecoverable
through future sales of the underlying games are charged to cost of
sales.
Revenue Recognition
—
The Company’s
revenue recognition policies are in accordance with the American Institute Of
Certified Public Accountants (“AICPA”) Statement of Position (“SOP”) 97-2
“Software Revenue Recognition” as amended by SOP 98-9 “Modification of SOP 97-2,
Software Revenue Recognition, With Respect to Certain
Transactions”. SOP 81-1 “Accounting for Performance of Construction
Type and Certain Production-Type Contracts”. Staff Accounting
Bulletin (“SAB”) No. 101, “Revenue Recognition in Financial Statements”, as
revised by SAB No. 104, “Revenue Recognition”. EITF 01-09 “Accounting
for Consideration Given by a Vendor to a Customer”, and FASB
Interpretation No. 39 “Offsetting of amounts related to certain contracts an
interpretation of APB No. 10 and FASB Statement No. 105, and EITF
06-03, “How Taxes Collected from Customers and Remitted to Governmental
Authorities Should Be Presented in the Income Statement”.
We
evaluate revenue recognition using the following basic criteria and recognize
revenue when all four criteria are met:
(i)
Evidence of an arrangement: Evidence of an arrangement with the customer that
reflects the terms and conditions to deliver products must be present in order
to recognize revenue.
(ii)
Delivery: Delivery is considered to occur when the products are shipped and the
risk of loss and reward has been transferred to the customer. At times for us,
this means when the product has shipped to the retailer from the distributor
that we sold to on consignment.
(iii)
Fixed or determinable fee: If a portion of the arrangement fee is not fixed or
determinable, we recognize that amount as revenue when the amount becomes fixed
or determinable.
(iv)
Collection is deemed probable: We conduct a credit review of each customer
involved in a significant transaction to determine the creditworthiness of the
customer. Collection is deemed probable if we expect the customer to be able to
pay amounts under the arrangement as those amounts become due. If we determine
that collection is not probable, we recognize revenue when collection becomes
probable (generally upon cash collection).
Product
revenue, including sales to distributors, retailers, co-publishers, and video
rental companies is recognized when the above criteria are met. We reduce
product revenue for estimated future returns and price protection, which may
occur with our distributors, retailers, retailers of our distributors, and
co-publishers. In the future, we may decide to issue price protection credits
for either our PC or console products. When evaluating the adequacy of sales
returns and price protection reserve allowances, we analyze our historical
returns on similar products, current sell-through of distributor and retailer
inventory, current trends in the video game market and the overall economy,
changes in customer demand , acceptance of our products, and other
factors. At December 31, 2007 and March 31, 2007, our returns and
price protection reserves was $404,333 and $171,841, respectively.
In North
America, we primarily sell our games to distributors who in turn sell to
retailers that both our internal sales force, our outsourced independent sales
group, and distributors’ sales force generate orders from. These
distributors will charge us a distribution fee based on a percentage of the
prevailing wholesale price of the product. We record revenues net of these
distribution fees.
Red Mile
may receive minimum guaranteed amounts or other up front cash amounts from a
co-publisher or distributor prior to delivery of the products. Pursuant to SOP
81-1, the completed contract method of accounting is used as these minimum
guarantee amounts usually do not become non-refundable until the co-publisher or
distributor accepts the completed product. These receipts are credited to
deferred revenue when received. Revenues are recognized as the product is
shipped and actual amounts are earned. In the case of distributors who hold our
inventory on consignment, revenues are recognized once the product leaves the
distributor warehouse.
Periodically,
we review the deferred revenue balances and, when the product is no longer being
actively sold by the co-publisher or distributor, or when our forecasts show
that a portion of the revenue will not be earned out, this excess is taken into
revenue. For the three and nine months ended December 31, 2007, $1,089,136 and
$2,764,587 in deferred revenue was recognized in revenue.
Red Mile
may be required to levy European Value Added Tax (“VAT”) and Australian Goods
and Services Tax (“GST”) on shipments of our products within the EU member
countries, and Australia, respectively. Pursuant to EITF 06-03, “How Taxes
Collected from Customers and Remitted to Governmental Authorities Should Be
Presented in the Income Statement”, Red Mile has included the taxes assessed by
a governmental authority that is directly imposed on a revenue-producing
transaction on a gross basis (included in revenues and costs). For the three and
nine months ended December 31, 2007, $167,300 in taxes assessed by a
governmental authority were included revenue and cost of sales.
Our
revenues are subject to material seasonal fluctuations. In particular, revenues
in our third fiscal quarter will ordinarily be significantly higher than other
fiscal quarters. Revenues recorded in our third fiscal quarter are not
necessarily indicative of what our reported revenues will be for an entire
fiscal year.
Reclassification
– Certain
prior period items have been reclassified to conform to the current period’s
presentation.
Foreign Currency Translation
—
The functional currency of our foreign subsidiary is its local currency. All
assets and liabilities of our foreign subsidiary are translated into U.S.
dollars at the exchange rate in effect at the end of the period, and revenue and
expenses are translated at weighted average exchange rates during the period.
The resulting translation adjustments are reflected as a component of
accumulated other comprehensive income (loss) in shareholders’ equity. The
functional currency of the Company’s assets and liabilities denominated in
foreign currencies is the US dollar.
Stock-Based Compensation Plans
— On April 1, 2006, we adopted the provisions of Statement of Financial
Accounting Standards (“SFAS”) 123 (revised 2004),
“Share-Based Payment”
(the
“Statement or “SFAS 123(R)”), requiring us to recognize expense related to the
fair value of
our
stock-based compensation awards. Prior to April 1, 2006, the Company used the
minimum value method in estimating the value of employee option grants as
allowed by SFAS 123, amended by SFAS 148 “
Accounting for stock based
compensation - transition and disclosure
”. Accordingly, we have elected
to use the prospective transition method as permitted by SFAS 123(R) and
therefore have not restated our financial results for prior periods. Under this
transition method, stock-based compensation expense for the three and nine
months ended December 31, 2007 includes compensation expense for all stock
option awards granted subsequent to March 31, 2006 based on the grant date fair
value estimated in accordance with the provisions of SFAS 123(R). We recognize
compensation expense for stock option awards on a straight-line basis over the
requisite service period of the award.
In March
2005, the Securities and Exchange Commission (“SEC”) issued Staff Accounting
Bulletin (“SAB”) No. 107, which offers guidance on SFAS 123(R). SAB 107 was
issued to assist preparers by simplifying some of the implementation challenges
of SFAS 123(R) while enhancing the information that investors receive. SAB 107
creates a framework that is premised on two overarching themes: (a) considerable
judgment will be required by preparers to successfully implement SFAS 123(R),
specifically when valuing employee stock options; and (b) reasonable
individuals, acting in good faith, may conclude differently on the fair value of
employee stock options. Key topics covered by SAB 107 include valuation models,
expected volatility and expected term. The Company is applying the principles of
SAB 107 in conjunction with its adoption of SFAS 123(R) for stock options
granted up to December 31, 2007.
In
December 2007, the SEC issued SAB No. 110, which expresses the views of the
staff regarding the use of a "simplified" method, as discussed in SAB No. 107 in
developing an estimate of expected term of stock options in accordance with
Statement of Financial Accounting Standards No. 123(R). Under SAB No. 110, the
staff will continue to accept, under certain circumstances, the use of the
simplified method permitted under SAB No. 107 beyond December 31,
2007.
Prior to
the adoption of SFAS 123(R), we applied SFAS 123, amended by SFAS 148,
“Accounting
for Stock-Based
Compensation, Transition and Disclosure
” (“SFAS 148”), which allowed
companies to apply the existing accounting rules under Accounting Principles
Board No. 25, “a
ccounting for Stock Issued to
Employees
,” (APB 25) and related Interpretations. In general, as the
exercise price of options granted under these plans was equal to the market
price of the underlying common stock on the grant date, no stock-based employee
compensation cost was recognized in our statements of operations for periods
prior to the adoption of SFAS 123(R). As required by SFAS 148, prior to the
adoption of SFAS 123(R), we disclosed reported net loss which included
stock-based compensation expense of $0, calculated in accordance with APB 25,
and then pro forma net loss as if the fair-value-based compensation expense
calculated in accordance with SFAS 123 using the minimum value method had been
recorded in the financial statements.
Loss Per Share
— We compute
basic and diluted loss per share amounts pursuant to the Statement of Financial
Accounting Standards (“SFAS”) No. 128, “Earnings per Share.” Basic loss per
share is computed using the weighted average number of common shares outstanding
during the period.
Diluted
loss per share is computed using the weighted average number of common and
potentially dilutive securities outstanding during the period. Potentially
dilutive securities consist of the incremental common shares that could be
issued upon exercise of stock options, warrants, convertible promissory notes,
convertible preferred stock, and senior secured convertible debentures (using
the treasury stock method). Potentially dilutive securities are excluded from
the computation if their effect is anti-dilutive.
The
following table summarizes the weighted average shares outstanding for the nine
months ending December 31, 2007 and 2006:
|
|
Nine
Months Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
Basic
weighted average shares outstanding
|
|
|
13,378,805
|
|
|
|
8,058,190
|
|
Total
stock options outstanding
|
|
|
1,776,007
|
|
|
|
1,210,410
|
|
Less:
anti-dilutive stock options due to loss
|
|
|
(1,776,007
|
)
|
|
|
(1,210,410
|
)
|
Total
redeemable convertible preferred stock outstanding
|
|
|
-
|
|
|
|
-
|
|
Less:
anti-dilutive redeemable convertible preferred stock due to
loss
|
|
|
-
|
|
|
|
-
|
|
Total
senior secured convertible debentures outstanding
|
|
|
-
|
|
|
|
1,570,286
|
|
Less:
senior secured convertible debentures outstanding due to
loss
|
|
|
-
|
|
|
|
(1,570,286
|
)
|
Total
warrants outstanding
|
|
|
3,374,327
|
|
|
|
3,319,510
|
|
Less:
anti-dilutive warrants due to loss
|
|
|
(3,374,327
|
)
|
|
|
(3,319,510
|
)
|
Diluted
weighted average shares outstanding
|
|
|
13,378,805
|
|
|
|
8,058,190
|
|
The
following table summarizes the weighted average shares outstanding for the three
months ending December 31, 2007 and 2006:
|
|
Three
Months Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
Basic
weighted average shares outstanding
|
|
|
15,952,005
|
|
|
|
8,729,297
|
|
Total
stock options outstanding
|
|
|
1,776,007
|
|
|
|
1,210,410
|
|
Less:
anti-dilutive stock options due to loss
|
|
|
(1,776,007
|
)
|
|
|
(1,210,410
|
)
|
Total
redeemable convertible preferred stock outstanding
|
|
|
-
|
|
|
|
-
|
|
Less:
anti-dilutive redeemable convertible preferred stock due to
loss
|
|
|
-
|
|
|
|
-
|
|
Total
senior secured convertible debentures outstanding
|
|
|
-
|
|
|
|
1,570,286
|
|
Less:
senior secured convertible debentures outstanding due to
loss
|
|
|
-
|
|
|
|
(1,570,286
|
)
|
Total
warrants outstanding
|
|
|
3,374,327
|
|
|
|
3,319,510
|
|
Less:
anti-dilutive warrants due to loss
|
|
|
(3,374,327
|
)
|
|
|
(3,319,510
|
)
|
Diluted
weighted average shares outstanding
|
|
|
15,952,005
|
|
|
|
8,729,297
|
|
NOTE 2 — ACCRUED LIABILITIES
|
|
December
31, 2007
|
|
|
March
31, 2007
|
|
Accrued
professional fees
|
|
$
|
157,352
|
|
|
$
|
217,370
|
|
Accrued
royalties payable
|
|
|
1,087,574
|
|
|
|
50,676
|
|
Accrued
bonuses
|
|
|
142,313
|
|
|
|
87,314
|
|
Accrued
milestone payments to developers
|
|
|
114,732
|
|
|
|
420,000
|
|
Accrued
paid time off
|
|
|
44,258
|
|
|
|
38,741
|
|
Other
miscellaneous
|
|
|
66,404
|
|
|
|
93,203
|
|
Accrued
marketing costs
|
|
|
270,000
|
|
|
|
175,000
|
|
Accrued
commissions
|
|
|
126,275
|
|
|
|
42,094
|
|
Total
|
|
$
|
2,008,908
|
|
|
$
|
1,124,398
|
|
NOTE
3 — DEFERRED REVENUE
|
|
December
31, 2007
|
|
|
March
31, 2007
|
|
Jackass:
The Game (Nintendo DS Platform)
|
|
|
384,109
|
|
|
|
—
|
|
Lucinda
Green’s Equestrian Challenge
|
|
$
|
192,286
|
|
|
$
|
—
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
576,395
|
|
|
$
|
—
|
|
NOTE
4 — OTHER CURRENT LIABILITIES
|
|
December
31, 2007
|
|
|
March
31, 2007
|
|
Contingent
Registration Payment Liability
|
|
|
190,080
|
|
|
|
—
|
|
Total
|
|
$
|
190,080
|
|
|
$
|
—
|
|
On July
18, 2007, holders of the Company’s convertible promissory notes
converted their notes into shares of common stock of the Company. In connection
with the conversion, holders of the notes received 0.2 warrants with a strike
price of $0 per share for every common share they received. These warrants
contained a provision for automatic cancellation of the warrants if the Company
would be able to realize a liquidity event in Canada on or before March 18,
2008. The Company has determined that it will be unable to realize a liquidity
event by the aforementioned date. Accordingly, in accordance with EITF 19-2,
“Accounting For Registration Payments Arrangements”, the company has recorded a
contingent liability representing the value of 192,000 shares of common stock of
the Company that the Company would be required to deliver after March 18, 2008
upon exercise of the warrants.
NOTE
5 — COMMITMENTS
In the
normal course of business, we enter into contractual arrangements with
third-parties for the development of products, as well as for the license rights
to intellectual property and or for the license rights to underlying game
engines. Under these agreements, we commit to provide specified payments to a
developer, or intellectual property holder, based upon contractual
arrangements. For our development agreements, we will often
renegotiate development fees if the costs to complete the product has differed
from what was contractually agreed to. In these cases, we may increase the
amounts of payments made to developers before a new contractual agreement is
reached. Typically, the payments to third-party developers are conditioned upon
the achievement by the developers of contractually specified development
milestones. These payments to third-party developers and intellectual property
holders may be deemed to be advances and are recoupable against future royalties
earned by the developer or intellectual property holder based on the sale of the
related game. Assuming all contractual provisions are met, the total future
minimum commitments for development contracts, intellectual property holders,
and licensors of underlying game engines in place as of December 31, 2007 are
approximately $22,319,167, which is scheduled to be paid as
follows:
Year ended March
31,
|
|
2008
|
|
$
|
3,466,737
|
|
2009
|
|
$
|
10,733,614
|
|
2010
|
|
$
|
8,118,816
|
|
Total
|
|
$
|
22,319,167
|
|
Lease
Commitments
Operating Leases — Red Mile leases its office
space under a twelve month operating lease expiring March 2008 with a monthly
base rental of $6,240 per month. Rent expense for the nine months ended December
31, 2007 was $56,860.
The
minimum future lease payment for the above lease as of December 31, 2007 is
$18,720 for the fiscal year ended March 31, 2008. In order to renew
the lease for an additional 12 month period, as of April 1, 2008, the monthly
base rent will increase to $6,427 per month.
NOTE
6 — STOCK OPTIONS AND STOCK COMPENSATION
The fair
value of each option grant is estimated on the date of grant using the
Black-Scholes option pricing model with the following assumptions:
|
Period
Ended December 31, 2007
|
Expected
life (in years)
|
4.2 -
6.5
|
Risk
free rate of return
|
4.0%
- 5.13%
|
Volatility
|
50%
- 80%
|
Dividend
yield
|
-
|
Forfeiture
rate
|
9%
- 15%
|
The
following table sets forth the total stock-based compensation expense for the
three months ended December 31, 2007 and December 31, 2006. All
research and development costs, and sales, marketing, and business development
costs in this table are related to employees. General and administrative costs
are broken out between those related to consultants and those related to
employees.
|
|
Three
Months Ended December 31, 2007
|
|
|
Three
Months
Ended
December
31, 2006
|
|
Research
and development costs
|
|
$
|
5,658
|
|
|
$
|
6,948
|
|
Sales,
marketing, and business development costs
|
|
|
4,568
|
|
|
|
18,067
|
|
General
and administrative costs—consultants
|
|
|
3,395
|
|
|
|
130,133
|
|
General
and administrative costs—employees
|
|
|
103,336
|
|
|
|
7,398
|
|
Stock-based
compensation before income taxes
|
|
|
116,957
|
|
|
|
162,546
|
|
Income
tax benefit
|
|
|
-
|
|
|
|
-
|
|
Total
stock-based employee compensation expense after income
taxes
|
|
$
|
116,957
|
|
|
$
|
162,546
|
|
The
following table sets forth the total stock-based compensation expense for the
nine months ended December 31, 2007 and December 31, 2006. All
research and development costs, and sales, marketing, and business development
costs in this table are related to employees. General and administrative costs
are broken out between those related to consultants and those related to
employees.
|
|
Nine
Months Ended December 31, 2007
|
|
|
Nine
Months
Ended
December
31, 2006
|
|
Research
and development costs
|
|
$
|
16,914
|
|
|
$
|
14,332
|
|
Sales,
marketing, and business development costs
|
|
|
19,137
|
|
|
|
28,624
|
|
General
and administrative costs—consultants
|
|
|
4,834
|
|
|
|
192,655
|
|
General
and administrative costs—employees
|
|
|
314,947
|
|
|
|
7,398
|
|
Stock-based
compensation before income taxes
|
|
|
355,832
|
|
|
|
243,009
|
|
Income
tax benefit
|
|
|
-
|
|
|
|
-
|
|
Total
stock-based employee compensation expense after income
taxes
|
|
$
|
355,832
|
|
|
$
|
243,009
|
|
During
the nine and three months ended December 31, 2007, the Company granted employee
stock options for 15,000 common shares and non-employee stock options for 30,000
common shares exercisable at $2.35 per share expiring in 10 years and vesting
over 3 years. The options were valued at $71,301 or $1.58 per option
using a Black-Scholes option pricing method that uses the assumptions noted
above.
On April
8, 2005, the Board of Directors approved the Red Mile Entertainment 2005 Stock
Option Plan which permits the Board of Directors to grant to officers,
directors, employees and third parties incentive stock options (“ISOs”),
non-qualified stock options, restricted stock and stock appreciation rights
(“SARs”). At March 15, 2007, the Board of Directors and stockholders holding a
majority of voting power voted to authorize the board of directors, at its
discretion, to amend the 2005 Stock Option Plan.
Under the
Amended Plan, options for 2,500,000 shares of common stock are reserved for
issuance. At December 31, 2007, 723,993 options are available for
grant. Options have been issued with exercise prices of between $0.66
and $4.00 per share as follows:
Options
Outstanding
|
|
|
Options
Exercisable
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Number
|
|
|
Weighted
Avg.
|
|
|
Weighted
Avg.
|
|
|
Number
|
|
|
Weighted
Avg.
|
|
Range
of Exercise Prices
|
|
|
Outstanding
|
|
|
Remaining
Life
|
|
|
Exercise
Price
|
|
|
Exercisable
|
|
|
Exercise
Price
|
|
$
|
0.66
- $1.49
|
|
|
|
660,173
|
|
|
|
8.04
|
|
|
$
|
0.71
|
|
|
|
469,363
|
|
|
$
|
0.74
|
|
$
|
1.50
- $2.37
|
|
|
|
126,667
|
|
|
|
8.50
|
|
|
$
|
2.14
|
|
|
|
80,000
|
|
|
$
|
2.01
|
|
$
|
2.38
- $4.00
|
|
|
|
989,167
|
|
|
|
9.21
|
|
|
$
|
3.90
|
|
|
|
115,208
|
|
|
$
|
3.60
|
|
|
|
|
|
|
1,776,007
|
|
|
|
|
|
|
|
|
|
|
|
664,571
|
|
|
|
|
|
Option
activity under the Amended Plan is as follows:
Options
|
Shares
|
|
Weighted
Average Exercise Price
|
|
Weighted
Average Remaining Contractual Term
|
|
Aggregate
Intrinsic Value
|
|
|
|
|
|
|
|
|
|
|
Outstanding
at March 31, 2006
|
940,966
|
|
$
|
0.75
|
|
|
|
|
|
|
Exercisable at March 31, 2006
|
177,620
|
|
$
|
0.90
|
|
|
|
|
|
|
Granted
|
1,124,167
|
|
|
3.75
|
|
|
|
|
|
|
Forfeited or expired
|
(76,388)
|
|
|
2.73
|
|
|
|
|
|
|
Outstanding at March 31, 2007
|
1,988,745
|
|
$
|
2.28
|
|
|
|
|
|
|
Exercisable at March 31, 2007
|
607,000
|
|
$
|
0.83
|
|
|
|
|
|
|
Granted
|
45,000
|
|
|
2.35
|
|
|
|
|
|
|
Exercised
|
(143,069)
|
|
|
.71
|
|
|
|
|
|
|
Forfeited
or expired
|
(114,669)
|
|
$
|
.88
|
|
|
|
|
|
|
Outstanding
at December 31, 2007
|
1,776,007
|
|
$
|
2.59
|
|
8.69
|
|
$
|
182,138
|
|
Exercisable
at December 31, 2007
|
685,388
|
|
$
|
1.24
|
|
8.07
|
|
$
|
136,837
|
|
In the
case where shares have been granted to third parties, the fair value of such
shares is recognized as an expense in the period issued using the Black-Scholes
option pricing model.
In the
case of shares granted to employees, the fair value of such shares is recognized
as an expense over the service period. As of December 31, 2007, the
fair value of options issued by the Company was $2,626,385 of which $789,150 has
been forfeited. Expense recognized for the nine and three months ending December
31, 2007 and 2006 was $355,832 and $116,957, and $243,009 and $162,546,
respectively. The unamortized cost remaining at December 31, 2007 was
$1,114,974 with a weighted average expected term for recognition of 4.47 years.
At the time of grant, the estimated fair values per option were from $0.33 to
$2.94.
During
the nine months ended December 31, 2007, 112,243 options with a $0.66 strike
price and 30,825 options with a $0.90 strike price were exercised pursuant to a
cashless provision. The Company issued 97,952 common shares for the
options exercised.
During
the nine months ended December 31, 2007, 98,331 options with a $0.66 strike
price and 1,338 options with a $0.90 strike price expired and 15,000 options
with a strike price of $2.35 were forfeited.
NOTE 7 — COMMON STOCK
On July
18, 2007, the Company issued 1,872,600 of its common stock to a total of 69
accredited investors for an aggregate amount of $4,681,500. The
shares were issued pursuant to an agency agreement with J.F. Mackie &
Company, Ltd. (the “Agent”). The Agent is an independent equity
investment firm located in Calgary, Canada. Upon the closing of the
transaction, the Company paid the Agent commissions of $320,890 and $64,523 for
related legal fees.
On July
18, 2007, holders of more than 66 2/3% of the $8,244,000 principal amount of
senior secured convertible debentures and $155,281 in accrued interest on the
debentures, after a proposal brought forth by the Company, voted by way of
extraordinary resolution to cancel such debentures and convert the principal and
accrued interest amounts of their debentures into shares of the Company’s stock
at $2.50 per share, thereby resulting in the conversion of the full principal
and interest amounts associated with such debentures into 3,359,713 shares of
the Company’s common stock. With the conversion, the Company recorded
a non-cash debt inducement conversion charge of $4,318,286.
On July
18, 2007, convertible promissory notes with an aggregate principal amount of
$2,400,000 automatically converted into 960,000 of the Company’s common stock
concurrent with the closing of the purchase of 1,872,600 of the Company’s common
stock.
On
September 30, 2007, the Company issued 97,952 of its common stock in connection
with the exercise of cashless options.
NOTE
8 — WARRANTS
On July
18, 2007, the Company issued 374,520 warrants to 69 accredited investors as part
of unregistered sales of equity securities. Each whole warrant
entitles the holder of the warrant to acquire, for no additional consideration,
one share of common stock in the event that the Company does not complete by
March 18, 2008, a liquidity transaction, as defined in the agency agreement with
the Agent. The warrants will automatically be cancelled if the
Company completes a liquidity transaction by March 18, 2008. At this
time, it is Management’s best estimation that a liquidity transaction is not
probable to be completed by March 18, 2008, if at all.
On July
18, 2007, concurrent with the conversion of $2,400,000 convertible promissory
notes, the Company issued 480,000 warrants. Each whole warrant
entitles the former note holders to acquire one share of common stock at $2.75
per share until July 18, 2009. Using the Black-Scholes option pricing
model, the fair value of such warrants issued was $662,902. This
value has been recorded as a non-cash beneficial conversion inducement charge in
other expense.
In
addition, concurrent with the conversion of $2,400,000 convertible promissory
notes, the Company issued 0.2 of one warrant to the former note
holders. Each whole warrant entitles the holder of the warrant to
acquire, for no additional consideration, one share of common stock in the event
that the Company does not complete by March 18, 2008, a liquidity transaction,
as defined in the agency agreement with the Agent. The warrants will
automatically be cancelled if the Company completes a liquidity transaction by
March 18, 2008. At this time, it is Management’s best estimation that
a liquidity transaction is not probable to be completed by March 18, 2008, if at
all. For the three and nine months ended December 31, 2007, the
company recorded a contingent liability charge of $190,080 related to the value
of the company’s common shares to be delivered upon exercise of the
aforementioned warrants.
On July
18, 2007, upon the closing of the unregistered sales of equity securities as
described above, the Company issued the Agent and its nominees broker’s warrants
entitling it to purchase up to 215,408 shares of the Company’s common stock at
$3.00 per share until July 18, 2009.
The
following table lists the total number of warrants outstanding as of December
31, 2007.
Expiring
|
|
Strike
Price
|
|
Number
of
Common
shares
|
May
1, 2008
|
|
$4.50
|
|
585,287
|
May
2, 2008
|
|
$4.50
|
|
845,333
|
December
31, 2008
|
|
$5.25
|
|
681,779
|
January
18, 2009 (a)
July
17, 2009
July
18, 2009
|
|
(a)
$2.75
$3.00
|
|
566,520
480,000
215,408
|
Total
|
|
|
|
3,374,327
|
|
|
|
|
|
(a) The
warrants expire the earlier of a liquidity transaction or January 18,
2009. The warrants entitle the holder to acquire common stock
for no consideration.
NOTE
9 — CONCENTRATIONS
Customer
base
Our
customer base includes distributors, co-publishers, and retailers of video games
in the United States, Europe, Australia, and Asia. We review the credit
worthiness of our customers on an ongoing basis, and believe that we need an
allowance for potential credit losses at December 31, 2007 of $471,108. Also
netted against accounts receivable are returns and price protection reserves on
existing receivables of $404,333 and deductions for cooperative marketing costs
of $102,500. Account balances are charged off against the allowance
when the Company believes it is probable that accounts receivable will not be
recovered. As of December 31, 2007, we had three customers who accounted for
67.5%, 17.7%, and 5.4% of net accounts receivable.
These
customers were Navarre Corporation, Empire Interactive, and Blockbuster Video,
respectively. Navarre Corporation, Empire Interactive and Funtastic Corporation
accounted for 51.8%, 31.0% and 6.6%, respectively, of consolidated revenue
during the nine months ended December 31, 2007. As of March 31, 2007, we had two
customers who accounted for 49.1% and 28.1% of accounts
receivable.
Operations
by Geographic Area
Our
products are sold in North America, Europe, Australia, and Asia through
third-party licensing arrangements, through distributors, and through
retailers.
The
following table displays consolidated net revenue by location during the nine
months ended December 31, 2007:
Location
|
|
Revenue
|
|
North
America
|
|
$
|
5,448,205
|
|
Europe
|
|
|
2,939,675
|
|
Australia
and Asia
|
|
|
749,470
|
|
|
|
$
|
9,137,350
|
|
Location of
assets
The
Company’s tangible assets excluding inventory are primarily located at its
corporate offices in Northern California and on loan to a third party developer
in Melbourne, Australia, for which the Company owns an 18% interest in.
Inventory is located at several third party warehouse facilities.
NOTE
10 — NEW ACCOUNTING PRONOUNCEMENT
EITF
06-03
In June
2006, the EITF reached a consensus on Issue No. 06-03 (“EITF 06-03”), “How Taxes
Collected from Customers and Remitted to Governmental Authorities Should Be
Presented in the Income Statement (That Is, Gross versus Net Presentation).”
EITF 06-03 provides that the presentation of taxes assessed by a governmental
authority that is directly imposed on a revenue-producing transaction between a
seller and a customer on either a gross basis (included in revenues and costs)
or on a net basis (excluded from revenues) is an accounting policy decision that
should be disclosed. The provisions of EITF 06-03 became effective as of
December 31, 2006. Red Mile has included the European Value Added Tax
and the Australian Goods and Services Tax that is directly imposed on a
revenue-producing transaction on a gross basis (included in revenues and
costs). For the three and nine months ended December 31, 2007,
$167,300 in taxes assessed by a governmental authority were included revenue and
cost of sales.
SFAS
141(R) and SFAS 160
In
December 2007, the Financial Accounting Standards Board (“FASB”)
issued Statement No. 141(Revised 2007),
Business Combinations
(SFAS
141(R)) and Statement No. 160,
Accounting and Reporting of
Non-controlling Interests in Consolidated Financial Statements
, an
amendment of ARB No. 51 (SFAS 160). These statements will significantly
change the financial accounting and reporting of business combination
transactions and non-controlling (or minority) interests in consolidated
financial statements. SFAS 141(R) requires companies to: (i) recognize, with
certain exceptions, 100% of the fair values of assets acquired, liabilities
assumed, and non-controlling interests in acquisitions of less than a 100%
controlling interest when the acquisition constitutes a change in control of the
acquired entity; (ii) measure acquirer shares issued in consideration for a
business combination at fair value on the acquisition date; (iii) recognize
contingent consideration arrangements at their acquisition-date fair values,
with subsequent changes in fair value generally reflected in
earnings;
(iv) with
certain exceptions, recognize pre-acquisition loss and gain contingencies at
their acquisition-date fair values; (v) capitalize in-process research and
development (IPR&D) assets acquired; (vi) expense, as incurred,
acquisition-related transaction costs; (vii) capitalize acquisition-related
restructuring costs only if the criteria in SFAS 146,
Accounting for Costs Associated with
Exit or Disposal Activities
, are met as of the acquisition date; and
(viii) recognize changes that result from a business combination
transaction in an acquirer’s existing income tax valuation allowances and tax
uncertainty accruals as adjustments to income tax expense. SFAS 141(R) is
required to be adopted concurrently with SFAS 160 and is effective for business
combination transactions for which the acquisition date is on or after the
beginning of the first annual reporting period beginning on or after
December 15, 2008 (our fiscal 2009). Early adoption of these statements is
prohibited. We believe the adoption of these statements will have a material
impact on significant acquisitions completed after March 31, 2009.
SAB
110
In
December 2007, the Securities and Exchange Commission published SAB Staff
Accounting Bulletin (SAB) 110, which amends SAB 107 to allow for the continued
use, under certain circumstances, of the "simplified" method in developing an
estimate of the expected term of so-called "plain vanilla" stock options
accounted for under FAS 123R, Share Based Payment (FAS 123R). SAB 110
provides that the SEC staff will accept, under certain circumstances, the use of
the simplified method beyond December 31, 2007 for "plain vanilla" options. Our
adoption of SAB 110 is not expected to have a material effect on our
consolidated financial position or results of operations.
SFAS 157
In
September 2006, the FASB issued SFAS No. 157,
Fair Value Measurements
(SFAS
157), which provides guidance on how to measure assets and liabilities that use
fair value. SFAS 157 will apply whenever another US GAAP standard
requires (or permits) assets or liabilities to be measured at fair value but
does not expand the use of fair value to any new circumstances. This
standard also will require additional disclosures in both annual and quarterly
reports. SFAS 157 will be effective for fiscal 2009. We are currently
evaluating the potential impact this standard may have on its financial position
and results of operations.
SFAS
159
On
February 15, 2007, the FASB issued SFAS No. 159,
The Fair Value Option for Financial
Assets and Financial Liabilities
(SFAS No. 159). Under this Standard, we
may elect to report financial instruments and certain other items at fair value
on a contract-by-contract basis with changes in value reported in earnings. This
election is irrevocable. SFAS No. 159 provides an opportunity to mitigate
volatility in reported earnings that is caused by measuring hedged assets and
liabilities that were previously required to use a different accounting method
than the related hedging contracts when the complex provisions of SFAS No. 133
hedge accounting are not met. SFAS No. 159 is effective for years beginning
after November 15, 2007. Management is currently evaluating the
potential impact of adopting this Standard.
FIN
48
Effective
April 1, 2007, we adopted the provisions of FASB Interpretation
No. 48,
Accounting for
Uncertainty in Income Taxes — An Interpretation of FASB Statement
No. 109
, or FIN 48. FIN 48 provides detailed guidance for
the financial statement recognition, measurement and disclosure of uncertain
income tax positions recognized in the financial statements in accordance with
SFAS No. 109. Income tax positions must meet a “more-likely-than-not”
recognition threshold at the effective date to be recognized upon the adoption
of FIN 48 and in subsequent periods.
Upon
review and analysis by the Company, we have concluded that no FIN 48 effects are
present as of December 31, 2007 and our tax position has not materially changed
since March 31, 2007. For the nine months ended December 31, 2007, we
did not identify and record any liabilities related to unrecognized income tax
benefits. Therefore the adoption of FIN 48 does not impact our
financial statements for the three and nine months ended December 31,
2007.
We
recognize interest and penalties related to uncertain income tax positions in
income tax expense. No interest and penalties related to uncertain income tax
positions were accrued at December 31, 2007. Income tax returns for
the fiscal tax year ended March 31, 2005 to the present are subject to
examination by major tax jurisdictions.
NOTE
11 — SUBSEQUENT EVENTS
On
February 11, 2008, we entered into an uncommitted revolving line of credit
agreement with Tiger Paw Capital Corporation, a corporation owned and operated
by Mr. Kenny Cheung, a member of the Company’s Board Of Directors and the owner
of approximately 9.4% of the Company's outstanding common stock (“Lender”), in
the amount of $1,000,000 ("The Line"). The Line is available for working capital
requirements. Any amounts drawn on the Line are payable on demand but in no
event later than 90 days from the date each respective draw is made. The Line is
an uncommitted obligation where Lender may decline to make advances under the
Line, or terminate the Line, at any time and for any reason without prior notice
to the Company. The Line bears interest at the rate of 10% per annum
and is payable to Lender on demand. Advances under the Line may be pre-paid
without penalty. The line is secured by all present and future assets of the
Company and carries no financial or operating covenants.
RED
MILE ENTERTAINMENT, INC.