The Company's EBITDA (earnings/loss from continuing operations, excluding interest income (expense), income taxes, depreciation and amortization), was a gain of $21,664 for the quarter ended September 30, 2003 and a loss of $48,186 for the nine months ended September 30, 2003 compared with a loss of $394,859 for the quarter ended September 30, 2002 and a loss of $1,178,688 for the nine months ended September 30, 2002. The decrease in the EBITDA loss was primarily due to significant increases in our revenue base coupled with only modest increases in our expense structure. EBITDA is not a measure used in financial statements reported in accordance with generally accepted accounting principals, does not represent funds available for discretionary use and is not intended to represent cash flow from operations as measured under generally accepted accounting principles. EBITDA should not be considered as an alternative to net loss or ne t cash used in operating activities. The Company's calculation of EBITDA may not be comparable to the computation of similarly titled measures of other companies.

          We use EBITDA as a measure of our operating performance. We believe that EBITDA may be useful to existing and potential creditors, and to any analysts and investors that follow our performance, because it is one measure of the income generated that is available to service debt and capital leases. In addition, our ability to prepay the $1.1 million in 7% Convertible Promissory Notes issued to Dolphin on September 30, 2003 is contingent upon, among other things, our debt to EBITDA ratio being less than or equal to two.

          The Company's net loss from continuing operations was a loss of $175,774 for the quarter ended September 30, 2003 and a loss of $599,136 for the nine months ended September 30, 2003 compared with a loss of $538,661 for the quarter ended September 30, 2002 and a loss of $1,740,037 for the nine months ended September 30, 2002. Reconciliation of net loss from continuing operations to EBITDA is as follows:

          RevenueOn January 22, 2002, the Securities and Exchange Commission issued FR-61, Commission Statement About Management's Discussion and Analysis of Financial Condition and Results of Operations. The release sets forth certain views of the Commission regarding disclosure that should be considered by registrants. Disclosure matters addressed by the release are liquidity and capital resources including off-balance sheet arrangements, certain trading activities that include non-exchange traded contracts accounted for at fair value, and effects of transactions with related and certain other parties. The following table sets forth the information in a format described in the release with regard to disclosures about contractual obligations and commercial commitments.

          RevenueThe following table discloses aggregate information about our contractual obligations including long-term debt, operating and capital lease payments, office lease payments and contractual service agreements, and the periods in which payments are due as of September 30, 2003:

          As of September 30, 2003, the Company had $1,077,842 in cash and cash equivalents. This represents an increase of $840,331 compared to December 31, 2002. Cash used during the nine-months ended September 30, 2003 includes approximately $368,954 used in operations, as well as $259,689 used in investing activities and $1,468,974 provided by financing activities. Of the $1,468,974 of cash provided by financing activities, $691,000 represents cash received from the proceeds of the Old Dolphin Notes with a principal amount of $691,000 issued on January 16, 2003 to Dolphin, $900,000 represents proceeds received from the issuance of shares of Series A Preferred Stock described in the following paragraph, $75,000 represents proceeds received from the exercise of stock options, and $120,222 represents proceeds from our factoring relationship with Alliance Bank for a total of $1,786,222. The $317,248 difference between the $1,786,222 of cash received and the $1,468,974 of cash provided by financing activities represents payments on capital leases and payment of legal fees for the issuance of the Preferred Stock and the note restructure described below.

          On September 30, 2003, we entered into a Securities Exchange and Purchase Agreement (the "Purchase Agreement") with Dolphin and certain members of our management team. Pursuant to the Purchase Agreement, at the same time as the note exchange described in the following paragraph, Dolphin purchased $550,000 in shares of 2003 Series A Preferred Stock ("Series A Preferred") and associated warrants at a purchase price of $1,000 per unit, with each unit comprised of one share of Series A Preferred and a warrant (an "Additional Warrant") to purchase 833⅓ shares of common stock at an exercise price of $0.30 per share during a three year term. Certain members of the Company's executive management team purchased $350,000 in the Series A Preferred and Additional Warrants on the same terms. Information about the specific terms of the Series A Preferred is set forth in, and related material agreements are attached to, our Current Report on Form 8-K filed with the SEC on October 14, 2003.

          Prior to September 30, 2003, the Company had issued $1.1 million in Old Dolphin Notes. Pursuant to the Purchase Agreement, the Company and Dolphin exchanged the Old Dolphin Notes for $1.1 million in 7% Convertible Promissory Notes (the "Dolphin Notes") with different terms than the Old Dolphin Notes and amended various agreements and covenants associated with the Old Dolphin Notes. Interest accrues on the Dolphin Notes at the rate of 7% per annum, compounded monthly, and is payable in cash at maturity, or in cash or common stock (at the Company's election) upon conversion of the principal amount of the Dolphin Notes into common stock. The Dolphin Notes mature on September 30, 2026 or upon the occurrence of a change of control meeting certain conditions. Additional Information about the specific terms of the Dolphin Notes is set forth in, and related material agreements are attached to, our Current Report on Form 8-K filed with the SEC on October 14, 2003.

          We anticipate making capital expenditures of between $100,000 and $150,000 during the remainder of calendar 2003, generally for data center equipment, customer servers and related software. During the second quarter of 2003, we obtained an equipment lease line of credit in the amount of $250,000 from a financing company. As of September 30, 2003, we had used $27,275 of the $250,000 available on such lease line of credit.

          During the second quarter of 2003 we obtained two accounts receivable factoring lines of credit with Alliance Bank that allow us to sell up to an aggregate of $1,000,000 in accounts receivable to the bank, thereby immediately monetizing a large non-cash asset. As of September 30, 2003 we had used $120,222 of that facility.

          Subject to the contingencies in the following paragraph, we expect that the cash that we have at September 30, 2003, together with recurring operating revenues and the cash to be advanced from our AR factoring line, should be sufficient to meet our current and future obligations until the time that the Company can sustain itself on its own internally-generated cash flow. If, for whatever reason our cash on hand at September 30, 2003 is not sufficient, we would need to obtain additional debt or equity financing. If we are unable to obtain additional financing at a reasonable cost, or at all, we could probably make some cuts in our expense model to the point where we would be break-even from an operating cash flow perspective. By making these cuts, we would be able to continue operating the business; however, such actions would slow our growth and could have a material adverse effect on future operations and financial results.

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          As previously mentioned, although we believe that our cash reserves at September 30, 2003 should be adequate (particularly in light of our option to modify the expense structure of the business to achieve a break-even cash flow level), certain events, including the following, may cause those cash balances to be insufficient:

          If any of these, or a combination of any of these were to occur, our available cash balances at September 30, 2003 might not be sufficient, and in that event, we would need to obtain additional debt or equity financing. There can be no assurance that we would be able to obtain additional debt or equity financing on terms that would be agreeable to us, or at all. See also the risks discussed in "Certain Factors" below.

          In December 2002, the FASB issued SFAS no. 148, "Accounting for Stock-Based Compensation-Transition and Disclosure", which amends SFAS No, 123, "Accounting for Stock-Based Compensation". SFAS 148 providers alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation and requires more prominent and more frequent disclosures in the financial statements of the effects of stock-based compensation. The provisions of SFAS 148 are effective for fiscal years ending after December 15, 2002 and the interim disclosures provisions are effective for the current period.

          Pro forma information regarding net loss and loss per share has not been presented because the effect of the employee stock option grants is immaterial.

          VitalStream, Inc. (the primary operating subsidiary of VitalStream Holdings) was founded in March 2000 and, accordingly, our current business has a limited operating history upon which an evaluation of our prospects and us can be based. VitalStream Holdings has experienced net losses in each quarter since inception, with net losses of $6,540,679 million from inception until September 30, 2003. Although we have projected that we will begin generating positive cash flow from operations during 2004, such projections are based on the assumption that our revenue will continue to grow, that we will retain substantially all of our customers (including those acquired from Epoch) and that we will incur no unanticipated or extraordinary expenses. Competition for new customers in our business is intense, and our revenue may not continue to grow at its current rate, or at all. In addition, we may incur extraordinary expenses in connection wit h additional acquisition or financing transactions, expansion of our facilities or other events for which we have not budgeted. If our revenue does not continue to grow, we are unable to retain our existing customers or if we incur significant unanticipated or extraordinary expenses, we may not achieve positive cash flow when projected, or at all.

          In addition, because of non-cash expenses such as depreciation and amortization, even if we reach positive cash flow from operations, we will not have reached financial statement profitability. Achieving financial statement profitability would require additional growth in our revenues in such an amount that the additional gross profit from those additional revenues would be sufficient to cover the non-cash expenses. We can provide no assurance that we will ever become profitable.

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          The market for Internet broadcasting services is new and rapidly evolving. We cannot be certain that a viable market for our services will emerge or be sustainable. Factors that may inhibit the development of a viable market for Internet broadcasting services include:

          If the market for Internet broadcasting services does not continue to develop, or develops more slowly than expected, our business, results of operations and financial condition will be seriously harmed.

          We have pledged substantially all of our assets to secure repayment of the Factoring and Security Agreement, dated June 30, 2003, we entered into with Alliance Bank, pursuant to which we may sell certain of our accounts receivable to the bank and make periodic interest payments to the bank in respect of the face amount of the sold receivables that are outstanding during such period In addition, in order to be able to grant a security interest to Alliance Bank, we were required under the restrictive covenants related to the Dolphin Notes to enter into a security agreement with Dolphin granting Dolphin a security interest in substantially all of our assets other than our accounts receivable in order to Secure the Dolphin Notes. These security agreements afford the bank and Dolphin rights and remedies that are commonly provided a secured creditor. Accordingly, if we default under our Factoring and Security Agreement or the Dol phin Notes, the secured parties may, subject to laws restricting the remedies of creditors, immediately seize and dispose of all pledged assets.

          In January 2003, we acquired certain assets and customers of Epoch Hosting, Inc. and its affiliates in exchange for cash and VitalStream Holdings common stock. Although we have agreed to assume only specified liabilities of Epoch, as a result of our acquiring substantially all of the assets related to the hosting and colocation businesses of Epoch, we may be compelled (under equitable doctrines or for other reasons) to assume various unknown liabilities of Epoch or liabilities that we did not expressly agree to assume, including various tax, environmental, and retirement plan liabilities. In addition, during a transition period following our acquisition of the Epoch assets, affiliates of Epoch and theirs successors provided hosting, colocation, billing and other services on our behalf. To the extent they failed to provide such services in accordance with the terms of governing agreements and industry standards, we may be liable fo r damages arising from their actions or omissions, subject to certain indemnity obligations they may have regarding any such damages.

          In order to successfully implement our business strategy, we must establish and achieve substantial growth in our customer base through sales, through business acquisitions or a combination thereof. If achieved, significant growth would place significant demands on our management and systems of financial and internal controls, and will almost certainly require an increase in the capacity, efficiency and accuracy of our billing and customer support systems. Moreover, significant growth would require an increase in the number of our personnel, particularly sales and marketing, customer service and technical personnel. The market for such personnel remains highly competitive, and we may not be able to attract and retain the qualified personnel required by our business strategy. Further, if successful in attracting new customers, we may outgrow our present facilities and/or network capacity, placing additional strains on our managemen t in trying to locate and manage multiple locations and to scale our network.

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          Pursuant to the Purchase Agreement with Dolphin and certain members of our management team, on September 30, 2003, Dolphin purchased $550,000 in shares of Series A Preferred and Additional Warrants at a purchase price of $1,000 per unit, with each unit comprised of one share of Series A Preferred and an Additional Warrant to purchase 833⅓ shares of common stock at an exercise price of $0.30 per share during a three year term. In addition, following the note exchange contemplated by the Purchase Agreement, Dolphin continues to hold $1.1 million in Dolphin Notes (convertible into approximately 4,682,363 shares of common stock) and associated warrants to purchase approximately 842,825 shares of common stock and to be the beneficiary of restrictive covenants set forth in the Dolphin Notes. Affiliates of Dolphin beneficially own the shares of common stock we issued to Epoch Hosting, Inc. in January 2003 in connection with our acq uisition of the hosting and colocation business of Epoch. As a result of such transaction, Dolphin presently has control over 6,284,725 votes in connection with the election of directors and other matters, constituting 17.96% of the voting power of VitalStream Holdings. In addition, if all of the Dolphin Notes, Amended Warrants and Additional Warrants held by Dolphin were converted or exercised for common stock, Dolphin would possess or control 13,094,421 votes in connection with the election of directors and other matters, constituting 32.49% of the voting power of VitalStream Holdings following such conversions or exercises. As a result of its stock holdings and certain restrictive covenants, Dolphin may be able to block, or extract concessions or special benefits in connection with, various transactions, including, with certain exceptions, any future debt, preferred stock, merger, or asset sale transactions.

          Our business plan contemplates continued expansion of our operations in the foreseeable future. In addition, we presently experience negative cash flow from operations. If we are to continue our operations and grow as contemplated, of which there can be no assurance, we will need to seek additional funding from the capital markets. We expect to fund our future capital requirements, if any, through existing resources, sales of our services and debt or equity financings.

          We may not be successful in raising sufficient debt or equity capital on terms that we consider acceptable, or at all. Failure to generate sufficient funds may require us to delay or abandon some of our future expansion or planned expenditures or to discontinue some of our operations, which would have a material adverse effect on our growth and our ability to compete in the electronic broadcasting industry.

          Our current and future competitors in Internet broadcasting may include other digital content delivery providers, Internet broadcast network specialty providers and alternative access providers such as various cable television companies, direct broadcast satellite, DSL, wireless communications providers and other established media companies. Many of these competitors have greater market presence, brand recognition, engineering and marketing capabilities, and financial, technological and personnel resources, than we do. As a result, our competitors may be able to:

          In addition, various organizations, including certain of those identified above, have entered into or are forming joint ventures or consortiums to provide services similar to our services.

          Our current and future competitors in hosting and colocation may include other Internet hosting, colocation and access businesses, including such major providers as Cable & Wireless and Qwest, and essentially any other participant in the Internet industry. Many of these competitors have greater market presence, brand recognition, engineering and marketing capabilities, and financial, technological and personnel resources, than we do. As a result, our competitors may be able to:

          In addition, various organizations, including certain of those identified above, have entered into or are forming joint ventures or consortiums to provide services similar to our services.

Our services are subject to system failure and security risks.

          Our operations are dependent upon our ability to protect our network infrastructure against damage from natural disasters, such as fire, earthquakes and floods, as well as power loss, telecommunications failures and similar events. Most of our network and computer equipment, including components critical to our operations, are currently concentrated in three locations in California, which in the recent past has experienced threatened power shortages. The remainder of our equipment is in a third-party data center located in Ashburn, Virginia. The occurrence of a natural disaster or other unanticipated system or power failures could cause interruptions in the services we provide. Although we provide backup power solutions, power failures or the lack of expansion power within our location could cause interruptions in our service. Additionally, failure of one or several of our telecommunications providers to provide the data communica tions capacity we require as a result of natural disasters, operational disruptions or for any other reason could cause interruptions in the services we provide. Any damage or failure that causes interruptions in our operations could have a material adverse effect on our business, financial condition and results of operations.

          Our networks are also subject to factors that could cause interruptions in service or reduced capacity for our customers. Despite the implementation of security measures, the core of our network infrastructure is vulnerable to unauthorized access, computer viruses, equipment failure and other disruptive problems, including the following:

          The occurrence of any unauthorized access, computer virus, equipment failure or other disruptive problem could have a material adverse affect on our business, financial condition and results of operations.

We are dependent upon key personnel who may leave at any time.

          We are highly dependent upon the efforts of our senior management team, the loss of any of whom could impede our growth and ability to execute our business strategy. Although our principal managers have significant equity interests in the company, none are party to employment agreements with the company that are not terminable at will. In addition, we believe that our future success will depend in large part on our ability to attract and retain qualified technical and marketing personnel for whom there is intense competition in the areas of our activities. The loss of the services of key personnel or the failure to attract or retain additional personnel as required could have a material adverse effect on our business, financial condition and results of operations.

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We may be unable to keep up with evolving industry standards and changing user needs.

          The market for Internet media-related services is characterized by rapidly changing technology, evolving industry standards, changing user needs and frequent new service and product introductions. Our success will depend in part on our ability to identify, obtain authorized access to and use third party-provided technologies effectively, to continue to develop our technical capabilities, to enhance our existing services and to develop new services to meet changing user needs in a timely and cost-effective manner. In addition, new industry standards have the potential to replace or provide lower-cost alternatives to our services. The adoption of such new industry standards could render our existing services obsolete and unmarketable or require reduction in the fees charged. Any failure on our part to identify, adopt and use new technologies effectively, to develop our technical capabilities, to develop new services or to enhance ex isting services in a timely and cost-effective manner could have a material adverse effect on our business, financial condition and results of operations.

We may be unable to grow if methods of high-speed Internet access are not widely deployed.

          Our business is greatly enhanced by (and generally assumes adoption of) fundamental changes in the method of Internet access delivery to consumers. Currently, consumers access the Internet primarily via computers connected to public telephone networks through dial-up access or leased lines. A number of alternative methods for users to obtain high-speed access to the Internet, including cable modems, DSL, satellites and other terrestrial and wireless telecommunications technologies, collectively "Broadband Internet Access," currently provided by third party suppliers are in use or are under development. We believe that these technologies need to be deployed to consumers on a large scale before the delivery of media entertainment over the Internet will be truly viable. The failure of Broadband Internet Access to gain rapid acceptance could have a material adverse effect on our ability to execute our business plan and consequently on our business, financial condition and results of operations. Recent financial difficulties and outright bankruptcies experienced by several high profile wholesale and consumer providers of broadband connectivity may negatively impact the growth rate and availability of Broadband Internet Access.

We are dependent upon third-party suppliers and may be unable to find alternative suppliers.

          We rely on other companies to supply key components of our network infrastructure, including telecommunications services and networking equipment, which are available only from limited sources. Additionally, we rely on third-party development of technology to provide media-related functionality, such as streaming media formats and payment processing. We do not have long-term agreements governing the supply of many of these services or technologies. There can be no assurance that we can continue to obtain such services or licenses for such technologies at a commercially reasonable cost.

          We are also dependent upon regional bell operating companies, and certain other local exchange carriers, Competitive Local Exchange Carriers, and other access providers to provide telecommunications services to our customers and to us. Certain of these telecommunications companies compete with us. Additionally, many of the access providers have experienced financial problems, and some have even gone into bankruptcy. We have, from time to time, experienced delays and interruptions in receiving telecommunications services, and there can be no assurance that we will be able to obtain such services on the scale and within the time frames we require at a commercially reasonable cost, if at all. Some of our suppliers, including the regional bell operating companies and certain other local exchange carriers, are currently subject to tariff controls and other price constraints, which in the future could be changed. Such regulatory changes could result in increased prices of services and products to us.

          The services provided by telecommunications carriers are governed by regulatory policies establishing charges and terms for wireline communications. We are not a telecommunications carrier but we do provide Internet broadcasting services, in part, through data transmissions over private and public telephone lines provided by telecommunications carriers. Operators of value-added networks that utilize regulated transmission facilities only as part of a data services package currently are excluded from regulations that apply to "telecommunications carriers" and, as such, we are not currently subject to direct regulation by the Federal Communications Commission (the "FCC"). Up until now, the FCC has treated companies providing services similar to those provided by us as "enhanced service providers," exempt from federal and state regulations governing common carriers, including the obligation to pay access charges and contribute to the universal service fund. If the FCC were to require Internet service providers like us to pay access charges or to contribute to the universal service fund when the Internet service provider provides its own transmission facilities and engages in data transport over those facilities in order to provide an information service, the resultant increase in cost could have a material adverse effect on our operations and our financial condition.

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          Additionally, electronic commerce on the Internet has been generally exempted from taxation at the federal and state levels since 1995. This exemption is occasionally under examination by the United States Congress, where there can be no assurance that it will continue. If the United States Congress or states enact new taxes, tariffs or other assessments on electronic commerce, it could have a material adverse effect on our business, financial condition and results of operations.

          Our common stock is quoted on the NASDAQ OTC Bulletin Board. During 2001 NASDAQ had announced plans to discontinue the OTC Bulletin Board and replace it with the BBX, a new electronic market system which would allow for surveillance and for trading halts. They planned minimum corporate governance standards plus defined listing standards compliant with the Sarbanes-Oxley Act of 2002. In June 2003, however, NASDAQ announced it was discontinuing plans for the BBX. The volume of trading in our common stock is limited and thus susceptible to being dominated by a few individuals. Because of the thinness of the market for our stock, the price of our common stock may be subject to manipulation by one or more shareholders and may increase or decrease significantly because of buying or selling by a single shareholder. In addition, the limited volume of trading limits significantly the number of shares that one can purchase or sell in a shor t period of time. Consequently, an investor may find it more difficult to dispose of shares of our common stock or to obtain a fair price for our common stock in the market.

          The market price of our common stock, like that of the securities of other early stage companies, may be highly volatile. Our stock price may change dramatically as the result of various factors, including the following:

          Under our Articles of Incorporation, as amended, we are authorized to issue up to 10,000,000 shares of preferred stock. Our Board of Directors has the authority to create various series of preferred stock with such voting and other rights superior to those of our common stock and to issue such stock without shareholder approval. Any issuance of such preferred stock would dilute the ownership and voting power of the holders of our common stock and may have a negative effect on the price of our common stock. The issuance of preferred stock without shareholder approval may also be used by management to stop or delay a change of control.

          During the third quarter, we issued 900 shares of Series A Preferred in connection with the Purchase Agreement, and the principal amount outstanding under the Dolphin Notes is convertible into 1,100 shares of Series B Preferred. (See Note 5 to the CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS in Part I of this report, and Item 2 in Part II of this report, for additional details regarding the Series A and Series B Preferred.)

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          We have not declared any dividends on our common stock. We intend to retain earnings, if any, to finance the operation and expansion of our business and, therefore, we do not expect to pay cash dividends on our shares of common stock in the foreseeable future. In addition, pursuant to the terms of the Purchase Agreement, VitalStream Holdings is prohibited from paying any dividends until restrictive covenants associated with the Dolphin Notes expire.

          Shares of our common stock may be deemed to be "penny stock," resulting in increased risks to our investors and certain requirements being imposed on some brokers who execute transactions in our common stock. In general, a penny stock is an equity security that

          Our common stock has a trading price below five dollars; our common stock is not trading on an exchange or NASDAQ; we have average historical revenues of less than $6 million; depending upon how governing rules are interpreted, we may not have been in continuous operation for more than three years; and we have less than $5 million dollars in net tangible assets. Accordingly, we believe that our common stock may be a "penny stock." At any time our common stock qualifies as a penny stock, the following requirements, among others, will generally apply:

          These requirements significantly add to the burden of the broker-dealer and limit the market for penny stocks. These regulatory burdens may severely affect the liquidity and market price for our common stock.

We may be subject to certain provisions of the California corporate code at various times.

          Because we are a Nevada corporation, the rights of our stockholders are generally governed by the Nevada Private Corporations Law. However, under Section 2115(a) of the California Corporations Code, we may become subject to various sections of the California Corporations Code during any year if, on January 1 of the prior year, more than one-half of our outstanding voting securities are held by California residents and our principal business operations are located in California. We believe that, as of January 1, 2003, California residents held more than one-half of our outstanding voting securities, and our principal business operations are located in California. Accordingly, beginning in January 2004 and thereafter as long as we satisfy the applicable conditions, the rights of VitalStream Holdings shareholders will be altered by the effect of Section 2115(a) of the California Corporations Code. Although such provisions are designe d to enhance the rights of shareholders, they may benefit some shareholders at the expense of others, limit management's ability to operate the Company and, in instances where Nevada and applicable California corporate law conflict, cause confusion about what laws govern the actions of VitalStream Holdings.