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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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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 June 30, 2002 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 0-21917
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Point.360
(Exact Name of Registrant as Specified in Its Charter)
California
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(State or Other Jurisdiction of
Incorporation or Organization)
95-4272619
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(IRS Employer Identification Number)
7083 Hollywood Boulevard, Suite 200, Hollywood, CA 90028
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(Address of principal executive offices) (Zip Code)
(323) 957-7990
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(Registrant's Telephone Number, Including Area Code)
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(Former Name, Former Address and Former Fiscal Year,
if Changed Since Last Report)
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No ____
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As of July 20, 2002, there were 9,014,232 shares of the registrant's common
stock outstanding.
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
POINT.360
CONSOLIDATED BALANCE SHEETS
ASSETS
December 31, June 30,
2001 2002
(unaudited)
Current assets:
Cash and cash equivalents $ 3,758,000 $ 4,655,000
Accounts receivable, net of allowances for doubtful
accounts of $681,000 and $937,000, respectively 12,119,000 11,688,000
Notes receivable from officers 928,000 775,000
Income tax receivable 1,399,000 703,000
Inventories 820,000 869,000
Prepaid expenses and other current assets 554,000 767,000
Deferred income taxes 884,000 1,027,000
--------------- ----------------
Total current assets 20,462,000 20,484,000
Property and equipment, net 23,232,000 21,260,000
Other assets, net 833,000 818,000
Goodwill and other intangibles, net 26,320,000 26,428,000
--------------- ----------------
Total assets $ 70,847,000 $ 68,990,000
=============== ================
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 4,675,000 $ 2,917,000
Accrued expenses 2,715,000 3,951,000
Current portion of notes payable 28,999,000 5,350,000
Current portion of capital lease obligations 79,000 83,000
--------------- ---------------
Total current liabilities 36,468,000 12,301,000
--------------- ---------------
Deferred income taxes 2,650,000 2,871,000
Notes payable, less current portion - 20,999,000
Capital lease obligations, less current portion 78,000 96,000
Derivative valuation liability 579,000 510,000
Shareholders' equity
Preferred stock - no par value; 5,000,000 authorized;
none outstanding - -
Common stock - no par value; 50,000,000 authorized; 8,992,806
and 9,014,232 shares issued and outstanding, respectively 17,336,000 17,359,000
Additional paid-in capital 439,000 439,000
Comprehensive income - FAS 133 238,000 208,000
Retained earnings 13,059,000 14,207,000
--------------- ---------------
Total shareholders' equity 31,072,000 32,213,000
--------------- ---------------
Total liabilities and shareholders' equity $ 70,847,000 $ 68,990,000
=============== ===============
See accompanying notes to consolidated financial statements.
2
POINT.360
CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME
(Unaudited)
Three Months Ended Six Months Ended
June 30, June 30,
2001 2002 2001 2002
---- ---- ---- ----
Revenues $ 16,446,000 $ 16,710,000 $ 35,554,000 $ 33,557,000
Cost of goods sold (11,487,000) (10,634,000) (24,130,000) (21,229,000)
------------ ------------ ------------ ------------
Gross profit 4,959,000 6,076,000 11,424,000 12,328,000
Selling, general and administrative expense (5,518,000) (4,488,000) (11,017,000) (9,095,000)
------------ ------------ ------------ ------------
Operating income (559,000) 1,588,000 407,000 3,233,000
Interest expense, net (734,000) (642,000) (1,519,000) (1,319,000)
Derivative fair value change 44,000 (132,000) (209,000) 70,000
------------ ------------ ------------ ------------
Income (loss) before income taxes (1,249,000) 814,000 (1,321,000) 1,984,000
(Provision for) benefit from income taxes 573,000 (356,000) 613,000 (866,000)
------------ ------------ ------------ ------------
Income (loss) before adoption of FAS 133 (2001) (676,000) 458,000 (708,000) 1,118,000
Cumulative effect of adopting FAS 133 (2001) - - (139,000) -
------------ ------------ ------------ ------------
Net income (loss) $ (676,000) $ 458,000 $ (847,000) $ 1,118,000
============ ============ ============ ============
Other comprehensive income:
Derivative fair value change $ 15,000 $ 15,000 $ 268,000 $ 30,000
------------ ------------ ------------ ------------
Comprehensive income (loss) $ (661,000) $ 473,000 $ (579,000) $ 1,148,000
============ ============ ============ ============
Earnings per share:
Basic:
Income (loss) per share before adoption
of FAS 133 (2001) $ (0.07) $ 0.05 $ (0.08) $ 0.12
Cumulative effect of adopting FAS 133 (2001) - - (0.02) -
------------ ------------ ------------ ------------
Net income (loss) $ (0.07) $ 0.05 $ (0.10) $ 0.12
============ ============ ============ ============
Weighted average number of shares 9,046,004 9,013,065 9,090,387 9,012,199
Diluted:
Income (loss) per share before adoption
of FAS 133 (2001) $ (0.07) $ 0.05 $ (0.08) $ 0.12
Cumulative effect of adopting FAS 133 (2001) - - (0.01) -
------------ ------------ ------------ ------------
Net income (loss) $ (0.07) $ 0.05 $ (0.09) $ 0.12
============ ============ ============ ============
Weighted average number of shares including
the dilutive effect of stock options 9,092,319 9,325,662 9,133,069 9,244,311
See accompanying notes to consolidated financial statements.
3
POINT.360
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Six Months Ended
June 30,
2001 2002
---- ----
Cash flows from operating activities:
Net income (loss) $ (847,000) $ 1,118,000
Adjustments to reconcile net income (loss)
to net cash provided by operating activities:
Depreciation and amortization 3,465,000 2,699,000
Provision for doubtful accounts 279,000 336,000
Deferred income taxes 306,000 78,000
Other non cash item 378,000 (76,000)
Cumulative effect of adopting FAS 133 139,000 -
Write-off of note receivable - 148,000
Changes in assets and liabilities:
Decrease in accounts receivable 3,213,000 95,000
(Increase) in inventories (71,000) (49,000)
Decrease (increase) in prepaid expenses and
other current assets 54,000 (224,000)
(Increase) decrease in other assets (30,000) 15,000
Decrease in accounts payable (3,444,000) (1,631,000)
Increase in accrued expenses 925,000 1,094,000
(Decrease) increase in income taxes (831,000) 696,000
-------------- -------------
Net cash provided by operating activities 3,536,000 4,299,000
-------------- -------------
Cash used in investing activities:
Capital expenditures (1,846,000) (746,000)
Proceeds from sale of equipment - 27,000
Net cash paid for acquisitions (508,000) (10,000)
-------------- -------------
Net cash used in investing activities (2,354,000) (729,000)
-------------- -------------
Cash flows used in financing activities:
Repurchase of common stock (300,000) -
Proceeds from exercise of stock option - 12,000
Repayment of notes payable (1,074,000) (2,650,000)
Repayment of capital lease obligations (41,000) (35,000)
-------------- -------------
Net cash used in financing activities (1,415,000) (2,673,000)
-------------- -------------
Net (decrease) increase in cash (233,000) 897,000
Cash and cash equivalents at beginning of period 769,000 3,758,000
-------------- -------------
Cash and cash equivalents at end of period $ 536,000 $ 4,655,000
============== =============
Supplemental disclosure of cash flow information -
Cash paid for:
Interest $ 1,306,000 $ 1,149,000
============== =============
Income tax $ 52,000 $ 148,000
============== =============
See accompanying notes to consolidated financial statements
4
POINT.360
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
June 30, 2002
NOTE 1 - THE COMPANY
Point.360 (the "Company") is a leading provider of video and film asset
management services to owners, producers and distributors of entertainment and
advertising content. The Company provides the services necessary to edit,
master, reformat, digitize, archive and ultimately distribute its clients' video
content.
The Company provides physical and electronic delivery of commercials,
movie trailers, electronic press kits, infomercials and syndicated programming
to thousands of broadcast outlets worldwide. The Company provides worldwide
electronic distribution, using fiber optics and satellites. Additionally, the
Company provides a broad range of video services, including the duplication of
video in all formats, element storage, standards conversions, closed captioning
and transcription services and video encoding for air play verification
purposes. The Company also provides its customers value-added post production,
editing and digital media services. The Company operates in one reportable
segment.
The Company seeks to capitalize on growth in demand for the services
related to the distribution of entertainment content, without assuming the
production or ownership risk of any specific television program, feature film or
other form of content. The primary users of the Company's services are
entertainment studios and advertising agencies that generally choose to
outsource such services due to the sporadic demand of any single customer for
such services and the fixed costs of maintaining a high-volume physical plant.
Since January 1, 1997, the Company has successfully completed eight
acquisitions of companies providing similar services. The Company will continue
to evaluate acquisition opportunities to enhance its operations and
profitability. As a result of these acquisitions, the Company believes it is one
of the largest and most diversified providers of technical and distribution
services to the entertainment and advertising industries, and is therefore able
to offer its customers a single source for such services at prices that reflect
the Company's scale economies.
The accompanying unaudited financial statements have been prepared in
accordance with generally accepted accounting principles and the Securities and
Exchange Commission's rules and regulations for reporting interim financial
statements and footnotes. In the opinion of management, all adjustments
(consisting of normal recurring adjustments) considered necessary for a fair
presentation have been included. Operating results for the three and six month
periods ended June 30, 2002 are not necessarily indicative of the results that
may be expected for the year ending December 31, 2002. These financial
statements should be read in conjunction with the financial statements and
related notes contained in the Company's Form 10-K for the year ended December
31, 2001.
NOTE 2 - ACCOUNTING PRONOUNCEMENTS
Effective January 1, 2001, the Company adopted Statement of Financial
Accounting Standards No. 133, Accounting for Derivative Instruments and Hedging
Activities ("FAS 133"). The standard, as amended, requires that all derivative
instruments be recorded on the balance sheet at their fair value. Changes in the
fair value of derivatives are recorded each period in other income.
5
In June 2001, the Financial Accounting Standards Board ("FASB") issued
FAS Nos. 141 and 142, "Business Combinations" and "Goodwill and Other Intangible
Assets," respectively. FAS No. 141 replaces Accounting Principles Board ("APB")
Opinion No. 16. It also provides guidance on purchase accounting related to the
recognition of intangible assets and accounting for negative goodwill. FAS No.
142 changes the accounting for goodwill and other intangible assets with
indefinite useful lives ("goodwill") from an amortization method to an
impairment-only approach. Under FAS No. 142, goodwill will be tested annually
and whenever events or circumstances occur indicating that goodwill might be
impaired. FAS No. 141 and FAS No. 142 are effective for all business
combinations completed after June 30, 2001. Upon adoption of FAS No. 142,
amortization of goodwill recorded for business combinations consummated prior to
July 1, 2001 will cease, and intangible assets acquired prior to July 1, 2001
that do not meet the criteria for recognition under FAS No. 141 will be
reclassified to goodwill. The Company implemented FAS No. 142 in the first
quarter of fiscal 2002 which required no goodwill impairment.
In August 2001, the FASB issued FAS No. 143, "Accounting for Asset
Retirement Obligations," which requires entities to record the fair value of a
liability for an asset retirement obligation in the period in which the
obligation is incurred. When the liability is initially recorded, the entity
capitalizes the cost by increasing the carrying amount of the related long-lived
asset. FAS No. 143 is effective for fiscal years beginning after June 15, 2002.
The Company does not have asset retirement obligations and, therefore, believes
there will be no impact upon adoption of FAS No. 143.
In October 2001, the FASB issued FAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets," which is applicable to financial
statements issued for fiscal years beginning after December 15, 2001. The FASB's
new rules on asset impairment supersede FAS No. 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of,"
and portions of APB Opinion No. 30, "Reporting the Results of Operations." FAS
No. 144 provides a single accounting model for long-lived assets to be disposed
of and significantly changes the criteria that would have to be met to classify
an asset as held-for-sale. Classification as held-for-sale is an important
distinction since such assets are not depreciated and are stated at the lower of
fair value and carrying amount. FAS No. 144 also requires expected future
operating losses from discontinued operations to be displayed in the period(s)
in which the losses are incurred, rather than as of the measurement date as
presently required. The Company is in the process of evaluating the impact of
adopting FAS No. 144.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB
Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical
Corrections." SFAS No. 145 updates, clarifies, and simplifies existing
accounting pronouncements. This statement rescinds SFAS No. 4, which required
all gains and losses from extinguishment of debt to be aggregated and, if
material, classified as an extraordinary item, net of related income tax effect.
As a result, the criteria in APB No. 30 will now be used to classify those gains
and losses. SFAS No. 64 amended SFAS No. 4 and is no longer necessary as SFAS
No. 4 has been rescinded. SFAS No. 44 has been rescinded as it is no longer
necessary. SFAS No. 145 amends SFAS No. 13 to require that certain lease
modifications that have economic effects similar to sale-leaseback transactions
be accounted for in the same manner as sale-lease transactions. This statement
also makes technical corrections to existing pronouncements. While those
corrections are not substantive in nature, in some instances, they may change
accounting practice. The Company does not expect adoption of SFAS No. 145 to
have a material impact, if any, on its financial position or results of
operations.
NOTE 3 - STOCK REPURCHASE
In February 1999, the Company commenced a stock repurchase program. The
board of directors authorized the Company to allocate up to $4,000,000 to
purchase its common stock at suitable market prices. In September 2000, the
board of directors authorized the Company to allocate an additional $5,000,000
to purchase its common stock. As of June 30, 2002, the Company had repurchased
860,766 shares of the Company's common stock in connection with this program.
NOTE 4 - LONG TERM DEBT AND NOTES PAYABLE
In November 1998, the Company borrowed $29,000,000 on a term loan with a
bank. The term loan was repaid in 2000 with the proceeds of a new borrowing
arrangement with a group of banks.
6
In September 2000, the Company entered into a credit agreement
("Agreement") with a group of banks providing a revolving credit facility of up
to $45,000,000. The purpose of the facility was to repay previously outstanding
amounts under a prior agreement with a bank, fund working capital and capital
expenditures and for general corporate purposes including up to $5,000,000 of
stock repurchases under the Company's repurchase program. The Agreement provided
for interest at the banks' reference rate, the federal funds effective rate plus
0.5%, or a LIBOR adjusted rate. Loans made under the Agreement are
collateralized by substantially all of the Company's assets. The borrowing base
under the Agreement was limited to 90% of eligible accounts receivable, 50% of
inventory and 100% of operating machinery and equipment. The Agreement provided
that the aggregate commitment will decline by $5,000,000 on each December 31
beginning in 2002 until expiration of the entire commitment on December 31,
2005.
The Agreement also contained covenants requiring certain levels of
annual earnings before interest, taxes, depreciation and amortization (EBITDA)
and net worth, and limited the amount of capital expenditures. By December 31,
2000, the Company had borrowed $31,024,000 under the Agreement and was not in
compliance with certain financial covenants due to adjustments recorded to prior
years' and 2000 results. The bank waived compliance with the covenants and
amended the Agreement in April 2001. In connection with the amendment, the
Company paid the banks a restructuring fee of $225,000 which was expensed in the
second quarter of 2001.
As of April 30, May 31 and June 30, 2001, outstanding amounts under the
line of credit exceeded the borrowing base. On June 11 and July 20, 2001, the
Company entered into amendment and forbearance agreements with the banks which
required the Company to repay the amount of excess borrowings and amended the
Agreement to reduce the aggregate commitment from $45,000,000 to $30,050,000
until the expiration of the commitment on December 31, 2005. In August 2001, the
Company did not make required debt payments which created a breach of the
amendment and forbearance agreements. As a consequence of the breach, the amount
outstanding under the credit facility became immediately due and payable.
In May 2002, the Company and the banks entered into a restructured loan
agreement changing the revolving credit facility to a term loan, with all
existing defaults being waived. The term loan has a maturity date of December
31, 2004. Pursuant to the agreement, the Company made a $2 million principal
payment and will make additional principal payments of $3.5 million, $5.0
million and $18.5 million in 2002, 2003 and 2004, respectively. The agreement
provides for interest at the banks' reference rate plus 1.25% and requires the
Company to maintain certain financial covenant ratios. The term loan is secured
by substantially all of the Company's assets. In connection with the
restructuring, the Company wrote off $265,000 of deferred financing costs
related to the original Agreement in the second quarter of 2002. Certain legal
and other costs associated with the new term loan were capitalized and will be
amortized over the life of the loan.
NOTE 5 - NOTE RECEIVABLE FROM OFFICER
At June 30, 2002, the Company had a loan outstanding to its Chief
Executive Officer totaling $775,000, including accrued interest of $79,000. The
loan is collateralized by a trust deed and bears interest at a rate of 3%. The
loan is due on or before December 31, 2002.
NOTE 6 - SUBSEQUENT EVENT
In July 2002, the Company acquired an option to purchase three
subsidiaries (the "Subsidiaries") of Alliance Atlantis Communications Inc.
("Alliance") engaged in businesses directly related to those of the Company. The
Company may exercise its purchase option at any time prior to December 31, 2002.
In consideration for the option, the Company issued to Alliance a
warrant to acquire 500,000 shares of the Company's common stock at $2.00 per
share. The warrant expires on July 3, 2007, or July 3, 2005 if the Company does
not exercise its option to purchase the Subsidiaries.
In July 2002, the Company entered into an arrangement regarding earn-out
payments related to the July 1997 acquisition of MultiMedia Services, Inc. The
original acquisition agreement would have required payments of approximately
$1.5 million during the next two years assuming minimum earnings levels are met,
which levels have been achieved in the past. In exchange for a one-time $1.1
million payment made in July 2002, the Company was relieved of all future
earn-out obligations under the purchase agreement.
7
POINT.360
MANAGEMENT'S DISCUSSION AND ANALYSIS
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
THREE MONTHS ENDED JUNE 30, 2002 COMPARED TO THREE MONTHS ENDED JUNE 30, 2001.
REVENUES. Revenues increased by $0.3 million or 2% to $16.7 million for
the three-month period ended June 30, 2002, compared to $16.4 million for the
three-month period ended June 30, 2001.
GROSS PROFIT. Gross profit increased $1.1 million or 23% to $6.1 million
for the three-month period ended June 30, 2002, compared to $5.0 million for the
three-month period ended June 30, 2001. As a percent of revenues, gross profit
increased from 30% to 36%. The increase in gross profit as a percentage of
revenues was principally due to lower wages and benefits as headcount was
reduced 13% since June 30, 2001.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSE. Selling, general and
administrative ("SG&A") expense decreased $1.0 million, or 19% to $4.5 million
for the three-month period ended June 30, 2002, compared to $5.5 million for the
three-month period ended June 30, 2001. As a percentage of revenues, SG&A
decreased to 27% for the three-month period ended June 30, 2002, compared to 34%
for the three-month period ended June 30, 2001. Excluding amortization of
goodwill in 2001, SG&A expenses were $5.1 million, or 31% of sales in the 2001
second quarter. The decrease in 2002 was due principally to lower bank fees and
professional costs.
OPERATING INCOME. Operating income increased $2.2 million to $1.6
million for the three-month period ended June 30, 2002, compared to a $0.6
million loss for the three-month period ended June 30, 2001.
INTEREST EXPENSE. Interest expense for the three-month period ended June
30, 2002 was $0.6 million, a decrease of $0.1 million from the three-month
period ended June 30, 2001 due to a lower average level of debt outstanding.
ADOPTION OF FAS 133 AND DERIVATIVE FAIR VALUE CHANGE. During the quarter
ended June 30, 2001, the Company recorded the difference between the derivative
fair value of the Company's hedge contract at the beginning and end of the
quarter, or $0.1 million of income. During the quarter ended June 30, 2002, the
Company recorded the difference between the derivative fair value of the
Company's interest rate hedge contract at the beginning and end of the quarter,
or $0.1 million of expense, and amortization of the cumulative-effect
adjustment.
INCOME TAXES. The Company's effective tax rate was 43% for the second
quarter of 2002 and 46% for the second quarter of 2001. The decrease in
effective tax rate is the result of the Company's periodic assessment of the
relationship of book/tax timing differences to total expected annual pre-tax
results and the elimination of goodwill expense for financial statement
purposes. The effective tax rate percentage may change from period to period
depending on the difference in the timing of the recognition of revenues and
expenses for book and tax purposes.
NET INCOME (LOSS). The net income for the three-month period ended June
30, 2002 was $0.5 million, an increase of $1.2 million compared to a loss of
$0.6 million for the three-month period ended June 30, 2001.
SIX MONTHS ENDED JUNE 30, 2002 COMPARED TO SIX MONTHS ENDED JUNE 30, 2001.
REVENUES. Revenues decreased by $2.0 million or 6% to $33.6 million for
the six-month period ended June 30, 2002, compared to $35.6 million for the
six-month period ended June 30, 2001 due to a decline in studio post production
sales as some work was brought in-house. Studios have traditionally maintained
in-house capacity and several customers utilized that capacity in 2002 to a
greater extent thereby affecting our sales.
8
GROSS PROFIT. Gross profit increased $0.9 million or 8% to $12.3 million
for the six-month period ended June 30, 2002, compared to $11.4 million for the
six-month period ended June 30, 2001. As a percent of revenues, gross profit
increased from 32% to 37%. The increase in gross profit as a percentage of
revenues was principally due to lower wages and benefits as headcount was
reduced 13% since June 30, 2001.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSE. SG&A expense decreased $1.9
million, or 18% to $9.1 million for the six-month period ended June 30, 2002,
compared to $11.0 million for the six-month period ended June 30, 2001. As a
percentage of revenues, SG&A decreased to 27% for the six-month period ended
June 30, 2002, compared to 31% for the six-month period ended June 30, 2001.
Excluding amortization of goodwill in 2001, SG&A expenses were $10.2 million, or
29% of sales in the 2001 six-month period. The decrease in 2002 was due
principally to lower wage costs, bank and professional fees.
OPERATING INCOME. Operating income increased $2.8 million to $3.2
million for the six-month period ended June 30, 2002, compared to $0.4 million
for the six-month period ended June 30, 2001.
INTEREST EXPENSE. Interest expense for the six-month period ended June
30, 2002 was $1.3 million, a decrease of $0.2 million from the six-month period
ended June 30, 2001 due to a lower average level of debt outstanding.
ADOPTION OF FAS 133 AND DERIVATIVE FAIR VALUE CHANGE. On January 1,
2001, the Company adopted FAS 133 by recording a cumulative effect adjustment of
$0.1 million after tax benefit. During the six months ended June 30, 2001, the
Company recorded the difference between the derivative fair value of the
Company's hedge contract at the beginning and end of the period, or $0.5 million
of expense. During the six months ended June 30, 2002, the Company recorded the
difference between the derivative fair value of the Company's interest rate
hedge contract at the beginning and end of the period, or $0.1 million of
income, and amortization of the cumulative-effect adjustment.
INCOME TAXES. The Company's effective tax rate was 43% for the first
half of 2002 and 46% for the first half of 2001. The decrease in effective tax
rate is the result of the Company's periodic assessment of the relationship of
book/tax timing differences to total expected annual pre-tax results and the
elimination of goodwill expense for financial statement purposes. The effective
tax rate percentage may change from period to period depending on the difference
in the timing of the recognition of revenues and expenses for book and tax
purposes.
NET INCOME (LOSS). The net income for the six-month period ended June
30, 2002 was $1.1 million, an increase of $1.9 million compared to a loss of
$0.8 million for the six-month period ended June 30, 2001.
LIQUIDITY AND CAPITAL RESOURCES
This discussion should be read in conjunction with the notes to the
financial statements and the corresponding information more fully described in
the Company's Form 10-K for the year ended December 31, 2001.
On June 30, 2002, the Company's cash and cash equivalents aggregated
$4.7 million. The Company's operating activities provided cash of $4.3 million
for the six months ended June 30, 2002.
The Company's investing activities used cash of $0.7 million in the six
months ended June 30, 2002. The Company spent approximately $0.5 million for the
addition and replacement of capital equipment and management information systems
which we believe is a reasonable capital expenditure level given the current
revenue volume. In the prior year, the Company's capital expenditures were
greater than a normal recurring amount partially due to the investment of
approximately $0.8 million in high definition television equipment. The
Company's business is equipment intensive, requiring periodic expenditures of
cash or the incurrence of additional debt to acquire additional fixed assets in
order to increase capacity or replace existing equipment.
9
In September 2000, the Company signed a $45 million revolving credit
facility agented by Union Bank of California. The amount of the commitment was
reduced to $30 million in July 2001. The facility provided the Company with
funding for capital expenditures, working capital needs and support for its
acquisition strategies.
Due to lower sales levels in the second and third quarters of Fiscal
2001, the borrowing base (eligible accounts receivable, inventory and machinery
and equipment) securing the Company's bank line of credit was less than the
amount borrowed under the line. Consequently, the Company was in breach of
certain covenants. On June 11 and on July 20, 2001, the Company entered into
amendment and forbearance agreements with the banks and agreed to repay the
overdraft amount in weekly increments. In August 2001, the Company failed to
meet the repayment schedule and again entered discussions with the banks.
In May 2002, the Company and the banks entered into a restructured loan
agreement changing the revolving credit facility to a term loan, with all
existing defaults being waived. The term loan has a maturity date of December
31, 2004. Pursuant to the agreement, the Company made a $2 million principal
payment and will make additional principal payments of $3.5 million, $5.0
million and $18.5 million in 2002, 2003 and 2004, respectively. The agreement
provides for interest at the banks' reference rate plus 1.25% and requires the
Company to maintain certain financial covenant ratios. The term loan is secured
by substantially all of the Company's assets.
In July 2002, we entered into an arrangement regarding earn-out payments
related to the July 1997 acquisition of MultiMedia Services, Inc. The original
acquisition agreement would have required payments of approximately $1.5 million
during the next two years assuming minimum earnings levels are met, which levels
have been achieved in the past. In exchange for a one-time $1.1 million payment
made in July 2002, we were relieved of all future earn-out obligations under the
purchase agreement. The Company's cash balance on July 30, 2002 (after the $1.1
million payment) was $4.6 million.
We believe that cash on hand plus that generated from operations will be
sufficient to meet debt service and operational requirements for the next twelve
months.
The Company, from time to time, considers the acquisition of businesses
complementary to its current operations. Consummation of any such acquisition or
other expansion of the business conducted by the Company may be subject to the
Company securing additional financing.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Our discussion and analysis of our financial condition and results of
operations are based upon our consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States. The preparation of these financial statements requires us to make
estimates and judgments that affect the reported amounts of assets, liabilities,
revenues and expenses, and related disclosure of contingent assets and
liabilities. On an on-going basis, we evaluate our estimates and judgments,
including those related to allowance for doubtful accounts, valuation of
long-lived assets, and accounting for income taxes. We base our estimates on
historical experience and on various other assumptions that we believe to be
reasonable under the circumstances, the results of which form the basis for
making judgments about the carrying values of assets and liabilities that are
not readily apparent from other sources. Actual results may differ from these
estimates under different assumptions or conditions. We believe the following
critical accounting policies affect our more significant judgments and estimates
used in the preparation of our consolidated financial statements.
Critical accounting policies are those that are important to the
portrayal of the Company's financial condition and results, and which require
management to make difficult, subjective and/or complex judgements. Critical
accounting policies cover accounting matters that are inherently uncertain
because the future resolution of such matters is unknown. We have made critical
estimates in the following areas:
ALLOWANCE FOR DOUBTFUL ACCOUNTS. We are required to make judgments,
based on historical experience and future expectations, as to the collectibility
of accounts receivable. The allowances for doubtful accounts and sales returns
represent allowances for customer trade accounts receivable that are estimated
to be partially or entirely uncollectible. These allowances are used to reduce
gross trade receivables to their net realizable value. The Company records these
allowances based on estimates related to the following factors: i) customer
specific allowances; ii) amounts based upon an aging schedule and iii) an
estimated amount, based on the Company's historical experience, for issues not
yet identified.
10
VALUATION OF LONG-LIVED AND INTANGIBLE ASSETS. Long-lived assets,
consisting primarily of property, plant and equipment and intangibles comprise a
significant portion of the Company's total assets. Long-lived assets, including
goodwill and intangibles are reviewed for impairment whenever events or changes
in circumstances have indicated that their carrying amounts may not be
recoverable. Recoverability of assets is measured by a comparison of the
carrying amount of an asset to future net cash flows expected to be generated by
that asset. The cash flow projections are based on historical experience,
managements view of growth rates within the industry and the anticipated future
economic environment.
Factors we consider important which could trigger an impairment review
include the following:
o significant underperformance relative to expected historical or
projected future operating results;
o significant changes in the manner of our use of the acquired assets or
the strategy for our overall business;
o significant negative industry or economic trends;
o significant decline in our stock price for a sustained period; and
o our market capitalization relative to net book value.
When we determine that the carrying value of intangibles, long-lived
assets and related goodwill and enterprise level goodwill may not be recoverable
based upon the existence of one or more of the above indicators of impairment,
we measure any impairment based on a projected discounted cash flow method using
a discount rate determined by our management to be commensurate with the risk
inherent in our current business model. Net intangible assets, long-lived
assets, and goodwill amounted to $47.7 million as of June 30, 2002.
In 2002, Statement of Financial Accounting Standards ("SFAS") No. 142,
"Goodwill and Other Intangible Assets" became effective and as a result, we will
cease to amortize approximately $26.3 million of goodwill beginning in 2002. We
had recorded approximately $2.0 million of amortization on these amounts during
the year ended December 31, 2001. In lieu of amortization, we are required to
perform an initial impairment review of our goodwill in 2002 and an annual
impairment review thereafter. We expect to complete our initial review during
the first quarter of 2002.
ACCOUNTING FOR INCOME TAXES. As part of the process of preparing our
consolidated financial statements, we are required to estimate our income taxes
in each of the jurisdictions in which we operate. This process involves us
estimating our actual current tax exposure together with assessing temporary
differences resulting from differing treatment of items, such as deferred
revenue, for tax and accounting purposes. These differences result in deferred
tax assets and liabilities, which are included within our consolidated balance
sheet. We must then assess the likelihood that our deferred tax assets will be
recovered from future taxable income and to the extent we believe that recovery
is not likely, we must establish a valuation allowance. To the extent we
establish a valuation allowance or increase this allowance in a period, we must
include an expense within the tax provision in the statement of operations.
Significant management judgment is required in determining our provision
for income taxes, our deferred tax assets and liabilities and any valuation
allowance recorded against our net deferred tax assets. The net deferred tax
liability as of June 30, 2002 was $1.8 million. The Company did not record a
valuation allowance against its deferred tax assets as of June 30, 2002.
CAUTIONARY STATEMENTS AND RISK FACTORS
In our capacity as Company management, we may from time to time make
written or oral forward-looking statements with respect to our long-term
objectives or expectations which may be included in our filings with the
Securities and Exchange Commission, reports to stockholders and information
provided in our web site.
The words or phrases "will likely," "are expected to," "is anticipated,"
"is predicted," "forecast," "estimate," "project," "plans to continue,"
"believes," or similar expressions identify "forward-looking statements" within
the meaning of the Private Securities Litigation Reform Act of 1995. Such
forward-looking statements are subject to certain risks and uncertainties that
could cause actual results to differ materially from historical earnings and
those presently anticipated or projected. We wish to caution you not to place
undue reliance on any such forward-looking statements, which speak only as of
the date made. In connection with the "Safe Harbor" provisions of the Private
Securities Litigation Reform Act of 1995, we are calling to your attention
important factors that could affect our financial performance and could cause
actual results for future periods to differ materially from any opinions or
statements expressed with respect to future periods in any current statements.
11
The following list of important factors may not be all-inclusive, and we
specifically decline to undertake an obligation to publicly revise any
forward-looking statements that have been made to reflect events or
circumstances after the date of such statements or to reflect the occurrence of
anticipated or unanticipated events. Among the factors that could have an impact
on our ability to achieve expected operating results and growth plan goals
and/or affect the market price of our stock are:
o Recent history of losses
o Prior breach of credit agreement covenants and new principal payment
requirements.
o Our highly competitive marketplace.
o The risks associated with dependence upon significant customers.
o Our ability to execute our expansion strategy.
o The uncertain ability to manage growth.
o Our dependence upon and our ability to adapt to technological
developments.
o Dependence on key personnel.
o Our ability to maintain and improve service quality.
o Fluctuation in quarterly operating results and seasonality in certain of
our markets.
o Possible significant influence over corporate affairs by significant
shareholders.
These risk factors are discussed further below.
RECENT HISTORY OF LOSSES. The Company has reported losses for each of the four
fiscal quarters ended September 30, 2001 due, in part, to lower gross margins
and lower sales levels and a number of unusual charges. Although we achieved
profitability in Fiscal 2000 and prior years, as well as in the three fiscal
quarters ending June 30, 2002, there can be no assurance as to future
profitability on a quarterly or annual basis.
PRIOR BREACH OF CREDIT AGREEMENT COVENANTS AND NEW PRINCIPAL PAYMENT
REQUIREMENTS. Due to lower operating cash amounts resulting from reduced sales
levels in 2001 and the consequential net losses, the Company breached certain
covenants of its credit facility. The breaches were temporarily cured based on
amendments and forbearance agreements among the Company and the banks which
called for, among other provisions, scheduled payments to reduce amounts owed to
the banks to the permitted borrowing base. In August 2001, the Company failed to
meet the principal repayment schedule and was once again in breach of the credit
facility. The banks ended their formal commitment to the Company in December
2001.
In May 2002, we entered into an agreement with the banks to restructure the
credit facility to a term loan maturing on December 31, 2004. As part of this
restructuring, the banks waived all existing defaults and the Company made a
principal payment of $2.0 million. The Company also agreed to make additional
principal payments of $3.5 million, $5.0 million and $18.5 million in 2002,
2003, and 2004, respectively. Based upon the Company's financial forecast, the
Company will have to refinance the facility by 2004 to satisfy the final payment
requirement.
COMPETITION. Our broadcast video post production, duplication and distribution
industry is a highly competitive, service-oriented business. In general, we do
not have long-term or exclusive service agreements with our customers. Business
is acquired on a purchase order basis and is based primarily on customer
satisfaction with reliability, timeliness, quality and price.
We compete with a variety of post production, duplication and distribution
firms, some of which have a national presence, and to a lesser extent, the
in-house post production and distribution operations of our major motion picture
studio and advertising agency customers. Some of these firms, and all of the
studios, have greater financial, distribution and marketing resources and have
achieved a higher level of brand recognition than the Company. In the future, we
may not be able to compete effectively against these competitors merely on the
basis of reliability, timeliness, quality and price or otherwise.
We may also face competition from companies in related markets which could offer
similar or superior services to those offered by the Company. We believe that an
increasingly competitive environment and the possibility that customers may
utilize in-house capabilities to a greater extent could lead to a loss of market
share or price reductions, which could have a material adverse effect on our
financial condition, results of operations and prospects.
12
CUSTOMER AND INDUSTRY CONCENTRATION. Although we have an active client list of
over 2,500 customers, seven motion picture studios accounted for approximately
34% of the Company's revenues during the year ended December 31, 2001. If one or
more of these companies were to stop using our services, our business could be
adversely affected. Because we derive substantially all of our revenue from
clients in the entertainment and advertising industries, the financial
condition, results of operations and prospects of the Company could also be
adversely affected by an adverse change in conditions which impact those
industries.
EXPANSION STRATEGY. Our growth strategy involves both internal development and
expansion through acquisitions. We currently have no agreements or commitments
to acquire any company or business. Even though we have completed eight
acquisitions in the last five fiscal years, we cannot be sure additional
acceptable acquisitions will be available or that we will be able to reach
mutually agreeable terms to purchase acquisition targets, or that we will be
able to profitably manage additional businesses or successfully integrate such
additional businesses into the Company without substantial costs, delays or
other problems.
Certain of the businesses previously acquired by the Company reported net losses
for their most recent fiscal years prior to being acquired, and our future
financial performance will be in part dependent on our ability to implement
operational improvements in, or exploit potential synergies with, these acquired
businesses.
Acquisitions may involve a number of special risks including: adverse effects on
our reported operating results (including the amortization of acquired
intangible assets), diversion of management's attention and unanticipated
problems or legal liabilities. In addition, we may require additional funding to
finance future acquisitions. We cannot be sure that we will be able to secure
acquisition financing on acceptable terms or at all. We may also use working
capital or equity, or raise financing through equity offerings or the incurrence
of debt, in connection with the funding of any acquisition. Some or all of these
risks could negatively affect our financial condition, results of operations and
prospects or could result in dilution to the Company's shareholders. In
addition, to the extent that consolidation becomes more prevalent in the
industry, the prices for attractive acquisition candidates could increase
substantially. We may not be able to effect any such transactions. Additionally,
if we are able to complete such transactions they may prove to be unprofitable.
The geographic expansion of the Company's customers may result in increased
demand for services in certain regions where it currently does not have post
production, duplication and distribution facilities. To meet this demand, we may
subcontract. However, we have not entered into any formal negotiations or
definitive agreements for this purpose. Furthermore, we cannot assure you that
we will be able to effect such transactions or that any such transactions will
prove to be profitable.
MANAGEMENT OF GROWTH. During the three years ended December 31, 1999, we
experienced rapid growth that resulted in new and increased responsibilities for
management personnel and placed and continues to place increased demands on our
management, operational and financial systems and resources. To accommodate this
growth, compete effectively and manage future growth, we will be required to
continue to implement and improve our operational, financial and management
information systems, and to expand, train, motivate and manage our work force.
We cannot be sure that the Company's personnel, systems, procedures and controls
will be adequate to support our future operations. Any failure to do so could
have a material adverse effect on our financial condition, results of operations
and prospects.
DEPENDENCE ON TECHNOLOGICAL DEVELOPMENTS. Although we intend to utilize the most
efficient and cost-effective technologies available for telecine, high
definition formatting, editing, coloration and delivery of video content,
including digital satellite transmission, as they develop, we cannot be sure
that we will be able to adapt to such standards in a timely fashion or at all.
We believe our future growth will depend in part, on our ability to add to these
services and to add customers in a timely and cost-effective manner. We cannot
be sure we will be successful in offering such services to existing customers or
in obtaining new customers for these services, including the Company's
significant investment in high definition technology in 2000 and 2001. We intend
to rely on third party vendors for the development of these technologies and
there is no assurance that such vendors will be able to develop such
technologies in a manner that meets the needs of the Company and its customers.
Any material interruption in the supply of such services could materially and
adversely affect the Company's financial condition, results of operations and
prospects.
13
DEPENDENCE ON KEY PERSONNEL. The Company is dependent on the efforts and
abilities of certain of its senior management, particularly those of R. Luke
Stefanko, President and Chief Executive Officer. The loss or interruption of the
services of key members of management could have a material adverse effect on
our financial condition, results of operations and prospects if a suitable
replacement is not promptly obtained. Although we have employment agreements
with Mr. Stefanko and certain of our other key executives and technical
personnel, we cannot be sure that such executives will remain with the Company
during or after the term of their employment agreements. In addition, our
success depends to a significant degree upon the continuing contributions of,
and on our ability to attract and retain, qualified management, sales,
operations, marketing and technical personnel. The competition for qualified
personnel is intense and the loss of any such persons, as well as the failure to
recruit additional key personnel in a timely manner, could have a material
adverse effect on our financial condition, results of operations and prospects.
There is no assurance that we will be able to continue to attract and retain
qualified management and other personnel for the development of our business.
ABILITY TO MAINTAIN AND IMPROVE SERVICE QUALITY. Our business is dependent on
our ability to meet the current and future demands of our customers, which
demands include reliability, timeliness, quality and price. Any failure to do
so, whether or not caused by factors within our control could result in losses
to such clients. Although we disclaim any liability for such losses, there is no
assurance that claims would not be asserted or that dissatisfied customers would
refuse to make further deliveries through the Company in the event of a
significant occurrence of lost deliveries, either of which could have material
adverse effect on our financial condition, results of operations and prospects.
Although we maintain insurance against business interruption, such insurance may
not be adequate to protect the Company from significant loss in these
circumstances or that a major catastrophe (such as an earthquake or other
natural disaster) would not result in a prolonged interruption of our business.
In addition, our ability to make deliveries within the time periods requested by
customers depends on a number of factors, some of which are outside of our
control, including equipment failure, work stoppages by package delivery vendors
or interruption in services by telephone or satellite service providers.
FLUCTUATING RESULTS, SEASONALITY. Our operating results have varied in the past,
and may vary in the future, depending on factors such as the volume of
advertising in response to seasonal buying patterns, the timing of new product
and service introductions, the timing of revenue recognition upon the completion
of longer term projects, increased competition, timing of acquisitions, general
economic factors and other factors. As a result, we believe that
period-to-period comparisons of our results of operations are not necessarily
meaningful and should not be relied upon as an indication of future performance.
For example, our operating results have historically been significantly
influenced by the volume of business from the motion picture industry, which is
an industry that is subject to seasonal and cyclical downturns, and,
occasionally, work stoppages by actors, writers and others. In addition, as our
business from advertising agencies tends to be seasonal, our operating results
may be subject to increased seasonality as the percentage of business from
advertising agencies increases. In any period our revenues are subject to
variation based on changes in the volume and mix of services performed during
the period. It is possible that in some future quarter the Company's operating
results will be below the expectations of equity research analysts and
investors. In such event, the price of the Company's Common Stock would likely
be materially adversely affected. Fluctuations in sales due to seasonality may
become more pronounced if the growth rate of the Company's sales slows.
CONTROL BY PRINCIPAL SHAREHOLDER; POTENTIAL ISSUANCE OF PREFERRED STOCK;
ANTI-TAKEOVER PROVISIONS. The Company's President and Chief Executive Officer,
R. Luke Stefanko, beneficially owned approximately 18% of the outstanding common
stock as of June 30, 2002. Mr. Stefanko's ex-spouse owned approximately 25% of
the common stock on that date. Together, they owned approximately 43%. In August
2000 and May 2001, Mr. Stefanko was granted one-time proxies to vote his
ex-spouse's shares in connection with the election of directors at the Company's
annual meetings. The Company's Chairman of the Board, Haig Bagerdjian,
beneficially owned approximately 9% of the common stock on June 30, 2002. By
virtue of their stock ownership, Messrs. Stefanko and Bagerdjian individually or
together may be able to significantly influence the outcome of matters required
to be submitted to a vote of shareholders, including (i) the election of the
board of directors, (ii) amendments to the Company's Restated Articles of
Incorporation and (iii) approval of mergers and other significant corporate
transactions. The foregoing may have the effect of discouraging, delaying or
14
preventing certain types of transactions involving an actual or potential change
of control of the Company, including transactions in which the holders of common
stock might otherwise receive a premium for their shares over current market
prices. Our Board of Directors also has the authority to issue up to 5,000,000
shares of preferred stock without par value (the "Preferred Stock") and to
determine the price, rights, preferences, privileges and restrictions thereof,
including voting rights, without any further vote or action by the Company's
shareholders. Although we have no current plans to issue any shares of Preferred
Stock, the rights of the holders of common stock would be subject to, and may be
adversely affected by, the rights of the holders of any Preferred Stock that may
be issued in the future. Issuance of Preferred Stock could have the effect of
discouraging, delaying, or preventing a change in control of the Company.
Furthermore, certain provisions of the Company's Restated Articles of
Incorporation and By-Laws and of California law also could have the effect of
discouraging, delaying or preventing a change in control of the Company.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
MARKET RISK. The Company had borrowings of $26,349,000 at June 30, 2002
under a credit agreement. Amounts outstanding under the credit agreement now
bear interest at the bank's reference rate plus 1.25%.
The Company's market risk exposure with respect to financial instruments
is to changes in the London Interbank Offering Rate ("LIBOR"). The Company
entered into an interest rate swap transaction with a bank on November 28, 2000.
The swap transaction was for a notional amount of $15,000,000 for three years
and fixes the interest rate paid by the Company on such amount at 6.50% less the
applicable LIBOR rate, plus 1.25% over prime rate.
On June 15, 1998, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 133, Accounting for Derivative
Instruments and Hedging Activities. The standard, as amended by Statement of
Financial Accounting Standards No. 137, Accounting for Derivative Instruments
and Hedging Activities Deferral of the Effective Date of FASB Statement No. 133,
an amendment of FASB Statement No. 133, and Statement of Financial Accounting
Standards No. 138, Accounting for Certain Derivative Instruments and Certain
Hedging Activities, an amendment of FASB Statement No. 133 (referred to
hereafter as "FAS 133"), is effective for all fiscal quarters of all fiscal
years beginning after June 15, 2000 (January 1, 2001 for the Company). FAS 133
requires that all derivative instruments be recorded on the balance sheet at
their fair value. Changes in the fair value of derivatives are recorded each
period in current earnings or in other comprehensive income, depending on
whether a derivative is designated as part of a hedging relationship and, if it
is, depending on the type of hedging relationship. During 2001, the Company
recorded a cumulative effect type adjustment of $247,000 (net of $62,000 tax
benefit), and an expense of $508,000 ($406,000 net of tax benefit) for the
derivative fair value change of an interest rate hedging contract. During the
three and six month periods ended June 30, 2002, the Company recorded expense of
$67,000 (net of $50,000 tax benefit) and derivative income of $57,000 (net of
$43,000 tax expense) for the derivative fair value change and amortization of
the cumulative effect type adjustment.
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PART II - OTHER INFORMATION
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
For a discussion of the May 2002 agreement in which the Company's
defaults under its bank borrowings were waived, see Note 4 to the Financial
Statements that are included in Part I, Item 1 of this Report on Form 10-Q.
ITEM 4. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
10.1 Third Amendment and Restated Credit Agreement dated May 2, 2002, among
the Company, Union Bank of California, N.A., United California Bank,
and U.S. Bank National Association. (1)
10.2 Option Agreement dated July 3, 2002 between the Company and Alliance
Atlantis Inc. (2)
99.1 Certification of Chief Executive Officer Pursuant to 18 U.S.C. 1350, as
Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
99.2 Certification of Chief Financial Officer Pursuant to 18 U.S.C. 1350, as
Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
(b) Reports On Form 8-K
The Company filed a Form 8-K dated June 12, 2002 related to a change in its
independent public accountants.
The Company filed a Form 8-K dated July 3, 2002 related to the acquisition of
an option to purchase three entities in consideration for issuance of a
warrant to the seller to purchase 500,000 shares of the Company's common
stock.
The Company filed a Form 8-K dated July 26, 2002 related to the appointment
of a new independent public accountants.
Notes:
(1) Filed as an exhibit to Form 10-Q for the period ended March 31, 2002
with the Commission on May 14, 2002.
(2) Filed as an exhibit to Form 8-K with the Commission on July 15, 2002.
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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.
POINT.360
DATE: August 14, 2002 BY: /s/ Alan Steel
----------------------------------
Alan Steel
Executive Vice President,
Finance and Administration
(duly authorized officer and
principal financial officer)
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