WASHINGTON, D.C. 20549

 

FORM 10-Q

 

(Mark one)

 

ý	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (D) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended September 30, 2004

 

or

 

 

For the transition period from                                             to

 

Commission file number 1-14355

 

24/7 Real Media, Inc.

(Exact name of registrant as specified in its charter)

 

DELAWARE		13-3995672
(STATE OR OTHER JURISDICTION OF INCORPORATION OR ORGANIZATION)		(IRS EMPLOYER IDENTIFICATION NO.)
1250 BROADWAY, NEW YORK, NY		10001
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)		(ZIP CODE)
(212) 231-7100
(REGISTRANT’S TELEPHONE NUMBER, INCLUDING AREA CODE)

 

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES ý NO o

 

Indicate by check mark whether the registrant is an accelerated filer Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). YES ý NO o

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

CLASS		OUTSTANDING AT November  9, 2004
Common Stock, par value $.01 per share		44,620,484 Shares

 

 

24/7 Real Media, Inc.

September 30, 2004

FORM 10-Q

INDEX

 

Part I. Financial Information
Item 1. Consolidated Financial Statements
Consolidated Balance Sheets as of September 30, 2004 (unaudited) and December 31, 2003
Consolidated Statements of Operations for the three and nine months ended September 30, 2004 and 2003 (unaudited)
Consolidated Statements of Cash Flows for the nine months ended September 30, 2004 and 2003 (unaudited)
Notes to Unaudited Interim Consolidated Financial Statements
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 3. Quantitative and Qualitative Disclosure about Market Risk
Item 4. Controls and Procedures
Part II. Other Information
Item 1. Legal Proceedings
Item 2. Changes in Securities and Use of Proceeds
Item 3. Defaults Upon Senior Securities
Item 4. Submission of Matters to a Vote of Security Holders
Item 5. Other Information
Item 6. Exhibits and Reports on Form 8-K
Signatures

 

Open AdStream®, Open AdSystem™, Open Advertiser™, Insight XE™, Insight ACT™ and Insight SE™ are trademarks of 24/7 Real Media, Inc.   All other brand names or trademarks appearing herein are the properties of their respective holders.

 

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PART I. FINANCIAL INFORMATION

 

ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS

 

24/7 REAL MEDIA, INC.

CONSOLIDATED BALANCE SHEETS

(in thousands, except share data)

 

		September 30, 2004				December 31, 2003
		(unaudited)
ASSETS
Current assets:
Cash and cash equivalents		$		34,122		$	21,645
Short-term investments		2,414				—
Accounts receivable, less allowances of $968 and $971, respectively		23,626				11,603
Prepaid expenses and other current assets		2,100				1,669
Total current assets		62,262				34,917
Property and equipment, net		3,763				2,862
Goodwill		43,203				2,621
Intangible assets, net		5,250				3,352
Other assets		6,330				2,428
Total assets		$	120,808			$		46,180
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable		$	11,827			$		6,266
Accrued liabilities		15,266				10,086
Deferred revenue		3,114				2,544
Total current liabilities		30,207				18,896
Subordinated convertible debentures, 2%, due 2006		13,778				13,320
Warrant liability		481				3,595
Other long-term liabilities		341				332
Total liabilities		44,807				36,143
Stockholders’ equity:
Preferred stock; $.01 par value; 10,000,000 shares authorized, 78,000 and 828,250 shares issued and outstanding, respectively (liquidation preference of $10 per share)		1				8
Common stock; $.01 par value; 350,000,000 shares authorized; 44,620,484 and 23,367,421 shares issued and outstanding, respectively		446				234
Additional paid-in capital		1,173,364				1,106,984
Deferred stock compensation		(23			)	(257			)
Accumulated other comprehensive income		(159			)	305
Accumulated deficit		(1,097,628			)	(1,097,237			)
Total stockholders’ equity		76,001				10,037
Total liabilities and stockholders’ equity		$	120,808			$		46,180

 

See accompanying notes to unaudited interim consolidated financial statements.

 

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24/7 REAL MEDIA, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, expect share and per share data)

 

 

		Three months ended September 30,						Nine months ended September 30,
		2004			2003			2004			2003
		(unaudited)						(unaudited)
Revenues:
Media		$	12,070		$	5,764		$	34,451		$	17,046
Search		4,109			2,189			9,658			7,611
Technology		4,628			4,081			13,676			11,351
Total revenues		20,807			12,034			57,785			36,008
Cost of revenues:
Media		9,180			3,590			24,986			10,845
Search		2,241			1,172			6,363			4,512
Technology (exclusive of $0, $10, $0 and $20, respectively, reported below as stock-based compensation)		827			957			2,528			3,183
Total cost of revenues		12,248			5,719			33,877			18,540
Gross profit		8,559			6,315			23,908			17,468
Operating expenses:
Sales and marketing (exclusive of $125, $144, $335 and $176, respectively, reported below as stock-based compensation)		4,272			3,116			11,481			9,487
General and administrative (exclusive of $74, $86, $337 and $200, respectively, reported below as stock-based compensation)		3,626			2,787			9,627			8,485
Product development (exclusive of $10, $55, $34 and $93, respectively, reported below as stock-based compensation)		1,115			870			3,261			2,213
Amortization of intangible assets and deferred financing costs		1,068			661			3,270			1,970
Stock-based compensation		209			295			706			489
Restructuring costs		—			—			501			—
Total operating expenses		10,290			7,729			28,846			22,644
Loss from operations		(1,731		)	(1,414		)	(4,938		)	(5,176		)
Interest income (expense), net		(93		)	6			(371		)	(141		)
Change in fair value of warrant liability		266			—			2,075			—
Gain on legal settlement		—			—			2,896			—
Other income (expense), net		12			(17		)	123			(849		)
Loss before provision for income taxes		(1,546		)	(1,425		)	(215		)	(6,166		)
Provision for income taxes		44			12			176			52
Net loss		(1,590		)	(1,437		)	(391		)	(6,218		)
Dividends on preferred stock		(73		)	(200		)	(295		)	(488		)
Preferred stock conversion discount		—			—			—			(1,780		)
Net loss attributable to common stockholders		$	(1,663	)	$	(1,637	)	$	(686	)	$	(8,486	)
Basic and diluted net loss per share attributable to common stockholders		$	(0.04	)	$	(0.10	)	$	(0.02	)	$	(0.57	)
Weighted average shares used in basic and diluted net loss per share		37,007,505			17,017,331			32,244,122			14,811,118

 

See accompanying notes to unaudited interim consolidated financial statements.

 

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24/7 REAL MEDIA, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

 

		Nine months ended September 30,
		2004			2003
		(unaudited)
Cash flows from operating activities:
Net loss		$	(391	)	$	(6,218	)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization		1,412			1,840
Provision for doubtful accounts and sales reserves		372			251
Amortization of intangible assets and deferred financing costs		3,270			1,970
Amortization of warrants		458			—
Non-cash compensation		706			489
Accrued interest on notes payable		76			166
Non-cash gain from legal settlement		(2,896		)	—
Change in fair value of warrant liability		(2,075		)	—
Changes in operating assets and liabilities, net of effects of acquisitions and dispositions:
Accounts receivable		(5,706		)	(602		)
Prepaid assets and other current assets		(328		)	759
Other assets		(4,340		)	65
Accounts payable and accrued liabilities		2,520			(2,674		)
Deferred revenue		366			(40		)
Net cash used in operating activities		(6,556		)	(3,994		)
Cash flows from investing activities:
Cash paid for acquisitions, net		(17,244		)	(150		)
Capital expenditures, including capitalized software		(1,550		)	(968		)
Cash paid for investment		(422		)	(50		)
Increase in restricted cash		—			(12,000		)
Net cash used in investing activities		(19,216		)	(13,168		)
Cash flows from financing activities:
Proceeds from issuance of common stock, net		37,240			—
Proceeds from exercise of stock options and conversion of warrants		609			1,027
Payment of capital lease obligations		(40		)	(35		)
Proceeds from subordinated convertible debentures, net		—			14,960
Proceeds from issuance of preferred stock, net		—			6,797
Retirement of debt		—			(1,500		)
Net cash provided by financing activities		37,809			21,249
Net change in cash and cash equivalents		12,037			4,087
Effect of foreign currency on cash		440			18
Cash and cash equivalents at beginning of year		21,645			7,674
Cash and cash equivalents at end of period		$	34,122		$	11,779

 

See accompanying notes to unaudited interim consolidated financial statements.

 

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NOTE 1 – ORGANIZATION AND OPERATIONS OF THE COMPANY

 

24/7 Real Media, Inc. (the “Company”) together with its subsidiaries offers a suite of media services and software products and services for the online advertising needs of Web publishers and advertisers.  The Company’s products and services include Web site representation, search marketing services, advertisement serving and targeting, analytics and audience management.  As of September 30, 2004, the Company operated principally in North America, Europe, South Korea and Australia and provided the following products and services:

 

•                  Media Solutions (“Media”), collectively marketed as the 24/7 Web Alliance, a global alliance of Web sites represented by the Company, through which advertisers can place campaign orders directly with the Company.

 

•                  Search Solutions (“Search”) primarily consisting of a paid inclusion service for advertisers, pay-per-click bid management, search agency services and natural search engine optimization services designed to help advertisers promote their Web site in or in association with relevant search results displayed by the Company’s partner search engines and to optimize their search marketing budgets.

 

•                  Technology Solutions (“Technology”) primarily consisting of Open AdStream and Open Advertiser Internet advertising delivery and management software and services, the Insight XE web analytics and audience management software and services, the Insight ACT behavioral targeting service, and the Insight SE search engine marketing software and service.  The Company licenses software products to customers that are hosted locally and provides services from software hosted centrally on its servers as an application service provider.

 

NOTE 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

(a) Basis of Presentation

 

The accompanying consolidated financial statements include the accounts of the Company and its majority-owned and controlled subsidiaries from their respective dates of acquisition.  All significant intercompany transactions and balances have been eliminated.

 

The accompanying interim consolidated financial statements are unaudited.  In the Company’s opinion, the unaudited consolidated financial statements have been prepared on the same basis as the annual consolidated financial statements and reflect all adjustments, which include only normal recurring adjustments, necessary to present fairly the financial position and the results of the operations and cash flows of the Company for the interim periods presented.  The financial statements, financial data and other information disclosed in these notes to the consolidated results are not necessarily indicative of the results expected for the full fiscal year or any future period.

 

The accompanying consolidated financial statements should be read in conjunction with the audited consolidated financial statements for the year ended December 31, 2003.  Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to the Securities and Exchange Commission’s rules and regulations.

 

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(b) Use of Estimates

 

The preparation of consolidated financial statements in accordance with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period.  Actual results could differ from those estimates. On an ongoing basis, the Company evaluates its estimates, including those related to revenue recognition, accruals, allowance for doubtful accounts, fair value of acquired intangible assets and goodwill, useful lives of intangible assets and property and equipment, among others.  The Company bases its estimates on historical experience and on various other assumptions that are believed to be reasonable, the results of which form the basis for making judgments about the carrying values of assets and liabilities.

 

(c) Reclassifications

 

Certain reclassifications have been made to prior year consolidated financial statements to conform to current year’s presentation.

 

(d) Cash and Cash Equivalents and Short-Term Investments

 

Cash equivalents consist of highly liquid securities, with stated maturities of three months or less.  Cash and cash equivalents consisted principally of money market accounts.

 

Short-term investments consist of securities with stated maturities of three months or more and marketable securities.  The Company’s marketable securities consist of registered corporate equity securities and are classified as available-for-sale.  Available-for-sale securities are carried at estimated fair value.  Unrealized holding gains and losses are excluded from earnings and reported, net of income taxes, as a separate component of stockholder’s equity until realized.  Unrealized losses that are other than temporary are recognized in net income (loss).  Realized gains and losses are determined on the specific identification method and are reflected in net income (loss).

 

(e) Accounts Receivable; Allowance for Doubtful Accounts; Sales Allowance; Unbilled Accounts Receivable

 

Accounts receivable are recorded at the invoiced amount net of allowance for doubtful accounts and sales allowance.  The Company does not require collateral and accounts receivable do not bear interest.  The Company maintains an allowance for doubtful accounts to reserve for potentially uncollectible receivables and a sales allowance to reserve for potential credits issued to customers.  The allowances are estimates calculated based on an analysis of current business and economic risks, customer credit-worthiness, specific identifiable risks such as bankruptcies, terminations or discontinued customers, or other factors that may indicate a potential loss.

 

As a normal part of the business, the Company has receivables that are invoiced in the month following the completion of the earnings process.  All unbilled receivables are billed within 30 days after each month-end and are included in accounts receivable on the consolidated balance sheets.

 

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(f) Concentration of Credit Risk and Significant Customers

 

Financial instruments that potentially subject the Company to concentrations of credit risk consist principally of cash equivalents and accounts receivable.  Cash equivalents consist of money market funds, which, at times, exceed federally insured limits.  Accounts receivable are typically unsecured and are derived from revenues earned from customers primarily located in North America, Europe, South Korea and Australia.  To appropriately manage credit risk, the Company performs ongoing evaluations of customer credit and limits the amount of credit extended, but generally no collateral is required.  The Company maintains reserves for estimated credit losses and these losses have generally been within management’s expectations.

 

No single customer accounted for greater than 10% of net revenues for the three and nine month period ended September 30, 2004 and 2003.

 

The Company generates a significant portion of its revenue from advertising inventory provided by Lycos, Inc.  Revenue generated for the three and nine-month periods ended September 30, 2004 was approximately 12.0% and 11.1% of total revenue, respectively, and is included in both the Media and Technology segment.  Revenue generated from advertising sales on inventory owned by Lycos for the three and nine moth periods ended September 30, 2004 was approximately 18.3% and 16.1%, respectively, of the Media segment’s revenue.

 

(g) Property and Equipment; Capitalized Software

 

Property and equipment are recorded at cost and are usually depreciated using the straight-line method over the shorter of the estimated useful life of the asset or the lease term.

 

As required by Statement of Financial Accounting Standards (“SFAS”) No. 86, Accounting for the Costs of Computer Software To Be Sold, Leased, or Otherwise Marketed, the Company requires certain product development costs to be capitalized when a product’s technological feasibility has been established by completion of a working model of the product and ending when a product is available for general release to customers.  Capitalized software is depreciated using the straight-line method over the estimated useful life of the software, generally four years.

 

(h) Business Combinations

 

The Company’s acquisitions are accounted for as purchase business combinations in accordance with SFAS No. 141, Business Combinations, and SFAS No. 142, Goodwill and Other Intangible Assets.  The Company allocates the purchase price of tangible and intangible assets and records as goodwill the excess of purchase price over the fair value of the identifiable net assets acquired.  Intangible assets include trademarks, customer relationships, acquired technology and a covenant not to compete.  Such intangible assets are amortized on a straight-line basis over their estimated useful lives, which are generally four to five years.

 

(i) Impairment of Long-lived Assets

 

Long-lived assets, including property and equipment, goodwill and other intangible assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount may not be fully recoverable. Conditions that would necessitate an impairment assessment include a significant decline in the observable market value of an asset, a significant change in the extent or manner in which an asset is used, or a significant adverse change that would indicate that the carrying amount of an asset or group of assets is not recoverable.  The Company assesses impairment in accordance with the requirements of SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets.  The Company assesses the impairment of goodwill and intangible assets in accordance with the provisions of SFAS No. 142, Goodwill and Other Intangible Assets.  The Company determines the recoverability of the assets by comparing the carrying amount of the assets to net future discounted cash flows that the asset is expected

 

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to generate.  The impairment recognized is the amount by which the carrying amount exceeds the fair market value of the asset.

 

(j) Revenue Recognition; Cost of Revenues

 

Media

 

Media revenues are generated by delivering advertising impressions for a fixed fee to third-party Web sites.  E-mail related revenues are derived from delivering advertisements to e-mail lists for advertisers.  Agreements are primarily short-term and revenues are recognized as services are delivered provided that no significant Company obligations remain outstanding and collection of the resulting receivable is probable.  The Company becomes obligated to make payments to third-party Web sites and e-mail lists which have contracted with the Company, in the period the advertising impressions or e-mails are delivered.  Such expenses are classified as cost of revenues in the accompanying consolidated statements of operations.

 

Search

 

Search revenues are derived from driving valid visitors to client Web sites.  Agreements are primarily short-term and revenues are recognized as services are delivered provided that no significant Company obligations remain outstanding and collection of the resulting receivable is probable.  The Company becomes obligated to make payments to search engine distribution partners, which have contracted with the Company, in the period the valid visitors are delivered.  Such expenses are classified as cost of revenues in the accompanying consolidated statements of operations.

 

When the Company provides search marketing services as an agent for a fixed commission, or otherwise in transactions in which it does not have principal risk and reward, the Company recognizes revenue on a net basis.

 

Technology

 

Technology revenues are derived primarily from licensing of our software, hosted advertisement serving, and software maintenance and technical support services.  Revenue from software licensing agreements is recognized in accordance with Statements of Position (“SOP”) No. 97-2, Software Revenue Recognition, and Staff Accounting Board (“SAB”) No. 104, Revenue Recognition, upon delivery of the software, which is generally when the software is made available for download, there is persuasive evidence of an arrangement, collection is reasonably assured, the fee is fixed or determinable, and vendor-specific objective evidence exists to allocate the total fees to all elements of the arrangement.  Contracts that bundle the software license with maintenance and technical support are recognized ratably over the contract term.  Revenue from advertisement serving is recognized upon delivery.  Revenue from software maintenance and technical support contracts is recognized ratably over the life of the agreement, which typically does not exceed one year.

 

Expenses from the Company’s Technology revenues are primarily payroll costs incurred to deliver and support the software, hosting, bandwidth and license fees paid to third-party software vendors.  These expenses are classified as cost of revenues in the accompanying consolidated statements of operations.

 

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Deferred Revenue

 

Revenues that are billed or collected in advance of services being completed are deferred until the conclusion of the period of the service for which the advance billing or collection relates.  Deferred revenues are included on the consolidated balance sheets as a current liability until the service is performed and then recognized in the period in which the service is completed.  The Company’s deferred revenues primarily consist of billings in advance for software license subscriptions and software maintenance and technical support services.

 

(k) Stock-Based Compensation

 

The Company accounts for stock-based employee compensation arrangements in accordance with the provisions of Accounting Principles Board Opinion (“APB”) No. 25, Accounting for Stock Issued to Employees, and Financial Accounting Standards Board (“FASB”) interpretation No. 44, Accounting for Certain Transactions Involving Stock Compensation – an interpretation of APB Opinion No. 25, and complies with the disclosure provisions of SFAS No. 123, Accounting for Stock-Based Compensation, and SFAS No. 148, Accounting for Stock-Based Compensation – Transition and Disclosure.  Under APB No. 25, compensation cost is recognized based on the difference, if any, on the date of grant between the fair value of the Company’s common stock and the amount an employee must pay to acquire the common stock.  SFAS No. 148 requires more prominent and more frequent disclosures in both interim and annual financial statements about the method of accounting for stock-based compensation and the effect of the method used on reported results.  We adopted the disclosure provisions of SFAS No. 148 as of December 31, 2002 and continue to apply the measurement provisions of APB No. 25.

 

Had the Company determined compensation cost based on the fair value at the grant date for its stock options under SFAS No. 123, the Company’s net loss would have been adjusted to the pro forma amounts indicated below:

 

		Three Months Ended September 30,						Nine Months Ended September 30,
		2004			2003			2004			2003
		(in thousands, except per share amounts)
Net loss attributable to common stockholders:
As reported		$	(1,663	)	$	(1,637	)	$	(686	)	$	(8,486	)
Deduct: Total stock-based employee compensation expense determined under fair-value-based method for all awards, net of tax effect		1,123			327			4,291			3,742
Pro forma		$	(2,786	)	$	(1,964	)	$	(4,977	)	$	(12,228	)
Basic and diluted net loss attributable to common stockholders per share:
As reported		$	(0.04	)	$	(0.10	)	$	(0.02	)	$	(0.57	)
Pro forma		(0.08		)	(0.12		)	(0.15		)	(0.83		)

 

The per share weighted-average fair value of stock options granted for the three and nine month periods ended September 30, 2004 was $3.76 and $4.76, respectively, and was $5.95 and $1.00 for the three and nine month periods ended September 30, 2003, respectively, on the date of grant using the Black-Scholes method with the following weighted-average assumptions:

 

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		Three Months Ended September 30,				Nine Months Ended September 30,
		2004		2003		2004		2003
Expected dividend yield		0	%	0	%	0	%	0	%
Risk-free interest rate		3.07	%	2.05	%	2.38	%	1.44	%
Expected life (in years)		3.0		3.0		2.6		2.4
Volatility		132	%	143	%	132	%	133	%

 

The Company accounts for non-employee stock-based awards in which goods or services are the consideration received for the equity instruments issued based on the fair value of the equity instruments issued in accordance with the EITF No. 96-18, Accounting For Equity Instruments That Are Issued To Other Than Employees For Acquiring, or in Conjunction With Selling Goods or Services.

 

(l) Restructuring Estimates

 

Restructuring activities are accounted for in accordance with SFAS No. 146, Accounting for Costs Associated with Exit or Disposal Activities.  Restructuring-related liabilities include estimates for, among other things, involuntary terminations of employees and disposition of lease obligations.  Key variables in determining such estimates include timing of sublease rentals, estimates of sublease rental payment amounts and tenant improvement costs, and estimates for brokerage and other related costs.  The Company periodically evaluates and, if necessary, adjusts the estimates based on currently available information.

 

(m) Basic and Diluted Net Loss Per Share

 

Net loss per share is presented in accordance with the provisions of SFAS No. 128, Earnings Per Share (“EPS”).  Basic EPS excludes dilution for potentially dilutive securities and is computed by dividing net loss available to common shareholders by the weighted average number of common shares outstanding for the period.  Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock and resulted in the issuance of common stock.  Potential common shares consist of incremental common shares issuable upon the exercise of stock options and warrants and the vesting of restricted stock (using the treasury stock method), and the conversion of subordinated convertible debentures and preferred stock (using the if-converted method).

 

Diluted EPS is equal to basic EPS since all potentially dilutive securities are anti-dilutive for each of the periods presented.  Diluted EPS per common share for the nine month periods ended September 30, 2004 and 2003 does not include the effects of options to purchase 4.7 million and 3.5 million shares of common stock, respectively; 0.6 million and 0.8 million common stock warrants, respectively; approximately 11,000 and 59,000 shares of unvested restricted stock, respectively; 0.6 million and 9.4 million shares of preferred stock, respectively, on an “as if” converted basis; and 1.7 million shares of common stock related to the subordinated convertible debentures in 2003 and 2004, on an “as if” converted basis, as the effect of their inclusion is anti-dilutive during each period.

 

(n) Recent Accounting Pronouncements

 

In April 2004, the EITF issued EITF Issue No. 03-06 (“EITF 03-06”), Participating Securities and the Two-Class Method Under FASB Statement No. 128, Earnings Per Share, which addresses a number of questions regarding the computation of earnings per share by companies

 

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that have issued securities other than common stock that contractually entitle the holder to participate in dividends and earnings of the company when, and if, it declares dividends on its common stock.  The issue also provides further guidance in applying the two-class method of calculating earnings per share, clarifying what constitutes a participating security and how to apply the two-class method of computing earnings per share once it is determined that a security is participating, including how to allocate undistributed earnings to such a security.  EITF 03-06 is effective for fiscal periods beginning after March 31, 2004.   The application of EITF 03-06 will not have a material effect on our financial statements.

 

NOTE 3 - ACQUISITIONS AND UNAUDITED PRO FORMA SUMMARY

 

(a) Acquisition of Decide Holdings Pty Limited (“Decide”)

 

On August 19, 2004, the Company completed its acquisition of Decide.  Pursuant to the acquisition agreement, the Company acquired all of the outstanding shares of Decide for $15.0 million in cash and approximately 4.5 million shares of its common stock, valued at $12.6 million and approximately $1.1 million in transaction fees.  Additionally, the Company is required to issue up to an additional $2.5 million in cash and $5.0 million in shares of common stock (up to a maximum of 2.3 million shares) to the selling shareholders of Decide if Decide achieves certain performance targets.

 

The purchase price in excess of fair value of net tangible assets acquired of $28.7 million has been preliminarily allocated to goodwill.  The purchase price allocation is subject to revision pending external valuation.

 

The net tangible assets acquired consist of the following:

 

Asset/ Liability		Amount
Cash and cash equivalents		$	305
Other current assets		1,692
Fixed assets		616
Other assets		180
Accrued liabilities		(2,738		)
Long-term liabilities		(21		)
		$	34

 

(b) Acquisition of Real Media Korea Co., Ltd (“RMK”)

 

On January 6, 2004, the Company completed its acquisition of RMK, by acquiring the approximately 90.4% of the outstanding shares of RMK that the Company did not already own.  The Company paid total consideration of $20.1 million in exchange for the RMK shares, which consisted of $5.0 million in cash, approximately 2.1 million shares of the Company’s common stock valued at $14.6 million and approximately $0.5 million in transaction costs.  Approximately 0.9% of the outstanding shares of RMK are held in an employee stock union established under Korean law.  The employee shareholders agreed to transfer their RMK shares to the Company upon vesting in accordance with the terms and conditions of the stock union and Korean law.  For accounting purposes, the effective date of the acquisition is January 1, 2004.

 

The purchase price in excess of fair value of net tangible assets acquired of $16.1 million has been preliminarily allocated as follows: $11.9 million to goodwill; $2.3 million to agency

 

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relationships; $0.7 million to trade name; $0.5 million to acquired technology; and $0.7 million to other intangible assets.  The purchase price allocation is subject to revision pending final external valuation.

 

The net tangible assets acquired consist of the following:

 

Asset/ Liability		Amount
Cash and cash equivalents		$	3,469
Other current assets		5,151
Fixed assets		170
Non-current assets		385
Accrued liabilities		(5,119		)
		$	4,056

 

(c) Acquisition of Insight First, Inc. (“Insight”)

 

On January 21, 2003, the Company acquired certain assets of Insight, including specific contracts, intangible assets, and employee relationships, related to the Insight’s Web analytics solutions, including the intellectual property relating to specific products, in exchange for approximately 0.7 million shares of the Company’s common stock valued at approximately $1.1 million, plus $150,000 in cash.  In addition, the Company has a contingent obligation to pay additional earn-out consideration of up to $1.0 million, in either cash or common stock, at the Company’s discretion, subject to achievement of earn-out targets relating to revenue generated by the acquired business in fiscal year 2004.

 

The purchase price in excess of fair value of net tangible assets acquired of $1.3 million has been allocated to acquired technology.  The acquired technology is being amortized over the expected benefit period of four years.

 

The net tangible assets acquired consist of the following:

 

Asset/ Liability		Amount
Fixed assets		$	44
Accrued liabilities		(41		)
		$	3

 

(d) Unaudited Pro Forma Summary

 

The following pro forma consolidated amounts give effect to the Company’s Decide, RMK and Insight acquisitions accounted for by the purchase method of accounting as if they had occurred at the beginning of the period by consolidating the results of operations of the acquired entities for the three and nine month periods ended September 30, 2004 and 2003.

 

The pro forma consolidated statements of operations are not necessarily indicative of the operating results that would have been achieved had the transactions been in effect as of the beginning of the periods presented and should not be construed as being representative of future operating results.

 

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		Three Months Ended September 30,							Nine Months Ended September 30,
		2004				2003			2004			2003
Total revenues		$	22,121			$	16,245		$	64,479		$	47,974
Net loss attributable to common stockholders (1)		(1,640			)	(1,788		)	(65		)	(9,124		)
Basic and diluted net loss attributable to common stockholders per share		$		(0.05	)	$	(0.08	)	$	(0.00	)	$	(0.43	)
Weighted average shares used in basic and diluted per share calculation (2)		35,017,986				23,608,038			36,086,959			21,456,072

 

(1) The purchase price in excess of fair value of net tangible assets acquired for Decide has been preliminarily allocated to goodwill.  Final valuation will likely result in additional amortizable assets, which will decrease pro forma net loss attributable to common stockholders.

 

(2) The weighted average shares used to compute pro forma basic and diluted net loss per share for the three and nine month periods ended September 30, 2004 and 2003 includes the 4.5 million, 2.1 million and 0.7 million shares of common stock issued for Decide, RMK and Insight, respectively, at the beginning of each period presented.

 

NOTE 4 – BALANCE SHEET COMPONENTS

 

(a) Property and Equipment

 

At September 30, 2004 and December 31, 2003, property and equipment includes capitalized software.  The Company capitalized approximately $1.2 million in connection with the development of its Open Advertiser advertisement serving software product, which was commercially released in June 2003. The software is being amortized using the straight-line method over the estimated useful life of the software, or four years, with a net book value of $0.8 million and $1.0 million, respectively.  The Company also has $0.4 million of capitalized software related to DNA which was acquired with Decide.

 

(b) Goodwill

 

The $43.2 million in goodwill at September 30, 2004 relates $28.7 million to Decide, $11.9 million to RMK, $1.1 million to 24/7 Canada, $1.1 million to Real Media and $0.4 million to 24/7 Search.  The $2.6 million in goodwill at December 31, 2003 relates $1.1 million to 24/7 Canada, $1.1 million to Real Media and $0.4 million to 24/7 Search.

 

(c) Intangible Assets

 

The $5.2 million in intangible assets, net at September 30, 2004 relates $3.4 million to RMK, $1.1 million to Real Media, $0.7 million to Insight.  The $3.4 million in intangible assets, net at December 31, 2003 relates $1.8 million to Real Media, $1.0 million to Insight First and $0.6 million to 24/7 Search.

 

(d) Other Assets

 

At September 30, 2004, other assets consist primarily of the Company’s transition payment to Lycos (see Note 14), deferred financing costs related to the Company’s 2% subordinated

 

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convertible debentures (see Note 8) and a 6% secured note receivable from IMAKE Software & Services (“IMAKE”) (see Note 5).

 

At December 31, 2003, other assets consist primarily of deferred financing costs related to the Company’s 2% subordinated convertible debentures (see Note 8) and a 6% secured note receivable from IMAKE (see Note 5).

 

(e) Warrant Liability

 

In connection with the placement of the Company’s preferred stock and subordinated convertible debentures, the Company issued warrants to investors to purchase shares of the Company’s common stock.  The Company agreed to register the shares issuable upon exercise of the warrants and to pay penalties for a delayed filing or a failure to file a registration statement prior to the agreed deadline.  The Company also agreed to pay penalties if the registration statement becomes temporarily or permanently unavailable for use by the warrant holders.  Pursuant to EITF Issue No. 00-19 (“EITF 00-19”), Accounting for Derivative Financial Instruments Indexed to, and Potentially Settled in, a Company’s Own Stock, the Company reflected the value of the warrants as a warrant liability on the consolidated balance sheet and the liability will be reclassified to equity upon exercise or conversion.  The fair value of the outstanding warrants is evaluated at each reporting period with any resulting change in the fair value being reflected in the consolidated statement of operations.  The fair value has decreased approximately $2.1 million during the nine month period ending September 30, 2004.

 

In June 2004, the Company amended the registration rights agreement related to the subordinated convertible debentures.  The amendment provided that the Company is no longer obligated to pay any filing or maintenance penalties pursuant to the registration rights agreement with respect to the warrants issued to the holders of the debentures.  Accordingly, the Company reclassified the warrant liability related to the debentures of $1.0 million to additional paid in capital.

 

NOTE 5 – DISCONTINUED OPERATIONS

 

IMAKE

 

On January 22, 2002, the Company completed the sale of its wholly owned subsidiary, IMAKE, to Schaszberger Corporation for approximately $6.5 million.  Of the $6.5 million sale price, $2.0 million was in the form of a 6% four year secured note, approximately $0.5 million was cash consideration and a potential earn-out of up to $4.0 million over the next three years based on gross revenue as defined in the sale agreements.  The note is secured by certain assets of IMAKE and is guaranteed by the buyer.  In the event that the earn-out is not met within the three year period, the Company is entitled to receive a $1.00 Warrant for common stock equal to the difference between $3.0 million and the amount of the actual earn out paid to date.  The shares to be received will be based on a third-party outside valuation of the buyer at December 31, 2005 and a ratio set forth in the agreement.  The consideration paid to the Company was determined as a result of arms length negotiations between the buyer and the Company.

 

The Company discounted the note receivable and recorded the net present value of the earn-out based on its estimates of projected revenues and reflected $0.5 million and $1.5 million, respectively.  At September 30, 2004, the remaining earn-out receivable of $0.2 million is included in current assets and the note receivable of $0.5 million is included in other assets on the consolidated balance sheet.

 

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NOTE 6 - DISPOSAL OF NON-CORE ASSETS

 

iPromotions, Inc.

 

On January 31, 2003, the Company entered into an Asset Purchase Agreement with iPromotions, Inc., a corporation formed by private investors including some of the Company’s former employees.  Pursuant to the terms of the agreement, the Company sold to the investors, specific contracts, equipment, intangible assets, and employee relationships related to the Company’s iPromotions business, including the intellectual property relating to specific products.  The Company also invested $50,000 in cash in exchange for shares of preferred stock representing a 19.9% interest in iPromotions, Inc. on a converted basis.  In January 2004, iPromotions was acquired by a third-party.  As part of the transaction, the Company agreed to give up its minority stake.  Accordingly, the Company wrote-off its entire interest in iPromotions.

 

NOTE 7 – RESTRUCTURING COSTS

 

The following sets forth the activities in the Company’s restructuring reserve for the nine month period ended September 30, 2004, which is included in accrued liabilities in the consolidated balance sheet (in thousands):

 

		Beginning Balance			Current year provision			Current Year Utilization			Ending Balance
Employee termination benefits		$	470		$	335		$	(618	)	$	187
Office closing costs		1,165			166			(622		)	709
Other exit costs		28			—			(28		)	—
		$	1,663		$	501		$	(1,268	)	$	896

 

NOTE 8 - 2% SUBORDINATED CONVERTIBLE DEBENTURES

 

On September 26, 2003, the Company completed the placement to an institutional accredited investor of $15.0 million of subordinated convertible debentures due September 2006 (“Debentures”).  The Debentures are convertible into shares of the Company’s common stock at $8.75 per share.  Interest on the Debentures at the rate of 2% is due semi-annually starting in January 2004.  The investor also acquired a five-year warrant (the “Warrants”) to purchase 0.4 million shares of the Company’s common stock at $9.5685 per share.

 

The maturity date of the Debentures is subject to extension, and the conversion price is subject to adjustment, on the terms and conditions set forth in the Debentures.  In addition, the Company may elect to pay the principal of and interest on the Debentures in shares of its common stock rather than cash.  If the Company elects to pay the principal amount due under the Debentures at maturity in shares of its common stock, rather than in cash, the maturity date conversion price will be equal to 90% of the average of the daily volume-weighted average prices of the Company’s common stock on the Nasdaq SmallCap Market for the fifteen consecutive trading days immediately preceding the maturity date.  If the Company elects to make interest payments due under the Debentures in shares of its common stock, rather than in cash, the interest conversion price will be equal to 90% of the average of the daily volume-weighted average prices of the Company’s common stock on the Nasdaq SmallCap Market for the five consecutive trading days immediately preceding the interest payment date.

 

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Additionally, if the specific conditions set forth in the Debentures are satisfied, the Company may require the holder to convert the Debentures into shares of the Company’s common stock, at the conversion rate then in effect, or the Company may prepay the Debentures prior to the maturity date, for an amount in cash equal to 150% of the amount prepaid.  In addition, if at any time on or after the second anniversary of the initial issuance date, the weighted average price of the common stock is less than $8.75 on any five consecutive trading days after such second anniversary, the holder shall have the right, in its sole discretion, to require that the Company redeem up to $7.5 million principal amount of these Debentures.  The redemption right constitutes an embedded derivative.  The value of the embedded derivative at September 30, 2004 is immaterial to the financial position of the Company.  The Company will continue to review the value of the derivative on a quarterly basis, in accordance with SFAS No. 149, Amendment of Statement 133 on Derivative Instruments and Hedging Activities.

 

The Company valued the Warrants at $1.8 million using a Black-Scholes pricing model with the following factors: risk free interest rate of 1.48%, volatility of 143%, dividend yield of 0% and a life of 2.5 years.  The aggregate fair market value of the Warrants was reflected as a reduction of the face amount of the Debentures on the consolidated balance sheet and is being amortized over three years, the initial term of the Debentures, using the effective interest method.  Accordingly, the carrying value of the Debentures will be increased over the initial term.

 

In connection with the issuance of the Debentures and Warrants, the Company incurred placement agent fees, legal fees and other expenses of approximately $1.2 million to be paid in cash.  In addition to the placement fees, the Company issued warrants to the placement agent.  The warrants to purchase 86,000 shares of common stock at an exercise price of $10.068 are in the same form and on the same terms and conditions as the Warrants issued to the investor.  The Company included the value of the warrants, $0.4 million, determined using the factors above, and the cash placement fees of $1.2 million in other assets on the consolidated balance sheet.  Collectively, the debt issuance costs of $1.6 million are being amortized over three years, the initial term of the Debentures.  For the three and nine month periods ended September 30, 2004, approximately $0.1 million and $0.4 million of the deferred costs are included in amortization expense and at September 30, 2004, the unamortized debt issuance costs of $1.1 million is included in other assets on the consolidated balance sheet.

 

NOTE 9 - EQUITY INSTRUMENTS

 

PREFERRED STOCK

 

										Shares Ouststanding at
Series		Shares Authorized		Price Per Share			Conversion Rate			September 30, 2004		December 31, 2003
A		800,000		$	10.00		$	1.02675		—		750,000
C		718,250		10.00			1.20790			78,000		78,250
										78,000		828,250

 

During the nine month period ended September 30, 2004, 750,000 shares of Series A and 250 shares of Series C Preferred Stock were converted into 7,304,598 and 2,070 shares of common stock, respectively.

 

The preferred stock accrues and cumulates dividends at a rate of 6% per year, compounded monthly, payable when, as and if declared by the Company’s Board of Directors.  All accrued dividends must be paid before any dividends may be declared or paid on the common stock, and

 

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shall be paid as an increase in the liquidation preference payable upon the sale, merger, liquidation, dissolution or winding up of the Company.  Accrued but unpaid dividends are cancelled upon conversion.  At September 30, 2004, there are approximately $0.1 million of accrued but unpaid dividends.

 

In the event of a liquidation, dissolution or winding up of the Company, the holders of the preferred stock are entitled to a liquidation preference payment per share equal to the purchase price, plus any dividends accrued but unpaid as of such date before any payment to holders of common stock.  After payment of the foregoing preference, the holders of each share of preferred stock would then participate pro rata with the holders of the common stock, on an as converted basis, in the distribution of the proceeds from such a liquidation event to the holders of the common stock until such time as the holders of preferred stock shall have received an amount equal to three times the purchase price (inclusive of their liquidation preference).  A merger, consolidation or sale of the Company will be treated as a liquidation event unless such transaction has been approved by the holders of a majority of the outstanding preferred stock.

 

COMMON STOCK

 

(a) Secondary Stock Offering

 

On March 30, 2004, the Company completed a secondary stock offering in which a total of 8.0 million shares of common stock were sold at $6.00 per share.  Of the shares sold, the Company sold 6.0 million shares and selling stockholders sold 2.0 million shares.  The Company and the selling stockholders received proceeds net of underwriting discounts and commission, and before other offering expenses, of $33.8 million and $11.3 million, respectively.  In connection with the offering, the Company and selling stockholders granted to the underwriters an option to purchase up to an additional 1.2 million shares of common stock at $6.00 per share less underwriter discounts and commissions for the purpose of covering over-allotments.  Of the additional shares offered, approximately 0.8 million shares and 0.4 million shares were offered by the Company and by the selling stockholders, respectively. The underwriters exercised the over-allotment option in April 2004.  The Company and selling stockholders received additional proceeds of $4.3 million and $2.3 million, respectively, net of underwriting discounts and commissions and before other offering expenses.

 

(b) Reverse Stock Split

 

On February 27, 2004, the Company completed a one-for-five reverse split of its common stock. As a result of the reverse split, every five shares of the Company’s common stock were combined into one share of common stock. The reverse split does not affect the number of shares of preferred stock and warrants outstanding, however, the conversion ratio is adjusted.  All figures relating to common stock, preferred stock, stock options, warrants and other equity-linked instruments have been adjusted in this Form 10-Q to reflect the reverse stock split.

 

(c) Other Issuances

 

On August 19, 2004, the Company issued approximately 4.5 million shares, valued at $12.6 million, in connection with the acquisition of Decide.

 

On January 6, 2004, the Company issued approximately 2.1 million shares, valued at $14.6 million, in connection with the acquisition of RMK.

 

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(d) Additional Paid-in Capital

 

During the nine month period ended September 30, 2004, the Company’s additional paid-in capital increased by $66.4 million primarily due to $37.0 million in connection with the Company’s secondary offering of common stock, $14.6 million in connection with the acquisition of RMK, $12.6 million in connection with the acquisition of Decide, $1.0 million in connection with the amendment of the registration rights agreement related to the subordinated convertible debentures, $0.6 million in other stock-based compensation issued to employees and $0.7 million from exercise of stock options and warrants offset by $0.1 million related to the conversion of preferred stock.

 

NOTE 10 - STOCK INCENTIVE PLANS

 

For the nine month period ended September 30, 2004, the Company granted 1.9 million stock options under the 2002 Stock Incentive Plan to employees at exercise prices based on the fair market value of the Company’s common stock at the respective dates of grant.

 

On January 1, 2004, in accordance with the terms of the 2002 Stock Incentive Plan, shares reserved for issuance under the Plan were increased by 0.6 million.

 

NOTE 11 - SUPPLEMENTAL CASH FLOW INFORMATION

 

For the nine months ended September 30, 2004 and 2003, the amount of cash paid for interest was $0.2 million and $7,000, respectively.

 

NOTE 12 – COMPREHENSIVE LOSS

 

Comprehensive loss for the nine month periods ended September 30, 2004 and 2003 was $0.9 million and $6.2 million, respectively.  Comprehensive loss resulted from net losses of $0.4 million and $6.2 million, and in 2004, losses on marketable securities of $0.9 million offset by foreign currency translation adjustment of $0.4 million.

 

NOTE 13 - SEGMENTS

 

The Company’s business is comprised of three reportable segments: Media, Search and Technology.  As a result of the acquisition of Decide, the Company is reporting Search as a separate segment from Media.  The Company measures segments based on segment income (loss) from operations.  The Company has adjusted prior period segment disclosure to conform to the current presentation.  The summarized segment information as of and for the three and nine month periods ended September 30, 2004 and 2003, is as follows:

 

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		Three months ended Septermber 30, 2004
		Media			Search			Technology			Corporate			Total
Revenues		$	12,070		$	4,109		$	4,628		$	—		$	20,807
Depreciation		136			50			274			7			467
Amortization of intangible assets and deferred financing costs		481			125			329			133			1,068
Stock-based compensation		69			56			10			74			209
Segment income (loss) from operations		(752		)	159			835			(1,973		)	(1,731		)

 

		Nine months ended Septermber 30, 2004
		Media			Search			Technology			Corporate			Total
Revenues		$	34,451		$	9,658		$	13,676		$	—		$	57,785
Depreciation		486			139			752			35			1,412
Amortization of intangible assets and deferred financing costs		1,329			557			987			397			3,270
Stock-based compensation		352			103			30			221			706
Restructuring		—			—			—			501			501
Segment income (loss) from operations		(1,083		)	(574		)	2,414			(5,695		)	(4,938		)

 

		Three months ended Septermber 30, 2003
		Media			Search			Technology			Corporate			Total
Revenues		$	5,764		$	2,189		$	4,081		$	—		$	12,034
Depreciation		227			87			268			21			603
Amortization of intangible assets and deferred financing costs		117			216			328			—			661
Stock-based compensation		23			177			16			79			295
Segment income (loss) from operations		(194		)	(323		)	445			(1,342		)	(1,414		)

 

		Nine months ended Septermber 30, 2003
		Media			Search			Technology			Corporate			Total
Revenues		$	17,046		$	7,611		$	11,351		$	—		$	36,008
Depreciation		857			273			632			77			1,839
Amortization of intangible assets and deferred financing costs		351			649			970			—			1,970
Stock-based compensation		44			251			31			163			489
Segment income (loss) from operations		(434		)	(474		)	427			(4,695		)	(5,176		)

 

Total assets:
September 30, 2004		72,710		35,954		12,144		120,808
December 31, 2003		31,563		3,769		10,848		46,180

 

		United States			United Kingdom			South Korea			Other - International			Total
		(in thousands)
Period ended September 30, 2004
Revenues for the three months ended		$	11,067		$	4,268		$	2,729		$	2,743		$	20,807
Revenues for the nine months ended		29,437			10,460			9,246			8,642			57,785
Long-lived assets		17,997			9,661			725			30,163			58,546
Period ended September 30, 2003
Revenues for the three months ended		$	7,266		$	2,537		$	—		$	2,231		$	12,034
Revenues for the nine months ended		21,760			6,838			—			7,410			36,008
Long-lived assets at December 31, 2003		9,549			146			—			1,568			11,263

 

NOTE 14 - COMMITMENTS AND CONTINGENCIES

 

(a) Lycos, Inc. Services Agreements

 

On February 11, 2004, the Company entered into a five-year arrangement with Lycos, Inc. (“Lycos”) to provide media sales, advertisement serving and analytics technology services to Lycos’ U.S. Web properties and to transition personnel and other services to the Company.

 

The agreement requires the Company to pay Lycos the greater of 65% of all net advertising sales revenue generated by the Company in respect of Lycos’ U.S. Web properties, or specified minimum required annual payments.  For 2004, the minimum annual payment is $10.0 million and is payable $2.5 million 45 days after each quarter end.  To the extent that Lycos’ 65% revenue share exceeds the quarterly amount of the minimum annual payment, the Company may credit such excess against the next succeeding quarterly payment of the minimum annual payment.  Management believes that the minimums will not be exceeded, resulting in no additional expense for the year.

 

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The Company also will pay Lycos a transition payment of $4.5 million in equal installments at each quarter end in 2004.  The transition payment was recorded as an other asset and a current liability on the consolidated balance sheet and is being amortized over the term of the agreement of five years.

 

(b) Indemnifications

 

While the Company has various indemnification obligations included in contracts in the normal course of business, these indemnities do not represent significant commitments or contingent liabilities of the indebtedness of others.  Accordingly, the Company has not recorded a liability related to indemnification provisions.

 

(c) Acquisition Earn-out Payments

 

The Company has a contingent obligation for an earn-out related to its acquisition of Decide. Decide stockholders may receive up to an additional $7.5 million, in a combination of cash and common stock, subject to achievement of earn-out targets relating to Decide’s operating performance in 2005.

 

The Company also has a contingent obligation to pay an earn-out related to its acquisition of Insight.  Insight stockholders may receive up to an additional $1.0 million, in either cash or common stock, at the Company’s discretion, subject to achievement of earn-out targets relating to Insight’s revenue in fiscal year 2004.

 

No amount for earn-out payments has been recorded as of September 30, 2004.

 

NOTE 15 - LITIGATIONS

 

(a) Litigation with Brian Anderson

 

On July 5, 2001, Brian Anderson, former Chief Executive of our AwardTrack, Inc. subsidiary, served the Company with notice of a lawsuit filed in Superior Court for the State of California in and for the County of Santa Cruz, alleging breach of contract, fraud, intentional infliction of emotional distress and breach of fiduciary duty, in connection with the acquisition of AwardTrack and subsequent events.  The Company removed the lawsuit to federal court in California and moved to dismiss the complaint in its entirety.  The motion was granted in part, with leave to amend, and denied in part.  The plaintiff has subsequently refiled the complaint and the Company filed a counterclaim.  Discovery has concluded, and the Company has moved for summary judgment to dismiss the complaint in its entirety.

 

(b) General Legal Risk

 

The Company is involved in various claims and legal actions arising in the ordinary course of business.  In the opinion of management, the ultimate disposition of these matters will not have a material effect on the Company’s financial position, results of operations or liquidity.

 

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NOTE 16 – SUBSEQUENT EVENTS

 

(a) Mail Services Agreement

 

Pursuant to a services agreement with Mail.com, the Company agreed to advance $1.0 million to Mail.com for royalties relating to advertising sales.  The payment was made in October 2004.  The Company expects to recoup the entire amount of the advance within 12 months from its share of advertising revenue generated from selling advertising on Mail.com and associated Web sites.

 

(b) Restructuring

 

In the fourth quarter, in connection with the Company’s strategic review of its operations and its recent acquisition of Decide, the Company began implementing a restructuring plan.  The plan includes efforts to consolidate its Search operations, consolidate its sales, product development and administrative departments, reduce redundant corporate overhead and relocating its corporate headquarter facilities.

 

As part of the restructuring, the Company entered into a lease agreement for new corporate headquarter facilities in New York, New York and plans to relocate from its current facilities also located in New York, New York.  Future minimum payments related to the new facilities are as follows: $0.4 million in 2005 and 2006, $0.6 million in 2007 and 2008, and $0.7 million in each of 2009 thru 2011.

 

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ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

This report includes forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. This Act provides a “safe harbor” for forward-looking statements to encourage companies to provide prospective information about themselves so long as they identify these statements as forward looking and provide meaningful cautionary statements identifying important factors that could cause actual results to differ from the projected results. All statements other than statements of historical fact, including statements regarding industry prospects and future results of operations or financial position, made in this Quarterly Report are forward looking. We use words such as “anticipates,” “believes,” “expects,” “future” and “intends” and similar expressions to identify forward-looking statements. Forward-looking statements reflect management’s current expectations, plans or projections and are inherently uncertain. Our actual results may differ significantly from management’s expectations, plans or projections. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. Certain risks and uncertainties that could cause our actual results to differ significantly from management’s expectations are described in the section entitled “Risk Factors” and elsewhere in this Quarterly Report. We undertake no obligation to publicly release any revisions to these forward-looking statements that may be made to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events. Readers are urged, however, to review the risk factors set forth in reports that we file from time to time with the Securities and Exchange Commission. Unless the context requires otherwise in this Quarterly Report the terms “24/7 Real Media,” the “Company,” “we,” “us” and “our” refer to 24/7 Real Media, Inc. and its subsidiaries.

 

GENERAL

 

We offer a comprehensive suite of media and technology products for the online advertising needs of Web publishers and advertisers, including Web representation, advertisement serving, analytics and search services. We generate revenue in three business segments:  Media Solutions, Search Solutions and Technology Solutions.  Our Media Solutions aggregate advertising inventory online and targets audience segments to attract advertisers worldwide. Our Search Solutions connect advertisers with consumers who use search engines to find information about products and services.  Our Technology Solutions help Web publishers and advertisers target, convert and retain online customers and maintain audience relationships.

 

Media Solutions (“Media”)

 

We generate revenue through the 24/7 Web Alliance of over 800 Web sites primarily from fees paid by client advertisers for advertising impressions and, on a very limited basis, from delivering advertisements to e-mail lists for advertisers.  We typically count an advertising impression each time a request is made to our servers to display a client’s advertisement to an end user.  We typically offer clients a pricing model based on cost-per-thousand-impressions, or CPM, enabling a client to pay a fee based on the number of times its advertisement is requested.

 

We share advertising revenue generated through Media with Web publishers included in the 24/7 Web Alliance and e-mail list providers.  Our revenue share generally does not exceed 50% of gross advertising revenue and is typically less for Web publishers with large numbers of historical and forecasted unique visitors, impressions and page views; wide geographic spread and widely recognized brand names, among other factors.

 

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