PLAYBOY ENTERPRISES INC - 10-K Annual Report

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-K

(Mark One)

|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934

For the fiscal year ended December 31, 2004

or

|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934

For the transition period from ___________ to ___________

Commission file number 001-14790

Playboy Enterprises, Inc.
(Exact name of registrant as specified in its charter)

Delaware 36-4249478
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)

680 North Lake Shore Drive, Chicago, IL 60611
(Address of principal executive offices) (Zip Code)

Registrant's telephone number, including area code: (312) 751-8000

Securities registered pursuant to Section 12(b) of the Act:

Name of each exchange
Title of each class on which registered
------------------- ---------------------
Class A Common Stock, par value $0.01 per share New York Stock Exchange
Pacific Exchange
Class B Common Stock, par value $0.01 per share New York Stock Exchange
Pacific Exchange

Securities registered pursuant to Section 12(g) of the Act: None

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 and (2) has been subject to such filing
requirements for the past 90 days. Yes |X| No |_|

Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. |_|

Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Securities Exchange Act of 1934). Yes |X| No |_|

The aggregate market value of Class A Common Stock held by nonaffiliates
on June 30, 2004 (based upon the closing sale price on the New York Stock
Exchange) was $15,939,073. The aggregate market value of Class B Common Stock
held by nonaffiliates on June 30, 2004 (based upon the closing sale price on the
New York Stock Exchange) was $240,975,111.

At February 28, 2005 there were 4,864,102 shares of Class A Common Stock
and 28,560,883 shares of Class B Common Stock outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

Certain information required for Part II. Item 5 and Part III. Items 10-14
of this report is incorporated herein by reference to the Notice of Annual
Meeting of Stockholders and Proxy Statement (to be filed) relating to the Annual
meeting of Stockholders to be held in May 2005.

PLAYBOY ENTERPRISES, INC.
2004 FORM 10-K ANNUAL REPORT

TABLE OF CONTENTS

Page

PART I

Item 1. Business 3
Item 2. Properties 23
Item 3. Legal Proceedings 24
Item 4. Submission of Matters to a Vote of Security Holders 25

PART II

Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases
of Equity Securities 25
Item 6. Selected Financial Data 26
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations 28
Item 7A. Quantitative and Qualitative Disclosures About Market Risk 44
Item 8. Financial Statements and Supplementary Data 44
Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure 78
Item 9A. Controls and Procedures 78
Item 9B. Other Information 80

PART III

Item 10. Directors and Executive Officers of the Registrant 80
Item 11. Executive Compensation 80
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters 80
Item 13. Certain Relationships and Related Transactions 80
Item 14. Principal Accounting Fees and Services 80

PART IV

Item 15. Exhibits, Financial Statement Schedules and Reports on Form 8-K 81

2

PART I

Item 1. Business

Playboy Enterprises, Inc., together with its subsidiaries and
predecessors, will be referred to in this Form 10-K Annual Report by terms such
as "we," "us," "our," "Playboy" and the "Company," unless the context otherwise
requires. We were organized in 1953 to publish Playboy magazine and are now a
worldwide leader in the development and distribution of multi-media lifestyle
entertainment for adult audiences. The Playboy brand is one of the most widely
recognized and popular brands in the world. The strength of our brand drives the
financial performance of our Entertainment, Publishing and Licensing Groups. Our
programming is carried in the U.S. by all six of the major multiple system
operators, or MSOs, and both of the largest satellite direct-to-home, or DTH,
providers. We have online operations consisting of a network of websites with an
established and growing subscriber and revenue base. Playboy magazine is the
best-selling monthly men's magazine globally, with a worldwide paid monthly
circulation of over four million copies. Our licensing businesses leverage the
Playboy name, the Rabbit Head Design and our other trademarks in the worldwide
licensing of a variety of consumer products.

Our businesses are currently classified into the following three
reportable segments: Entertainment, Publishing and Licensing. During the fourth
quarter of 2004, we announced the realignment of our existing TV, DVD, online
and wireless businesses. As a result of the new operating structure, we have
changed our reportable business segments to include within the Entertainment
Group segment the operations formerly reported in the Online Group segment. The
new structure is designed to streamline operations, maximize return on content
creation and increase responsiveness to customers. Net revenues, income (loss)
before income taxes, depreciation and amortization and identifiable assets of
each reportable segment are set forth in Note (U) Segment Information of Notes
to Consolidated Financial Statements. Prior periods have been restated for the
realignment of our business segments.

Our trademarks and copyrights are critical to the success and potential
growth of all of our businesses. Our trademarks, which are renewable
periodically and which can be renewed indefinitely, include Playboy, the Rabbit
Head Design, Playmate and Spice. We also own numerous domain names related to
our online business.

ENTERTAINMENT GROUP

Our Entertainment Group operations include the production and marketing of
lifestyle adult television programming for our domestic and international TV
networks, web-based entertainment experiences, wireless content distribution,
e-commerce, worldwide DVD products and online gaming under the Playboy and Spice
brand names.

Programming

Our Entertainment Group develops, produces, acquires and distributes a
wide range of high-quality adult television programming for our domestic and
international TV networks, video-on-demand, or VOD, subscription
video-on-demand, or SVOD, and worldwide DVD products. Our proprietary
productions include feature films, magazine-format shows, reality-based and
dramatic series, documentaries, live events and celebrity and Playmate features.
Our programming features stylized eroticism in a variety of formats, enabling us
to amortize our programming costs over multiple distribution platforms. We have
produced a number of shows which air on the domestic and international Playboy
TV networks and are also distributed internationally in countries where we do
not have networks. Additionally, some of our programming has been released into
DVD titles and/or has been licensed to other networks, such as HBO and Showtime.
Our original series programming includes Night Calls, Sexy Girls Next Door, The
Extreme Truth, Totally Busted and 7 Lives Xposed, Playboy TV's first venture
into reality-based television.

3

We invest in high-quality, adult-oriented programming to support our
worldwide entertainment businesses. We invested $41.5 million, $44.7 million and
$41.7 million in entertainment programming in 2004, 2003 and 2002, respectively.
These amounts, which also include expenditures for licensed programming,
resulted in the domestic production of 212, 268 and 243 hours of original
programming for Playboy TV in 2004, 2003, and 2002, respectively. At December
31, 2004, our domestic library of primarily exclusive, Playboy branded original
programming totaled approximately 2,700 hours. The remaining amounts of our
programming expenditures were used to acquire high-quality adult movies in
various edit standards, as the majority of the programming that airs on our
movie networks is licensed, on an exclusive basis, from third parties. We will
continue to acquire and produce original programming, but seek to place a
heavier emphasis on producing content in order to take advantage of the economic
benefits provided by producing and owning programming which can be sold through
a variety of distribution channels. In 2005, we expect to invest approximately
$38.0 million in Company-produced and licensed programming, which could vary
based on, among other things, the timing of completing productions. In addition
to utilizing some of the programming we produce on our Internet sites and for
licensing to wireless providers, in 2004, we spent approximately $2.3 million to
produce content exclusively for our Internet sites. We expect this level of
spending to continue for the foreseeable future.

Our programming is delivered to DTH and cable operators through
communications satellite transponders. We currently have four transponder
service agreements related to our domestic networks, the terms of which
currently extend through 2006, 2008, 2013 and 2014. We also have two
international transponder service agreements, the terms of which currently
extend through 2006 and 2009. These service agreements contain protections
typical in the industry against transponder failure, including access to spare
transponders, and conditions under which our access may be denied. Major
limitations on our access to DTH or cable systems or satellite transponder
capacity could materially adversely affect our operating performance. There have
been no instances in which we have been denied access to transponder service.

Our state-of-the-art studio facility in Los Angeles functions as a
centralized digital, technical and programming facility for the Entertainment
Group. This studio enables us to produce original programming in a more
efficient and cost effective operating environment. In 2003, we upgraded our
production capabilities so that the programming we create is now available in
high-definition format. We currently utilize this facility to provide playback,
production control and origination services for our own networks, as well as for
third parties, which offsets some of our fixed costs.

Domestic TV Networks

We currently operate multiple domestic TV networks, which include Playboy
TV, Playboy TV en Espanol, eight Spice branded movie networks, and Playboy Hot
HD, broadcast in high-definition. Playboy TV, which airs a variety of original
and proprietary programming as well as adult movies under exclusive license from
leading adult studios, is offered through the DTH market and on cable on
pay-per-view, or PPV, monthly subscription, VOD and SVOD bases. Playboy TV en
Espanol is offered on cable on a PPV basis and on DTH as part of EchoStar's Dish
Latino subscription package. Our Spice branded networks, Spice, Spice 2, Spice
Live, Spice Hot, Spice Platinum, Spice Ultimate, Hot Net and Hot Zone, are
referred to collectively as our movie networks. Our movie networks feature adult
movies under exclusive license from leading adult studios and are currently
offered via cable and DTH on a PPV or VOD basis. We also recognize licensing fee
revenues from the licensing of our Playboy programming to other pay networks.

4

The following table illustrates certain information regarding approximate
household units and current average retail rates for our networks (in millions,
except retail rates):

Household Units (1) Average Retail Rates
----------------------- -----------------------------
Dec. 31, Dec. 31, Monthly
2004 2003 PPV Subscription
- ----------------------------------------------------------------------------------------------

Playboy TV
DTH 24.4 21.6 $ 7.99 $ 15.75
Cable 21.8 21.4 9.41 13.30

Playboy TV en Espanol
DTH 9.3 8.1 -- --(2)
Cable 2.9 3.3 9.65 --

On-demand households
VOD 5.0 1.6 9.46 --
SVOD 1.5 0.8 -- 5.02

Movie networks
DTH 48.2 42.2 9.99 --
Cable 46.0 49.7 $ 10.56 $ --
- ----------------------------------------------------------------------------------------------

(1) Each household unit is defined as one household carrying one given network
per carriage platform. A single household can represent multiple household
units if two or more of our networks and/or multiple platforms (i.e.,
digital and analog) are available to that household.

(2) An average retail rate is not available as Playboy TV en Espanol is
offered with various other Spanish-speaking networks as part of EchoStar's
Dish Latino subscription package.

Most of our networks are provided through the DTH market in households
with small dishes receiving a Ku-band medium or high power digital signal, such
as those currently offered by DirecTV and EchoStar. Playboy TV is the only adult
service to be available on all four major DTH services in the United States and
Canada. It is currently available on DirecTV and EchoStar in the United States
and ExpressVu and Star Choice in Canada. As previously mentioned, Playboy TV en
Espanol is offered as part of EchoStar's Dish Latino subscription package. The
Hot Network, The Hot Zone and Spice Platinum networks are all available on
DirecTV. In 2004, we launched Spice Ultimate on EchoStar, replacing our previous
feed of The Hot Zone network on that platform. Paul Kagan Associates, Inc., or
Kagan, an independent media research firm, projects an average annual increase
of approximately 6% in total DTH households from 2005 through 2007. Our revenues
reflect our contractual share of the amounts received by the DTH operators,
which are based on both the retail rates set by the DTH operators and the number
of buys and/or subscribers.

Our networks are also available to consumers through cable providers. Most
cable services in the United States are distributed through MSOs and their
affiliated cable systems, or cable affiliates. Once arrangements are made with
an MSO, we negotiate channel space for our networks with each MSOs cable
affiliates. Individual cable affiliates determine the retail price of both PPV,
which can be dependent on the length of the block of programming, and monthly
subscription services, which can be dependent on the number of premium services
to which a household subscribes. Our revenues reflect our contractual share of
the amounts received by the cable affiliates, which are based on both the retail
rates set by the cable affiliates and the number of buys and/or subscribers.

5

PPV programming can be delivered through any number of delivery methods,
including (a) DTH, (b) digital and analog cable television, (c) wireless cable
systems and (d) technologies such as cable modem and the Internet. Growth in the
cable PPV market is expected to result principally from cable system upgrades,
utilizing digital compression and other bandwidth expansion methods that provide
cable operators additional channel capacity. In recent years, cable operators
have been shifting from analog to digital technology in order to upgrade their
cable systems and to counteract competition from DTH operators. Digital cable
television has several advantages over analog cable television, including more
channels, better audio and video quality, advanced set-top boxes that are
addressable, a secure, fully scrambled signal, integrated program guides and
advanced ordering technology. Our networks are delivered almost exclusively on a
digital basis, as analog delivery represents a small portion of our overall
network carriage. Kagan projects average annual increases of less than 1% in
total cable households and 13% in digital cable households from 2005 through
2007. During this same period, Kagan projects an average annual decrease of
approximately 27% in analog addressable cable households, as customers upgrade
from older analog systems to the digital or DTH platforms. We believe this shift
benefits us as there is more shelf space on digital platforms and, therefore, we
are able to offer more programming to consumers.

Additionally, recent technology advances have begun to allow digital
consumers to not only order programs on a PPV basis, but also to choose VOD and
SVOD. VOD differs from traditional PPV in that it allows viewers to purchase a
specific movie or program for a period of time with DVD-like functionality. SVOD
provides viewers with unlimited "on-demand" access to select programs from our
featured libraries at a monthly subscription price. The basic premise is that
consumers have a menu of options and can choose to buy a program "on-demand"
without having to adhere to the schedule of a programmed network. MSOs, looking
to take advantage of the consumer benefits provided by VOD, are currently in the
process of supplanting traditional linear PPV networks with VOD/SVOD platforms.
We are seeking to obtain a leading position in this new phase of technology by
leveraging the power of our brand names, our large library of original
programming and our relationships and agreements with leading major adult movie
producers for VOD and SVOD rights from cable operators. We distribute VOD
programming through four cable operators and Playboy TV SVOD programming through
one operator and are in the process of negotiating agreements with other major
operators. Overall, growth of "on-demand" technology will be dependent on a
number of factors, including, but not limited to, operator investment,
server/bandwidth capacity, availability of a two-way communication path,
programmer rights issues and consumer acceptance. In 2004, Kagan reported total
VOD households of approximately 19.8 million and projects an average annual
increase of approximately 19% in VOD households from 2005 through 2007.

Our agreements with cable and DTH operators are renewed or renegotiated
from time to time in the ordinary course of business. In some cases, following
the expiration of an agreement, we and the respective operator continue to
operate in accordance with the terms of the expired agreement until a new
agreement is negotiated. In any event, our agreements with MSOs and DTH
operators generally may be terminated on short notice without penalty.

From time to time, private advocacy groups have sought to exclude our
programming from pay television distribution because of the adult-oriented
content of the programming. Management does not believe that any such attempts
will materially affect our access to DTH and cable systems, but the nature and
impact of any such limitations in the future cannot be determined.

International

In December 2002, we completed the restructuring of the ownership of our
international TV joint ventures with Claxson Interactive Group, Inc. and its
affiliates, or Claxson. The current scope of our international television
business reflects the significant expansion of our ownership of Playboy TV and
movie networks outside of the United States and Canada that occurred with this
restructuring. See Note (C) Restructuring of Ownership of International TV Joint
Ventures of Notes to Consolidated Financial Statements.

We currently own and operate or license 22 Playboy, Spice and locally
branded TV and movie networks in Europe, New Zealand, and the Pacific Far East.
In addition, we have equity interests in seven additional networks in Japan,
Latin America and Iberia through joint ventures. At December 31, 2004, our
international TV networks were available in approximately 40.5 million household
units outside of the United States and Canada, compared to approximately 37.0
million household units at December 31, 2003. The increase in household units is
primarily due to new affiliate launches and growth in existing markets. These
networks carry principally U.S.-originated content, which is subtitled or dubbed
and complemented by local content. We also generate revenues by licensing
programming rights to our extensive library of content to broadcasters in
Europe, Canada, the Middle East, Africa, Asia, Australia and New Zealand.

6

We own and operate television networks in the United Kingdom, which are
further distributed through DTH and cable television throughout greater Europe.
We license networks to local partners in Scandinavia, France, Germany, Turkey,
Poland, Taiwan, Hong Kong, South Korea, Israel and New Zealand that are
programmed for the cultural sensitivities of each country. Through a joint
venture with Tohokushinsha Film Corp., we hold a 19.9% ownership interest in
Playboy Channel Japan and a local adult service, The Ruby Channel. These
international networks are generally available on both a PPV and a monthly
subscription basis.

We own a 19% interest in Playboy TV-Latin America, LLC, or PTVLA, a joint
venture with Claxson that operates Playboy TV networks and a local adult
service, Venus, in Latin America and Iberia. In these markets, PTVLA operates
four networks, distributes Spice Live and licenses content from the Playboy
library to broadcasters in the territory. Under the terms of our amended PTVLA
operating agreement, Claxson maintains management control of PTVLA, although we
have significant management influence. We now provide both programming and the
use of our trademarks directly to PTVLA in return for 17.5% of the venture's net
revenues with a guaranteed annual minimum. The term of the program supply and
trademark agreement for PTVLA is ten years, unless terminated earlier in
accordance with the terms of the agreement. PTVLA provides the feed for Playboy
TV en Espanol and we pay PTVLA a 20% distribution fee for that feed based on the
network's net revenues in the U.S. Hispanic market. Neither we nor Claxson are
obligated to make any additional capital contributions to the PTVLA venture. If
the management committee of PTVLA determines that additional capital is
necessary for the conduct of PTVLA's business, we would have the option to
contribute our pro rata share of additional capital. We have an option to
purchase up to 49.9% of PTVLA at fair market value through December 23, 2012. In
addition, we have the option to purchase the remaining 50.1% of PTVLA at fair
market value, exercisable at any time during the period beginning December 23,
2007 and ending December 23, 2008, so long as we have previously or concurrently
exercised the 49.9% buy-up option. We have the option to pay the purchase price
for the 49.9% buy-up option in cash, shares of our Class B common stock, or
Class B stock, or a combination of cash and Class B stock. However, if we
exercise both options concurrently, we must pay the entire purchase price for
both options in cash.

We seek the most appropriate and profitable manner in which to build on
the powerful Playboy and Spice brands in each international market. In addition,
we seek to generate synergies among our networks by combining operations where
practicable, through innovative programming and scheduling, through joint
programming acquisitions and by coordinating and sharing marketing activities
and materials efficiently throughout the territories in which our programming is
aired. We expect the benefits of these synergies to improve operating margins in
the future as new territories are added to the growing list of our networks.

We believe we can grow our international television business through (a)
expanding the distribution reach of existing networks, (b) launching and
operating additional networks in existing and new countries and (c) increasing
subscription penetration and buy rates driven by new programming and scheduling
tactics as well as more targeted marketing activity. We also expect that the
continued roll out in digital addressable households in our existing
international markets will favorably impact our growth.

We also have an international Internet presence in foreign countries
providing compelling content specifically tailored to those individual foreign
audiences. We currently license international Playboy sites in over a dozen
countries. Many of our international websites have local editorial staffs that
develop original adult-oriented content, make use of content from the local
edition of Playboy magazine and translate appropriate U.S.-originated
Playboy.com content. We have also entered into deals to provide content to
wireless customers including Hutchison 3G in the U.K., Italy, Australia and Hong
Kong, as well as other providers in France, Spain, Germany and other countries.
Demand for content delivered to wireless devices continues to grow as wireless
technology expands consumers' options.

Online Subscriptions

Domestically, we offer multiple subscription-based websites and two online
VOD theaters under the Playboy and Spice names. Subscriptions will remain the
largest revenue stream from our online operations in 2005.

We currently offer six premium clubs with monthly prices ranging from
$19.95 to $29.95 and annual prices ranging from $95.40 to $189.96. Our largest
club, Playboy Cyber Club, offers access to over 100,000 photos, including
Playboy.com's Cyber Girls, many special features on Playmates, celebrities and
co-eds and an extensive archive of Playboy magazine interviews. The Playboy TV
Jukebox leverages our television and video assets and is geared toward giving
the broadband Internet user a unique and high-quality experience. The PlayboyNet
club consists of pictorials and video clips organized by thematic interests.

7

In 2004, we launched Playboy Daily as a low-cost introductory website to
the world of Playboy. The club is updated daily and is offered for $12 a year.
The site is used as a marketing tool to introduce users to the world of Playboy
and to promote our higher-priced premium subscription offerings.

E-Commerce

Our Playboy branded e-commerce offerings include PlayboyStore.com, which
is the primary destination for purchasing Playboy branded fashions, calendars,
DVDs, jewelry and collectibles, as well as back issues of Playboy magazine and
special editions. A Spice branded e-commerce offering, at SpicetvStore.com,
offers adult-oriented products, including DVDs, lingerie and sensual products.
Our e-commerce business also generates sales from printed catalog mailings for
both Playboy and Spice products.

Other Businesses

We also distribute our original programming domestically on both DVD and
home video, which are sold in video and music stores and other retail outlets,
through direct mail, including Playboy magazine, and online, including
PlayboyStore.com. We also distribute various non-Playboy branded movies,
continue to re-release titles previously only released on home video on DVD and,
in 2004, began a new initiative into the crossover market for hip-hop music
video product with the release of Snoop Dogg's Buckwild Bus Tour. Since October
2001, Image Entertainment, Inc., or Image, has distributed our DVD and VHS
products in the United States and Canada.

In 2004, we entered into distribution agreements with both Hush, a
subsidiary of Columbia House, to create an adult DVD club and Infinity
Resources, an owner of some of the largest DVD retailers on the Internet, to be
their exclusive supplier of adult DVD products on their websites. These
partnerships will allow us to leverage our direct marketing capabilities and
generate new, incremental revenues, based on a varying percentage of their
retail sales.

The free Playboy.com website is designed with a goal of converting
visitors to purchasers by directing them to our pay sites while also generating
advertising revenues. Playboy.com offers original content and focuses on areas
of interest to its target audience, including Arts & Entertainment, Sports,
Events, On Campus, World of Playboy and Playmates.

Our online gaming business currently consists of PlayboySportsBook.com and
PlayboyCasino.com, which are licensed and operated by Ladbroke eGaming Limited.
We have jointly implemented safeguards designed to prevent illegal wagering on
our sites.

Competition

Competition among television programming providers is intense for both
channel space and viewer spending. Our competition varies in both the type and
quality of programming offered, but consists primarily of other premium pay
services, such as general-interest premium channels and other adult movie pay
services. We compete with the other pay services as we (a) attempt to obtain or
renew carriage with DTH operators and individual cable affiliates, (b) negotiate
fee arrangements with these operators, (c) negotiate for VOD and SVOD rights and
(d) market our programming to consumers through these operators. Over the past
several years, we have been adversely impacted by all of the competitive factors
described above and, in addition, by consolidation in the cable industry, which
has resulted in larger, but fewer, operators. The availability of and price
pressure from more explicit content on the Internet and more pay television
options, both mainstream and adult, also present a significant competitive
challenge.

While there can be no assurance that we will be able to maintain our
current DTH and cable carriage or fee structures or maintain or grow our
viewership in the face of this competition, we believe that strong Playboy and
Spice brand recognition, the quality of our original programming and our ability
to appeal to a broad range of adult audiences are critical factors which
differentiate our networks from other providers of adult programming. Also, to
optimize revenue potential, we are encouraging DTH and cable operators to market
the full range of PPV, VOD, SVOD and monthly subscription options to consumers
and to offer our services in high-definition format.

8

Internationally, we experience even more significant competitive
challenges. Competition abroad derives from both the availability of less
explicit adult content on free television that is much more prevalent,
specifically in Europe, than in the U.S., and competitive pay services. In the
U.K., our six networks compete with a total of 27 other adult networks, and in
Japan, our two channels compete with 24 adult networks. There are often low
barriers to entry, which yield increasing competition, especially from companies
in Asia and parts of Europe providing "home grown" content as opposed to dubbed
American programs. However, we have used our vast content library and content
acquisitions to create additional local channels (The Adult Channel, Spice,
Spice 2, Spice Platinum, Climax and Venus), which complement the flagship
Playboy TV brand in markets with demand for quality English language adult
programming.

The Internet industry is highly competitive, and we continue to compete
for visitors, subscribers, buyers and advertisers. We believe that the primary
competitive factors affecting our Internet operations include brand recognition,
the quality of our content and products, technology, including the number of
broadband homes, pricing, ease of use, sales and marketing efforts and consumer
demographics. We believe that we compete favorably in respect to each of these
factors. Additionally, we have the advantage of leveraging the power of the
Playboy and Spice brands in multiple media, with our content libraries and
marketing to loyal audiences. However, the availability of free content on the
Internet continues to provide competitive challenges for operators of pay sites.

PUBLISHING GROUP

Our Publishing Group operations include the publication of Playboy
magazine, other domestic publishing businesses, including special editions,
books, and calendars, and the licensing of international editions of Playboy
magazine.

Playboy Magazine

Founded by Hugh M. Hefner, in 1953, Playboy magazine continues to be the
best-selling monthly men's magazine in the U.S. and in the world, based on the
combined circulation of the U.S. and international editions. Circulation of the
U.S. edition is approximately 3.1 million copies monthly. Combined average
circulation of the 17 licensed international editions is approximately 1.1
million copies monthly. According to Fall 2004 data published by Mediamark
Research, Inc., or MRI, an independent market research firm, the U.S. edition of
Playboy magazine is read by approximately one in every seven men in the United
States aged 18 to 34.

Playboy magazine plays a key role in driving the continued popularity and
recognition of the Playboy brand. Playboy magazine is a general-interest
magazine targeted to men, with a reputation for excellence founded on providing
high-quality photography, entertainment and articles on current issues,
interests and trends. Playboy consistently includes in-depth, candid interviews
with high profile political, business, entertainment and sports figures;
pictorials of famous women; and content by leading authors, including the
following:

Interviews Pictorials Leading Authors
---------- ---------- ---------------
Ben Affleck Pamela Anderson William F. Buckley
Halle Berry Drew Barrymore Ethan Coen
George Clooney Cindy Crawford Michael Crichton
John Cusack Carmen Electra David Halberstam
Bill Gates Daryl Hannah William Kennedy
Tommy Hilfiger Rachel Hunter Jay McInerney
Michael Jordan Elle Macpherson Joyce Carol Oates
Jimmy Kimmel Jenny McCarthy George Plimpton
Jack Nicholson Denise Richards Scott Turow
Donald Trump Anna Nicole Smith John Updike
Jesse Ventura Katarina Witt Kurt Vonnegut

Playboy magazine has long been known for its quality of photography,
editorial content and illustration in publishing the work of top photographers,
writers and artists. Playboy magazine also features lifestyle articles on
consumer products, fashion, automobiles and consumer electronics and covers the
worlds of sports and entertainment. With the publication of its January 2004
issue, Playboy celebrated its 50th Anniversary, a notable achievement.
Revitalized by a fresh design in 2003, new contributors and a new editorial base
in New York, Playboy magazine published some of its finest issues in 2004. The
front-of-book section was redesigned and the venerable Forum section was
reconfigured. In its current state, the magazine is highly accessible while
keeping to the tradition of its sophisticated history. Literary and libertarian,
Playboy magazine continues to upend convention and delight its audience with a
varied mix of elements, as it has for the past half-century.

9

The net circulation revenues of the U.S. edition of Playboy magazine for
2004, 2003 and 2002 were $65.2 million, $65.9 million and $62.3 million,
respectively. Net circulation revenues are gross revenues less commissions,
discounts, provisions for newsstand returns and display costs and unpaid
subscriptions. Circulation revenue comparisons may be materially impacted with
respect to newsstand sales in any period based on sales of issues featuring
major celebrities.

According to the Audit Bureau of Circulations, or ABC, an independent
audit agency, for the six months ended December 31, 2004, Playboy magazine was
the 13th highest-ranking U.S. consumer publication, with a circulation rate base
(the total newsstand and subscription circulation guaranteed to advertisers) of
3.15 million. Playboy magazine's circulation rate base for the same period was
larger than each of Newsweek, Cosmopolitan and Maxim.

Playboy magazine has historically generated approximately two-thirds of
its revenues from subscription and newsstand circulation, with the remainder
primarily from advertising. Subscription copies represent approximately 88% of
total copies sold. We believe that managing Playboy's circulation to be
primarily subscription driven provides a stable and desirable circulation base,
which is attractive to advertisers. In addition, according to the MRI data
previously mentioned, the median age of male Playboy readers is 33, with a
median annual household income of approximately $55,000, a demographic that we
believe is also attractive to advertisers. We also derive revenues from the
rental of Playboy magazine's subscriber list.

We attract new subscribers to the magazine through our own direct mail
advertising campaigns, subscription agent campaigns and the Internet, including
the Playboy.com website. We recognize revenues from magazine subscriptions over
the terms of the subscriptions. Subscription copies of the magazine are
delivered through the U.S. Postal Service as periodical mail. We attempt to
contain these costs through presorting and other methods.

Playboy magazine is one of the highest priced magazines in the United
States. Effective with the April 2001 issue, the basic U.S. newsstand cover
price is $4.99 ($6.99 for the December and January holiday issues) and the basic
Canadian newsstand cover price is C$6.99 (C$7.99 for the December and January
holiday issues). In addition, we generally increase the newsstand cover price by
$1.00 when there is a feature of special appeal. We price test from time to
time, but no general price increases are currently planned for 2005.

Playboy magazine targets a wide range of advertisers. Advertising by
category, as a percent of total advertising pages, and the total number of ad
pages for the last three years were as follows:

Fiscal Year Fiscal Year Fiscal Year
Ended Ended Ended
Category 12/31/04 12/31/03 12/31/02
- -------------------------------------------------------------------------------
Beer/Wine/Liquor 23% 20% 25%
Retail/Direct mail 22 25 26
Tobacco 17 19 19
Home electronics 8 8 8
Automotive 7 4 4
Apparel/Footwear/Accessories 3 5 4
Toiletries/Cosmetics 3 3 4
All other 17 16 10
- -------------------------------------------------------------------------------
Total 100% 100% 100%
===============================================================================
Total ad pages 573 555 515
===============================================================================

We continue to focus on securing new advertisers, including expanding
advertising from underserved categories. The net advertising revenues of the
U.S. edition of Playboy magazine for 2004, 2003 and 2002 were $36.2 million,
$36.1 million and $32.4 million, respectively. Net advertising revenues are
gross revenues less advertising agency commissions, frequency and cash discounts
and rebates. We publish the U.S. edition of Playboy magazine in 15 advertising
editions: one upper income zip-coded, eight regional, two state and four
metropolitan editions. All contain the same editorial material but provide
targeting opportunities for advertisers. We implemented 4% cost per thousand
increases in advertising rates effective with both the January 2004 and January
2005 issues.

10

Levels of advertising revenues may be affected by, among other things,
increased competition for and decreased spending by advertisers, general
economic activity and governmental regulation of advertising content, such as
tobacco products. However, since only approximately one-third of Playboy
magazine's revenues and less than 15% of the Company's total revenues are from
Playboy magazine advertising, we are not overly dependent on this source of
revenue.

Playboy magazine subscriptions are serviced by Communications Data
Services, Inc., or CDS. Pursuant to a subscription fulfillment agreement, CDS
performs a variety of services, including (a) processing orders or transactions,
(b) receiving, verifying, balancing and depositing payments from subscribers,
(c) printing forms and promotional materials, (d) maintaining master files on
all subscribers, (e) issuing bills and renewal notices to subscribers, (f)
issuing labels, (g) resolving customer service complaints as directed by us and
(h) furnishing various reports to monitor all aspects of the subscription
operations. The term of the agreement has been extended to June 30, 2006. Either
party may terminate the agreement prior to expiration in the event of material
nonperformance by, or insolvency of, the other party. We pay CDS specified fees
and charges based on the types and amounts of service performed under the
agreement. The fees and charges increase annually based on the consumer price
index, to a maximum of six percent in one year. CDS's liability to us for a
breach of its duties under the agreement is limited to actual damages of up to
$140,000 per event of breach, except in cases of willful breach or gross
negligence, in which case the limit is $280,000. The agreement provides for
indemnification by CDS of us and our shareholders against claims arising from
actions or omissions by CDS in compliance with the terms of the agreement or in
compliance with our instructions.

Distribution of the magazine and special editions to newsstands and other
retail outlets is accomplished through Warner Publisher Services, Inc., or
Warner, our national distributor. The issues are shipped in bulk to wholesalers,
who are responsible for local retail distribution. We receive a substantial cash
advance from Warner 30 days after the date each issue goes on sale. We recognize
revenues from newsstand sales based on estimated copy sales at the time each
issue goes on sale and adjust for actual sales upon settlement with Warner.
These revenue adjustments are not material. Retailers return unsold copies to
the wholesalers, who count and then shred the returned copies and report the
returns by affidavit. The number of copies sold on newsstands varies from month
to month, depending in part on consumer interest in the cover, the pictorials
and the editorial features.

Playboy magazine and special editions are printed at Quad/Graphics, Inc.,
or Quad, at a single site located in Wisconsin, which ships the product to
subscribers and wholesalers. The print run varies each month based on expected
sales and is determined with input from Warner. Paper is the principal raw
material used in the production of these publications. We use a variety of types
of high-quality coated and uncoated paper that is purchased from a number of
suppliers. The market for paper has historically been cyclical, resulting in
volatility in paper prices, which can materially affect the Publishing Group's
financial results.

We rely on CDS, Warner and Quad to produce and distribute our magazine. If
they fail to perform their obligations on a timely basis, our operations could
be adversely affected. Our agreements with these companies are renewed or
renegotiated from time to time in the ordinary course of business. In some
cases, following the expiration of an agreement, we and the respective company
continue to operate in accordance with the terms of the expired agreement until
a new agreement is negotiated.

From time to time, Playboy magazine and certain of its distribution
outlets and advertisers have been the target of private advocacy groups who seek
to limit Playboy's availability because of its adult-oriented content. In our
51-year history, we have never sold a product that has been judged to be obscene
or illegal in any U.S. jurisdiction.

Magazine publishing companies face intense competition for readers,
advertising and newsstand shelf space. Magazines and Internet sites primarily
aimed at men are Playboy magazine's principal competitors. Other types of media
that carry advertising, such as newspapers, radio and television, also compete
for advertising revenues with Playboy magazine.

Other Domestic Publishing

Our Publishing Group has also created media extensions, including special
editions and calendars, which are primarily sold in newsstand outlets. We
published 25 special editions in each of 2004 and 2003 and 24 in 2002. We expect
to publish 25 special editions in 2005. Effective with the December 2002 issue,
the U.S. special editions newsstand cover price is $7.99 and effective with the
August 2002 issue, the Canadian special editions newsstand cover price is
C$8.99. We price test from time to time, but no general price increases are
currently planned for 2005.

11

Other domestic publishing also includes licensing the rights to third parties to
publish books for which we receive royalties.

International Publishing

We license the right to publish 17 international editions of Playboy
magazine to local partners in the following countries: Brazil, Bulgaria,
Croatia, the Czech Republic, France, Germany, Greece, Hungary, Japan, Mexico,
the Netherlands, Poland, Romania, Russia, Serbia, Slovenia and Spain. Combined
average circulation of the international editions is approximately 1.1 million
copies monthly.

Local publishing licensees tailor their international editions by mixing
the work of their national writers and artists with editorial and pictorial
material from the U.S. edition. We monitor the content of the international
editions so that they retain the distinctive style, look and quality of the U.S.
edition while meeting the needs of their respective markets. The license
agreements vary but, in general, are for terms of three to five years and carry
a guaranteed minimum royalty as well as a formula for computing earned royalties
in excess of the minimum. Royalty computations are generally based on both
circulation and advertising revenues. In 2004, two editions, the German and
Brazilian, accounted for approximately one-half of our total licensing revenues
from international editions.

LICENSING GROUP

Our Licensing Group includes the licensing of consumer products carrying
one or more of our trademarks and images, as well as Playboy branded retail
stores, and location-based entertainment destinations, as well as certain
revenue generating marketing activities.

We license the Playboy name, the Rabbit Head Design and other images,
trademarks and artwork as well as the Spice name and trademarks for the
worldwide manufacture, sale and distribution of a variety of consumer products.
We work with licensees to develop, market and distribute high-quality Playboy
and Spice branded merchandise. Our licensed product lines include men's and
women's apparel, men's underwear and women's lingerie, accessories,
collectibles, cigars, watches, jewelry, fragrances, small leather goods,
stationery, music, eyewear, barware and home fashions. The group also licenses
art-related products based on our extensive collection of artwork, most of which
were commissioned as illustrations for Playboy magazine. Occasionally, we sell
small portions of our art and memorabilia collection through auction houses such
as Butterfields, Christie's and Sotheby's. Products are marketed primarily
through retail outlets, including department and specialty stores. Our first
Playboy concept store, located in an upscale Tokyo, Japan shopping district and
funded by one of our licensees, opened in 2002. It offers a full collection of
Playboy branded fashion and accessories for men and women, as well as other
Playboy branded products. We recently announced plans to open two additional
concept stores in Las Vegas, Nevada, and Melbourne, Australia, that will be
funded by the licensees. We expect the stores to debut in the fall of 2005.

We continually seek to license our brand name and images in order to enter
into new markets and retail categories, including a slot machine deal with Bally
Gaming, Inc. In 2005, we launched our first foray into the video game business
with the release of Playboy: The Mansion. The state-of-the-art game allows users
to simulate the building of the Playboy Empire into a powerful business brand
and pursue the ultimate Playboy lifestyle through traditional video game social
role-playing and empire-building game play.

We have recently expanded our licensing activities to include
location-based entertainment destinations. In 2004, we announced our
participation in location-based entertainment ventures to be developed in
Shanghai, China and Las Vegas, Nevada. In both cases, our venture partners will
provide the funding for the projects, and we will contribute the Playboy brand
and trademarks and our marketing expertise. The Shanghai project will feature
restaurants, lounges, a cabaret, a disco, a spa and a boutique. The Las Vegas
project, located in the new tower currently under construction at the Palms
Casino Resort, will include a nightclub, boutique, casino and lounge and a
retail store and a sky villa.

While our branded products are unique, we operate in an intensely
competitive business that is extremely sensitive to economic conditions and
shifts in consumer buying habits or fashion and lifestyle trends, as well as
changes in the retail sales environment.

12

Company-wide marketing operations consist of Alta Loma Entertainment, the
Playboy Jazz Festival and Playmate Promotions. Since 2001, Alta Loma
Entertainment has functioned as a production company that leverages our assets,
including editorial material as well as icons like the Playmates, Playboy
Mansion and Mr. Hefner, to develop original programming for other television
networks. We have produced the Playboy Jazz Festival on an annual basis in Los
Angeles at the Hollywood Bowl since June 1979 and have continued our sponsorship
of related community events. Playmate Promotions represents the Playmates in
advertising campaigns, trade shows, endorsements, commercials, motion pictures,
television and videos for us and outside clients. These businesses are brand
builders and are operated at approximately a break-even level of profitability.

SEASONALITY

Our businesses are generally not seasonal in nature. Revenues and
operating results for the quarters ended December 31, however, are typically
impacted by higher newsstand cover prices of holiday issues. These higher
prices, coupled with typically higher sales of subscriptions of Playboy magazine
during those quarters, also result in an increase in accounts receivable.
E-commerce revenues and operating results are typically impacted by the holiday
buying season and online subscription revenues and operating results are
impacted by decreased Internet traffic during the summer months.

PROMOTIONAL AND OTHER ACTIVITIES

We believe that our sales of products and services are enhanced by the
public recognition of the Playboy brand as symbolizing a lifestyle. In order to
establish public recognition, we, among other activities, purchased in 1971 the
Playboy Mansion in Los Angeles, California, where our founder and
Editor-In-Chief, Hugh M. Hefner, lives. The Playboy Mansion is used for various
corporate activities, including serving as a valuable location for video
production, magazine photography and for online, advertising and sales events.
It also enhances our image as host for many charitable and civic functions. The
Playboy Mansion generates substantial publicity and recognition, which increase
public awareness of us and our products and services. As indicated in Part II.
Item 7. "Management's Discussion and Analysis of Financial Condition and Results
of Operations," or MD&A, and Part III. Item 13. "Certain Relationships and
Related Transactions," Mr. Hefner pays us rent for that portion of the Playboy
Mansion used exclusively for his and his personal guests' residence as well as
the per-unit value of non-business meals, beverages and other benefits received
by him and his personal guests. The Playboy Mansion is included in our
Consolidated Balance Sheet at December 31, 2004, at a net book value of $1.6
million, including all improvements and after accumulated depreciation. We incur
all operating expenses of the Playboy Mansion, including depreciation and taxes,
which were $3.0 million, $2.3 million and $3.6 million for 2004, 2003 and 2002,
respectively, net of rent received from Mr. Hefner.

Through the Playboy Foundation, we support not-for-profit organizations
and projects concerned with issues historically of importance to Playboy
magazine and its readers, including anti-censorship efforts, civil rights, AIDS
education, prevention and research, reproductive freedom and women's leadership
activities. The Playboy Foundation provides financial support to many nonprofit
organizations throughout the country.

Our trademarks and copyrights are critical to the success and potential
growth of all of our businesses. We actively protect and defend our trademarks
and copyrights throughout the world and monitor the marketplace for counterfeit
products. Consequently, we defend our trademarks by initiating legal proceedings
from time to time to prevent their unauthorized use.

EMPLOYEES

At February 28, 2005, we employed 657 full-time employees compared to 608
at February 29, 2004. No employees are represented by collective bargaining
agreements. We believe we maintain a satisfactory relationship with our
employees.

13

AVAILABLE INFORMATION

We make available free of charge on our website,
www.playboyenterprises.com, our annual, quarterly and current reports, and, if
applicable, amendments to those reports, filed or furnished pursuant to Section
13 or 15(d) of the Securities Exchange Act of 1934, or the Exchange Act, as soon
as reasonably practicable after we electronically file such material with, or
furnish it to, the Securities and Exchange Commission, or SEC.

Also posted on our website are the charters of the Audit Committee and
Compensation Committee of our Board of Directors, our Code of Business Conduct
and our Corporate Governance Guidelines. Copies of these documents are available
free of charge by sending a request to Investor Relations, Playboy Enterprises,
Inc., 680 North Lake Shore Drive, Chicago, Illinois 60611.

RISK FACTORS

In addition to the other information contained in this Annual Report on Form
10-K, the following risk factors should be carefully considered in evaluating us
and our business.

We may not be able to protect our intellectual property rights.

We believe that our trademarks, particularly the Playboy name and Rabbit Head
Design, and other proprietary rights are critical to our success, potential
growth and competitive position. Accordingly, we devote substantial resources to
the establishment and protection of our trademarks and proprietary rights. Our
actions to establish and protect our trademarks and other proprietary rights,
however, may not prevent imitation of our products by others or prevent others
from claiming violations of their trademarks and proprietary rights by us. Any
infringement or related claims, even if not meritorious, may be costly and time
consuming to litigate, may distract management from other tasks of operating the
business and may result in the loss of significant financial and managerial
resources, which could harm our business, financial condition or operating
results. These concerns are particularly relevant with regard to those
international markets, such as China, in which it is especially difficult to
enforce intellectual property rights.

Failure to maintain our agreements with MSOs and DTH operators on favorable
terms could adversely affect our business, financial condition or results of
operations.

We currently have agreements with the nation's six largest MSOs. We also have
agreements with the principal DTH operators in the United States and Canada. Our
agreements with these operators may be terminated on short notice without
penalty. If one or more MSOs or DTH operators terminate or do not renew these
agreements, or do not renew them on terms as favorable as those of current
agreements, our business, financial condition or results of operations could be
materially adversely affected.

In addition, competition among television programming providers is intense for
both channel space and viewer spending. Our competition varies in both the type
and quality of programming offered, but consists primarily of other premium pay
services, such as general-interest premium channels and other adult movie pay
services. We compete with the other pay services as we attempt to obtain or
renew carriage with DTH operators and individual cable affiliates, negotiate fee
arrangements with these operators, negotiate for VOD and SVOD rights and market
our programming through these operators to consumers. The competition with
programming providers has intensified as a result of consolidation in the DTH
and cable systems industry, which has resulted in larger, but fewer, operators.
The impact of industry consolidation, any decline in our access to, and
acceptance by, DTH and/or cable systems and the possible resulting deterioration
in the terms of agreements, cancellation of fee arrangements or pressure on
margin splits with operators of these systems could adversely affect our
business, financial condition or results of operations.

14

Limits on our access to satellite transponders could adversely affect our
business, financial condition or results of operations.

Our cable television and DTH operations require continued access to satellite
transponders to transmit programming to cable or DTH operators. Material
limitations on our access to these systems or satellite transponder capacity
could materially adversely affect our business, financial condition or results
of operations. Our access to transponders may be restricted or denied if:

o we or the satellite owner is indicted or otherwise charged as a
defendant in a criminal proceeding;

o the FCC issues an order initiating a proceeding to revoke the
satellite owner's authorization to operate the satellite;

o the satellite owner is ordered by a court or governmental authority
to deny us access to the transponder;

o we are deemed by a governmental authority to have violated any
obscenity law; or

o our satellite transponder providers fail to provide the required
services.

In addition to the above, the access of Playboy TV, Spice and our other networks
to transponders may be restricted or denied if a governmental authority
commences an investigation or makes an adverse finding concerning the content of
their transmissions. Technical failures may also affect our satellite
transponder providers' ability to deliver transmission services.

We are subject to risks resulting from our operations outside the United States,
and we face additional risks and challenges as we continue to expand
internationally.

The international scope of our operations may contribute to volatile financial
results and difficulties in managing our business. For the year ended December
31, 2004, we derived approximately 22% of our consolidated revenues from
countries outside the United States. Our international operations expose us to
numerous challenges and risks, including, but not limited to, the following:

o adverse political, regulatory, legislative and economic conditions
in various jurisdictions;

o costs of complying with varying governmental regulations;

o fluctuations in currency exchange rates;

o difficulties in developing, acquiring or licensing programming and
products that appeal to a variety of different audiences and
cultures;

o scarcity of attractive licensing and joint venture partners;

o the potential need for opening and managing distribution centers
abroad; and

o difficulties in protecting intellectual property rights in foreign
countries.

In addition, important elements of our business strategy, including capitalizing
on advances in technology, expanding distribution of our products and content
and leveraging cross promotional marketing capabilities, involve a continued
commitment to expanding our business internationally. This international
expansion will require considerable management and financial resources.

We cannot assure you that one or more of these factors or the demands on our
management and financial resources would not harm any current or future
international operations and our business as a whole.

Any inability to identify, fund investment in and commercially exploit new
technology could have a material adverse impact on our business, financial
condition or results of operations.

We are engaged in a business that has experienced significant technological
change over the past several years and is continuing to undergo technological
change. Our ability to implement our business plan and to achieve the results
projected by management will depend on management's ability to anticipate
technological advances and implement strategies to take advantage of
technological change. Any inability to identify, fund investment in and
commercially exploit new technology or the commercial failure of any technology
that we pursue, such as VOD, could result in our business becoming burdened by
obsolete technology and could have a material adverse impact on our business,
financial condition or results of operations.

15

The online subscription portion of our entertainment business may be adversely
affected by failure on our part to implement our business model, to satisfy
consumers, by the impact of free content and by any decline in use of the
Internet.

Business Model. Our online subscription business model relies on expanding our
online subscriber base and increasing revenue per subscriber by selling premium
content to our online subscribers. There can be no assurance that we will be
able to provide the pricing and content necessary to attract new or retain
existing subscribers and operate the online portion of our entertainment
business profitably.

Consumer satisfaction. The Internet industry is highly competitive. If we fail
to continue to develop and introduce new content, features, functions or
services effectively or fail to improve the consumer experience, our business,
financial condition or results of operations could be materially adversely
affected.

Availability of free or low cost content. To the extent free or low cost adult
content on the Internet continues to be available or increases, it may
negatively affect our ability to attract subscribers and other fee-paying
customers.

Internet use growth. If use of the Internet declines or fails to grow as
projected, we may not realize the expected benefits of our investments in the
online business. Internet usage may be inhibited by, among other factors:

o inadequate Internet infrastructure;

o unwillingness of customers to shift their purchasing to on-line
vendors;

o security and privacy concerns;

o the lack of compelling content;

o problems relating to the development of the required technology
infrastructure; and

o insufficient availability of cost-effective, high-speed service.

Our online operations are subject to security risks and systems failures.

Security risks. Online security breaches could materially adversely affect our
business, financial condition or results of operations. Any well-publicized
compromise of security could deter use of the Internet in general or use of the
Internet to conduct transactions that involve transmitting confidential
information or downloading sensitive materials in particular. In offering online
payment services, we may increasingly rely on technology licensed from third
parties to provide the security and authentication necessary to effect secure
transmission of confidential information, such as customer credit card numbers.
Advances in computer capabilities, new discoveries in the field of cryptography
or other developments could compromise or breach the algorithms that we use to
protect our customers' transaction data. If third parties are able to penetrate
our network security or otherwise misappropriate confidential information, we
could be subject to liability, which could result in litigation. In addition,
experienced programmers or "hackers" may attempt to misappropriate proprietary
information or cause interruptions in our services which could require us to
expend significant capital and resources to protect against or remediate these
problems. Increased scrutiny by regulatory agencies such as the FTC and state
agencies of the use of customer information could also result in additional
expenses if we are obligated to reengineer systems, to comply with new
regulations or to defend investigations of our privacy practices.

Other system failures. The uninterrupted performance of our computer systems is
critical to the operations of our Internet sites. Our computer systems are
located at Level 3 Communications in Chicago, Illinois and, as such, may be
vulnerable to fire, power loss, telecommunications failures and other similar
catastrophes. In addition, we may have to restrict access to our Internet sites
to solve problems caused by computer viruses or other system failures. Our
customers may become dissatisfied by any systems disruption or failure that
interrupts our ability to provide our content. Repeated system failures could
substantially reduce the attractiveness of our Internet sites and/or interfere
with commercial transactions, negatively affecting our ability to generate
revenues. Our Internet sites must accommodate a high volume of traffic and
deliver regularly updated content. Our sites have, on occasion, experienced slow
response times and network failures. These types of occurrences in the future
could cause users to perceive our web sites as not functioning properly and
therefore induce them to frequent Internet sites other than ours. We are also
subject to risks from failures in computer systems other than our own because
our customers depend on their own Internet service providers for access to our
sites. Our revenues could be negatively affected by outages or other
difficulties customers experience in accessing our Internet sites due to
Internet service providers' system disruptions or similar failures unrelated to
our systems. Our insurance policies may not adequately compensate us for any
losses that may occur due to any failures in our Internet systems or the systems
of our customers' Internet service providers.

16

Piracy of our television networks, programming and photographs could materially
reduce our revenues and adversely affect our business, financial condition or
results of operations.

The distribution of our subscription programming by MSOs and DTH operators
requires the use of encryption technology to assure that only those who pay can
receive programming. It is illegal to create, sell or otherwise distribute
mechanisms or devices to circumvent that encryption. Nevertheless, theft of
subscription television programming has been widely reported. Theft of our
programming reduces future potential revenue. In addition, theft of our
competitors' programming can also increase our churn. Although MSOs and DTH
operators continually review and update their conditional access technology,
there can be no assurance that they will be successful in developing or
acquiring the technology needed to effectively restrict or eliminate signal
theft.

Additionally, the development of emerging technologies, including the Internet
and online services, poses the risk of making piracy of our intellectual
property more prevalent. Digital formats, such as the ones we use to distribute
our programming through MSOs, DTH and the Internet, are easier to copy, download
or intercept. As a result, users can download, duplicate and distribute
unauthorized copies of copyrighted programming and photographs over the Internet
or other media, including DVDs. As long as pirated content is available, many
consumers could choose to download or purchase pirated intellectual property
rather than pay to subscribe to our services or purchase our products.

National consolidation of the single-copy magazine distribution system may
adversely affect our ability to obtain favorable terms on the distribution of
Playboy magazine and special editions and may lead to declines in profitability
and circulation.

In the past decade, the single-copy magazine distribution system has undergone
dramatic consolidation. According to an economic study released by Magazine
Publishers of America in October 2001, the number of magazine wholesalers has
declined from more than 180 to just four large wholesalers that handle 90% of
the single-copy distribution business. Currently, we rely on a single national
distributor, Warner, for the distribution of Playboy magazine and special
editions to newsstands and other retail outlets. As a result of this industry
consolidation, we face increasing pressure to lower the prices we charge to
wholesalers and increase our sell-through rates. If we are forced to lower the
prices we charge wholesalers, we may experience declines in revenue. If we are
unable to meet targeted sell-through rates, we may incur greater expenses in the
distribution process. The combination of these factors could negatively impact
the profitability and newsstand circulation for Playboy magazine.

If we are unable to generate revenues from advertising and sponsorships, or if
we were to lose our large advertisers or sponsors, our business would be harmed.

If companies perceive Playboy magazine or Playboy.com to be a limited or
ineffective advertising medium, they may be reluctant to advertise in our
products or be a sponsor of our company. Our ability to generate significant
advertising and sponsorship revenues depends upon several factors, including,
among others, the following:

o our ability to maintain a large, demographically attractive
subscriber base for Playboy magazine and Playboy.com;

o our ability to offer attractive advertising rates;

o our ability to attract advertisers and sponsors; and

o our ability to provide effective advertising delivery and
measurement systems.

Our advertising revenues are also dependent on the level of spending by
advertisers, which is impacted by a number of factors beyond our control,
including general economic conditions, changes in consumer purchasing and
viewing habits and changes in the retail sales environment. Our existing
competitors, as well as potential new competitors, may have significantly
greater financial, technical and marketing resources than we do. These companies
may be able to undertake more extensive marketing campaigns, adopt aggressive
advertising pricing policies and devote substantially more resources to
attracting advertising customers.

We rely on third parties to service our Playboy magazine subscriptions and print
and distribute the magazine and special editions. If these third parties fail to
perform, our business could be harmed.

We rely on CDS to service Playboy magazine subscriptions. The magazine and
special editions are printed at Quad at a single site located in Wisconsin,
which ships the product to subscribers and wholesalers. We rely on a single
national distributor, Warner, for the distribution of Playboy magazine and
special editions to newsstands and other retail outlets. If CDS, Quad or Warner
is unable to or does not perform, and we are unable to find alternative services
in a timely fashion, our business could be adversely affected.

17

Increases in paper prices or postal rates could adversely affect our operating
performance.

Paper costs are a substantial component of the manufacturing expenses of our
publishing business and the direct marketing expenses of our online business.
The market for paper has historically been cyclical, resulting in volatility in
paper prices. An increase in paper prices could materially adversely affect our
operating performance unless and until we can pass any increases through to the
consumer.

The cost of postage also affects the profitability of Playboy magazine and our
e-commerce business. An increase in postage rates could materially adversely
affect our operating performance unless and until we can pass the increase
through to the consumer.

If we experience a significant decline in our circulation rate base, our results
could be adversely affected.

According to the ABC, an independent audit agency, with a circulation rate base
(the total newsstand and subscription circulation guaranteed to advertisers) of
3.15 million for the six months ended December 31, 2004, Playboy magazine was
the 13th highest-ranking U.S. consumer publication. Our circulation is primarily
subscription driven, with subscription copies comprising approximately 88% of
total copies sold. Although Playboy magazine's circulation rate base has
remained stable over the last nine years, if we experience a significant decline
in subscriptions, either because we lose existing subscribers or do not attract
new subscribers, our results could be adversely affected.

We may not realize the expected benefits the restructuring of the ownership of
our international TV joint ventures.

In December 2002, we completed the restructuring of the ownership of our
international TV joint ventures. Our venture partner, Claxson, have encountered
significant financial difficulties. We cannot be certain that Claxson's
financial condition will not adversely affect our remaining joint venture or
subject our recently concluded joint venture ownership restructuring to
challenge. As a result, we cannot be certain that we will realize the expected
benefits from the restructuring.

We may not be able to compete successfully with direct competitors or with other
forms of entertainment.

We derive a significant portion of our revenue from subscriber based fees,
advertising and licensing, for which we compete with various other media,
including magazines, newspapers, television, radio and Internet web sites that
offer customers information and services similar to those that we provide. We
also compete with providers of alternative leisure time activities and media.
Competition could result in price reductions, reduced margins or loss of market
share, any of which could have a material adverse effect on our business,
financial condition or results of operations.

We face competition on both country and regional levels. In addition, each of
our businesses competes with companies that deliver content through the same
platforms and with companies that operate in different media businesses. Many of
our competitors, including large entertainment and media enterprises, have
greater financial and human resources than we do. We cannot assure you that we
can remain competitive with companies that have greater resources or that offer
alternative entertainment and information options.

Government regulations could adversely affect our business, financial condition
or results of operations.

Our businesses are regulated by governmental authorities in the countries in
which we operate. Because of our international operations, we must comply with
diverse and evolving regulations. Regulation relates to, among other things,
licensing, access to satellite transponders, commercial advertising,
subscription rates, foreign investment, Internet gaming, use of confidential
customer information and content, including standards of decency/obscenity.
Changes in the regulation of our operations or changes in interpretations of
existing regulations by courts or regulators or our inability to comply with
current or future regulations could adversely affect us by reducing our
revenues, increasing our operating expenses and exposing us to significant
liabilities. While we are not able reliably to predict particular regulatory
developments that could affect us adversely, those regulations related to adult
content, the Internet, privacy and commercial advertising illustrate some of the
potential difficulties we face.

Adult content. Regulation of adult content could prevent us from making our
content available in various jurisdictions or otherwise have a material adverse
effect on our business, financial condition or results of operations. The
governments of some countries like China and India have sought to limit the
influence of other cultures by restricting the distribution of products deemed
to represent foreign or "immoral" influences. Regulation aimed at limiting
minors' access to adult content could also increase our cost of operations and
introduce technological challenges, such as by requiring development and
implementaion of age verification systems.

18

Internet. Various governmental agencies are considering a number of legislative
and regulatory proposals which may lead to laws or regulations concerning
various aspects of the Internet, including online content, intellectual property
rights, user privacy, taxation, access charges, liability for third party
activities and jurisdiction. Regulation of the Internet could materially
adversely affect our business, financial condition or results of operations by
reducing the overall use of the Internet, reducing the demand for our services
or increasing our cost of doing business.

Regulation of Commercial Advertising. We receive a significant portion of our
advertising revenues from companies selling tobacco and alcohol products. For
the year ended December 31, 2004, beer/wine/liquor and tobacco represented 23%
and 17%, respectively, of the total ad pages of Playboy magazine. Significant
limitations on the ability of those companies to advertise in Playboy magazine
or on our Internet sites either because of legislative, regulatory or court
action could materially adversely affect our business, financial condition or
results of operations. In August 1996, the Food & Drug Administration announced
regulations which prohibited the publication of tobacco advertisements
containing drawings, colors or pictures. While those regulations were later held
unconstitutional by the U.S. Supreme Court, future attempts may be made by other
federal agencies to impose similar or other types of advertising limitations.

Our business involves risks of liability claims for media content, which could
adversely affect our business, financial condition or results of operations.

As a distributor of media content, we may face potential liability for:

o defamation;

o invasion of privacy;

o negligence;

o copyright or trademark infringement; and

o other claims based on the nature and content of the materials
distributed.

These types of claims have been brought, sometimes successfully, against
broadcasters, publishers, online services and other disseminators of media
content. We could also be exposed to liability in connection with material
available through our Internet sites. Any imposition of liability that is not
covered by insurance or is in excess of insurance coverage could have a material
adverse effect on us. In addition, measures to reduce our exposure to liability
in connection with material available through our Internet sites could require
us to take steps that would substantially limit the attractiveness of our
Internet sites and/or their availability in various geographic areas, which
would negatively affect their ability to generate revenue.

Private advocacy group actions targeted at our content could result in
limitations on our ability to distribute our products and programming and
negatively impact our brand acceptance.

Our ability to operate successfully depends on our ability to obtain and
maintain distribution channels and outlets for our products. From time to time,
private advocacy groups have sought to exclude our programming from local pay
television distribution because of the adult oriented content of the
programming. In addition, from time to time, private advocacy groups have
targeted Playboy magazine and its distribution outlets and advertisers, seeking
to limit the magazine's availability because of its adult oriented content. In
addition to possibly limiting our ability to distribute our products and
programming, negative publicity campaigns, lawsuits and boycotts could
negatively affect our brand acceptance and cause additional financial harm by
requiring that we incur significant expenditures to defend our business or by
discouraging investors from investing in our securities.

19

In pursuing selective acquisitions, we may incur various costs and liabilities,
and we may never realize the anticipated benefits of the acquisitions.

If appropriate opportunities become available, we may acquire businesses,
products or technologies that we believe are strategically advantageous to our
business. Transactions of this sort could involve numerous risks, including:

o unforeseen operating difficulties and expenditures arising from the
process of integrating any acquired business, product or technology,
including the related personnel;

o diversion of a significant amount of management's attention from the
ongoing development of our business;

o dilution of existing stockholders' ownership interest in us;

o incurrence of additional debt;

o exposure to additional operational risk and liability, including
risks arising from the operating history of any acquired businesses;

o entry into markets and geographic areas where we have limited or no
experience;

o loss of key employees of any acquired companies;

o adverse effects on our relationships with suppliers and customers;
and

o adverse effects on the existing relationships of any acquired
companies, including suppliers and customers.

Furthermore, we may not be successful in identifying appropriate acquisition
candidates or consummating acquisitions on terms favorable or acceptable to us
or at all.

When we acquire businesses, products or technologies, our due diligence reviews
are subject to inherent uncertainties and may not reveal all potential risks. We
may therefore fail to discover or inaccurately assess undisclosed or contingent
liabilities, including liabilities for which we may have responsibility as a
successor to the seller or the target company. As a successor, we may be
responsible for any past or continuing violations of law by the seller or the
target company, including violations of decency laws. Although we generally
attempt to seek contractual protections, such as representations and warranties
and indemnities, we cannot be sure that we will obtain such provisions in our
acquisitions or that such provisions will fully protect us from all unknown,
contingent or other liabilities or costs. Finally, claims against us relating to
any acquisition may necessitate our seeking claims against the seller for which
the seller may not indemnify us or that may exceed the scope, duration or amount
of seller's indemnification obligations.

Our significant debt could adversely affect our business, financial condition or
results of operations.

We have a significant amount of debt. As of December 31, 2004, we had $46.7
million in cash and cash equivalents and $80.0 million of total financing
obligations outstanding, consisting of the 11% senior secured notes due 2010
issued by Holdings. In addition, we have a $30.0 million revolving credit
facility. As of December 31, 2004, there were no borrowings and $10.0 million in
letters of credit outstanding under this facility.

On February 22, 2005, Holdings commenced an offer to purchase for cash all $80.0
million of the outstanding senior secured notes. In connection with the tender
offer, consents from holders of the senior secured notes are being solicited for
certain amendments which would eliminate substantially all of the restrictive
covenants and certain events of default and would release all of the related
guarantees and collateral. The consent solicitation will expire on March 7,
2005, unless extended or earlier terminated. The tender offer will expire on
March 22, 2005, unless extended or earlier terminated. The total amount of funds
required to purchase all of the senior secured notes and make consent payments,
to pay accrued and unpaid interest on the senior secured notes, and pay all fees
and expenses in connection with the tender offer and consent solicitation is
expected to be approximately $100.0 million, assuming all senior secured notes
are validly tendered and not withdrawn prior to the consent deadline. We expect
to fund the tender offer and consent solicitation from various sources, which
may include available cash, borrowings under our existing credit facility, new
debt financing, or a combination of these sources. As a result, even if the
tender offer and the related financing are successfully completed, we will
continue to have a significant amount of debt. Completion of the tender offer
and consent solicitation is subject to the satisfaction of certain conditions,
including (i) receipt of valid tenders for at least 66-2/3% of the principal
amount of outstanding senior secured notes and (ii) completion of a financing
having gross proceeds of at least $90.0 million. The tender offer and consent
solicitation may be amended, extended or, under certain circumstances,
terminated. There can be no assurance that that we will complete the tender
offer and consent solicitation.

20

Although our existing and future debt instruments may have some limitations on
the incurrence of additional debt, these restrictions are or would be subject to
a number of qualifications and exceptions and, under some circumstances, we
could incur substantial debt and comply with the restrictions. The amount of our
existing and future debt could adversely affect us in a number of ways,
including the following:

o we may be unable to obtain additional financing for working capital,
capital expenditures, acquisitions and general corporate purposes;

o debt-service requirements could reduce the amount of cash we have
available for other purposes;

o we could be disadvantaged as compared to our competitors, such as in
our ability to adjust to changing market conditions; and

o we may be restricted in our ability to make strategic acquisitions
and to exploit business opportunities.

Our ability to make payments of principal and interest on our debt depends upon
our future performance, general economic conditions and financial, business and
other factors affecting our operations, many of which are beyond our control. If
we are not able to generate sufficient cash flow from operations in the future
to service our debt, including our obligations under the notes, we may be
required, among other things:

o to seek additional financing in the debt or equity markets;

o to refinance or restructure all or a portion of our debt, including
the notes; and/or

o to sell assets.

These measures might not be sufficient to enable us to service our debt. In
addition, any such financing, refinancing or sale of assets might not be
available on economically favorable terms.

The terms of our existing credit facility and the indenture governing the senior
secured notes impose restrictions on us that may affect our ability to
successfully operate our business.

Our existing credit facility and the indenture governing the senior secured
notes contain covenants that limit our actions. These covenants could materially
and adversely affect our ability to finance our future operations or capital
needs or to engage in other business activities that may be in our best
interests. The covenants limit our ability to, among other things:

o incur or guarantee additional indebtedness;

o pay dividends or make other distributions on capital stock;

o repurchase capital stock;

o make loans and investments;

o enter into agreements restricting our subsidiaries' ability to pay
dividends;

o create liens;

o sell or otherwise dispose of assets;

o enter new lines of business;

o merge or consolidate with other entities; and

o engage in transactions with affiliates.

The credit facility also contains financial covenants requiring us to maintain
specified minimum net worth and interest coverage ratios.

Our ability to comply with these covenants and requirements may be affected by
events beyond our control, such as prevailing economic conditions and changes in
regulations, and if such events occur, we cannot be sure that we will be able to
comply.

We depend on our key personnel.

We believe that our ability to successfully implement our business strategy and
to operate profitably depends on the continued employment of some of our senior
management team. If these members of the management team become unable or
unwilling to continue in their present positions, our business, financial
condition or results of operations could be materially adversely affected.

21

Ownership of Playboy Enterprises, Inc. is concentrated.

As of December 31, 2004, Hugh M. Hefner beneficially owned approximately 69.53%
of our Class A common stock. As a result, given that our Class B common stock is
non-voting, Mr. Hefner possesses significant influence over us on all matters,
including the election of directors as well as transactions involving a
potential change of control. Mr. Hefner may support, and cause us to pursue,
strategies and directions with which holders of our securities disagree. The
concentration of our share ownership may delay or prevent a change in control;
impede a merger, consolidation, takeover, or other transaction involving us; or
discourage a potential acquirer from making a tender offer or otherwise
attempting to obtain control of us.

Future sales or issuances of equity could depress the market price of our common
stock and be dilutive and affect our ability to raise funds through equity
issuances.

If our stockholders sell substantial amounts of our common stock or we issue
substantial additional amounts of our equity securities, or there is a belief
that such sales or issuances could occur, the market price of our common stock
could fall. These factors could also make it more difficult for us to raise
funds through future offerings of equity securities. In July 2001, we acquired
The Hot Network, The Hot Zone and the related television assets of Califa
Entertainment Group, Inc., or Califa, and the Vivid TV network and related
television assets of V.O.D., Inc., or VODI, which we refer to as the Califa
acquisition. In connection with the Califa acquisition, we are obligated to make
remaining payments totaling approximately $27.8 million over the next seven
years. We have the option to pay up to $21.0 million of these scheduled payments
in cash or shares of our Class B common stock. In addition, we may be obligated
to pay cash or issue additional shares to the sellers in the Califa acquisition
as make-whole payments or as interest on unpaid portions of the purchase price.
The obligation to make these payments would arise in the event that we opt to
make scheduled payments by issuing shares of our Class B common stock and the
shares are not registered under the Securities Act of 1933, as amended, in a
timely fashion or the proceeds from the sale of the shares to the sellers in the
Califa acquisition are less than the aggregate value of those shares at the time
of their issuance. The number of shares issued in satisfaction of each payment
will be based on the market price of Class B common stock surrounding the
payment dates. In addition, in the event that Playboy.com does not satisfy its
obligations to redeem its Series A Preferred Stock for an amount equal to its
original issue price of $10.0 million, which increases 8% per annum, compounded
annually, from the date of issuance in August 2001 until its redemption at the
option of the holder at any time after August 2006, we are obligated to satisfy
these obligations, at our election, in cash, shares of Class B common stock or
any combination of the two.

As a result of the potential issuance of shares pursuant to the Califa
acquisition and the contingent redemption obligations or surrender of the
Playboy.com Series A Preferred Stock, each as described above, a substantial
number of additional shares of Class B common stock could be issued in the
future. We are obligated to register these shares upon issuance and they would
therefore become freely tradable, subject to our right to suspend sales in
certain circumstances, and in the case of shares issued to the former owners of
Califa and VODI, on contractual volume limitations. See Note (B) Acquisition to
Notes to Consolidated Financial Statements for further information regard the
Califa acquisition.

22

Item 2. Properties

Location Primary Use
- -------- -----------

Office Space Leased:

Chicago, Illinois This space serves as our corporate
headquarters and is used by all of our
operating groups and executive and
administrative personnel.

Los Angeles, California This space serves as our Entertainment
Group's headquarters and is utilized by
executive and administrative personnel.

New York, New York This space serves as our Publishing and
Licensing Groups' headquarters, and a
limited amount of space used by the
Entertainment Group and executive and
administrative personnel.

London, England This space is used by our Playboy TV UK
operations and executive and
administrative personnel.

Operations Facilities Leased:

Los Angeles, California This space is used by our Entertainment
Group as a centralized digital,
technical and programming facility. We
also utilize parts of this facility to
handle similar functions for other
clients.

Santa Monica, California This space is used by our Publishing
Group as a photography studio and
offices.

London, England This space is used by Playboy TV UK as a
programming operation.

Property Owned:

Los Angeles, California The Playboy Mansion is used for various
corporate activities, including serving
as a valuable location for video
production, magazine photography and for
online, advertising and sales events. It
also enhances our image as host for many
charitable and civic functions.

We have subleased a portion of our excess office space and are working to
sublease or terminate our remaining excess office space as a result of our
restructuring efforts.

23

Item 3. Legal Proceedings

On February 17, 1998, Eduardo Gongora, or Gongora, filed suit in state
court in Hidalgo County, Texas against Editorial Caballero SA de CV, or EC,
Grupo Siete International, Inc., or GSI, collectively the Editorial Defendants,
and us. In the complaint, Gongora alleged that he was injured as a result of the
termination of a publishing license agreement, or the License Agreement, between
us and EC for the publication of a Mexican edition of Playboy magazine, or the
Mexican Edition. We terminated the License Agreement on or about January 29,
1998 due to EC's failure to pay royalties and other amounts due us under the
License Agreement. On February 18, 1998, the Editorial Defendants filed a
cross-claim against us. Gongora alleged that in December 1996 he entered into an
oral agreement with the Editorial Defendants to solicit advertising for the
Mexican Edition to be distributed in the United States. The basis of GSI's
cross-claim was that it was the assignee of EC's right to distribute the Mexican
Edition in the United States and other Spanish-speaking Latin American countries
outside of Mexico. On May 31, 2002, a jury returned a verdict against us in the
amount of approximately $4.4 million. Under the verdict, Gongora was awarded no
damages. GSI and EC were awarded $4.1 million in out-of-pocket expenses and
approximately $0.3 million for lost profits, respectively, even though the jury
found that EC had failed to comply with the terms of the License Agreement. On
October 24, 2002, the trial court signed a judgment against us for $4.4 million
plus pre- and post-judgment interest and costs. On November 22, 2002, we filed
post-judgment motions challenging the judgment in the trial court. The trial
court overruled those motions and we are vigorously pursuing an appeal with the
State Appellate Court sitting in Corpus Christi challenging the verdict. We have
posted a bond in the amount of approximately $8.5 million (which represents the
amount of the judgment, costs and estimated pre- and post-judgment interest) in
connection with the appeal. We, on advice of legal counsel, believe that it is
not probable that a material judgment against us will be sustained. In
accordance with Statement of Financial Accounting Standards, or Statement, 5,
Accounting for Contingencies, no liability has been accrued.

On May 17, 2001, Logix Development Corporation, or Logix, D. Keith
Howington and Anne Howington filed suit in state court in Los Angeles County
Superior Court in California against Spice Entertainment Companies, Inc., or
Spice, Emerald Media, Inc., or EMI, Directrix, Inc., or Directrix, Colorado
Satellite Broadcasting, Inc., New Frontier Media, Inc., J. Roger Faherty, or
Faherty, Donald McDonald, Jr., and Judy Savar. On February 8, 2002, plaintiffs
amended the complaint and added as a defendant Playboy, which acquired Spice in
1999. The complaint alleged 11 contract and tort causes of action arising
principally out of a January 18, 1997 agreement between EMI and Logix in which
EMI agreed to purchase certain explicit television channels broadcast over
C-band satellite. The complaint further sought damages from Spice based on
Spice's alleged failure to provide transponder and uplink services to Logix.
Playboy and Spice filed a motion to dismiss the plaintiffs' complaint. After
pre-trial motions, Playboy was dismissed from the case and a number of causes of
action were dismissed against Spice. A trial date for the remaining breach of
contract claims against Spice was set for December 10, 2003, and then continued,
first to February 11, 2004 and then to March 17, 2004. Spice and the plaintiffs
filed cross-motions for summary judgment or, in the alternative, for summary
adjudication, on September 5, 2003. Those motions were heard on November 19,
2003 and were denied. In February 2004, prior to the trial, Spice and the
plaintiffs agreed to a settlement in the amount of $8.5 million, which we
recorded as a charge in the fourth quarter of 2003, $6.5 million of which was
paid in 2004 and $1.0 million in 2005. The remaining $1.0 million will be paid
in 2006.

On April 12, 2004, Faherty filed suit in the United States District Court
for the Southern District of New York against Spice, Playboy, Playboy
Enterprises International, Inc., or PEII, D. Keith Howington, Anne Howington and
Logix. The complaint alleges that Faherty is entitled to statutory and
contractual indemnification from Playboy, PEII and Spice with respect to defense
costs and liabilities incurred by Faherty in the litigation described in the
preceding paragraph, or the Logix litigation. The complaint further alleges that
Playboy, PEII, Spice, D. Keith Howington, Anne Howington and Logix conspired to
deprive Faherty of his alleged right to indemnification by excluding him from
the settlement of the Logix litigation. On June 18, 2004, a jury entered a
special verdict finding Faherty personally liable for $22.5 million in damages
to the plaintiffs in the Logix litigation. A judgment was entered on the verdict
on or around August 2, 2004. Faherty filed post-trial motions for a judgment
notwithstanding the verdict and a new trial, but these motions were both denied
on or about September 21, 2004. On October 20, 2004, Faherty filed a notice of
appeal from the verdict. In consideration of this appeal Faherty and Playboy
have agreed to seek a temporary stay of the indemnification action filed in the
United States District Court for the Southern District of New York. In the event
Faherty's indemnification and conspiracy claims go forward against us, we
believe they are without merit and that we have good defenses against them. As
such, based on the information known to us to date, we do not believe that it is
probable that a material judgment against us will result. In accordance with
Statement 5, Accounting for Contingencies, no liability has been accrued.

24

On September 26, 2002, Directrix filed suit in the U.S. Bankruptcy Court
in the Southern District of New York against Playboy Entertainment Group, Inc.
In the complaint, Directrix alleged that it was injured as a result of the
termination of a Master Services Agreement under which Directrix was to perform
services relating to the distribution, production and post production of our
cable networks and a sublease agreement under which Directrix would have
subleased office, technical and studio space at our Los Angeles, California
production facility. Directrix also alleged that we breached an agreement under
which Directrix had the right to transmit and broadcast certain versions of
films through C-band satellite, commonly known as the TVRO market, and Internet
distribution. On November 15, 2002, we filed an answer denying Directrix's
allegations, along with counterclaims against Directrix relating to the Master
Services Agreement and seeking damages. On May 15, 2003, we filed an amended
answer and counterclaims. On July 30, 2003, Directrix moved to dismiss one of
the amended counterclaims, and on October 20, 2003, the Court denied Directrix's
motion. The parties are engaged in discovery. We believe that we have good
defenses against Directrix's claims. We believe it is not probable that a
material judgment against us will result. In accordance with Statement 5,
Accounting for Contingencies, no liability has been accrued.

In the fourth quarter of 2004, we received a $5.6 million insurance
recovery partially related to the prior year litigation settlement with Logix.

Item 4. Submission of Matters to a Vote of Security Holders

None.

PART II

Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and
Issuer Purchases of Equity Securities

Stock price information, as reported in the New York Stock Exchange
Composite Listing, is set forth in Note (X) Quarterly Results of Operations
(Unaudited) of Notes to Consolidated Financial Statements. Our securities are
traded on the exchanges listed on the cover page of this Form 10-K Annual Report
under the ticker symbols PLA A (Class A voting) and PLA (Class B nonvoting). At
February 28, 2005, there were 3,387 and 5,691 holders of record of Class A and
Class B common stock, respectively. There were no cash dividends declared during
2004, 2003 and 2002. Our revolving credit facility and the indenture related to
the senior secured notes we issued in March 2003 have limitations related to the
payment of dividends.

Other information required under this Item is contained in our Notice of
Annual Meeting of Stockholders and Proxy Statement, or collectively, the Proxy
Statement (to be filed), relating to the Annual Meeting of Stockholders to be
held in May 2005, which will be filed within 120 days after the close of our
fiscal year ended December 31, 2004, and is incorporated herein by reference.

25

Item 6. Selected Financial Data (1)
(in thousands, except per share amounts,
number of employees and ad pages)

Fiscal Year Fiscal Year Fiscal Year Fiscal Year Fiscal Year
Ended Ended Ended Ended Ended
12/31/04 12/31/03 12/31/02 12/31/01 12/31/00
- -----------------------------------------------------------------------------------------------------------------------------------

Selected financial data (2)
Net revenues $ 329,376 $ 315,844 $ 277,622 $ 287,583 $ 303,360
Interest expense, net (13,687) (15,946) (15,022) (13,184) (7,629)
Income (loss) from continuing operations before
cumulative effect of change in accounting principle 9,989 (7,557) (17,135) (29,323) (47,626)
Net income (loss) 9,989 (7,557) (17,135) (33,541) (47,626)
Net income (loss) applicable to common shareholders 9,561 (8,450) (17,135) (33,541) (47,626)
Basic and diluted earnings (loss) per common share
Income (loss) from continuing operations before
cumulative effect of change in accounting principle 0.30 (0.31) (0.67) (1.20) (1.96)
Net income (loss) 0.30 (0.31) (0.67) (1.37) (1.96)
EBITDA: (3)
Net income (loss) 9,989 (7,557) (17,135) (33,541) (47,626)
Adjusted for:
Cumulative effect of change in accounting
principle -- -- -- 4,218 --
Income tax expense 3,845 4,967 8,544 996 16,227
Interest expense 13,687 16,309 15,147 13,970 9,148
Depreciation and amortization 47,100 49,558 51,619 51,904 44,911
Amortization of deferred financing fees 1,266 1,407 993 905 840
Amortization of restricted stock awards 682 45 2,748 -- --
Equity in operations of investments 71 80 (279) 746 375
--------- --------- --------- --------- ---------
EBITDA $ 76,640 $ 64,809 $ 61,637 $ 39,198 $ 23,875
- -----------------------------------------------------------------------------------------------------------------------------------
At period end
Total assets $ 420,581 $ 418,060 $ 369,721 $ 426,240 $ 388,488
Long-term financing obligations $ 80,000 $ 115,000 $ 68,865 $ 78,017 $ 94,328
Shareholders' equity $ 168,450 $ 106,636 $ 87,815 $ 81,525 $ 114,185
Long-term financing obligations as a
percentage of total capitalization 32% 52% 44% 49% 45%
Number of common shares outstanding
Class A voting 4,864 4,864 4,864 4,864 4,859
Class B nonvoting 28,521 22,579 21,181 19,666 19,407
Number of full-time employees 645 592 581 610 686
- -----------------------------------------------------------------------------------------------------------------------------------
Selected operating data
Cash investments in Company-produced and
licensed entertainment programming $ 41,457 $ 44,727 $ 41,717 $ 37,254 $ 33,061
Cash investments in online content 2,317 2,436 4,434 4,739 6,200
---------------------------------------------------------------------
Total cash investments in programming and content 43,774 47,163 46,151 41,993 39,261
Amortization of investments in Company-produced
and licensed entertainment programming 41,695 40,603 40,626 37,395 33,253
Amortization of investments in content 2,317 2,436 4,434 4,739 6,200
---------------------------------------------------------------------
Total amortization of programming and content $ 44,012 $ 43,039 $ 45,060 $ 42,134 $ 39,453
Domestic TV household units (at period end): (4)
Playboy TV networks
DTH 24,400 21,600 19,200 18,100 15,400
Cable 21,800 21,400 19,700 18,100 14,200
Movie networks (5)
DTH 48,200 42,200 38,400 35,300 --
Cable 46,000 49,700 47,700 42,300 24,600
On-demand households:
VOD 5,000 1,600 1,500 -- --
SVOD 1,500 800 700 -- --
International TV household units (at period end) (4) 40,500 37,000 30,900 29,500 25,700
Playboy magazine ad pages 573 555 515 618 674
- -----------------------------------------------------------------------------------------------------------------------------------

26

For a more detailed description of our financial position, results of operations
and accounting policies, please refer to Part II. Item 7. "MD&A" and Part II.
Item 8. "Financial Statements and Supplementary Data."

(1) Certain amounts reported for prior periods have been reclassified to
conform to the current year's presentation.

(2) There were no cash dividends declared on Class A or B common stock during
the periods presented.

(3) EBITDA represents earnings from continuing operations before interest
expense, income taxes, cumulative effect of change in accounting
principle, depreciation of property and equipment, amortization of
intangible assets, amortization of investments in entertainment
programming, amortization of deferred financing fees, expenses related to
the vesting of restricted stock awards and equity in operations of
investments. We evaluate our operating results based on several factors,
including EBITDA. We consider EBITDA an important indicator of the
operational strength and performance of our ongoing businesses, including
our ability to provide cash flows to pay interest, service debt and fund
capital expenditures. EBITDA eliminates the uneven effect across business
segments of noncash depreciation of property and equipment and
amortization of intangible assets. Because depreciation and amortization
are noncash charges, they do not affect our ability to service debt or
make capital expenditures. EBITDA also eliminates the impact of how we
fund our businesses and the effect of changes in interest rates, which we
believe relate to general trends in global capital markets but are not
necessarily indicative of our operating performance. Finally, EBITDA is
used to determine compliance with some of our credit facilities. EBITDA
should not be considered an alternative to any measure of performance or
liquidity under accounting principles generally accepted in the United
States, or GAAP. Similarly, EBITDA should not be inferred as more
meaningful than any of those measures.

(4) Each household unit is defined as one household carrying one given network
per carriage platform. A single household can represent multiple household
units if two or more of our networks and/or multiple platforms (i.e.
digital and analog) are available to that household.

(5) We acquired three networks in July 2001 in connection with the Califa
acquisition.

27

Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations

OVERVIEW

Since our inception in 1953 as the publisher of Playboy magazine, we have
become a world leader in the development and distribution of multimedia
entertainment for adult audiences. Today, our businesses are classified into
three reportable segments: Entertainment, Publishing and Licensing. In the
fourth quarter of 2004, we announced the realignment of our existing Online and
Entertainment segments into a combined Entertainment Group. The new operating
structure is designed to streamline operations, maximize return on content
creation and increase responsiveness to customers. Prior periods have been
restated to reflect the realignment of our reportable segments.

The following discussion and analysis provides information which
management believes is relevant to an assessment and understanding of our
results of operations and financial condition. The discussion should be read in
conjunction with the financial statements and the accompanying notes.

REVENUES

Today we generate most of our Entertainment Group revenues from PPV fees
for our television network offerings, including Playboy TV and Spice branded
domestic and international networks. Our network revenues are affected by
marketing and retail price, which are controlled by the distributors, our
revenue splits with distributors, which are negotiated, and the demand for our
programming. We believe TV revenues will increasingly be generated from VOD and
SVOD technologies. Internationally, we own and operate or license 22 Playboy,
Spice and locally branded TV and movie networks, and we have equity interests in
seven additional networks through joint ventures. We also receive licensing fees
from Playboy websites outside of the United States. Subscription revenues from
our multiple club websites, which offer unique Playboy or Spice branded content,
e-commerce sales of Playboy and Spice branded and other consumer products, both
online and through direct mail, and fees from licensing our content to wireless
providers also contribute to Entertainment Group revenues. Other Entertainment
Group revenues include the sale of DVDs and home videos, website advertising and
online gaming.

The majority of our Publishing Group revenues are derived from
circulation, both subscription and newsstand sales, of Playboy magazine and
special editions. Additionally, the group generates advertising sales from
Playboy magazine, as well as royalties on circulation and advertising, from our
17 licensed international editions. Our subscription revenues are fairly
consistent, while newsstand sales fluctuate and are typically higher for issues
containing celebrity pictorials or other special content, such as articles or
interviews. The group's revenues fluctuate with the general condition of the
local and national economy, which impacts newsstand sales as well as advertising
buying patterns. Revenues can also fluctuate when we increase the price of
holiday or other special issues and issues containing major celebrities.

Licensing Group revenues are principally generated from royalties received
for the international and domestic licensing of our brand on consumer and
entertainment products as well as periodic auction sales of small portions of
our art and memorabilia collection. In the future, revenues will also be
generated from location-based entertainment projects.

28

COSTS AND OPERATING EXPENSES

Entertainment Group expenses include programming amortization, online
content, network distribution, hosting, sales and marketing and administrative
expenses as well as trademark license and administrative fees to the parent
company. Amortization and content expenses relate to the expenditures associated
with the creation of Playboy programming, the licensing of third-party
programming for our movie networks and the creation of online content for our
websites.

Publishing Group expenses include manufacturing, subscription promotion,
editorial, shipping and administrative expenses. Manufacturing, which includes
the production of the magazine, represents the largest cost of the group and
fluctuates by issue due mainly to the cost of paper and the number of pages in
the magazine. Postage is also a major cost.

Licensing Group expenses include agency fees and promotional and
administrative expenses.

Corporate Administration and Promotion expenses include general corporate
costs such as technology, legal, security, human resources, finance, investor
relations and Company-wide marketing, communications and promotion, including
expenses related to the Playboy Mansion.

29

RESULTS OF OPERATIONS

The following table represents our results of operations (in millions, except
per share amounts):

Fiscal Year Fiscal Year Fiscal Year
Ended Ended Ended
12/31/04 12/31/03 12/31/02
- ----------------------------------------------------------------------------------------------------------------

Net revenues
Entertainment
Domestic TV networks $ 96.9 $ 95.3 $ 94.4
International 45.3 37.9 19.1
Online subscriptions 21.5 18.2 11.0
E-Commerce 18.7 16.8 14.4
Other 6.8 7.5 13.7
- ----------------------------------------------------------------------------------------------------------------
Total Entertainment 189.2 175.7 152.6
- ----------------------------------------------------------------------------------------------------------------
Publishing
Playboy magazine 101.5 102.0 94.7
Other domestic publishing 11.9 13.0 11.7
International publishing 6.4 5.7 5.4
- ----------------------------------------------------------------------------------------------------------------
Total Publishing 119.8 120.7 111.8
- ----------------------------------------------------------------------------------------------------------------
Licensing
International licensing 12.1 8.0 5.6
Domestic licensing 3.0 3.2 3.3
Entertainment licensing 2.0 1.4 0.5
Marketing events 3.0 2.9 2.8
Other 0.3 3.9 1.0
- ----------------------------------------------------------------------------------------------------------------
Total Licensing 20.4 19.4 13.2
- ----------------------------------------------------------------------------------------------------------------
Total net revenues $ 329.4 $ 315.8 $ 277.6
================================================================================================================
Net income (loss)
Entertainment
Before programming amortization and online content expenses $ 77.1 $ 73.9 $ 68.5
Programming amortization and online content expenses (44.0) (43.0) (45.1)
- ----------------------------------------------------------------------------------------------------------------
Total Entertainment 33.1 30.9 23.4
- ----------------------------------------------------------------------------------------------------------------
Publishing 6.2 5.2 2.7
- ----------------------------------------------------------------------------------------------------------------
Licensing 10.5 10.3 4.6
- ----------------------------------------------------------------------------------------------------------------
Corporate Administration and Promotion (18.2) (16.6) (15.8)
- ----------------------------------------------------------------------------------------------------------------
Total segment income 31.6 29.8 14.9
Restructuring expenses (0.7) (0.3) (6.6)
Gain on disposal -- -- 0.4
- ----------------------------------------------------------------------------------------------------------------
Operating income 30.9 29.5 8.7
- ----------------------------------------------------------------------------------------------------------------
Nonoperating income (expense)
Investment income 0.6 0.4 0.1
Interest expense (13.7) (16.3) (15.1)
Amortization of deferred financing fees (1.3) (1.4) (1.0)
Minority interest (1.4) (1.7) (1.7)
Equity in operations of investments (0.1) (0.1) 0.3
Insurance/litigation settlement 5.6 (8.5) --
Debt extinguishment expenses (5.9) (3.3) --
Vendor settlement -- -- 0.7
Other, net (0.9) (1.2) (0.6)
- ----------------------------------------------------------------------------------------------------------------
Total nonoperating expense (17.1) (32.1) (17.3)
- ----------------------------------------------------------------------------------------------------------------
Income (loss) before income taxes 13.8 (2.6) (8.6)
Income tax expense (3.8) (5.0) (8.5)
- ----------------------------------------------------------------------------------------------------------------
Net income (loss) $ 10.0 $ (7.6) $ (17.1)
================================================================================================================

Net income (loss) $ 10.0 $ (7.6) $ (17.1)
Dividend requirements of preferred stock (0.4) (0.9) --
- ----------------------------------------------------------------------------------------------------------------
Income (loss) applicable to common shareholders $ 9.6 $ (8.5) $ (17.1)
================================================================================================================

Basic and diluted earnings (loss) per common share $ 0.30 $ (0.31) $ (0.67)
================================================================================================================

30

2004 COMPARED TO 2003

Our revenues increased approximately $13.6 million, or 4%, compared to the
prior year primarily due to higher revenues from our Entertainment Group.

Operating income increased $1.4 million in 2004 primarily due to improved
operating results from each of our groups, offset in part by higher planned
Corporate Administration and Promotion expenses.

Net income of $10.0 million for the current year included a $5.6 million
insurance recovery partially related to a charge recorded in the prior year for
a litigation settlement with Logix. The current year included $5.9 million of
debt extinguishment expenses related to the second quarter bond redemption,
comprised of $3.9 million for the bond redemption premium and approximately $2.0
million for the non-cash write-off of the related deferred financing costs. The
previous year included $3.3 million of debt extinguishment expenses related to
prior financing obligations, which were paid upon completion of our debt
offering in 2003, as well as an $8.5 million charge for the litigation
settlement mentioned above.

Entertainment Group

The following discussion focuses on the profit contribution of each of our
Entertainment Group businesses before programming amortization and online
content expenses.

Revenues from our domestic TV networks business increased $1.6 million, or
2%, for 2004. This improvement resulted from both a $2.2 million increase in DTH
revenues related to subscriber growth and a $2.2 million increase in VOD
revenues, due to the rollout of VOD service in additional cable systems. The
2004 launch of Playboy Hot HD and revenues associated with renting our studio
facility and providing various related services to third parties also
contributed favorably to revenues. The revenue increases were partially offset
by a decrease in PPV buys as cable companies are migrating consumers from linear
channels to VOD. Additionally, certain affiliates of Time Warner Cable Inc., or
Time Warner, one of our MSOs, replaced our movie networks with other adult
programming before we signed a new carriage agreement with Time Warner in July.
We have regained some of our market share via VOD, and the Time Warner deal
guarantees us a majority of the adult VOD shelf space on its systems. The second
quarter of 2004 was also negatively impacted by a one-time $1.5 million
unfavorable adjustment to movie network revenues from an unanticipated
retroactive rate reduction related to the 2002 acquisition of one large MSO by
another.

Profit contribution for domestic TV networks increased $0.2 million, or
0.3%, for the year, as the revenue activity described above was mostly offset by
higher distribution and overhead costs related to the operation of our
production facility, combined with increased marketing, promotional and legal
expenditures.

In 2005, we anticipate growth opportunities in our domestic TV business to
result from expected increases in digital home coverage and from the further
rollout of VOD and SVOD. We anticipate this growth despite the ongoing decline
of traditional, linear networks and a difficult negotiating environment with
cable and satellite distributors as a result of industry consolidation.

International revenues increased $7.4 million, or 20%, in 2004 primarily
attributable to higher DTH and cable revenues in the U.K. of approximately $6.6
million resulting from the launch of three new channels and the impact of
foreign currency. Higher international online revenues of approximately $0.8
million also contributed to the increase. Profit contribution from our
international business increased $2.1 million, or 13%, in 2004 based on the
higher revenues and offset in part by higher direct and overhead costs related
to the launch of the three new U.K. channels.

Online subscription revenues increased $3.3 million, or 18%, in 2004 due
to an increase in average monthly subscribers and an increase in our revenues
per subscriber as more customers continue to choose video-rich offerings via
broadband. Higher costs of sales and technology costs partially offset the
revenue increase.

E-commerce revenues increased $1.9 million, or 11%, in 2004 due to
increased catalog circulation combined with increased email campaigns. Profit
contribution from e-commerce was partially impacted by higher marketing and
circulation costs.

Profit contribution from other businesses increased $0.4 million, or 30%,
in 2004 due to a one-time $1.1 million favorable adjustment in the current year
from the reversal of an accrual recorded in 2001 and 2002 related to the
termination of a service agreement. Growth in our online advertising and online
gaming businesses also contributed to the increase. These increases were mostly
offset by a decrease in worldwide DVD profit contribution of $1.2 million, or
83%, as a result of fewer titles released in the current year combined with an
increase in marketing expenses.

31

The group's administrative expenses increased 6% in 2004 mainly due to a
contractually obligated severance charge combined with higher legal expenses.
The group's results included net fees of $5.4 million in both 2004 and 2003 from
Playboy.com to Corporate Administration and Promotion and the Publishing Group
for the use of the parent company's trademarks and content.

Programming amortization and online content expenses increased $1.0
million, or 2%, compared to the prior year due to the mix of programming. In
2005, we anticipate a reduction in programming investments due partially to our
strategic decision to focus on VOD and SVOD programming, which requires us to
supply less programming to MSOs.

Segment income for the group increased $2.2 million, or 8%, mainly due to
the previously mentioned higher operating income from each of our lines of
business, partially offset by increased administration and programming
amortization expense.

Publishing Group

Playboy magazine revenues decreased $0.5 million, or 1%, in 2004.
Newsstand revenues in 2004 were $1.7 million lower principally due to more
celebrity issues plus the 50th Anniversary issue which sold at higher cover
prices in the prior year combined with a decrease in the number of U.S. and
Canadian newsstand copies sold and higher display costs in the current year.
Subscription revenues increased $1.1 million primarily due to a favorable
adjustment for subscriptions that will not be served, higher net subscription
revenue per copy as a result of a higher proportion of direct-to-publisher
subscriptions, higher list rental revenues and a favorable bad debt reserve
adjustment. A slight decrease in the number of subscription copies served
partially offset the above-mentioned revenue increases. Advertising pages
increased slightly while net revenue per page decreased slightly, resulting in
flat advertising revenues, as expected, mostly due to the favorable impact of
the Playboy 50th Anniversary issue in the prior year. Advertising sales for the
2005 first quarter magazine issues are closed, and we expect to report 1% higher
advertising pages and 9% lower advertising revenues compared to the 2004 first
quarter as a result of a soft first quarter.

Revenues from our other domestic publishing businesses decreased $1.1
million, or 8%, primarily due to fewer copies sold and higher display costs for
special editions. Two fewer calendars published in the current year also
contributed to the decline, which was offset by higher royalties from books.

International publishing revenues increased $0.7 million, or 13%,
primarily due to higher revenues from several international editions.

The group's segment income increased $1.0 million in 2004 primarily due to
lower manufacturing and promotion costs as a result of the 50th Anniversary
issue combined with the costs associated with moving our editorial functions
from Chicago to New York in the prior year. Partially offsetting the impact of
these lower costs were higher editorial costs related to celebrity pictorials in
the current year and the lower revenues discussed above.

Our circulation rate base for the six months ended December 31, 2004 was
3.15 million. According to ABC, our circulation was 1.1% below our circulation
rate base for 2004.

In 2005, we expect significantly higher paper costs combined with higher
subscription acquisition expenses to meaningfully decrease group profitability.

Licensing Group

Licensing Group revenues increased $1.0 million, or 5%, in 2004 mainly due
to higher royalties from our international and entertainment products
businesses. International revenues increased $4.1 million, or 51%, due to new
licensee agreements in addition to higher royalties from existing licensees in
Japan, Europe, Southeast Asia and Australia. Entertainment licensing revenues
increased $0.6 million, or 50%, primarily due to higher royalties from our
Bally's slot machine deal. Other revenues were $3.6 million lower than last
year, due to the sale of an original Salvador Dali painting and 50th Anniversary
auction of art, manuscripts and memorabilia in 2003.

Segment income for the Licensing Group in 2004 increased $0.2 million, or
1%, on the above-mentioned net revenue increase.

In the first quarter of 2004, we sold our Sarah Coventry trademarks and
service marks for their approximate book value, pursuant to an agreement under
which we will receive payments over a period not to exceed ten years.

32

Corporate Administration and Promotion

Corporate Administration and Promotion expenses for 2004 increased $1.6
million, or 10%, which was less than the expected increase and was related to
higher salary, marketing, consulting and legal expenses.

Restructuring Expenses

In 2004, we recorded a restructuring charge of $0.5 million related to the
realignment of our entertainment and online businesses. In addition, we recorded
additional charges of $0.4 million related to the 2002 restructuring plan, due
to excess office space, and reversed $0.2 million related to the 2001
restructuring plan as a result of changes in plan assumptions. Of the total
costs related to all our restructuring plans, approximately $9.0 million was
paid by December 31, 2004, with most of the remainder to be paid in 2005;
however, some payments continue through 2007.

In 2003, primarily due to excess space in our Chicago office, we recorded
unfavorable adjustments of $0.1 million and $0.2 million to the previous
estimates related to the 2002 and 2001 restructuring plans, respectively.

In 2002, we recorded a $5.7 million restructuring charge, of which $2.9
million related to the termination of employees and $2.8 million related to the
consolidation of our office spaces in Los Angeles and Chicago.

In 2001, we implemented a restructuring plan that included a reduction in
workforce coupled with vacating portions of certain office spaces. Total
restructuring charges of $4.6 million were recorded, including $0.9 million
recorded in 2002 as an unfavorable adjustment to the original estimate. Of the
$4.6 million, $2.6 million related to the termination of employees and $2.0
million related to the excess office spaces in Chicago and New York.

The following table displays the activity and balances of the
restructuring reserve account for the years ended December 31, 2004, 2003 and
2002 (in thousands):

Consolidation
Workforce of Facilities and
Reduction Operations Total
- -------------------------------------------------------------------------------
Balance at December 31, 2001 $ 1,579 $ 1,142 $ 2,721
Additional reserve recorded 2,938 2,799 5,737
Write-off leasehold improvements -- (437) (437)
Adjustment to previous estimate 100 806 906
Cash payments (1,845) (505) (2,350)
- -------------------------------------------------------------------------------
Balance at December 31, 2002 2,772 3,805 6,577
Additional reserve recorded -- -- --
Adjustment to previous estimate (168) 518 350
Cash payments (1,974) (1,760) (3,734)
- -------------------------------------------------------------------------------
Balance at December 31, 2003 630 2,563 3,193
Additional reserve recorded 466 -- 466
Adjustment to previous estimate -- 278 278
Cash payments (917) (1,014) (1,931)
- -------------------------------------------------------------------------------
Balance at December 31, 2004 $ 179 $ 1,827 $ 2,006
===============================================================================

Nonoperating Income (Expense)

In 2004, we recorded total nonoperating expense of $17.1 million compared
to $32.1 million in the prior year. The current year included a $5.6 million
insurance recovery partially related to an $8.5 million charge recorded in the
prior year for the Logix settlement. Lower interest expense as a result of the
debt restructuring also contributed to the decrease. See the Liquidity and
Capital Resources section for further information on the debt restructuring.
Debt extinguishment expenses of $5.9 million related to the redemption of $35.0
million aggregate principal amount of our senior secured notes from the proceeds
of our equity offering in the second quarter of 2004. In 2003, we incurred $3.3
million of debt extinguishment expenses related to the retirement of debt
obligations.

Income Taxes

Our effective income tax rate differs from U.S. statutory rates primarily
as a result of the reduction in the valuation allowance corresponding to the
utilization of our net operating loss carryforwards, the benefit from which was
partially offset by foreign income and withholding tax, for which no current
U.S. income tax benefit is recognized, and the deferred tax treatment of certain
indefinite-lived intangibles.

33

In 2004, we decreased the valuation allowance by $9.2 million, of which
$4.8 million was due to the reduction in the deferred tax asset related to 2004
net income and the remainder was primarily due to the expiration of a portion of
our capital loss carryforward and the deferred tax treatment of certain acquired
intangibles. In 2003, we increased the valuation allowance by $3.3 million, of
which $1.5 million was due to the deferred tax treatment of certain acquired
intangibles and the remainder was primarily due to the deferred tax asset
related to the 2003 net operating loss.

2003 COMPARED TO 2002

Our revenues increased approximately $38.2 million, or 14%, in 2003
compared to the prior year largely due to the restructuring of our international
TV joint ventures and the resulting consolidation of certain of these businesses
in our operating results. Higher newsstand and advertising revenues for the 50th
Anniversary issue combined with higher online subscription, e-commerce and
licensing revenues also contributed to the overall increase.

Operating income improved to $20.8 million, more than double the prior
year, largely due to the swing in profitability of our Internet businesses as a
result of growth in high-margin online subscription revenues. Increased Playboy
magazine revenues also contributed to the improvement. All groups reported
positive performance despite the expected decrease in worldwide DVD revenues and
operating income. Also affecting the comparison was a $6.6 million restructuring
charge taken in 2002 compared to a $0.3 million restructuring charge in 2003.

Net loss for 2003 included an $8.5 million charge related to a litigation
settlement with Logix as well as $3.3 million of debt extinguishment expenses in
connection with financing obligations, which were repaid upon completion of our
debt offering in the first quarter of 2003. In 2002, we recorded a $5.8 million
non-cash income tax charge related to our adoption of Statement 142, Goodwill
and Other Intangible Assets.

Entertainment Group

The following discussion focuses on the profit contribution of each of our
Entertainment Group businesses before programming amortization and online
content expenses.

Revenues from our domestic TV networks business increased $0.9 million, or
1%, for the year. The increase was due, in part, to increases in digital home
coverage; however, revenues continued to be negatively impacted by theft of
service, which we also believe is an area of focus for the DTH and cable
operators. We also believe that revenues have been impacted by customer
resistance to increases in total prices for services and the resulting
dissatisfaction with the overall value of digital service. In general, our
networks are digital services, carried by DTH and cable operators, and we are
therefore negatively affected by customer churn in digital cable. The year
reflected higher revenues related to Playboy TV en Espanol.

Profit contribution for our domestic TV networks increased $1.1 million,
or 2%, in 2003, which was impacted by lower amortization of intangibles acquired
in the 2001 Califa acquisition, offset in part by higher distribution costs and
overhead related to our first year in our new production facility. We also
utilized our studio to provide playback, production control and origination
services for third parties, which helped bring efficiencies and allowed us to
spread our fixed costs to operate the facility.

In December 2002, we completed the restructuring of the ownership of our
international TV joint ventures with Claxson. The restructuring resulted in our
acquiring full ownership of Playboy TV and movie networks outside of the United
States and Canada, other than Latin America and Iberia. The operating results of
these networks are now consolidated in our operating results. Prior to the
restructuring, we recorded only revenues from licensing and other fees in our
operating results. Under the terms of the restructuring transaction, we
increased our equity interest in networks in Europe and the Pacific Far East. We
retained our existing 19% ownership interest in the Playboy TV and Spice branded
networks in Latin America and Iberia and acquired the 19.9% equity in two
Japanese networks previously owned by PTVI. Profit contribution from our
international TV business increased on revenue increases of $19.1 million due to
the impact of revenue consolidation from the restructuring. The prior year
included $16.3 million in licensing fees from the PTVI joint venture, in which
we held a minority interest.

Revenues from our online subscription business increased $7.2 million, or
65%, due to growth in members and higher pricing of our various clubs, as well
as the launch of new clubs.

34

E-commerce revenues increased $2.4 million, or 17%, partly due to
increased catalog circulation and improved marketing strategy for the Spice
catalog, combined with increased email campaigns and special offers for
PlayboyStore.com.

Profit contribution from other businesses decreased $1.6 million, or 53%,
due in part to a revenue decrease from our worldwide DVD business of
approximately $5.0 million, or 47%. Revenues decreased due to fewer domestic
titles released compared to 2002, as expected, and due to the absence of
revenues from a large Korean contract, which were recorded in 2002. Lower online
advertising revenues, partially caused by our decision to internally utilize the
premium advertising space to drive traffic to our revenue generating websites,
also contributed to the decrease.

The group's administrative expenses increased mainly due to higher legal
expenses related to the litigation with Logix in 2003 that were incurred prior
to the settlement. The group's results included net fees of $5.4 million and
$5.6 million in 2003 and 2002, respectively, to Corporate Administration and
Promotion and the Publishing Group for use of the parent company's trademarks
and content.

Publishing Group

Playboy magazine revenues increased $7.3 million, or 8%, for 2003 due to
higher newsstand and advertising revenues. Newsstand revenues were $4.1 million
higher principally due to a 12% increase in the number of U.S. and Canadian
newsstand copies sold in 2003. Advertising revenues increased $3.7 million, or
12%, due to the sale of more ad pages, primarily from our 50th Anniversary
issue, combined with higher average net revenue per page. Subscription revenues
were essentially flat in 2003 compared to 2002.

Other domestic publishing revenues increased $1.3 million, or 11%, for
2003 compared to the prior year primarily due to higher revenues from sales of
special editions resulting from the full-year impact of the 2002 price
increases, which more than offset a decline in average copies sold per issue.

The group's segment income nearly doubled from $2.7 million in 2002 to
$5.2 million in 2003. Partially offsetting the revenue increases stated above
were higher magazine editorial costs due to celebrity pictorials and higher
advertising and promotion costs related to the 50th Anniversary issue, combined
with the costs associated with moving Playboy's editorial functions from Chicago
to New York.

Our circulation rate base was 3.15 million for the six months ended
December 31, 2003. According to ABC, our actual circulation was 1.6% below our
circulation rate base for 2003. We had an increase in newsstand circulation in
2003, at a time when our principal competitors reported decreases in newsstand
circulation.

Licensing Group

Segment income for 2003 from the Licensing Group increased $5.7 million,
or 126%, on a revenue increase of $6.2 million, or 47%. Higher brand licensing
royalties from our international and entertainment products businesses
contributed to the revenue increase. Revenues from the 50th Anniversary auction
of a portion of our collection of art, manuscripts, cartoons, photographs and
memorabilia, and the earlier auction of an original painting by Salvador Dali,
resulted in combined higher art revenues of $3.8 million in 2003 compared to
$0.9 million in 2002.

Corporate Administration and Promotion

Corporate Administration and Promotion expenses for 2003 increased $0.8
million, or 5%.

Restructuring Expenses

In 2003, primarily due to excess space in our Chicago office, we recorded
unfavorable adjustments of $0.1 million and $0.2 million to the previous
estimates related to the 2002 and 2001 restructuring plans, respectively. Of the
total costs related to these restructuring plans, approximately $7.1 million was
paid by December 31, 2003, with most of the remainder to be paid in 2004 and
some payments continuing through 2007.

35

In 2002, we announced a Company-wide restructuring initiative in order to
reduce our ongoing operating expenses. The restructuring resulted in a workforce
reduction of 70 positions, or approximately 11%. In connection with the
restructuring, we reported a $5.7 million charge in 2002, of which $2.9 million
related to the termination of 53 employees. The remaining positions were
eliminated through attrition. The initiative also involved consolidation of our
office spaces in Los Angeles and Chicago, resulting in a charge of $2.8 million.

In 2001, we implemented a restructuring plan in anticipation of a
continuing weak economy. The plan included a reduction in workforce coupled with
vacating portions of certain office spaces by combining operations for greater
efficiency, refocusing sales and marketing, outsourcing some operations and
reducing overhead expenses. Total restructuring charges of $4.6 million were
recorded, including $0.9 million recorded in 2002 as an unfavorable adjustment
to the original estimate. The adjustment was due primarily to a change in
sublease assumptions. The restructuring resulted in a workforce reduction of
approximately 15%, or 104 positions, through Company-wide layoffs and attrition.
Approximately half of these employees were in the Online Group. Of the $4.6
million charge, $2.6 million related to the termination of 88 employees. The
remaining positions were eliminated through attrition. The charge also included
$2.0 million related to the excess office spaces in Chicago and New York.

Gain on Disposals

In 2002, we sold our remaining 20% interest in VIPress, our Polish
publishing joint venture, resulting in a gain of $0.4 million.

Nonoperating Income (Expense)

In 2003, we recorded total nonoperating expense of $32.1 million compared
to $17.3 million in the prior year. The most significant component was interest
expense of $16.3 million, a $1.2 million increase from the prior year due
primarily to an overall increase in our debt at a higher interest rate. We also
recorded $8.5 million of expenses related to the settlement with Logix and $3.3
million of debt extinguishment expenses in connection with outstanding financing
obligations, which were paid upon completion of our debt offering in the first
quarter of 2003.

Income Taxes

In 2003, we increased the valuation allowance by $3.3 million, of which
$1.5 million was due to the deferred tax treatment of certain acquired
intangibles and the remainder was primarily due to the deferred tax asset
related to the 2003 net operating loss. Of the $14.6 million increase in the
valuation allowance in 2002, $7.1 million was due to the deferred tax treatment
of certain acquired intangibles as a result of the adoption of Statement 142,
Goodwill and Other Intangible Assets, and the remainder was primarily due to the
deferred tax asset related to the 2002 net operating loss.

LIQUIDITY AND CAPITAL RESOURCES

At December 31, 2004, we had $46.7 million in cash and cash equivalents
and $80.0 million in total financing obligations compared to $31.3 million in
cash and cash equivalents and $115.0 million in total financing obligations at
December 31, 2003.

Our cash position at December 31, 2004 increased from the prior year due
to cash provided from operations of approximately $16.4 million and the net
proceeds from our April 2004 public offering of Class B shares. We also have a
$30.0 million revolving credit facility, which was increased from $20.0 million
in September 2004. In addition, we amended the facility to extend the term to
September 2007 and to decrease the applicable margin by 1.0% on all borrowings
and letters of credit. At December 31, 2004, there were no borrowings and $10.0
million in letters of credit outstanding under this facility. We believe that
cash on hand and operating cash flows, together with funds available under our
credit facility and potential access to credit and capital markets, will be
sufficient to meet our operating expenses, capital expenditures and other
contractual obligations as they become due.

On April 26, 2004, we completed a public offering of 6,021,340 Class B
shares at $12.69 per share, before underwriting discounts. Included in this
offering were 4,385,392 shares sold by Playboy, 1,485,948 shares sold by Mr.
Hefner and 150,000 shares sold by Christie Hefner, our Chairman and Chief
Executive Officer. Playboy's shares included 3,600,000 initial shares, plus an
additional 785,392 shares due to the underwriters' exercise of their
over-allotment option. The shares sold by Mr. Hefner consisted of all of the
shares of Class B common stock he received upon conversion, at the time of the
offering, of all of the outstanding shares of Playboy Preferred Stock.

36

Net proceeds to us from the sale of our shares were approximately $51.9
million. On June 11, 2004, we used $39.8 million of the net proceeds of this
sale to redeem $35.0 million in aggregate principal amount of the outstanding
11.00% senior secured notes due 2010 issued by Holdings, or senior secured
notes, which included a $3.9 million bond redemption premium and accrued and
unpaid interest of $0.9 million. The balance of the net proceeds will be used
for general corporate purposes. As a result of the redemption of the senior
secured notes, we also incurred a $2.0 million non-cash charge to write-off the
related deferred financing costs.

DEBT FINANCINGS

On March 11, 2003, we completed the offering of $115.0 million in
aggregate principal amount of senior secured notes through Holdings. On
September 17, 2003, the senior secured notes were exchanged for new registered
senior secured notes. The form and terms of the new notes are identical in all
material respects (including principal amount, interest rate, maturity, ranking
and covenant restrictions) to the form and terms of the old notes. The senior
secured notes mature on March 15, 2010 and bear interest at the rate of 11.00%
per annum, with interest payable on March 15th and September 15th of each year,
beginning September 15, 2003.

Under the terms of the indenture governing the notes, we have the right at
any time prior to March 15, 2006, to redeem up to 35% of the original $115.0
million in aggregate principal amount of the notes, or $40.25 million, at a
redemption price of 111.00% of the principal amount of the notes redeemed, plus
accrued and unpaid interest, with the net cash proceeds from a qualifying equity
offering. As previously mentioned, on June 11, 2004, we used a portion of the
net proceeds of the equity offering to redeem $35.0 million in aggregate
principal amount of the outstanding notes, which reduced our long term financing
obligations to $80.0 million as of December 31, 2004.

The notes are guaranteed on a senior secured basis by us and by
substantially all of our domestic subsidiaries, referred to as the guarantors,
excluding Playboy.com and its subsidiaries. The notes and the guarantees rank
equally in right of payment with our and the guarantors' other existing and
future senior debt. The notes and the guarantees are secured by a first-priority
lien on our and each guarantor's trademarks, referred to as the primary
collateral, and by a second-priority lien, junior to a lien for the benefit of
the lenders under the new credit facility, as described below, on (a) 100% of
the stock of substantially all of our domestic subsidiaries, excluding the
subsidiaries of Playboy.com, (b) 65% of the capital stock of substantially all
of our indirect first-tier foreign subsidiaries, (c) substantially all of our
and each guarantor's domestic personal property, excluding the primary
collateral and (d) the Playboy Mansion, or collectively, the secondary
collateral. Our ability to pay cash dividends on our common stock is limited
under the terms of the notes.

On February 22, 2005, Holdings commenced an offer to purchase for cash all
$80.0 million of the outstanding senior secured notes. In connection with the
tender offer, consents from holders of the senior secured notes are being
solicited for certain amendments which would eliminate substantially all of the
restrictive covenants and certain events of default and would release all of the
related guarantees and collateral. The consent solicitation will expire on March
7, 2005, unless extended or earlier terminated. The tender offer will expire on
March 22, 2005, unless extended or earlier terminated. The total amount of funds
required to purchase all of the senior secured notes and make consent payments,
to pay accrued and unpaid interest on the senior secured notes, and pay all fees
and expenses in connection with the tender offer and consent solicitation is
expected to be approximately $100.0 million, assuming all senior secured notes
are validly tendered and not withdrawn prior to the consent deadline. We expect
to fund the tender offer and consent solicitation from various sources, which
may include available cash, borrowings under our existing credit facility, new
debt financing, or a combination of these sources. Completion of the tender
offer and consent solicitation is subject to the satisfaction of certain
conditions, including (i) receipt of valid tenders for at least 66-2/3% of the
principal amount of outstanding senior secured notes and (ii) completion of a
financing having gross proceeds of at least $90.0 million. The tender offer and
consent solicitation may be amended, extended or, under certain circumstances,
terminated.

37

On March 11, 2003, Holdings also entered into an agreement for a new
revolving credit facility, which was subsequently amended on September 15, 2004.
We are permitted to borrow up to $30.0 million in revolving borrowings, issue
letters of credit or a combination of both. At December 31, 2004, there were no
borrowings and $10.0 million in letters of credit outstanding under this
facility, permitting $20.0 million of available borrowings under this facility.
For purposes of calculating interest, revolving loans made under the new credit
facility will be designated at either the offshore dollar inter bank offer rate,
or IBOR, plus a borrowing margin based on our adjusted EBITDA or, in certain
circumstances, at a base rate plus a borrowing margin based on our adjusted
EBITDA, as defined in the agreement. Letters of credit issued under the credit
facility bear fees at the applicable borrowing margin based on our adjusted
EBITDA. All amounts outstanding under the new credit facility will mature on
September 1, 2007. Our obligations under the credit facility are guaranteed by
us and each of the guarantors of the notes. The obligations of us and each of
the guarantors under the new credit facility are secured by a first-priority
lien on the secondary collateral and a second-priority lien on the primary
collateral that support obligations under the notes.

FINANCING FROM RELATED PARTY

At December 31, 2002, Playboy.com had an aggregate of $27.2 million of
outstanding indebtedness to Mr. Hefner in the form of three promissory notes.
Upon the closing of the senior secured notes offering on March 11, 2003,
Playboy.com's debt to Mr. Hefner was restructured. One promissory note, in the
amount of $10.0 million, was extinguished in exchange for shares of Holdings
Series A Preferred Stock with an aggregate stated value of $10.0 million. The
two other promissory notes, in a combined principal amount of $17.2 million,
were extinguished in exchange for $0.5 million in cash and shares of Holdings
Series B Preferred Stock with an aggregate stated value of $16.7 million.
Pursuant to the terms of an exchange agreement between us, Holdings, Playboy.com
and Mr. Hefner and certificates of designation governing the Holdings Series A
and Series B Preferred Stock, we were required to exchange the Holdings Series A
Preferred Stock for shares of Playboy Class B stock and to exchange the Holdings
Series B Preferred Stock for shares of Playboy Preferred Stock.

On May 1, 2003, we exchanged the Holdings Series A Preferred Stock plus
accumulated dividends for 1,122,209 shares of Playboy Class B stock and
exchanged the Holdings Series B Preferred Stock for 1,674 shares of Playboy
Preferred Stock with an aggregate stated value of $16.7 million. The Playboy
Preferred Stock accrued dividends at a rate of 8.00% per annum, which were paid
semi-annually.

The Playboy Preferred Stock was convertible at the option of Mr. Hefner,
the holder, into shares of our Class B stock at a conversion price of $11.2625,
which is equal to 125% of the weighted average closing price of our Class B
stock over the 90-day period prior to the exchange of Holdings Series B
Preferred Stock for Playboy Preferred Stock.

On April 26, 2004, Mr. Hefner converted his $16.7 million of Playboy
Preferred Stock into 1,485,948 shares of our Class B stock and sold these shares
as part of our public equity offering on that date. See Note (S) Public Equity
Offering.

In August 2001, our subsidiary Playboy.com, Inc. issued $15.0 million of
its Series A Preferred Stock, of which $5.0 million was purchased by Mr. Hefner.
In connection with the restructuring of our international TV joint ventures, we
reacquired the Series A Preferred Stock that was owned by an affiliate of
Claxson. Each share of the Playboy.com Series A Preferred Stock has a
liquidation preference equal to $7.1097 plus 8.0% per annum compounded annually
from the original issuance date. As of December 31, 2004, the aggregate
liquidation preference of the outstanding shares of Series A Preferred Stock was
$12.5 million.

The holders of Playboy.com Series A Preferred Stock can require
Playboy.com to redeem any or all of their shares of Playboy.com Series A
Preferred Stock at any time from and after August 10, 2006. If either of the
preferred stockholders elects to cause a redemption during the 180-day period
beginning August 10, 2006, and Playboy.com is unable to, or does not, satisfy
its redemption obligations, we are required to satisfy Playboy.com's redemption
obligations by delivering, at our option, cash or shares of our Class B common
stock or any combination thereof.

CALIFA ACQUISITION

The Califa acquisition agreement gives us the option of paying $21.0
million of the remaining $27.8 million purchase price consideration in cash or
Class B stock. We intend to make the $8.0 million in payments that are due in
2005 in cash. We also have the option of accelerating remaining acquisition
payments. See the Contractual Obligations table below for the future cash
obligations related to our acquisitions. See also Note (B) Acquisition.

38

CASH FLOWS FROM OPERATING ACTIVITIES

Net cash provided by operating activities was $16.4 million for 2004, an
increase of $11.5 million from 2003. This increase reflects a $17.5 million
increase in earnings, combined with a non-cash charge of $2.0 million related to
the write-off of deferred financing fees associated with the debt
extinguishment. A $6.9 million decrease in receivables, due to the timing of
collections related to our December 2003 auction and the 50th Anniversary issue,
was more than offset by a decrease in current liabilities and cash interest paid
for acquisition liabilities. The $6.5 million Logix settlement payment made in
the first quarter of 2004 was mostly offset by the partially related legal
recovery of $5.6 million received in the fourth quarter of 2004. During the
current year, we spent $41.5 million in Company-produced and licensed
programming as compared to $44.7 million in 2003. We expect to invest
approximately $38.0 million in 2005, which could vary based on, among other
things, the timing of completing productions.

CASH FLOWS FROM INVESTING ACTIVITIES

Net cash used for investing activities was $2.6 million for 2004,
primarily due to $2.9 million of additions to property and equipment.

CASH FLOWS FROM FINANCING ACTIVITIES

Net cash provided by financing activities was $1.6 million for 2004 due to
$51.9 million of net proceeds from the April 2004 public equity offering, mostly
offset by the $35.0 million repayment of senior secured notes, the $11.3 million
payment of acquisition liabilities and the $3.9 million payment of debt
extinguishment expenses related to the bond redemption premium.

CONTRACTUAL OBLIGATIONS

The following table reflects a summary of our contractual obligations and
commercial commitments as further discussed in the notes to consolidated
financial statements as of December 31, 2004 (in thousands):

2005 2006 2007 2008 2009 Thereafter Total
- -----------------------------------------------------------------------------------------------------------------------------

Long Term Financing Obligations(1) $ 8,800 $ 8,800 $ 8,800 $ 8,800 $ 8,800 $ 84,400 $128,400
Playboy.com Series A Preferred Stock(2) -- 14,938 -- -- -- -- 14,938
Operating Leases 13,121 12,402 11,621 10,440 7,074 58,357 113,015
Purchase Obligations:
Licensed Programming Commitments (3) 9,797 7,129 5,575 5,224 4,101 8,667 40,493
Other (4):
Acquisition Liabilities(1),(5) 11,602 11,192 8,000 1,000 1,000 1,750 34,544
Transponder Service Agreements 6,734 6,885 6,182 6,022 5,019 13,775 44,617
Litigation Settlement 1,875 1,000 -- -- -- -- 2,875
- -----------------------------------------------------------------------------------------------------------------------------

(1) Includes interest and principal commitments related to our obligations.

(2) Represents entire payment obligation, including accrued dividends.

(3) Licensed Programming Commitments represents our non-cancelable obligations
to license adult programming from other studios. Typically, the licensing
of the programming allows us access to specific titles or in some cases
the studio's entire library over an extended period of time. We broadcast
this programming on our networks throughout the world, as appropriate.

(4) We have obligations of $4.7 million recorded in "Other noncurrent
liabilities" under two nonqualified deferred compensation plans, which
permit certain employees and all nonemployee directors to annually elect
to defer a portion of their compensation. These amounts have not been
included in the table as the dates of payment are not known at the balance
sheet date.

(5) Includes $6.8 million of liabilities related to the 2002 acquisition of
PTVI U.K.

CRITICAL ACCOUNTING POLICIES

Our financial statements are prepared in conformity with GAAP, which
requires management to make estimates and assumptions that affect the amounts
reported in the financial statements and accompanying notes. We believe that of
our significant accounting policies, the following are the more complex and
critical areas. For additional information about our accounting policies, see
Note (A) Summary of Significant Accounting Policies of Notes to Consolidated
Financial Statements.

39

REVENUE RECOGNITION

Playboy Magazine

Our Playboy magazine revenues were $101.5 million and $102.0 million for
the years ended December 31, 2004 and 2003, respectively, of which 13.9% and
15.5% were derived from newsstand sales in the respective years. Our print run,
which is developed with input from Warner, varies each month based on expected
sales. Our expected sales are based on historical analyses of demand based on a
number of variables, including content, time of year and the cover price. We
record our revenues for each month's issue utilizing our expected sales. Our
revenues are recorded net of a provision for estimated returns. Substantially
all of the magazines to be returned are returned within 90 days of the date that
the subsequent issue goes on sale. We adjust our provision for returns based on
actual returns of the magazine. Historically, our annual adjustments to Playboy
magazine newsstand revenues have not been material and are driven by differences
in consumer demand as compared to expected sales. At any point, our exposure to
a material adjustment to revenue is mitigated because generally only the most
recent two to three months would not have been fully adjusted to actual based on
actual returns received.

Domestic Television

Our domestic television network revenue for the years ended December 31,
2004 and 2003 was $96.9 million and $95.3 million, respectively. In order to
record our revenues, we estimate the number of PPV buys and monthly
subscriptions. We base our estimate of revenue on a number of factors including,
but not exclusively, the average number of buys and subscriptions in the prior
three months based on actual payments received and historical data by geographic
location. Upon recording the revenue, we also record the related receivable. We
have reserves for uncollectible receivables based on our experience and monitor
these reserves on an ongoing basis. At December 31, 2004 and 2003, we had
receivables of $17.2 million and $17.0 million, respectively, related to
domestic television. We record adjustments to revenue on a monthly basis as we
obtain actual payments from the providers. Actual subscriber information and
payment is generally received within three months. Historically, our adjustments
have not been material. At any point, our exposure to a material adjustment to
revenue is mitigated because generally only the most recent two to three months
would not have been fully adjusted to actual based on payments received.

TRADEMARKS

Our trademarks are critical to the success and potential growth of all of
our businesses. We actively protect and defend our trademarks throughout the
world and monitor the marketplace for counterfeit products. Consequently, we
initiate legal proceedings from time to time to prevent their unauthorized use,
and we incur and capitalize costs associated with acquisition, defense,
registration and/or renewal of our trademarks. In accordance with Statement 142,
Goodwill and Other Intangible Assets, trademark-related costs are not being
amortized, since our trademarks have indefinite lives, but are subject to annual
impairment tests in accordance with the accounting standard.

DEFERRED REVENUES

As of December 31, 2004, $40.4 million and $3.4 million of deferred
revenues related to Playboy magazine subscriptions and online subscriptions,
respectively. Sales of Playboy magazine and online subscriptions, less estimated
cancellations, are deferred and recognized as revenues proportionately over the
subscription period. Our estimates of cancellations are based on historical
experience and current marketplace conditions and they are adjusted monthly on
the basis of actual results. We have not experienced significant deviations
between estimated and actual results.

RELATED PARTY TRANSACTIONS

HUGH M. HEFNER

We own a 29-room mansion located on 5 1/2 acres in Los Angeles,
California. The Playboy Mansion is used for various corporate activities,
including serving as a valuable location for video production, magazine
photography, online events and sales events. It also enhances our image as host
for many charitable and civic functions. The Playboy Mansion generates
substantial publicity and recognition, which increase public awareness of us and
our products and services. Its facilities include a tennis court, swimming pool,
gymnasium and other recreational facilities as well as extensive film, video,
sound and security systems. The Playboy Mansion also includes accommodations for
guests and serves as an office and residence for Mr. Hefner. It has a full-time
staff which performs maintenance, serves in various capacities at the functions
held at the Playboy Mansion and provides guests of ours and Mr. Hefner's with
meals, beverages and other services.

40

Under a 1979 lease we entered into with Mr. Hefner, the annual rent Mr.
Hefner pays to us for his use of the Playboy Mansion is determined by
independent experts who appraise the value of Mr. Hefner's basic accommodations
and access to the Playboy Mansion's facilities, utilities and attendant services
based on comparable hotel accommodations. In addition, Mr. Hefner is required to
pay the sum of the per-unit value of non-business meals, beverages and other
benefits he and his personal guests receive. These standard food and beverage
per-unit values are determined by independent expert appraisals based on fair
market values. Valuations for both basic accommodations and standard food and
beverage units are reappraised every three years, and between appraisals are
annually adjusted based on appropriate consumer price indexes. Mr. Hefner is
also responsible for the cost of all improvements in any Hefner residence
accommodations, including capital expenditures that are in excess of normal
maintenance for those areas.

Mr. Hefner's usage of Playboy Mansion services and benefits is recorded
through a system initially developed by the auditing and consulting firm of
PricewaterhouseCoopers LLP and now administered by us, with appropriate
modifications approved by the audit and compensation committees of the Board of
Directors. The lease dated June 1, 1979, as amended, between Mr. Hefner and us
renews automatically at December 31 each year and will continue to renew unless
either we or Mr. Hefner terminate it. The rent charged to Mr. Hefner during 2004
included the appraised rent and the appraised per-unit value of other benefits,
as described above. Within 120 days after the end of our fiscal year, the actual
charge for all benefits for that year is finally determined. Mr. Hefner pays or
receives credit for any difference between the amount finally determined and the
amount he paid over the course of the year. We estimated the sum of the rent and
other benefits payable for 2004 to be $1.3 million, and Mr. Hefner paid that
amount during 2004. The actual rent and other benefits payable for 2003 and 2002
were $1.4 million and $1.3 million, respectively.

We purchased the Playboy Mansion in 1971 for $1.1 million and in the
intervening years have made substantial capital improvements at a cost of $13.8
million through 2004 (including $2.5 million to bring the Hefner residence
accommodations to a standard similar to the Playboy Mansion's common areas). The
Playboy Mansion is included in our Consolidated Balance Sheet at December 31,
2004 at a net book value of $1.6 million, including all improvements and after
accumulated depreciation. We incur all operating expenses of the Playboy
Mansion, including depreciation and taxes, which were $3.0 million, $2.3 million
and $3.6 million for 2004, 2003 and 2002, respectively, net of rent received
from Mr. Hefner.

From time to time, we enter into barter transactions in which we secure
air transportation for Mr. Hefner in exchange for advertising pages in Playboy
magazine. Mr. Hefner reimburses us for our direct costs of providing these ad
pages. We receive significant promotional benefit from these transactions. There
were no such transactions in 2004, 2003 and 2002.

On April 26, 2004, Mr. Hefner converted his $16.7 million of Playboy
Preferred Stock into 1,485,948 shares of our Class B stock and sold these shares
as part of our public equity offering on that date. See Note (S) Public Equity
Offering.

At December 31, 2002 and at the time of the Hefner debt restructuring,
Playboy.com had an aggregate of $27.2 million of outstanding indebtedness to Mr.
Hefner in the form of three promissory notes. Upon the closing of the senior
secured notes offering on March 11, 2003, Playboy.com's debt to Mr. Hefner was
restructured as previously discussed in Liquidity and Capital Resources.

As previously mentioned, in August 2001, our subsidiary Playboy.com, Inc.
issued $15.0 million of its Series A Preferred Stock, of which $5.0 million was
purchased by Mr. Hefner. See Financing From Related Party within the Liquidity
and Capital Resources section of the MD&A for additional information regarding
the terms and redemption of the Playboy.com Series A Preferred Stock.

41

NEW ACCOUNTING PRONOUNCEMENTS

On December 16, 2004, the Financial Accounting Standards Board (the
"FASB") issued FASB Statement No. 123 (revised 2004), Share-Based Payment
("Statement 123(R)"), which is a revision of FASB Statement No. 123, Accounting
for Stock-Based Compensation ("Statement 123"). Statement 123(R) supersedes
Accounting Principles Board Opinion No. 25 ("APB 25"), Accounting for Stock
Issued to Employees, and amends FASB Statement No. 95, Statement of Cash Flows.
Generally, the approach in Statement 123(R) is similar to the approach described
in Statement 123. Statement 123(R) requires that all share-based payments to
employees, including grants of employee stock options, be recognized in the
income statement based on their fair values. Pro forma disclosure is no longer
an option. Statement 123(R) is effective for public companies at the beginning
of the first interim or annual period beginning after June 15, 2005.

As permitted by Statement 123, we currently account for share-based
payments to employees using APB 25's intrinsic value method. We expect to adopt
Statement 123(R) on July 1, 2005 using the modified prospective method and
estimate approximately $1.7 million in stock-based compensation expense to be
recorded in 2005.

42

FORWARD-LOOKING STATEMENTS

This Form 10-K Annual Report contains "forward-looking statements,"
including statements in Business and MD&A, Management's Discussion and Analysis
of Financial Condition and Results of Operations, as to expectations, beliefs,
plans, objectives and future financial performance, and assumptions underlying
or concerning the foregoing. We use words such as "may," "will," "would,"
"could," "should," "believes," "estimates," "projects," "potential," "expects,"
"plans," "anticipates," "intends," "continues" and other similar terminology.
These forward-looking statements involve known and unknown risks, uncertainties
and other factors, which could cause our actual results, performance or outcomes
to differ materially from those expressed or implied in the forward-looking
statements. The following are some of the important factors that could cause our
actual results, performance or outcomes to differ materially from those
discussed in the forward-looking statements:

(1) Foreign, national, state and local government regulation, actions or
initiatives, including:

(a) attempts to limit or otherwise regulate the sale, distribution or
transmission of adult-oriented materials, including print,
television, video, and online materials,

(b) limitations on the advertisement of tobacco, alcohol and other
products which are important sources of advertising revenue for us,
or

(c) substantive changes in postal regulations or rates which could
increase our postage and distribution costs;

(2) Risks associated with our foreign operations, including market acceptance
and demand for our products and the products of our licensees;

(3) Our ability to manage the risk associated with our exposure to foreign
currency exchange rate fluctuations;

(4) Changes in general economic conditions, consumer spending habits, viewing
patterns, fashion trends or the retail sales environment which, in each
case, could reduce demand for our programming and products and impact our
advertising revenues;

(5) Our ability to protect our trademarks, copyrights and other intellectual
property;

(6) Risks as a distributor of media content, including our becoming subject to
claims for defamation, invasion of privacy, negligence, copyright, patent
or trademark infringement, and other claims based on the nature and
content of the materials we distribute;

(7) The risk our outstanding litigation could result in settlements or
judgments which are material to us;

(8) Dilution from any potential issuance of common or convertible preferred
stock or convertible debt in connection with financings or acquisition
activities;

(9) Competition for advertisers from other publications, media or online
providers or any decrease in spending by advertisers, either generally or
with respect to the adult male market;

(10) Competition in the television, men's magazine, Internet and product
licensing markets;

(11) Attempts by consumers or private advocacy groups to exclude our
programming or other products from distribution;

(12) Our television and Internet businesses' reliance on third parties for
technology and distribution, and any changes in that technology and/or
unforeseen delays in its implementation which might affect our plans and
assumptions;

(13) Risks associated with losing access to transponders and competition for
transponders and channel space;

(14) The impact of industry consolidation, any decline in our access to, and
acceptance by, DTH and/or cable systems and the possible resulting
deterioration in the terms, cancellation of fee arrangements or pressure
on margin splits with operators of these systems;

(15) Risks that we may not realize the expected increased sales and profits and
other benefits from acquisitions and the restructuring of our
international TV joint ventures;

(16) Any charges or costs we incur in connection with restructuring measures we
may take in the future;

(17) Risks associated with the financial condition of Claxson Interactive
Group, Inc., our Playboy TV-Latin America, LLC joint venture partner;

(18) Increases in paper or printing costs;

(19) Effects of the national consolidation of the single-copy magazine
distribution system; and

(20) Risks associated with the viability of our primarily subscription- and
e-commerce-based Internet model.

43

Item 7A. Quantitative and Qualitative Disclosures About Market Risk

We are exposed to certain market risk, including changes in foreign
currency exchange rates. In order to manage the risk associated with our
exposure to such fluctuations, we enter into various hedging transactions that
have been authorized pursuant to our policies and procedures. We have derivative
instruments that have been designated and qualify as cash flow hedges, which are
entered into in order to hedge the variability of cash flows to be received
related to forecasted royalty revenues denominated in foreign currencies,
primarily Japanese Yen and the Euro. We hedge these royalties with forward
contracts for periods not exceeding 12 months. We formally document all
relationships between hedging instruments and hedged items, as well as our risk
management objectives and strategies for undertaking various hedge transactions.
We link all hedges that are designated as cash flow hedges to forecasted
transactions. We also assess, both at the inception of the hedge and on an
on-going basis, whether the derivatives used in hedging transactions are
effective in offsetting changes in cash flows of the hedged items. Hedge
ineffectiveness is recorded in earnings. We do not use financial instruments for
trading purposes.

Effective with the refinancing of our financing obligations, which
occurred on March 11, 2003, we no longer have any floating interest rate
exposure. All of our current debt is represented by the senior secured notes,
which are fixed rate obligations. On June 11, 2004, we used a portion of the
proceeds from our equity offering in April 2004 to redeem $35.0 million of the
$115.0 million outstanding balance. In 2001, we entered into an interest rate
swap agreement that was scheduled to mature in May 2003 that effectively
converted $45.0 million of our floating rate debt to fixed rate debt, thus
reducing the impact of interest rate changes on future interest expense. In
March 2003, in connection with the termination of our former credit facility, we
also terminated this swap agreement for $0.4 million. The fair value of the
outstanding $80.0 million senior secured notes will be influenced by changes in
market rates and our credit quality. At December 31, 2004, the notes were
trading above par for an implied fair value of $92.9 million.

We prepared sensitivity analyses to determine the impact of a hypothetical
10% devaluation of the U.S. dollar relative to the foreign currencies of the
countries to which we have exposure, primarily Japan and Germany. Based on our
sensitivity analyses at December 31, 2004 and 2003, such a change in foreign
currency exchange rates would affect our annual consolidated operating results,
financial position and cash flows by approximately $0.5 million and $0.3
million, respectively.

Item 8. Financial Statements and Supplementary Data

The following consolidated financial statements and supplementary data are set
forth in this Form 10-K Annual Report as follows:

Page
----

Consolidated Statements of Operations - Fiscal Years Ended December 31, 2004,
2003 and 2002 45

Consolidated Balance Sheets - December 31, 2004 and 2003 46

Consolidated Statements of Shareholders' Equity - Fiscal Years Ended
December 31, 2004, 2003 and 2002 47

Consolidated Statements of Cash Flows - Fiscal Years Ended December 31, 2004,
2003 and 2002 48

Notes to Consolidated Financial Statements 49

Report of Independent Registered Public Accounting Firm 77

The supplementary data regarding quarterly results of operations are set
forth in Note (X) Quarterly Results of Operations (Unaudited) of Notes to
Consolidated Financial Statements.

44

PLAYBOY ENTERPRISES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share amounts)

Fiscal Year Fiscal Year Fiscal Year
Ended Ended Ended
12/31/04 12/31/03 12/31/02
- ---------------------------------------------------------------------------------------------------

Net revenues $ 329,376 $ 315,844 $ 277,622
- ---------------------------------------------------------------------------------------------------
Costs and expenses
Cost of sales (240,835) (229,216) (204,616)
Selling and administrative expenses (56,894) (56,826) (58,117)
Restructuring expenses (744) (350) (6,643)
- ---------------------------------------------------------------------------------------------------
Total costs and expenses (298,473) (286,392) (269,376)
- ---------------------------------------------------------------------------------------------------
Gain on disposals 2 -- 442
- ---------------------------------------------------------------------------------------------------
Operating income 30,905 29,452 8,688
- ---------------------------------------------------------------------------------------------------
Nonoperating income (expense)
Investment income 579 363 125
Interest expense (13,687) (16,309) (15,147)
Amortization of deferred financing fees (1,266) (1,407) (993)
Minority interest (1,436) (1,660) (1,724)
Debt extinguishment expenses (5,908) (3,264) --
Equity in operations of investments (71) (80) 279
Insurance/litigation settlement 5,638 (8,500) --
Vendor settlement -- -- 750
Other, net (920) (1,185) (569)
- ---------------------------------------------------------------------------------------------------
Total nonoperating expense (17,071) (32,042) (17,279)
- ---------------------------------------------------------------------------------------------------
Income (loss) before income taxes 13,834 (2,590) (8,591)
Income tax expense (3,845) (4,967) (8,544)
- ---------------------------------------------------------------------------------------------------
Net income (loss) $ 9,989 $ (7,557) $ (17,135)
===================================================================================================

Net income (loss) $ 9,989 $ (7,557) $ (17,135)
Dividend requirements of preferred stock (428) (893) --
- ---------------------------------------------------------------------------------------------------
Net income (loss) applicable to common shareholders $ 9,561 $ (8,450) $ (17,135)
===================================================================================================

Weighted average number of common shares outstanding
Basic 31,581 27,023 25,595
===================================================================================================
Diluted 31,767 27,023 25,595
===================================================================================================

Basic and diluted earnings (loss) per common share $ 0.30 $ (0.31) $ (0.67)
===================================================================================================

The accompanying Notes to Consolidated Financial Statements are an integral part
of these statements.

45

PLAYBOY ENTERPRISES, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)

Dec. 31, Dec. 31,
2004 2003
- -----------------------------------------------------------------------------------------------------------------

Assets
Cash and cash equivalents $ 46,668 $ 31,332
Marketable securities 4,052 3,546
Receivables, net of allowance for doubtful accounts of
$3,897 and $4,364, respectively 45,084 52,230
Receivables from related parties 1,281 1,226
Inventories, net 12,437 12,017
Deferred subscription acquisition costs 13,104 11,759
Other current assets 8,596 10,208
- -----------------------------------------------------------------------------------------------------------------
Total current assets 131,222 122,318
- -----------------------------------------------------------------------------------------------------------------
Property and equipment, net 11,491 12,020
Long term receivables 2,755 --
Programming costs, net 55,997 57,426
Goodwill 111,893 111,893
Trademarks 57,296 58,159
Distribution agreements, net of accumulated
amortization of $1,935 and $970, respectively 31,206 32,170
Other noncurrent assets 18,721 24,074
- -----------------------------------------------------------------------------------------------------------------
Total assets $ 420,581 $ 418,060
=================================================================================================================

Liabilities
Acquisition liabilities $ 10,184 $ 15,392
Accounts payable 21,796 22,899
Accrued salaries, wages and employee benefits 8,286 11,472
Deferred revenues 51,421 53,963
Accrued litigation settlement 1,000 6,500
Other liabilities and accrued expenses 18,040 19,088
- -----------------------------------------------------------------------------------------------------------------
Total current liabilities 110,727 129,314
- -----------------------------------------------------------------------------------------------------------------
Financing obligations 80,000 115,000
Acquisition liabilities 19,085 26,982
Net deferred tax liabilities 15,023 13,877
Accrued litigation settlement 1,000 2,000
Other noncurrent liabilities 13,779 13,170
- -----------------------------------------------------------------------------------------------------------------
Total liabilities 239,614 300,343
- -----------------------------------------------------------------------------------------------------------------
Minority interest 12,517 11,081

Shareholders' equity
Preferred stock, $10,000 par value - 10,000,000 shares authorized;
0 and 1,674 issued, respectively -- 16,959
Common stock, $0.01 par value
Class A voting - 7,500,000 shares authorized; 4,864,102 issued 49 49
Class B nonvoting - 75,000,000 and 30,000,000 shares authorized, respectively;
28,521,493 and 22,579,363 issued, respectively 285 226
Capital in excess of par value 222,285 152,969
Accumulated deficit (52,949) (62,510)
Accumulated other comprehensive loss (1,220) (1,057)
- -----------------------------------------------------------------------------------------------------------------
Total shareholders' equity 168,450 106,636
- -----------------------------------------------------------------------------------------------------------------
Total liabilities and shareholders' equity $ 420,581 $ 418,060
=================================================================================================================

The accompanying Notes to Consolidated Financial Statements are an integral part
of these statements.

46

PLAYBOY ENTERPRISES, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(in thousands)

Unearned Accumulated
Class A Class B Capital in Comp. - Other
Preferred Common Common Excess of Accum. Restricted Comprehensive
Stock Stock Stock Par Value Deficit Stock Loss(1) Total
- -----------------------------------------------------------------------------------------------------------------------------------

Balance at December 31, 2001 $ -- $ 49 $ 199 $ 123,090 $(36,925) $ (3,019) $ (1,869) $ 81,525
Net loss -- -- -- -- (17,135) -- -- (17,135)
Shares issued or vested
under stock plans, net -- -- -- 6 -- 306 -- 312
Shares issued related to the
Califa acquisition -- -- 15 22,826 -- -- -- 22,841
Other comprehensive income -- -- -- -- -- -- 94 94
Other -- -- -- 169 -- -- 9 178
- -----------------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 2002 -- 49 214 146,091 (54,060) (2,713) (1,766) 87,815
Net loss -- -- -- -- (7,557) -- -- (7,557)
Shares issued or vested
under stock plans, net -- -- 12 380 -- 2,713 -- 3,105
Conversion of Holdings preferred B
to Playboy preferred A 16,959 -- -- 10,100 -- -- -- 27,059
Preferred stock dividends -- -- -- -- (893) -- -- (893)
Shares issued related to Califa
acquisition -- -- -- (3,602) -- -- -- (3,602)
Other comprehensive income -- -- -- -- -- -- 709 709
- -----------------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 2003 16,959 49 226 152,969 (62,510) -- (1,057) 106,636
Net income -- -- -- -- 9,989 -- -- 9,989
Shares issued or vested
under stock plans, net -- -- -- 619 -- -- -- 619
Conversion of Playboy preferred A
to Playboy class B common (16,959) -- 15 16,721 -- -- -- (223)
Preferred stock dividends -- -- -- -- (428) -- -- (428)
Shares issued in public equity
offering -- -- 44 51,815 -- -- -- 51,859
Other comprehensive income -- -- -- -- -- -- (163) (163)
Other -- -- -- 161 -- -- -- 161
- -----------------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 2004 $ -- $ 49 $ 285 $ 222,285 $(52,949) $ -- $ (1,220) $ 168,450
===================================================================================================================================

(1) Accumulated other comprehensive loss consisted of the following:

Fiscal Year Fiscal Year
Ended Ended
12/31/04 12/31/03
Unrealized gain on marketable securities $ 158 $ (265)
Derivative loss (80) (28)
Foreign currency translation loss (1,298) (764)
----------------------
$(1,220) $(1,057)
======================

Comprehensive income (loss) was as follows:

Fiscal Year Fiscal Year Fiscal Year
Ended Ended Ended
12/31/04 12/31/03 12/31/02
- -------------------------------------------------------------------------------
Net income (loss) $ 9,989 $ (7,557) $(17,135)
- -------------------------------------------------------------------------------
Unrealized gain (loss) on marketable
securities 423 817 (555)
Derivative gain (loss) (52) 656 500
Foreign currency translation
adjustments (534) (764) 149
- -------------------------------------------------------------------------------
Total other comprehensive income (loss) (163) 709 94
- -------------------------------------------------------------------------------
Comprehensive income (loss) $ 9,826 $ (6,848) $(17,041)
===============================================================================

The accompanying Notes to Consolidated Financial Statements are an integral part
of these statements.

47

PLAYBOY ENTERPRISES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)

Fiscal Year Fiscal Year Fiscal Year
Ended Ended Ended
12/31/04 12/31/03 12/31/02
- ----------------------------------------------------------------------------------------------------------

Cash flows from operating activities
Net income (loss) $ 9,989 $ (7,557) $ (17,135)
Adjustments to reconcile net income (loss) to net cash
provided by operating activities
Depreciation of property and equipment 3,169 3,698 3,781
Amortization of intangible assets 2,236 5,257 7,212
Amortization of investments in entertainment programming 41,695 40,603 40,626
Loss (gain) on disposals 331 -- (442)
Amortization of deferred financing fees 1,266 1,407 993
Minority interest 1,436 1,364 1,724
Debt extinguishment expenses 5,908 3,264 --
Equity in operations of investments 451 80 (279)
Insurance settlement 5,638 -- --
Deferred income taxes 1,300 1,349 7,018
Changes in current assets and liabilities
Receivables 6,926 (10,340) 5,537
Receivables from related parties (55) 316 (30,164)
Inventories (420) (1,519) 3,464
Deferred subscription acquisition costs (1,345) 279 73
Other current assets 1,596 (2,261) (4,225)
Accounts payable 396 (1,921) (139)
Accrued salaries, wages and employee benefits (3,138) 3,759 954
Deferred revenues (2,542) 2,732 3,892
Deferred revenues from related parties -- -- 18,618
Acquisition liability interest (2,340) (407) 4,836
Accrued litigation settlement (5,500) 6,500 --
Other liabilities and accrued expenses (6,778) 1,869 6,346
--------- --------- ---------
Net change in current assets and liabilities (13,200) (993) 9,192
--------- --------- ---------
Decrease in receivables from related parties -- -- 25,000
Investments in entertainment programming (41,457) (44,727) (41,717)
Increase in trademarks (2,014) (2,940) (3,034)
Decrease (Increase) in other noncurrent assets 428 (1,561) 209
Decrease in deferred revenues from related parties -- -- (21,325)
(Decrease) increase in accrued litigation settlement (1,000) 2,000 --
Increase (decrease) in other noncurrent liabilities 186 2,224 (3,277)
International TV joint venture restructuring -- -- 4,738
Other, net 1 1,411 1,044
- ----------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 16,363 4,879 14,328
- ----------------------------------------------------------------------------------------------------------
Cash flows from investing activities
Payments for acquisitions -- -- (435)
Proceeds from disposals 152 116 1,517
Additions to property and equipment (2,875) (2,342) (4,318)
Other, net 137 179 78
- ----------------------------------------------------------------------------------------------------------
Net cash used for investing activities (2,586) (2,047) (3,158)
- ----------------------------------------------------------------------------------------------------------
Cash flows from financing activities
Proceeds from equity offering 51,859 -- --
Proceeds from financing obligations -- 115,000 5,000
Repayment of financing obligations (35,000) (65,767) (16,311)
Payment of debt extinguishment expenses (3,850) (356) --
Payment of acquisition liabilities (11,271) (14,892) --
Payment of deferred financing fees -- (9,205) (585)
Payment of preferred stock dividends (651) (669) --
Proceeds from stock plans 490 272 234
Other, net (18) (1) --
- ----------------------------------------------------------------------------------------------------------
Net cash provided by (used for) financing activities 1,559 24,382 (11,662)
- ----------------------------------------------------------------------------------------------------------
Net increase (decrease) in cash and cash equivalents 15,336 27,214 (492)
Cash and cash equivalents at beginning of year 31,332 4,118 4,610
- ----------------------------------------------------------------------------------------------------------
Cash and cash equivalents at end of year $ 46,668 $ 31,332 $ 4,118
==========================================================================================================

The accompanying Notes to Consolidated Financial Statements are an integral part
of these statements.

48

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(A) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Organization: Playboy Enterprises, Inc., together with its subsidiaries through
which we conduct business, is a worldwide leader in the development and
distribution of multi-media lifestyle entertainment for adult audiences with
operations in the following business segments: Entertainment, Publishing and
Licensing.

Principles of consolidation: The consolidated financial statements include our
accounts and all majority-owned subsidiaries. Intercompany accounts and
transactions have been eliminated in consolidation.

Use of estimates: The preparation of financial statements in conformity with
accounting principles generally accepted in the United States requires
management to make estimates and assumptions that affect the amounts reported in
the financial statements and accompanying notes. Although these estimates are
based on management's knowledge of current events and actions it may undertake
in the future, they may ultimately differ from actual results.

Reclassifications: Certain amounts reported for prior periods have been
reclassified to conform to the current year's presentation.

New Accounting Pronouncements: On December 16, 2004, the Financial Accounting
Standards Board (the "FASB") issued Statement of Financial Accounting Standards,
or Statement, No. 123 (revised 2004), Share-Based Payment ("Statement 123(R)"),
which is a revision of FASB Statement No. 123, Accounting for Stock-Based
Compensation ("Statement 123"). Statement 123(R) supersedes Accounting
Principles Board Opinion No. 25 ("APB 25"), Accounting for Stock Issued to
Employees, and amends FASB Statement No. 95, Statement of Cash Flows. Generally,
the approach in Statement 123(R) is similar to the approach described in
Statement 123. Statement 123(R) requires that all share-based payments to
employees, including grants of employee stock options, be recognized in the
income statement based on their fair values. Pro forma disclosure is no longer
an option. Statement 123(R) is effective for public companies at the beginning
of the first interim or annual period beginning after June 15, 2005.

As permitted by Statement 123, we currently account for share-based payments to
employees using APB 25's intrinsic value method. We expect to adopt Statement
123(R) on July 1, 2005 using the modified prospective method and estimate
approximately $1.7 million in stock-based compensation expense to be recorded in
2005.

Stock-based Compensation: At December 31, 2004 and 2003, we had various stock
plans for key employees and non-employee directors, which are more fully
described in Note (Q) Stock Plans. We account for stock options as prescribed by
Accounting Principles Board Opinion No. 25 and disclose pro forma information as
provided by Statement 123, Accounting for Stock Based Compensation.

Pro forma net income (loss) and earnings (loss) per common share, presented
below (in thousands, except per share amounts), were determined as if we had
accounted for our employee stock options under the fair value method of
Statement 123. The fair value of these options was estimated at the date of
grant using an option pricing model. Such models require the input of highly
subjective assumptions including the expected volatility of the stock price. For
pro forma disclosures, the options' estimated fair value was amortized over
their vesting period. No stock-based employee compensation expense is recognized
because all options granted under those plans had an exercise price equal to or
in excess of the market value of the underlying common stock at the grant date.
If we accounted for our employee stock options under Statement 123, compensation
expense would have been $2.8 million, $2.1 million and $3.1 million for the
years ended December 31, 2004, 2003 and 2002, respectively.

Fiscal Year Fiscal Year Fiscal Year
Ended Ended Ended
12/31/04 12/31/03 12/31/02
- ----------------------------------------------------------------------------------------------------------

Net income (loss)
As reported $ 9,989 $ (7,557) $ (17,135)
Pro forma 7,230 (9,699) (20,240)

Basic and diluted earnings (loss) per share applicable to
common shareholders
As reported 0.30 (0.31) (0.67)
Pro forma $ 0.22 $ (0.39) $ (0.79)
- ----------------------------------------------------------------------------------------------------------

49

For the pro forma disclosures above, the estimated fair value of the options is
amortized to expense over their respective vesting periods. The fair value of
each option grant was estimated on the grant date using the Black-Scholes
option-pricing model with the following weighted average assumptions:

Fiscal Year Fiscal Year Fiscal Year
Ended Ended Ended
12/31/04 12/31/03 12/31/02
- -------------------------------------------------------------------------------
Risk-free interest rate 3.63% 3.33% 4.64%
Expected stock price volatility 54.90% 48.90% 50.20%
Expected dividend yield -- -- --
- -------------------------------------------------------------------------------

For 2004, 2003 and 2002, an expected life of six years was used for all of the
stock options, and the weighted average fair value of options granted was $7.80,
$5.06 and $7.97, respectively.

Revenue recognition: Domestic TV networks DTH and cable revenues are recognized
subsequently based on estimates of PPV buys and monthly subscriber counts
reported each month by the system operators and adjusted to actual. The net
adjustments to actual are not material. International TV revenues are recognized
either upon identification of programming scheduled for networks, delivery of
programming to customers and/or upon the commencement of the license term.
Revenues from the sale of Playboy magazine and online subscriptions are
recognized over the terms of the subscriptions. Revenues from newsstand sales of
Playboy magazine and special editions (net of estimated returns) and revenues
from the sale of Playboy magazine advertisements are recorded when each issue
goes on sale. Revenues from e-commerce are recognized when the items are
shipped, which is when title passes. Royalties from licensing our trademarks in
our international publishing and product licensing businesses are generally
recognized on a straight-line basis over the terms of the related agreements.

Prior to the December 2002 restructuring of the ownership of our international
TV joint ventures, more fully explained in Note (C) Restructuring of Ownership
of International TV Joint Ventures, international TV revenues received from
PTVI, for the license of the exclusive international TV rights for the use of
the Playboy tradename, film and video library, and for the acquisition of the
international rights to the Spice film library, the U.K. and Japan Playboy TV
networks and certain international distribution contracts, were recognized
generally as the consideration was paid to us, less our 19.9% ownership interest
in such transactions. License fees from PTVI for current output production were
recognized as programming was available, less our 19.9% ownership interest in
such transactions.

Cash equivalents: Cash equivalents are temporary cash investments with an
original maturity of three months or less at date of purchase and are stated at
cost, which approximates fair value.

Marketable securities: Marketable securities are classified as
available-for-sale securities and are stated at fair value. Net unrealized
holding gains and losses are included in "Accumulated other comprehensive loss."

Accounts Receivable and Allowance for Doubtful Accounts: Trade receivables are
reported at their outstanding unpaid balances less an allowance for doubtful
accounts. The allowance for doubtful accounts is increased by charges to income
and decreased by chargeoffs (net of recoveries). We perform periodic evaluations
of the adequacy of the allowance based on our past loss experience and adverse
situations that may affect the customer's ability to pay.

Inventories: Inventories are stated at the lower of cost (specific cost and
average cost) or fair value.

Property and equipment: Property and equipment are stated at cost. Costs
incurred for computer software developed or obtained for internal use are
capitalized for application development activities and immediately expensed for
preliminary project activities or post-implementation activities. Depreciation
is recorded using the straight-line method over the estimated useful lives of
the assets. The useful life for building improvements is ten years, furniture
and equipment ranges from one to ten years and software ranges from one to five
years. Leasehold improvements are depreciated using a straight-line basis over
the shorter of their estimated useful lives or the terms of the related leases.
Repair and maintenance costs are expensed as incurred and major betterments are
capitalized. Sales and retirements of depreciable property and equipment are
recorded by removing the related cost and accumulated depreciation from the
accounts, and any related gains or losses are recorded.

Advertising costs: We expense advertising costs as incurred, except for
direct-response advertising. Direct-response advertising consists primarily of
costs associated with the promotion of Playboy magazine subscriptions,
principally the production of direct-mail solicitation materials and postage,
and the distribution of direct and e-commerce mailings. The capitalized
direct-response advertising costs are amortized over the period during which the
future benefits are expected to be received, generally six to 12 months. See
Note (K) Advertising Costs.

50

Programming and content costs and amortization: Original programming and film
acquisition costs are primarily assigned to the domestic and international
networks and are capitalized and amortized utilizing the straight-line method,
generally over three years. Online content expenditures are expensed as
incurred. Prior to the December 2002 PTVI restructuring, the portion of original
programming costs assigned to the international TV market was fully amortized
upon availability to PTVI. Existing library original programming costs allocated
to the international TV market were amortized proportionately with license fees
recognized related to the PTVI agreement. Management believes that these methods
have provided a reasonable matching of expenses with total estimated revenues
over the periods that revenues associated with films, programs and online
content are expected to be realized. Film and program amortization are adjusted
periodically to reflect changes in the estimates of amounts of related future
revenues. Film and program costs are stated at the lower of unamortized cost or
estimated net realizable value as determined on a specific identification basis
and are classified on the balance sheet as noncurrent assets. See Note (C)
Restructuring of Ownership of International TV Joint Ventures and Note (M)
Programming Costs, Net.

Intangible assets: In accordance with Statement 142, Goodwill and Other
Intangible Assets, we do not amortize goodwill and intangible assets with
indefinite lives but subject them to annual impairment tests. Our
indefinite-lived intangible assets consist of trademarks and certain acquired
distribution agreements. Other intangible assets continue to be amortized over
their useful lives. Noncompete agreements are being amortized using the
straight-line method over the lives of the agreements, either five or ten years.
Distribution agreements deemed to have definite lives are being amortized using
the straight-line method over the lives of the agreements, ranging from three
months to eight years. Capitalized trademark costs include recurring costs
associated with the acquisition, defense, registration, and/or renewal of our
trademarks. A program supply agreement is amortized using the straight-line
method over the ten-year life of the agreement. Copyright defense, registration
and/or renewal costs are being amortized using the straight-line method over 15
years. The noncompete agreements, program supply agreement and copyright costs
are all included in "Other noncurrent assets."

During the first quarter of 2002, we completed the required transitional
impairment tests for goodwill and indefinite-lived intangible assets, which did
not result in an impairment charge. Deferred tax liabilities related to these
assets with indefinite lives will now be realized only if there is a disposition
or an impairment of the value of these intangible assets. We currently have net
operating losses, or NOLs, available to offset deferred tax liabilities realized
within the NOL carryforward period. However, we cannot be certain that NOLs will
be available when the deferred tax liabilities related to these intangible
assets are realized. Therefore, in 2002, we recorded a noncash income tax
provision of $7.1 million for these deferred tax liabilities, which included
$5.8 million related to the cumulative effect of changing the accounting for
amortization from prior years.

As a result of the restructuring of the ownership of PTVI in December 2002, we
acquired distribution agreements of $3.4 million with a weighted average life of
approximately four years and a program supply agreement of $3.2 million with a
life of ten years. The weighted average life of the aggregate of the
definite-lived intangible assets acquired was approximately seven years. We also
acquired indefinite-lived distribution agreements of $9.0 million, which will
not be amortized but will be subject to annual impairment testing.

In the first quarter of 2004, we sold our Sarah Coventry trademarks and service
marks for their approximate book value, pursuant to an agreement under which we
will receive payments over a period not to exceed ten years.

51

Amortizable intangible assets consisted of the following (in thousands):

December 31, 2004 December 31, 2003
-------------------------------------- --------------------------------------
Gross Net Gross Net
Carrying Accumulated Carrying Carrying Accumulated Carrying
Amount Amortization Amount Amount Amortization Amount
- -----------------------------------------------------------------------------------------------------------

Noncompete
agreements $14,000 $12,855 $ 1,145 $14,000 $12,037 $ 1,963
Distribution
agreements 3,151 1,935 1,216 3,151 970 2,181
Program supply
agreement 3,226 645 2,581 3,226 323 2,903
Copyrights 1,979 875 1,104 2,253 743 1,510
- -----------------------------------------------------------------------------------------------------------
Total amortizable
intangible
assets $22,356 $16,310 $ 6,046 $22,630 $14,073 $ 8,557
===========================================================================================================

At December 31, 2004 and 2003, our indefinite-lived intangible assets not
subject to amortization included goodwill of $111.9 million for both years, and
trademarks of $57.3 million and $58.2 million, respectively. Also, of the $31.2
million and $32.2 million of distribution agreements on our Consolidated Balance
Sheets at December 31, 2004 and 2003, respectively, $30.0 million are
indefinite-lived for both periods.

At December 31, 2004 and 2003, goodwill by reportable segment was $111.9 million
for both periods for the Entertainment Group.

At October 1, 2004, we completed our annual impairment testing of goodwill and
indefinite-lived intangible assets and determined that no impairment exists.

The aggregate amortization expense for intangible assets for 2004, 2003 and 2002
was $2.2 million, $5.3 million and $7.2 million, respectively. Amortization
expense related to intangible assets with definite lives is expected to total
approximately $1.6 million, $1.0 million, $0.6 million, $0.6 million and $0.6
million for each of the next five years, respectively.

Derivative financial instruments: We account for derivative instruments in
accordance with Statement 133, Accounting for Derivative Instruments and Hedging
Activities, as amended by Statement 138, which requires all derivative
instruments to be recognized as either assets or liabilities on the balance
sheet at fair value regardless of the purpose or intent for holding the
derivative instrument. The accounting for changes in the fair value of a
derivative instrument depends on whether it has been designated and qualifies as
part of a hedging relationship and, further, on the type of relationship.

We formally document all relationships between hedging instruments and hedged
items, as well as our risk management objectives and strategies for undertaking
various hedge transactions. At December 31, 2004, we had derivative instruments
that have been designated and qualify as cash flow hedges, which are entered
into in order to hedge the variability of cash flows to be received related to
forecasted royalty revenues denominated in foreign currencies, primarily
Japanese Yen and the Euro. We hedge these royalties with forward contracts for
periods not exceeding 12 months. The fair value and carrying value of our
forward contracts were not material. Since these derivative instruments are
designated and qualify as cash flow hedges, the effective portion of the gain or
loss on the derivative instruments is being deferred and reported as a component
of "Accumulated other comprehensive loss" and is reclassified into earnings in
the same line item where the royalty revenue is recognized.

At December 31, 2004 and 2003, we had net unrealized losses totaling $0.08
million and $0.03 million, respectively, in "Accumulated other comprehensive
loss," which represents the effective portion of changes in fair value of the
cash flow hedges. During 2003, we reclassified $0.5 million of net losses from
"Accumulated other comprehensive loss" to the Consolidated Statements of
Operations, which were offset by net gains on the items being hedged. We do not
expect any significant losses to be reclassified from "Accumulated other
comprehensive loss" to earnings within the next 12 months.

52

Earnings per common share: Basic EPS is computed by dividing net income (loss)
applicable to common shareholders by the weighted average number of common
shares outstanding during the period. Diluted EPS adjusts basic EPS for the
dilutive effects of stock options and other potentially dilutive financial
instruments. See Note (G) Earnings per Common Share.

Equity investments: Prior to the restructuring of the ownership of PTVI, the
equity method was used to account for our 19.9% interest in the common stock of
PTVI due to our ability to exercise significant influence over PTVI's operating
and financial policies. Equity in operations of PTVI included our 19.9% interest
in the results of PTVI, the elimination of unrealized profits on certain
transactions between us and PTVI and gains related to the transfer of certain
assets to PTVI. Beginning in 2003, the equity method is used to account for our
investment in PTVLA since the restructuring gave us the ability to exercise
influence over PTVLA. The cost method was used prior to the restructuring.

Minority interest: In 2001, one of our subsidiaries, Playboy.com, converted
three promissory notes, together with accrued and unpaid interest thereon, into
shares of Playboy.com's Series A Preferred Stock. As part of consolidation,
included in "Minority interest" and "Other noncurrent liabilities", is the
accretion of dividends payable and professional fees related to the preferred
stock. Also included in "Other noncurrent liabilities" is minority interest
associated with the preferred stock. As part of the restructuring of the
ownership of PTVI, Claxson agreed to return its shares of the preferred stock.
Additionally, in 2001, we sold a majority of our interest in VIPress. Prior to
the sale, the financial statements of VIPress were included in our financial
statements, along with the related minority interest.

Foreign currency translation: Assets and liabilities in foreign currencies
related to our international TV foreign operations were translated into U.S.
dollars at the exchange rate existing at the balance sheet date. The net
exchange differences resulting from these translations were included in
"Accumulated other comprehensive loss." Revenues and expenses were translated at
average rates for the period.

(B) ACQUISITION

In July 2001, we acquired The Hot Network and The Hot Zone networks,
together with the related television assets of Califa. In addition, we acquired
the Vivid TV network, now operated as Spice Platinum, and the related television
assets of VODI, a separate entity owned by the sellers. The addition of these
networks into our television networks portfolio enables us to offer a wider
range of adult programming. We accounted for the acquisition under the purchase
method of accounting and, accordingly, the results of these networks since the
acquisition date have been included in our Consolidated Statements of
Operations. In connection with the acquisition and purchase price allocations,
the Entertainment Group recorded goodwill of $27.4 million, which is deductible
over 15 years for income tax purposes. The purchase price was recorded at its
net present value and is reported in the Consolidated Balance Sheets as
components of current and noncurrent "Acquisition liabilities."

We recorded $30.8 million of intangible assets separate from goodwill. We
recorded $28.5 million for distribution agreements and $2.3 million for
noncompete agreements. All of the noncompete agreements and $7.5 million of the
distribution agreements are being amortized over approximately eight and two
years, respectively, the weighted average lives of these agreements.
Distribution agreements totaling $21.0 million were deemed to have indefinite
lives and are not subject to amortization.

The total consideration for the acquisition was $70.0 million and is
required to be paid in installments over a ten-year period ending in 2011. The
nominal consideration for Califa's assets was $28.3 million. We also assumed the
obligations of Califa related to a note payable and noncompete liability. The
nominal consideration for VODI's assets was $41.7 million. We were obligated to
pay up to an additional $12.0 million in consideration upon the achievement of
specified financial performance targets, $5.0 million of which we paid on
February 28, 2003 and $7.0 million of which we paid on March 1, 2004. The
amounts were recorded at the acquisition date as part of acquisition
liabilities.

We may accelerate all or any portion of the remaining unpaid purchase
price, but only by making the accelerated payments in cash, at a discount rate
to be mutually agreed upon by the parties in good-faith negotiations. However,
if the parties are unable to agree on the discount rate, we may, at our sole
discretion, elect to accelerate the payment at a 12% discount rate.

53

The Califa acquisition agreement gave us the option of paying up to $71
million of the scheduled payments in cash or Class B stock. The number of
shares, if any, we issue in connection with a particular payment or particular
payments is based on the trading prices of the Class B stock surrounding the
applicable payment dates. Prior to each scheduled payment of consideration, we
must provide the sellers with written notice specifying the portion of the
purchase price payment that we intend to pay in cash and the portion in Class B
stock. If we notify the sellers that we intend to issue Class B stock, the
sellers must elect the portion of the shares that the sellers want us to
register under the Securities Act, referred to as the eligible shares. We are
then obligated to issue eligible shares registered under the Securities Act. The
sellers may sell the eligible shares received during the 90-day period following
the date the eligible shares are issued. If we do not get the registration
statement relating to the resale of our shares issued in connection with a
specified payment effective within the periods set forth in the agreement, we
are also obligated to pay the sellers interest on the amount of the payment
until the registration statement is declared effective. The interest payment can
be paid in cash or shares of Class B stock at our option. For purposes of this
discussion, references to eligible shares also include any shares of Class B
stock issued to pay any required interest payments, if applicable. The interest
rate will vary depending on the length of time required after the applicable
payment date to get the registration statement declared effective. The number of
eligible shares that may be sold on any day during a selling period is limited
under the purchase agreement for the networks. A selling period will be extended
if the applicable volume limitations did not permit all of the eligible shares
to be sold during that selling period, assuming that the maximum number of
shares were sold on each day during the period.

If the sellers elect to sell eligible shares during the applicable selling
period, and the proceeds from the sales of those eligible shares are less than
the aggregate value of those eligible shares at the time of their issuance, we
have agreed to make the sellers whole for the shortfall by, at our option, (a)
paying the shortfall in cash, (b) issuing additional shares of Class B stock in
an amount equal to the shortfall, referred to as the make-whole shares, or (c)
increasing the next scheduled payment of consideration to the sellers in an
amount equal to the shortfall plus interest on the shortfall at a specified
interest rate until the next scheduled payment of consideration. The foregoing
make-whole mechanism will apply only to the extent the sellers have sold the
maximum number of shares they are entitled to sell during the applicable selling
period in accordance with the applicable volume limitations.

We are obligated to issue make-whole shares that are registered under the
Securities Act and the sellers are entitled to sell those shares during a 30-day
selling period that follows their issuance. Sales of make-whole shares are also
subject to volume limitations and the selling periods applicable to make-whole
shares will also be extended if the applicable volume limitations did not permit
all of the make-whole shares to be sold during the applicable selling period,
assuming that the maximum number of shares were sold on each day during the
period. If during the applicable selling period for eligible shares or
make-whole shares, the sales proceeds exceed the amount of the purchase price
payment or the amount of the make-whole payment, the sellers will immediately
cease the offering and sale of the remaining eligible shares or make-whole
shares, as applicable, and the remaining eligible shares or make-whole shares,
as applicable, will be returned promptly to us along with any excess sales
proceeds.

On April 17, 2002, a registration statement for the resale of
approximately 1,475,000 shares became effective. These shares were issued in
payment of the first two installments of consideration, which totaled $22.5
million plus $0.3 million of accrued interest. The sellers elected to sell the
shares and realized net proceeds from the sale of $19.2 million. As a result, we
were required to provide them with a make-whole payment in either cash or Class
B stock of approximately $3.6 million, plus interest until the date payment was
made. On March 14, 2003, we paid the sellers $17.3 million in cash, in
satisfaction of $8.5 million of base consideration due in 2003, a $5.0 million
performance-based payment due in 2003 and the $3.6 million make-whole payment,
plus accrued interest of $0.2 million thereon. The amounts were recorded at the
acquisition date as part of acquisition liabilities. In 2004, we paid the
sellers $15.0 million in cash, which included $7.0 million in performance based
payments.

At December 31, 2004, the remaining installments of consideration were due as
follows (in thousands):

2005 $ 8,000
2006 8,000
2007 8,000
2008 1,000
2009 1,000
2010 1,000
2011 750
- --------------------------------------------------------------------------------
Total future payments $27,750
================================================================================

54

(C) RESTRUCTURING OF OWNERSHIP OF INTERNATIONAL TV JOINT VENTURES

On December 24, 2002, we completed the restructuring of the ownership of
our international TV joint ventures with Claxson. The restructuring resulted in
our acquiring full ownership of Playboy TV and movie networks outside of the
United States and Canada other than Latin America, Iberia and Japan. The Claxson
joint ventures originated when PTVI and PTVLA were formed in 1999 and 1996,
respectively, as joint ventures between us and a member of the Cisneros Group,
or Cisneros, for the ownership and operation of Playboy TV networks outside of
the United States and Canada. In 2001, Claxson succeeded Cisneros as our joint
venture partner. Prior to the restructuring transaction, parts of which were
effective as of April 1, 2002, PTVI and PTVLA had exclusive rights to create and
launch new television networks under the Playboy and Spice brands outside of the
United States and Canada, and under specified circumstances, to license
programming to third parties. We owned a 19.9% equity interest in PTVI and a 19%
equity interest in PTVLA before the restructuring. PTVLA is now our sole
remaining joint venture with Claxson.

Under the terms of the restructuring transaction, we (a) increased from
19.9% to 100% our ownership in PTVI, (b) acquired the 19.9% equity in two
Japanese networks previously owned by PTVI, (c) retained our existing 19%
ownership in PTVLA, (d) acquired an option to increase our percentage ownership
of PTVLA, (e) obtained 100% distribution rights to Playboy TV en Espanol in the
U.S. Hispanic market, (f) restructured our Latin American Internet joint venture
with Claxson in favor of revenue share and promotional agreements for our
respective Internet businesses in Latin America and (g) received from Claxson
its preferred stock ownership in Playboy.com (approximately 3% equity in
Playboy.com if converted).

Prior to the restructuring transaction, in return for the exclusive
international TV rights for the use of the Playboy tradename, film and video
library, and for the acquisition of the international rights to the Spice film
library, the U.K. and Japan Playboy TV networks and certain international
distribution contracts, PTVI was obligated to make total payments of $100.0
million to us, related to the above, over six years, of which $42.5 million had
been received prior to the restructuring transaction. The remaining $57.5
million was to be paid to us from 2002 to 2004. We accounted for these revenues
from the original sale of assets and the licensing payments on an "as received"
basis. In return for our increased ownership in PTVI and the other terms of the
restructuring transaction, among other things, (a) we forgave approximately
$12.3 million in current programming and other receivables due from PTVI, (b) we
will no longer receive the library or output agreement payments that we were
scheduled to receive under the original agreement and (c) Claxson is released
from its remaining funding obligations to PTVI.

We accounted for this transaction as an unwinding of the PTVI joint
venture and final payment under the original sale of assets and licensing
agreement. Accordingly, any assets originally sold by us to PTVI have been
recorded at their book values prior to the formation of PTVI. The majority of
other PTVI net assets, including identifiable intangible assets created
subsequent to PTVI's formation, have been recorded at 80.1% of their fair value
as a result of the 80.1% additional ownership in PTVI that we have acquired. The
Playboy.com preferred stock surrendered by Claxson has been recorded at its
carrying value. The net value received, measured as described above, was $12.8
million. Of this amount, $12.3 million was applied to our current programming
and other receivables from PTVI. The remaining $0.5 million was recorded as of
the transaction date as the final revenue from the original sale of assets and
licensing agreement.

The following unaudited pro forma information presents a summary of our results
of operations assuming the restructuring transaction occurred on January 1, 2002
(in thousands, except per share amounts):

Fiscal Year
Ended
12/31/02
- -------------------------------------------------------------------------------
Net revenues $ 294,446
Net loss (19,257)

Basic and diluted EPS $ (0.75)
- -------------------------------------------------------------------------------

These unaudited pro forma results have been prepared for comparative
purposes only. They do not purport to be indicative of the results of operations
which actually would have resulted had the restructuring transaction occurred on
January 1, 2002, or of future results of operations.

In 2002, we recognized revenues from PTVI of $16.3 million, and pre-tax
income, including our equity in the results of PTVI's operations, of $8.4
million.

55

(D) RESTRUCTURING EXPENSES

In 2004, we recorded a restructuring charge of $0.5 million relating to
the realignment of entertainment and online businesses. In addition, primarily
due to excess office space, we recorded additional charges of $0.4 million
related to the 2002 restructuring plan and reversed $0.2 million related to the
2001 restructuring plan as a result of changes in plan assumptions. Of the total
costs related to these restructuring plans, approximately $9.0 million was paid
by December 31, 2004, with most of the remainder to be paid in 2005 and some
payments continuing through 2007.

In 2003, primarily due to excess space in our Chicago office, we recorded
unfavorable adjustments of $0.1 million and $0.2 million to the previous
estimates related to the 2002 and 2001 restructuring plans, respectively.

In 2002, we recorded a $5.7 million restructuring charge, of which $2.9
million related to the termination of employees and $2.8 million related to the
consolidation of our office space in Los Angeles and Chicago.

In 2001, we implemented a restructuring plan that included a reduction in
workforce coupled with vacating portions of certain office facilities. Total
restructuring charges of $4.6 million were recorded, including $0.9 million
recorded in 2002 as an unfavorable adjustment to the original estimate. Of the
$4.6 million charge, $2.6 million related to the termination of employees and
$2.0 million related to the excess space in our Chicago and New York offices.

The following table displays the activity and balances of the
restructuring reserve account for the years ended December 31, 2004, 2003 and
2002 (in thousands):

Consolidation of
Workforce Facilities and
Reduction Operations Total
- -------------------------------------------------------------------------------
Balance at December 31, 2001 $ 1,579 $ 1,142 $ 2,721
Additional reserve recorded 2,938 2,799 5,737
Write-off leasehold improvements -- (437) (437)
Adjustment to previous estimate 100 806 906
Cash payments (1,845) (505) (2,350)
- -------------------------------------------------------------------------------
Balance at December 31, 2002 2,772 3,805 6,577
Additional reserve recorded -- -- --
Adjustment to previous estimate (168) 518 350
Cash payments (1,974) (1,760) (3,734)
- -------------------------------------------------------------------------------
Balance at December 31, 2003 630 2,563 3,193
Additional reserve recorded 466 -- 466
Adjustment to previous estimate -- 278 278
Cash payments (917) (1,014) (1,931)
- -------------------------------------------------------------------------------
Balance at December 31, 2004 $ 179 $ 1,827 $ 2,006
===============================================================================

(E) GAIN ON DISPOSALS

In 2002, we sold our remaining 20% interest in VIPress, our Polish
publishing joint venture, resulting in a gain of $0.4 million.

56

(F) INCOME TAXES

The income tax provision consisted of the following (in thousands):

Fiscal Year Fiscal Year Fiscal Year
Ended Ended Ended
12/31/04 12/31/03 12/31/02
- --------------------------------------------------------------------------------
Current:
Federal $ -- $ 67 $ --
State 93 152 120
Foreign 2,606 3,246 1,362
- --------------------------------------------------------------------------------
Total current 2,699 3,465 1,482
- --------------------------------------------------------------------------------
Deferred:
Federal 1,042 1,365 6,420
State 104 137 642
Foreign -- -- --
- --------------------------------------------------------------------------------
Total deferred 1,146 1,502 7,062
- --------------------------------------------------------------------------------
Total income tax provision $3,845 $4,967 $8,544
================================================================================

Foreign earnings were approximately $0.5 million, $3.9 million and $0.0
million in 2004, 2003 and 2002, respectively.

The U.S. statutory tax rate applicable to us for each of 2004, 2003 and
2002 was 35%. The income tax provision differed from a provision computed at the
U.S. statutory tax rate as follows (in thousands):

Fiscal Year Fiscal Year Fiscal Year
Ended Ended Ended
12/31/04 12/31/03 12/31/02
- -----------------------------------------------------------------------------------------------------

Statutory rate tax provision (benefit) $ 4,842 $ (907) $(3,007)
Increase (decrease) in taxes resulting from:
Foreign income and withholding tax on licensing income 2,606 3,246 1,362
State income taxes 197 289 762
Nondeductible expenses 661 507 345
(Decrease) increase in valuation allowance (9,163) 3,307 9,479
Tax benefit of foreign taxes paid or accrued (1,341) (1,556) (506)
Expiration of capital loss carryforward 5,969 -- --
Other 74 81 109
- -----------------------------------------------------------------------------------------------------
Total income tax provision $ 3,845 $ 4,967 $ 8,544
=====================================================================================================

Deferred tax assets and liabilities are recognized for the expected future
tax consequences attributable to differences between the financial statement and
tax bases of assets and liabilities using enacted tax rates expected to apply in
the years in which the temporary differences are expected to reverse.

In 2004, we decreased the valuation allowance by $9.2 million, of which
$4.8 million was due to the reduction in the deferred tax asset related to 2004
net income and the remainder was primarily due to the expiration of a portion of
our capital loss carryforward and the deferred tax treatment of certain acquired
intangibles. In 2003, we increased the valuation allowance by $3.3 million, of
which $1.5 million was due to the deferred tax treatment of certain acquired
intangibles and the remainder was primarily due to the deferred tax asset
related to the 2003 net operating loss. Of the $14.6 million increase in the
valuation allowance in 2002, $7.1 million was due to the deferred tax treatment
of certain acquired intangibles as a result of the adoption of Statement 142,
Goodwill and Other Intangible Assets, and the remainder was primarily due to the
deferred tax asset related to the 2002 net operating loss.

57

The significant components of our deferred tax assets and deferred tax
liabilities at December 31, 2003 and 2004 are presented below (in thousands):

Dec. 31, Net Dec. 31,
2003 Change 2004
- -------------------------------------------------------------------------------
Deferred tax assets:
NOLs $ 24,966 $ 5,337 $ 30,303
Capital loss carryforwards 9,285 (7,338) 1,947
Tax credit carryforwards 11,679 479 12,158
Temporary difference related to PTVI 15,542 (7,713) 7,829
Other deductible temporary differences 26,596 868 27,464
- -------------------------------------------------------------------------------
Total deferred tax assets 88,068 (8,367) 79,701
Valuation allowance (72,453) 9,163 (63,290)
- -------------------------------------------------------------------------------
Deferred tax assets 15,615 796 16,411
- -------------------------------------------------------------------------------
Deferred tax liabilities:
Deferred subscription acquisition costs (5,483) (328) (5,811)
Intangible assets (19,528) (1,311) (20,839)
Other taxable temporary differences (4,481) (303) (4,784)
- -------------------------------------------------------------------------------
Deferred tax liabilities (29,492) (1,942) (31,434)
- -------------------------------------------------------------------------------
Deferred tax liabilities, net $(13,877) $ (1,146) $(15,023)
===============================================================================

At December 31, 2004, we had NOLs of $86.6 million expiring from 2009
through 2024. We had capital loss carryforwards of $5.6 million expiring in
2008. In addition, foreign tax credit carryforwards of $11.0 million and minimum
tax credit carryforwards of $1.1 million are available to reduce future U.S.
federal income taxes. The foreign tax credit carryforwards expire in 2009
through 2014, and the minimum tax credit carryforwards have no expiration date.

(G) EARNINGS PER COMMON SHARE

The following table sets forth the computation of basic and diluted earnings per
share, or EPS (in thousands, except per share amounts):

Fiscal Year Fiscal Year Fiscal Year
Ended Ended Ended
12/31/04 12/31/03 12/31/02
- ---------------------------------------------------------------------------------------------

Numerator:
Net income (loss) applicable to common shareholders $ 9,561 $ (8,450) $(17,135)
=============================================================================================

Denominator:
For basic EPS - weighted-average shares 31,581 27,023 25,595
Effect of dilutive potential common shares:
Employee stock options and other 186 -- --
- ---------------------------------------------------------------------------------------------
Dilutive potential common shares 186 -- --
- ---------------------------------------------------------------------------------------------
For diluted EPS - weighted-average shares 31,767 27,023 25,595
=============================================================================================

The following table represents the approximate number of shares related to
options to purchase our Class B common stock, or Class B stock, convertible
preferred stock and restricted stock awards that were outstanding during the
year but were not included in the computation of diluted EPS, as the inclusion
of these shares would have been antidilutive (in thousands):

Fiscal Year Fiscal Year Fiscal Year
Ended Ended Ended
12/31/04 12/31/03 12/31/02
- --------------------------------------------------------------------------------
Stock options 2,336 2,835 2,670
Convertible preferred stock 743 1,506 --
Restricted stock awards -- -- 250
- --------------------------------------------------------------------------------
Total 3,079 4,341 2,920
================================================================================

On May 1, 2003, $10.0 million of Holdings, Series A Preferred Stock held
by Mr. Hefner, along with accumulated dividends of $0.1 million, were exchanged
for 1,122,209 shares of Playboy Class B stock.

58

On April 26, 2004, we completed a public offering of 6,021,340 shares of
our Class B stock. Included in this offering were 1,485,948 shares sold by Mr.
Hefner. The shares sold by Mr. Hefner consisted of all of the shares of Class B
common stock he received upon conversion of all of the outstanding shares of
Playboy Series A convertible preferred stock, which we refer to as the Playboy
Preferred Stock, at the time of the offering. See Note (S) Public Equity
Offering for additional information.

(H) FINANCIAL INSTRUMENTS

Fair Value: The fair value of a financial instrument represents the amount at
which the instrument could be exchanged in a current transaction between willing
parties, other than in a forced sale or liquidation. For cash and cash
equivalents, receivables, certain other current assets and current maturities of
long-term debt and short-term debt, the amounts reported approximated fair value
due to their short-term nature. At December 31, 2003, our long-term debt
consisted of $115.0 million of senior secured notes, due 2010, with a coupon of
11.00%. The fair value of these notes was determined to be $131.8 million using
market prices. On June 11, 2004, we used the proceeds from our equity offering,
more fully described in Note (S) Public Equity Offering, to redeem $35.0 million
in aggregate principal amount of the outstanding notes, which reduced our
long-term financing obligations to $80.0 million as of December 31, 2004. The
fair value of these notes was determined to be $92.9 million at December 31,
2004. For foreign currency forward contracts, the fair value was estimated using
quoted market prices established by financial institutions for comparable
instruments, which approximated the contracts' values.

Concentrations of Credit Risk: Concentration of credit risk with respect to
accounts receivable is limited due to the wide variety of customers and segments
from which our products are sold and licensed.

(I) MARKETABLE SECURITIES

Marketable securities, primarily purchased in connection with our deferred
compensation plans, consisted of the following (in thousands):

Dec. 31, Dec. 31,
2004 2003
- -------------------------------------------------------------------------------
Cost of marketable securities $ 3,894 $ 3,811
Gross unrealized holding gains 217 50
Gross unrealized holding losses (59) (315)
- -------------------------------------------------------------------------------
Fair value of marketable securities $ 4,052 $ 3,546
===============================================================================

There were no proceeds from the sale of marketable securities for 2004,
2003 and 2002, and therefore no gains or losses were realized. Included in
"Total other comprehensive income (loss)" for 2004 and 2003 were net unrealized
holding gains of $0.4 million and $0.8 million, respectively, and for 2002 net
unrealized holding losses of $0.6 million.

(J) INVENTORIES, NET

Inventories, net, which are stated at the lower of cost (specific cost and
average cost) or fair value, consisted of the following (in thousands):

Dec. 31, Dec. 31,
2004 2003
- --------------------------------------------------------------------------------
Paper $ 2,573 $ 2,613
Editorial and other prepublication costs 7,814 6,082
Merchandise finished goods 2,050 3,322
- --------------------------------------------------------------------------------
Total inventories, net $12,437 $12,017
================================================================================

(K) ADVERTISING COSTS

At December 31, 2004 and 2003, advertising costs of $7.9 million and $6.9
million, respectively, were deferred and included in "Deferred subscription
acquisition costs" and "Other current assets." For 2004, 2003 and 2002, our
advertising expense was $35.8 million, $34.5 million and $31.4 million,
respectively.

59

(L) PROPERTY AND EQUIPMENT, NET

Property and equipment, net, consisted of the following (in thousands):

Dec. 31, Dec. 31,
2004 2003
- -------------------------------------------------------------------------------
Land $ 292 $ 292
Buildings and improvements 8,706 8,644
Furniture and equipment 18,337 17,745
Leasehold improvements 11,090 11,137
Software 8,214 6,855
- -------------------------------------------------------------------------------
Total property and equipment 46,639 44,673
Accumulated depreciation (35,148) (32,653)
- -------------------------------------------------------------------------------
Total property and equipment, net $ 11,491 $ 12,020
===============================================================================

(M) PROGRAMMING COSTS, NET

Programming costs, net, consisted of the following (in thousands):

Dec. 31, Dec. 31,
2004 2003
- --------------------------------------------------------------------------------
Released, less amortization $38,279 $44,919
Completed, not yet released 10,471 5,877
In-process 7,247 6,630
- --------------------------------------------------------------------------------
Total programming costs, net $55,997 $57,426
================================================================================

Based on management's estimate at December 31, 2004 of future total gross
revenues, approximately 57% of the completed original programming costs is
expected to be amortized during 2005. We expect to amortize virtually all of the
released, original programming costs during the next three years. At December
31, 2004, we had $19.8 million of film acquisition costs. Film acquisition costs
are typically amortized using the straight-line method over generally three
years or less, which is our estimate of how long we plan to re-air a film or
program on our broadcast networks.

(N) FINANCING OBLIGATIONS

Financing obligations consisted of the following (in thousands):

Dec. 31, Dec. 31,
2004 2003
- --------------------------------------------------------------------------------
Senior secured notes, interest of 11.00% $ 80,000 $115,000
- --------------------------------------------------------------------------------
Total long-term financing obligations $ 80,000 $115,000
================================================================================

Debt Financings

On March 11, 2003, we completed the offering of $115.0 million in
aggregate principal amount of senior secured notes through Holdings. On
September 17, 2003, the senior secured notes were exchanged for new registered
senior secured notes. The form and terms of the new notes are identical in all
material respects (including principal amount, interest rate, maturity, ranking
and covenant restrictions) to the form and terms of the old notes. The senior
secured notes mature on March 15, 2010 and bear interest at the rate of 11.00%
per annum, with interest payable on March 15th and September 15th of each year,
beginning September 15, 2003.

Under the terms of the indenture governing the notes, we have the right at
any time prior to March 15, 2006, to redeem up to 35% of the original $115.0
million in aggregate principal amount of the notes, or $40.25 million, at a
redemption price of 111.0% of the principal amount of the notes redeemed, plus
accrued and unpaid interest, with the net cash proceeds from a qualifying equity
offering. As previously mentioned, on June 11, 2004, we used a portion of the
net proceeds of the equity offering to redeem $35.0 million in aggregate
principal amount of the outstanding notes, which reduced our long term financing
obligations to $80.0 million as of December 31, 2004.

60

The notes are guaranteed on a senior secured basis by us and by
substantially all of our domestic subsidiaries, referred to as the guarantors,
excluding Playboy.com and its subsidiaries. The notes and the guarantees rank
equally in right of payment with our and the guarantors' other existing and
future senior debt. The notes and the guarantees are secured by a first-priority
lien on our and each guarantor's trademarks, referred to as the primary
collateral, and by a second-priority lien, junior to a lien for the benefit of
the lenders under the new credit facility, as described below, on (a) 100% of
the stock of substantially all of our domestic subsidiaries, excluding the
subsidiaries of Playboy.com, (b) 65% of the capital stock of substantially all
of our indirect first-tier foreign subsidiaries, (c) substantially all of our
and each guarantor's domestic personal property, excluding the primary
collateral and (d) the Playboy Mansion, or collectively, the secondary
collateral. Our ability to pay cash dividends on our common stock is limited
under the terms of the notes. See Note W Subsequent Event regarding our tender
offer subsequent to December 31, 2004 to purchase the outstanding senior secured
notes.

On March 11, 2003, Holdings also entered into an agreement for a new
revolving credit facility, which was subsequently amended on September 15, 2004.
We are permitted to borrow up to $30.0 million in revolving borrowings, issue
letters of credit or a combination of both. At December 31, 2004, there were no
borrowings and $10.0 million in letters of credit outstanding under this
facility, permitting $20.0 million of available borrowings under this facility.
For purposes of calculating interest, revolving loans made under the new credit
facility will be designated at either the offshore dollar inter bank offer rate,
or IBOR, plus a borrowing margin based on our adjusted EBITDA or, in certain
circumstances, at a base rate plus a borrowing margin based on our adjusted
EBITDA, as defined in the agreement. Letters of credit issued under the credit
facility bear fees at the applicable borrowing margin based on our adjusted
EBITDA. All amounts outstanding under the new credit facility will mature on
September 1, 2007. Our obligations under the credit facility are guaranteed by
us and each of the guarantors of the notes. The obligations of us and each of
the guarantors under the new credit facility are secured by a first-priority
lien on the secondary collateral and a second-priority lien on the primary
collateral that support obligations under the notes.

FINANCING FROM RELATED PARTY

At December 31, 2002, Playboy.com had an aggregate of $27.2 million of
outstanding indebtedness to Hugh M. Hefner, our founder and Editor-In-Chief, in
the form of three promissory notes. Upon the closing of the senior secured notes
offering on March 11, 2003, Playboy.com's debt to Mr. Hefner was restructured.
One promissory note, in the amount of $10.0 million, was extinguished in
exchange for shares of Holdings Series A Preferred Stock with an aggregate
stated value of $10.0 million. The two other promissory notes, in a combined
principal amount of $17.2 million, were extinguished in exchange for $0.5
million in cash and shares of Holdings Series B Preferred Stock with an
aggregate stated value of $16.7 million. Pursuant to the terms of an exchange
agreement between us, Holdings, Playboy.com and Mr. Hefner and certificates of
designation governing the Holdings Series A and Series B Preferred Stock, we
were required to exchange the Holdings Series A Preferred Stock for shares of
Playboy Class B stock and to exchange the Holdings Series B Preferred Stock for
shares of Playboy Preferred Stock.

On May 1, 2003, we exchanged the Holdings Series A Preferred Stock plus
accumulated dividends for 1,122,209 shares of Playboy Class B stock and
exchanged the Holdings Series B Preferred Stock for 1,674 shares of Playboy
Preferred Stock with an aggregate stated value of $16.7 million. The Playboy
Preferred Stock accrued dividends at a rate of 8.00% per annum, which were paid
semi-annually.

The Playboy Preferred Stock was convertible at the option of Mr. Hefner,
the holder, into shares of our Class B stock at a conversion price of $11.2625,
which is equal to 125% of the weighted average closing price of our Class B
stock over the 90-day period prior to the exchange of Holdings Series B
Preferred Stock for Playboy Preferred Stock.

61

On April 26, 2004, we completed a public offering of 6,021,340 Class B
shares at $12.69 per share, before underwriting discounts. Included in this
offering were 4,385,392 shares sold by Playboy, 1,485,948 sold by Mr. Hefner and
150,000 shares sold by Christie Hefner, our Chairman and Chief Executive
Officer. Playboy's shares included 3,600,000 initial shares, plus an additional
785,392 shares due to the underwriters' exercise of their over-allotment option.
The shares sold by Mr. Hefner consisted of all the shares of Class B stock he
received upon conversion, at the time of the offering, of all of the outstanding
shares of Playboy Preferred Stock. Mr. Hefner and Ms. Hefner paid for expenses
related to this transaction proportionate to the number of shares each sold to
the total number of shares sold in the offering.

In August 2001, our subsidiary Playboy.com, Inc. issued $15.0 million of
its Series A Preferred Stock, of which $5.0 million was purchased by Mr. Hefner.
In connection with the restructuring of our international TV joint ventures, we
reacquired the Series A Preferred Stock that was owned by an affiliate of
Claxson. Each share of the Playboy.com Series A Preferred Stock has a
liquidation preference equal to $7.1097 plus 8.0% per annum compounded annually
from the original issuance date. As of December 31, 2004, the aggregate
liquidation preference of the outstanding shares of Series A Preferred Stock was
$12.5 million.

The holders of Playboy.com Series A Preferred Stock can require
Playboy.com to redeem any or all of their shares of Playboy.com Series A
Preferred Stock at any time from and after August 10, 2006. If either of the
preferred stockholders elects to cause a redemption during the 180-day period
beginning August 10, 2006, and Playboy.com is unable to, or does not, satisfy
its redemption obligations, we are required to satisfy Playboy.com's redemption
obligations by delivering, at our option, cash or shares of our Class B common
stock or any combination thereof.

(O) BENEFIT PLANS

Our Employees Investment Savings Plan is a defined contribution plan
consisting of two components, a profit sharing plan and a 401(k) plan. The
profit sharing plan covers all employees who have completed 12 months of service
of at least 1,000 hours. Our discretionary contribution to the profit sharing
plan is distributed to each eligible employee's account in an amount equal to
the ratio of each eligible employee's compensation, subject to Internal Revenue
Service limitations, to the total compensation paid to all such employees. Total
contributions for 2004, 2003 and 2002 were $1.3 million, $1.0 million and $0.5
million, respectively.

All employees are eligible to participate in the 401(k) plan upon their
date of hire. We offer several mutual fund investment options. The purchase of
our stock is not an option. We make matching contributions to the 401(k) plan
based on each participating employee's contributions and eligible compensation.
Our matching contributions for 2004, 2003 and 2002 related to this plan were
$1.2 million, $1.0 million and $1.1 million, respectively.

We have two nonqualified deferred compensation plans, which permit certain
employees and all nonemployee directors to annually elect to defer a portion of
their compensation. A match is provided to employees who participate in the
deferred compensation plan, at a certain specified minimum level, and whose
annual eligible earnings exceed the salary limitation contained in the 401(k)
plan. All amounts deferred and earnings credited under these plans are
immediately 100% vested and are general unsecured obligations. Such obligations
totaled $4.7 million and $4.2 million at December 31, 2004 and 2003,
respectively, and are included in "Other noncurrent liabilities."

(P) COMMITMENTS AND CONTINGENCIES

Our principal lease commitments are for office space, operations
facilities and furniture and equipment. Some of these leases contain renewal or
end-of-lease purchase options. Our restructuring initiatives in 2002 and 2001
included the consolidation of our office space in our Chicago, New York and Los
Angeles locations. In our restructuring efforts, we have subleased a portion of
our excess office space, and are working to sublease our remaining excess office
space. See Note (D) Restructuring Expenses.

62

Rent expense, net was as follows (in thousands):

Fiscal Year Fiscal Year Fiscal Year
Ended Ended Ended
12/31/04 12/31/03 12/31/02
- -------------------------------------------------------------------------------
Minimum rent expense $ 13,495 $ 13,755 $ 11,343
Sublease income (419) (842) (1,036)
- -------------------------------------------------------------------------------
Rent expense, net $ 13,076 $ 12,913 $ 10,307
===============================================================================

There was no contingent rent expense in any of these periods. The minimum future
commitments at December 31, 2004, under operating leases with initial or
remaining noncancelable terms in excess of one year, were as follows (in
thousands):

2005 $ 13,560
2006 12,853
2007 11,884
2008 10,439
2009 7,074
Later years 58,357
Less minimum sublease income (1,152)
- -------------------------------------------------------------------------------
Minimum lease commitments, net $ 113,015
- -------------------------------------------------------------------------------

Our entertainment programming is delivered to DTH and cable operators
through communications satellite transponders. We currently have four
transponder service agreements related to our domestic networks, the terms of
which currently extend through 2006, 2008, 2013, and 2014. We also have two
international transponder service agreements, the terms of which currently
extend through 2006 and 2009. At December 31, 2004, future commitments related
to these six agreements were $6.7 million, $6.9 million, $6.2 million, $6.0
million, and $5.0 million for 2005, 2006, 2007, 2008 and 2009, respectively, and
$13.8 million thereafter. These service agreements contain protections typical
in the industry against transponder failure, including access to spare
transponders, and conditions under which our access may be denied. Major
limitations on our access to DTH or cable systems or satellite transponder
capacity could materially adversely affect our operating performance. There have
been no instances in which we have been denied access to transponder service.

In 2002, a $4.4 million verdict was entered against us by a state trial
court in Texas in a lawsuit with a former publishing licensee. We terminated the
license in 1998 due to the licensee's failure to pay royalties and other amounts
due to us under the license agreement. We are currently pursuing an appeal. We
have posted a bond in the amount of approximately $8.5 million, which represents
the amount of the judgment, costs and estimated pre-and post-judgment interest.
We, on advice of legal counsel, believe that it is not probable that a material
judgment against us will be sustained and have not recorded a liability for this
case in accordance with Statement 5, Accounting for Contingencies.

In the fourth quarter of 2003, we recorded $8.5 million related to
settlement of the Logix litigation, which related to events prior to our 1999
acquisition of Spice. We made a payment of $6.5 million in 2004 and $1.0 million
in 2005 and will make a payment of $1.0 million in 2006.

(Q) STOCK PLANS

We have various stock plans for key employees and nonemployee directors,
which provide for the grant of nonqualified and incentive stock options and
shares of restricted stock, deferred stock and other performance-based equity
awards. The exercise price of options granted equals or exceeds the fair value
at the grant date. In general, options become exercisable over a two- to
four-year period from the grant date and expire ten years from the grant date.
Restricted stock awards provide for the issuance of Class B stock subject to
restrictions that lapse if we meet specified operating income objectives
pertaining to one or more fiscal years. In addition, one of the plans pertaining
to nonemployee directors also allows for the issuance of Class B stock as awards
and payment for annual retainer, committee and meeting fees.

63

At December 31, 2004, a total of 1,581,575 shares of Class B stock was available
for future grants under the various stock plans combined. Stock option
transactions are summarized as follows:

Weighted Average
Shares Exercise Price
- --------------------------------------------------------------------------------------
Class A Class B Class A Class B
- --------------------------------------------------------------------------------------

Outstanding at December 31, 2001 -- 2,065,136 $ -- $ 18.31
Granted -- 781,250 -- 14.91
Exercised -- (11,500) -- 10.31
Canceled -- (219,000) -- 16.19
- ---------------------------------------------------------
Outstanding at December 31, 2002 -- 2,615,886 -- 17.51
Granted -- 701,000 -- 10.03
Exercised -- (17,500) -- 10.95
Canceled -- (455,500) -- 14.33
- ---------------------------------------------------------
Outstanding at December 31, 2003 -- 2,843,886 -- 16.22
Granted -- 549,500 -- 14.20
Exercised -- (41,334) -- 7.84
Canceled -- (119,332) -- 12.69
- ---------------------------------------------------------
Outstanding at December 31, 2004 -- 3,232,720 $ -- $ 16.09
======================================================================================

The following table summarizes information regarding stock options at December
31, 2004:

Options Outstanding Options Exercisable
----------------------------------------- --------------------------
Weighted Weighted Weighted
Average Average Average
Range of Number Remaining Exercise Number Exercise
Exercise Prices Outstanding Life Price Exercisable Price
- -----------------------------------------------------------------------------------------

Class B
$8.88-$15.85 2,244,220 6.74 $ 12.53 1,275,397 $ 12.60
$16.72-$21.00 471,000 4.16 20.72 471,000 20.72
$24.13-$31.50 517,500 4.38 27.27 517,500 27.27
- -----------------------------------------------------------------------------------------
Total Class B 3,232,720 5.99 $ 16.09 2,263,897 $ 17.65
=========================================================================================

The weighted average exercise prices for Class B exercisable options at
December 31, 2003 and 2002 were $18.79 and $18.65, respectively.

There was no restricted stock awarded in 2003. For 2002, the weighted
average fair value of restricted stock awarded was $11.82. As it was probable
that the performance criteria would be met, we recorded $2.7 million of
compensation expense in 2002.

During 2004, we issued 173,000 shares of restricted stock units at a
weighted average fair value of $14.04, and 9,000 of these shares were cancelled
during the year. As it was probable that the performance criteria would be met,
we recorded $0.7 million of compensation expense in 2004.

We have an Employee Stock Purchase Plan to provide substantially all
regular full- and part-time employees an opportunity to purchase shares of our
Class B stock through payroll deductions. The funds are withheld and then used
to acquire stock on the last trading day of each quarter, based on the closing
price less a 15% discount. At December 31, 2004, a total of approximately 25,000
shares of Class B stock were available for future purchases under this plan.

(R) SALE OF SECURITIES

The Califa acquisition agreement gave us the option of paying up to $71
million of the purchase price in cash or Class B stock through 2007. On April
17, 2002, a registration statement for the resale of approximately 1,475,000
shares became effective. These shares were issued in payment of the first two
installments of consideration, which totaled $22.5 million plus $0.3 million of
accrued interest. The sellers elected to sell the shares and realized net
proceeds from the sale of $19.2 million. As a result, we were required to
provide them with a make-whole payment in either cash or Class B stock of
approximately $3.6 million, plus interest until the date payment was made. On
March 14, 2003, we paid the sellers $17.3 million in cash, in satisfaction of
$8.5 million of base consideration due in 2003, a $5.0 million performance-based
payment due in 2003 and the $3.6 million make-whole payment, plus accrued
interest of $0.2 million thereon. The amounts were recorded at the acquisition
date as part of acquisition liabilities. In 2004, we paid the sellers $15.0
million in cash. See Footnote (B) Acquisition for additional information.

64

(S) PUBLIC EQUITY OFFERING

On April 26, 2004, we completed a public offering of 6,021,340 Class B
shares at $12.69 per share, before underwriting discounts. Included in this
offering were 4,385,392 shares sold by Playboy, 1,485,948 shares sold by Mr.
Hefner, and 150,000 shares sold by Ms. Hefner. Playboy's shares included
3,600,000 initial shares, plus an additional 785,392 shares due to the
underwriters' exercise of their over-allotment option. The shares sold by Mr.
Hefner consisted of all of the shares of Class B stock he received upon
conversion, at the time of the offering, of all of the outstanding shares of
Playboy Preferred Stock. Mr. Hefner and Ms. Hefner paid for expenses related to
this transaction proportionate to the number of shares each sold to the total
number of shares sold in the offering.

Net proceeds to us from the sale of our shares were approximately $51.9
million. On June 11, 2004, we used $39.8 million of the net proceeds of this
sale to redeem $35.0 million in aggregate principal amount of the outstanding
11.00% senior secured notes due 2010, which included a $3.9 million bond
redemption premium and accrued and unpaid interest of $0.9 million. We used
approximately $0.7 million of the net proceeds to pay accrued and unpaid
dividends on the Playboy Preferred Stock up to the time of conversion. The
balance of the net proceeds was used for general corporate purposes in the
current year and on an ongoing basis.

(T) CONSOLIDATED STATEMENTS OF CASH FLOWS

Cash paid for interest and income taxes was as follows (in thousands):

Fiscal Year Fiscal Year Fiscal Year
Ended Ended Ended
12/31/04 12/31/03 12/31/02
- --------------------------------------------------------------------------------
Interest $20,267 $13,720 $ 9,260
Income taxes $ 2,544 $ 3,668 $ 1,485
- --------------------------------------------------------------------------------

In 2003, we had noncash activities related to the conversion of three
related party promissory notes. The notes were first converted to Holdings
Series A and Series B Preferred Stock. Subsequently, the Holdings Series A
Preferred Stock was converted to Playboy Class B stock and the Series B
Preferred Stock was converted to Playboy Preferred Stock. See Note (N) Financing
Obligations. In 2002, we had noncash activities related to the conversion of two
related party promissory notes and accrued interest into a new promissory note
as well as noncash activities related to the Califa acquisition. See Note (B)
Acquisition.

(U) SEGMENT INFORMATION

Our businesses are currently classified into the following three
reportable segments: Entertainment, Publishing and Licensing. During the fourth
quarter of 2004, we announced the realignment of our existing TV, DVD, online
and wireless businesses. As a result of the new operating structure, we have
changed our reportable business segments to include in the Entertainment Group
segment the operations formerly reported in the Online Group segment. The new
operating structure is designed to streamline operations, maximize return on
content creation and increase responsiveness to customers. As required by
Statement 131, "Disclosure about Segments of an Enterprise and Related
Information," all prior period segment information has been reclassified to
reflect this change.

As a result of the realignment, the Entertainment Group operations now
include the production and distribution of adult television programming for our
domestic and international TV networks, online content, and worldwide DVD
products in addition to Internet subscriptions, e-commerce and other electronic
platform businesses including advertising, international ventures and online
gaming. Publishing Group operations include the publication of Playboy magazine,
other domestic publishing businesses comprising special editions, calendars and
ancillary businesses, and the licensing of international editions of Playboy
magazine. Licensing Group operations include the licensing of consumer products
carrying one or more of our trademarks and images, as well as Playboy branded
location-based entertainment and marketing activities.

These reportable segments are based on the nature of the products offered.
Our chief operating decision maker evaluates performance and allocates resources
based on several factors, of which the primary financial measure is segment
operating results. The accounting policies of the reportable segments are the
same as those described in Note (A) Summary of Significant Accounting Policies.

65

The following table represents financial information by reportable segment (in
thousands):

Fiscal Year Fiscal Year Fiscal Year
Ended Ended Ended
12/31/04 12/31/03 12/31/02
- -------------------------------------------------------------------------------------

Net revenues (1)
Entertainment $ 189,157 $ 175,735 $ 152,603
Publishing 119,816 120,678 111,802
Licensing 20,403 19,431 13,217
- -------------------------------------------------------------------------------------
Total $ 329,376 $ 315,844 $ 277,622
=====================================================================================
Income (loss) before income taxes
Entertainment $ 33,145 $ 30,823 $ 23,449
Publishing 6,233 5,160 2,669
Licensing 10,476 10,358 4,581
Corporate Administration and Promotion (18,207) (16,539) (15,810)
Restructuring expenses (744) (350) (6,643)
Gain on disposals 2 -- 442
Nonoperating expense (17,071) (32,042) (17,279)
- -------------------------------------------------------------------------------------
Total $ 13,834 $ (2,590) $ (8,591)
=====================================================================================
Depreciation and amortization (2) (3)
Entertainment $ 45,847 $ 47,892 $ 49,621
Publishing 231 397 371
Licensing 28 33 46
Corporate Administration and Promotion 994 1,236 1,581
- -------------------------------------------------------------------------------------
Total $ 47,100 $ 49,558 $ 51,619
=====================================================================================
Identifiable assets (2) (4)
Entertainment $ 266,736 $ 270,549 $ 267,463
Publishing 45,724 48,462 43,861
Licensing 5,344 8,199 4,726
Catalog -- -- 36
Corporate Administration and Promotion 102,777 90,850 53,635
- -------------------------------------------------------------------------------------
Total $ 420,581 $ 418,060 $ 369,721
=====================================================================================

(1) Net revenues include revenues attributable to foreign countries of
approximately $78,337, $69,478, and $45,695 in 2004, 2003 and 2002,
respectively. Revenues from individual foreign countries were not
material. Revenues are generally attributed to countries based on the
location of customers, except licensing royalties where revenues are
attributed based upon the location of licensees.

(2) The majority of our property and equipment and capital expenditures are
reflected in Corporate Administration and Promotion; depreciation,
however, is partially allocated to the reportable segments.

(3) Amounts include depreciation of property and equipment, amortization of
intangible assets and amortization of investments in entertainment
programming.

(4) Our long-lived assets located in foreign countries were not material.

(V) RELATED PARTY TRANSACTIONS

In 1971, we purchased the Playboy Mansion in Los Angeles, California,
where our founder, Hugh M. Hefner, lives. The Playboy Mansion is used for
various corporate activities, including serving as a valuable location for video
production, magazine photography and for online, advertising and sales events.
It also enhances our image, as host for many charitable and civic functions. The
Playboy Mansion generates substantial publicity and recognition, which increase
public awareness of us and our products and services. Mr. Hefner pays us rent
for that portion of the Playboy Mansion used exclusively for his and his
personal guests' residence as well as the per-unit value of non-business meals,
beverages and other benefits received by him and his personal guests. The
Playboy Mansion is included in our Consolidated Balance Sheets at December 31,
2004 and 2003 at a net book value, including all improvements and after
accumulated depreciation, of $1.6 million for both years. The operating expenses
of the Playboy Mansion, including depreciation and taxes, were $3.0 million,
$2.3 million and $3.6 million for 2004, 2003 and 2002, respectively, net of rent
received from Mr. Hefner. We estimated the sum of the rent and other benefits
payable for 2004 to be $1.3 million, and Mr. Hefner paid that amount during
2004. The actual rent and other benefits payable for 2003 and 2002 was $1.4
million and $1.3 million, respectively.

66

From time to time, we enter into barter transactions in which we secure
air transportation for Mr. Hefner in exchange for advertising pages in Playboy
magazine. Mr. Hefner reimburses us for our direct costs of providing these ad
pages. We receive significant promotional benefit from these transactions. There
were no such transactions in 2004, 2003 and 2002.

On April 26, 2004, Mr. Hefner converted his $16.7 million of Playboy
Preferred Stock into 1,485,948 shares of our Class B stock and sold these shares
as part of our public equity offering on that date. See Note (S) Public Equity
Offering.

At December 31, 2002 and at the time of the Hefner debt restructuring,
Playboy.com had an aggregate of $27.2 million of outstanding indebtedness to Mr.
Hefner in the form of three promissory notes. Upon the closing of the senior
secured notes offering on March 11, 2003, Playboy.com's debt to Mr. Hefner was
restructured as previously discussed in Note (N) Financing Obligations.

Prior to the December 2002 PTVI ownership restructuring, we also had
material related party transactions with PTVI. See Note (C) Restructuring of
Ownership of International TV Joint Ventures.

In August 2001, our subsidiary Playboy.com, Inc. issued $15.0 million of
its Series A Preferred Stock, of which $5.0 million was purchased by Mr. Hefner.
See Note (N) Financing Obligations for additional information regarding the
terms and redemption of the Playboy.com Series A Preferred Stock.

(W) SUBSEQUENT EVENT

On February 22, 2005, Holdings commenced an offer to purchase for cash all
$80.0 million of the outstanding senior secured notes. In connection with the
tender offer, consents from holders of the senior secured notes are being
solicited for certain amendments which would eliminate substantially all of the
restrictive covenants and certain events of default and would release all of the
related guarantees and collateral. The consent solicitation will expire on March
7, 2005, unless extended or earlier terminated. The tender offer will expire on
March 22, 2005, unless extended or earlier terminated. The total amount of funds
required to purchase all of the senior secured notes and make consent payments,
to pay accrued and unpaid interest on the senior secured notes, and pay all fees
and expenses in connection with the tender offer and consent solicitation is
expected to be approximately $100.0 million, assuming all senior secured notes
are validly tendered and not withdrawn prior to the consent deadline. We expect
to fund the tender offer and consent solicitation from various sources, which
may include available cash, borrowings under our existing credit facility, new
debt financing, or a combination of these sources. Completion of the tender
offer and consent solicitation is subject to the satisfaction of certain
conditions, including (i) receipt of valid tenders for at least 66-2/3% of the
principal amount of outstanding senior secured notes and (ii) completion of a
financing having gross proceeds of at least $90.0 million. The tender offer and
consent solicitation may be amended, extended or, under certain circumstances,
terminated.

(X) QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)

The following is a summary of the unaudited quarterly results of operations for
2004 and 2003 (in thousands, except per share amounts):

Quarters Ended
------------------------------------------------
2004 Mar. 31 June 30 Sept. 30 Dec. 31
- -----------------------------------------------------------------------------------------

Net revenues $80,870 $78,717 $80,258 $89,531
Operating income 7,452 3,163 6,705 13,585
Net income (loss) 1,888 (8,291) 1,927 14,465
Net income (loss) applicable to
common shareholders 1,553 (8,384) 1,927 14,465
Basic and diluted EPS applicable to
common shareholders 0.06 (0.26) 0.06 0.43
Common stock price
Class A high 14.78 13.26 11.25 12.35
Class A low 12.10 11.00 7.60 9.60
Class B high 16.48 14.55 12.00 13.25
Class B low $ 13.05 $ 11.43 $ 8.00 $ 9.96
- -----------------------------------------------------------------------------------------

67

Quarters Ended
------------------------------------------------
2003 Mar. 31 June 30 Sept. 30 Dec. 31
- -----------------------------------------------------------------------------------------

Net revenues $74,281 $75,971 $74,448 $91,144
Operating income 9,450 5,518 5,661 8,823
Net income (loss) 632 (905) (610) (6,674)
Net income (loss) applicable to
common shareholders 632 (1,128) (944) (7,010)
Basic and diluted EPS applicable to
common shareholders 0.02 (0.04) (0.03) (0.26)
Common stock price
Class A high 10.23 12.64 13.86 15.68
Class A low 7.48 8.03 11.64 13.48
Class B high 11.95 13.74 15.11 16.91
Class B low $ 7.92 $ 8.47 $ 12.75 $ 14.45
- -----------------------------------------------------------------------------------------

Net income for the quarter ended December 31, 2004 included a $5.6 million
insurance recovery related to litigation. Net loss for the quarter ended
December 31, 2003 included an $8.5 million charge for the Logix litigation
settlement.

Net loss for the quarter ended June 30, 2004 included $5.9 million of debt
extinguishment expenses related to the redemption of $35.0 million of our
outstanding balance of senior secured notes. See Note (N) Financing Obligations.

Net income for the quarter ended March 31, 2003 included $3.3 million of
debt extinguishment expenses in connection with financing obligations, which
were repaid upon completion of our debt offering in the quarter.

68

(Y) SUPPLEMENTAL CONDENSED CONSOLIDATING FINANCIAL STATEMENTS

On March 11, 2003, Holdings completed an offering of $115.0 million of
11.00% senior secured notes due in 2010, which we refer to as the Old Notes. On
September 17, 2003, the Old Notes were exchanged for new 11.00% senior secured
notes due in 2010, which we refer to as the New Notes. The form and terms of the
New Notes are identical in all material respects (including principal amount,
interest rate, maturity, ranking and covenant restrictions) to the form and
terms of the Old Notes, except that the New Notes (a) have been registered under
the Securities Act of 1933, as amended, or the Securities Act, (b) do not bear
restrictive legends restricting their transfer under the Securities Act, (c) are
not entitled to the registration rights that apply to the Old Notes and (d) do
not contain provisions relating to liquidated damages in connection with the Old
Notes under circumstances related to the timing of the exchange offer. The
payment obligations under the New Notes are fully and unconditionally
guaranteed, jointly and severally, on a senior secured basis, by us and by
substantially all of our domestic subsidiaries, referred to as the guarantors,
excluding Playboy.com and its subsidiaries. All of our remaining subsidiaries,
referred to as the nonguarantors, are wholly-owned by the guarantors except for
Playboy.com and its subsidiaries, which are majority-owned subsidiaries. The
following supplemental Condensed Consolidating Statements of Operations for the
years ended December 31, 2004, 2003 and 2002, the Condensed Consolidating
Balance Sheets at December 31, 2004 and December 31, 2003 and the Condensed
Consolidating Statements of Cash Flows for the years ended December 31, 2004,
2003 and 2002, present financial information for (a) us (carrying our investment
in Holdings under the equity method), (b) Holdings, the issuer of the New Notes
(carrying its investment in the guarantors under the equity method), (c) on a
combined basis the guarantors (carrying any investment in nonguarantors under
the equity method) and (d) on a combined basis the nonguarantors. Separate
financial statements of the guarantors are not presented because the guarantors
are jointly, severally, and unconditionally liable under the guarantees, and we
believe that separate financial statements and other disclosures regarding the
guarantors are not material to investors. In general, Holdings has entered into
third-party borrowings and financed its subsidiaries via intercompany accounts.
All intercompany activity has been included as "Net receipts from (payments to)
subsidiaries" in the Condensed Consolidating Statements of Cash Flows. In
certain cases, taxes have been calculated on the basis of a group position that
includes both guarantors and nonguarantors. In such cases, the taxes have been
allocated to individual legal entities based upon each legal entity's actual
contribution to the tax provision.

69

PLAYBOY ENTERPRISES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS
(In thousands)

Year Ended December 31, 2004
----------------------------------------------------------------------------------------
Playboy Non- Playboy
Enterprises, Holdings Guarantor Guarantor Enterprises,
Inc. (Parent) (Issuer) Subsidiaries Subsidiaries Eliminations Inc.
- ----------------------------------------------------------------------------------------------------------------------------------

Net revenues $ -- $ -- $ 259,489 $ 83,899 $ (14,012) $ 329,376
- ----------------------------------------------------------------------------------------------------------------------------------
Costs and expenses
Cost of sales -- -- (190,476) (64,371) 14,012 (240,835)
Selling and administrative expenses -- -- (45,261) (11,633) -- (56,894)
Restructuring expenses -- -- (372) (372) -- (744)
- ----------------------------------------------------------------------------------------------------------------------------------
Total costs and expenses -- -- (236,109) (76,376) 14,012 (298,473)
- ----------------------------------------------------------------------------------------------------------------------------------
Gain on disposal -- -- 2 -- -- 2
- ----------------------------------------------------------------------------------------------------------------------------------
Operating income -- -- 23,382 7,523 -- 30,905
- ----------------------------------------------------------------------------------------------------------------------------------
Nonoperating income (expense)
Investment income -- -- 576 65 (62) 579
Interest expense -- (10,569) (3,113) (67) 62 (13,687)
Amortization of deferred
financing fees -- (1,266) -- -- -- (1,266)
Minority interest -- -- (1,436) -- -- (1,436)
Debt extinguishment expenses -- (5,908) -- -- -- (5,908)
Equity in operations of investments -- -- (71) -- -- (71)
Litigation settlement -- -- 5,638 -- -- 5,638
Equity income (loss) from subsidiaries 9,989 28,117 6,485 -- (44,591) --
Other, net -- (385) (410) (125) -- (920)
- ----------------------------------------------------------------------------------------------------------------------------------
Total nonoperating expense 9,989 9,989 7,669 (127) (44,591) (17,071)
- ----------------------------------------------------------------------------------------------------------------------------------
Income before income taxes 9,989 9,989 31,051 7,396 (44,591) 13,834
Income tax expense -- -- (2,934) (911) -- (3,845)
- ----------------------------------------------------------------------------------------------------------------------------------
Net income $ 9,989 $ 9,989 $ 28,117 $ 6,485 $ (44,591) $ 9,989
==================================================================================================================================

Year Ended December 31, 2003
----------------------------------------------------------------------------------------
Playboy Non- Playboy
Enterprises, Holdings Guarantor Guarantor Enterprises,
Inc. (Parent) (Issuer) Subsidiaries Subsidiaries Eliminations Inc.
- ----------------------------------------------------------------------------------------------------------------------------------

Net revenues $ -- $ -- $ 256,063 $ 76,580 $ (16,799) $ 315,844
- ----------------------------------------------------------------------------------------------------------------------------------
Costs and expenses
Cost of sales -- -- (188,850) (57,165) 16,799 (229,216)
Selling and administrative expenses -- -- (45,979) (10,847) -- (56,826)
Restructuring expenses -- -- 24 (374) -- (350)
- ----------------------------------------------------------------------------------------------------------------------------------
Total costs and expenses -- -- (234,805) (68,386) 16,799 (286,392)
- ----------------------------------------------------------------------------------------------------------------------------------
Operating income -- -- 21,258 8,194 -- 29,452
- ----------------------------------------------------------------------------------------------------------------------------------
Nonoperating income (expense)
Investment income -- -- 432 44 (113) 363
Interest expense -- (11,288) (4,584) (550) 113 (16,309)
Amortization of deferred
financing fees -- (1,383) -- (24) -- (1,407)
Minority interest (297) -- (1,363) -- -- (1,660)
Debt extinguishment expenses -- (3,061) -- (203) -- (3,264)
Equity in operations of investments -- -- (80) -- -- (80)
Litigation settlement -- -- (8,500) -- -- (8,500)
Equity income (loss) from subsidiaries (7,260) 8,847 5,453 -- (7,040) --
Other, net -- (375) (663) (147) -- (1,185)
- ----------------------------------------------------------------------------------------------------------------------------------
Total nonoperating expense (7,557) (7,260) (9,305) (880) (7,040) (32,042)
- ----------------------------------------------------------------------------------------------------------------------------------
Income (loss) before income taxes (7,557) (7,260) 11,953 7,314 (7,040) (2,590)
Income tax expense -- -- (3,106) (1,861) -- (4,967)
- ----------------------------------------------------------------------------------------------------------------------------------
Net income (loss) $ (7,557) $ (7,260) $ 8,847 $ 5,453 $ (7,040) $ (7,557)
==================================================================================================================================

70

PLAYBOY ENTERPRISES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS
(In thousands)

Year Ended December 31, 2002
----------------------------------------------------------------------------------------
Playboy Non- Playboy
Enterprises, Holdings Guarantor Guarantor Enterprises,
Inc. (Parent) (Issuer) Subsidiaries Subsidiaries Eliminations Inc.
- ----------------------------------------------------------------------------------------------------------------------------------

Net revenues $ -- $ -- $ 246,020 $ 31,888 $ (286) $ 277,622
- ----------------------------------------------------------------------------------------------------------------------------------
Costs and expenses
Cost of sales -- -- (175,281) (29,621) 286 (204,616)
Selling and administrative expenses -- -- (47,018) (11,099) -- (58,117)
Restructuring expenses -- -- (3,865) (2,778) -- (6,643)
- ----------------------------------------------------------------------------------------------------------------------------------
Total costs and expenses -- -- (226,164) (43,498) 286 (269,376)
- ----------------------------------------------------------------------------------------------------------------------------------
Gain on disposals -- -- 442 -- -- 442
- ----------------------------------------------------------------------------------------------------------------------------------
Operating income (loss) -- -- 20,298 (11,610) -- 8,688
- ----------------------------------------------------------------------------------------------------------------------------------
Nonoperating income (expense)
Investment income -- -- 91 34 -- 125
Interest expense -- (5,996) (6,847) (2,304) -- (15,147)
Amortization of deferred
financing fees -- (945) -- (48) -- (993)
Minority interest -- -- (1,724) -- -- (1,724)
Equity in operations of investments -- -- 279 -- -- 279
Vendor settlement -- -- 750 -- -- 750
Equity loss from subsidiaries (17,135) (10,131) (14,153) -- 41,419 --
Other, net -- (63) (508) 2 -- (569)
- ----------------------------------------------------------------------------------------------------------------------------------
Total nonoperating expense (17,135) (17,135) (22,112) (2,316) 41,419 (17,279)
- ----------------------------------------------------------------------------------------------------------------------------------
Loss before income taxes (17,135) (17,135) (1,814) (13,926) 41,419 (8,591)
Income tax expense -- -- (8,317) (227) -- (8,544)
- ----------------------------------------------------------------------------------------------------------------------------------
Net loss $ (17,135) $ (17,135) $ (10,131) $ (14,153) $ 41,419 $ (17,135)
==================================================================================================================================

71

PLAYBOY ENTERPRISES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATING BALANCE SHEET
December 31, 2004
(In thousands)

Playboy Non- Playboy
Enterprises, Holdings Guarantor Guarantor Enterprises,
Inc. (Parent) (Issuer) Subsidiaries Subsidiaries Eliminations Inc.
- ----------------------------------------------------------------------------------------------------------------------------------

Assets
Cash and cash equivalents $ -- $ -- $ 40,359 $ 6,309 $ -- $ 46,668
Marketable securities -- -- 4,052 -- -- 4,052
Receivables, net of allowance for
doubtful accounts -- -- 37,665 7,419 -- 45,084
Receivables from related parties -- -- (7,276) 8,557 -- 1,281
Inventories, net -- -- 10,923 1,514 -- 12,437
Deferred subscription acquisition
costs -- -- 13,104 -- -- 13,104
Other current assets -- 22 6,441 2,133 -- 8,596
- ----------------------------------------------------------------------------------------------------------------------------------
Total current assets -- 22 105,268 25,932 -- 131,222
- ----------------------------------------------------------------------------------------------------------------------------------
Receivables from affiliates -- 77,845 39,173 -- (117,018) --
Property and equipment, net -- -- 10,002 1,489 -- 11,491
Long term receivables -- -- 2,755 -- -- 2,755
Programming costs, net -- -- 54,321 1,676 -- 55,997
Goodwill -- -- 111,370 523 -- 111,893
Trademarks -- -- 57,296 -- -- 57,296
Distribution agreements, net of
accumulated amortization -- -- 31,206 -- -- 31,206
Investment in subsidiaries 168,450 168,450 (29,278) -- (307,622) --
Other noncurrent assets -- 4,824 13,837 60 -- 18,721
- ----------------------------------------------------------------------------------------------------------------------------------
Total assets $ 168,450 $ 251,141 $ 395,950 $ 29,680 $(424,640) $ 420,581
==================================================================================================================================

Liabilities
Acquisition liabilities $ -- $ -- $ 6,577 $ 3,607 $ -- $ 10,184
Accounts payable -- 100 15,692 6,004 -- 21,796
Accrued salaries, wages and
employee benefits -- -- 8,218 68 -- 8,286
Deferred revenues -- -- 45,059 6,362 -- 51,421
Accrued litigation settlement -- -- 1,000 -- -- 1,000
Other liabilities and accrued expenses -- 2,591 16,024 (575) -- 18,040
- ----------------------------------------------------------------------------------------------------------------------------------
Total current liabilities -- 2,691 92,570 15,466 -- 110,727
- ----------------------------------------------------------------------------------------------------------------------------------
Financing obligations -- 80,000 -- -- -- 80,000
Financing obligations to affiliates -- -- 77,845 39,173 (117,018) --
Acquisition liabilities -- -- 15,888 3,197 -- 19,085
Net deferred tax liabilities -- -- 15,023 -- -- 15,023
Accrued litigation settlement -- -- 1,000 -- -- 1,000
Other noncurrent liabilities -- -- 12,657 1,122 -- 13,779
- ----------------------------------------------------------------------------------------------------------------------------------
Total liabilities -- 82,691 214,983 58,958 (117,018) 239,614
- ----------------------------------------------------------------------------------------------------------------------------------
Minority interest -- -- 12,517 -- -- 12,517

Shareholders' equity 168,450 168,450 168,450 (29,278) (307,622) 168,450
- ----------------------------------------------------------------------------------------------------------------------------------
Total liabilities and
shareholders' equity $ 168,450 $ 251,141 $ 395,950 $ 29,680 $(424,640) $ 420,581
==================================================================================================================================

72

PLAYBOY ENTERPRISES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATING BALANCE SHEET
December 31, 2003
(In thousands)

Playboy Non- Playboy
Enterprises, Holdings Guarantor Guarantor Enterprises,
Inc. (Parent) (Issuer) Subsidiaries Subsidiaries Eliminations Inc.
- ----------------------------------------------------------------------------------------------------------------------------------

Assets
Cash and cash equivalents $ -- $ -- $ 24,445 $ 6,887 $ -- $ 31,332
Marketable securities -- -- 3,546 -- -- 3,546
Receivables, net of allowance for
doubtful accounts -- -- 43,948 8,282 -- 52,230
Receivables from related parties -- -- (7,277) 8,503 -- 1,226
Inventories, net -- -- 9,624 2,393 -- 12,017
Deferred subscription acquisition
costs -- -- 11,759 -- -- 11,759
Other current assets -- -- 8,420 1,788 -- 10,208
- ----------------------------------------------------------------------------------------------------------------------------------
Total current assets -- -- 94,465 27,853 -- 122,318
- ----------------------------------------------------------------------------------------------------------------------------------
Receivables from affiliates -- 110,843 49,315 -- (160,158) --
Property and equipment, net -- -- 10,621 1,399 -- 12,020
Programming costs, net -- -- 56,442 984 -- 57,426
Goodwill -- -- 111,370 523 -- 111,893
Trademarks -- -- 58,159 -- -- 58,159
Distribution agreements, net of
accumulated amortization -- -- 32,170 -- -- 32,170
Investment in subsidiaries 106,636 106,636 (41,990) -- (171,282) --
Other noncurrent assets -- 8,013 16,023 38 -- 24,074
- ----------------------------------------------------------------------------------------------------------------------------------
Total assets $ 106,636 $ 225,492 $ 386,575 $ 30,797 $(331,440) $ 418,060
==================================================================================================================================

Liabilities
Acquisition liabilities $ -- $ -- $ 13,244 $ 2,148 $ -- $ 15,392
Accounts payable -- 131 17,205 5,563 -- 22,899
Accrued salaries, wages and
employee benefits -- -- 11,200 272 -- 11,472
Deferred revenues -- -- 47,098 6,865 -- 53,963
Accrued litigation settlement -- -- 6,500 -- -- 6,500
Other liabilities and accrued expenses -- 3,725 13,896 1,467 -- 19,088
- ----------------------------------------------------------------------------------------------------------------------------------
Total current liabilities -- 3,856 109,143 16,315 -- 129,314
- ----------------------------------------------------------------------------------------------------------------------------------
Financing obligations -- 115,000 -- -- -- 115,000
Financing obligations to affiliates -- -- 110,843 49,315 (160,158) --
Acquisition liabilities -- -- 21,107 5,875 -- 26,982
Net deferred tax liabilities -- -- 13,877 -- -- 13,877
Accrued litigation settlement -- -- 2,000 -- -- 2,000
Other noncurrent liabilities -- -- 11,888 1,282 -- 13,170
- ----------------------------------------------------------------------------------------------------------------------------------
Total liabilities -- 118,856 268,858 72,787 (160,158) 300,343
- ----------------------------------------------------------------------------------------------------------------------------------
Minority interest -- -- 11,081 -- -- 11,081

Shareholders' equity 106,636 106,636 106,636 (41,990) (171,282) 106,636
- ----------------------------------------------------------------------------------------------------------------------------------
Total liabilities and
shareholders' equity $ 106,636 $ 225,492 $ 386,575 $ 30,797 $(331,440) $ 418,060
==================================================================================================================================

73

PLAYBOY ENTERPRISES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS
(In thousands)

Year Ended December 31, 2004
----------------------------------------------------------------------------------------
Playboy Non- Playboy
Enterprises, Holdings Guarantor Guarantor Enterprises,
Inc. (Parent) (Issuer) Subsidiaries Subsidiaries Eliminations Inc.
- ----------------------------------------------------------------------------------------------------------------------------------

Cash flows from operating activities
Net cash provided by (used for)
operating activities $ $ (7,686) $ 18,140 $ 5,909 $ -- $ 16,363
- ----------------------------------------------------------------------------------------------------------------------------------
Cash flows from investing activities
Proceeds from disposals -- -- 28 124 -- 152
Additions to property and equipment -- -- (1,812) (1,063) -- (2,875)
Other, net -- -- 137 -- -- 137
- ----------------------------------------------------------------------------------------------------------------------------------
Net cash used for investing
activities -- -- (1,647) (939) -- (2,586)
- ----------------------------------------------------------------------------------------------------------------------------------
Cash flows from financing activities
Proceeds from financing obligations 51,859 -- -- -- -- 51,859
Repayment of financing obligations -- (35,000) -- -- -- (35,000)
Payment of debt extinguishment
expenses -- (3,850) -- -- -- (3,850)
Payment of acquisition liabilities -- -- (9,546) (1,725) -- (11,271)
Payment of preferred stock dividends (651) -- -- -- -- (651)
Proceeds from stock plans 490 -- -- -- -- 490
Other, net (18) -- -- -- -- (18)
- ----------------------------------------------------------------------------------------------------------------------------------
Net cash provided by (used for)
financing activities 51,680 (38,850) (9,546) (1,725) -- 1,559
- ----------------------------------------------------------------------------------------------------------------------------------
Net receipts from (payments to)
subsidiaries (51,680) 46,536 8,967 (3,823) -- --
- ----------------------------------------------------------------------------------------------------------------------------------
Net increase in cash
and cash equivalents -- -- 15,914 (578) -- 15,336
Cash and cash equivalents
at beginning of period -- -- 24,445 6,887 -- 31,332
- ----------------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents
at end of period $ -- $ -- $ 40,359 $ 6,309 $ -- $ 46,668
==================================================================================================================================

74

PLAYBOY ENTERPRISES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS
(In thousands)

Year Ended December 31, 2003
----------------------------------------------------------------------------------------
Playboy Non- Playboy
Enterprises, Holdings Guarantor Guarantor Enterprises,
Inc. (Parent) (Issuer) Subsidiaries Subsidiaries Eliminations Inc.
- ----------------------------------------------------------------------------------------------------------------------------------

Cash flows from operating activities
Net cash provided by (used for)
operating activities $ (186) $ (8,400) $ 5,939 $ 7,526 $ -- $ 4,879
- ----------------------------------------------------------------------------------------------------------------------------------
Cash flows from investing activities
Proceeds from disposals -- -- 116 -- -- 116
Additions to property and equipment -- -- (1,796) (546) -- (2,342)
Other, net -- -- 175 4 -- 179
- ----------------------------------------------------------------------------------------------------------------------------------
Net cash used for investing
activities -- -- (1,505) (542) -- (2,047)
- ----------------------------------------------------------------------------------------------------------------------------------
Cash flows from financing activities
Proceeds from financing obligations -- 115,000 -- -- -- 115,000
Repayment of financing obligations -- (65,267) -- (500) -- (65,767)
Payment of debt extinguishment
expenses -- (356) -- -- -- (356)
Payment of acquisition liabilities -- -- (13,145) (1,747) -- (14,892)
Payment of deferred financing fees -- (9,205) -- -- -- (9,205)
Payment of preferred stock dividends (669) -- -- -- -- (669)
Proceeds from stock plans 272 -- -- -- -- 272
Other, net (1) -- -- -- -- (1)
- ----------------------------------------------------------------------------------------------------------------------------------
Net cash provided by (used for)
financing activities (398) 40,172 (13,145) (2,247) -- 24,382
- ----------------------------------------------------------------------------------------------------------------------------------
Net receipts from (payments to)
subsidiaries 584 (31,772) 35,064 (3,876) -- --
- ----------------------------------------------------------------------------------------------------------------------------------
Net increase in cash
and cash equivalents -- -- 26,353 861 -- 27,214
Cash and cash equivalents
at beginning of period -- -- (1,908) 6,026 -- 4,118
- ----------------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents
at end of period $ -- $ -- $ 24,445 $ 6,887 $ -- $ 31,332
==================================================================================================================================

75

PLAYBOY ENTERPRISES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS
(In thousands)

Year Ended December 31, 2002
----------------------------------------------------------------------------------------
Playboy Non- Playboy
Enterprises, Holdings Guarantor Guarantor Enterprises,
Inc. (Parent) (Issuer) Subsidiaries Subsidiaries Eliminations Inc.
- ----------------------------------------------------------------------------------------------------------------------------------

Cash flows from operating activities
Net cash provided by (used for)
operating activities $ -- $ (6,103) $ 31,634 $ (11,203) $ -- $ 14,328
- ----------------------------------------------------------------------------------------------------------------------------------
Cash flows from investing activities
Payments for acquisitions -- -- (435) -- -- (435)
Proceeds from disposals -- -- 1,484 33 -- 1,517
Additions to property and equipment -- -- (3,975) (343) -- (4,318)
Other, net -- -- 78 -- -- 78
- ----------------------------------------------------------------------------------------------------------------------------------
Net cash used for investing activities -- -- (2,848) (310) -- (3,158)
- ----------------------------------------------------------------------------------------------------------------------------------
Cash flows from financing activities
Proceeds from financing obligations -- -- -- 5,000 -- 5,000
Repayment of financing obligations -- (16,311) -- -- -- (16,311)
Payment of deferred financing fees -- (310) -- (275) -- (585)
Proceeds from stock plans 234 -- -- -- -- 234
- ----------------------------------------------------------------------------------------------------------------------------------
Net cash provided by (used for)
financing activities 234 (16,621) -- 4,725 -- (11,662)
- ----------------------------------------------------------------------------------------------------------------------------------
Net receipts from (payments to)
subsidiaries (234) 22,724 (31,150) 8,660 -- --
- ----------------------------------------------------------------------------------------------------------------------------------
Net increase (decrease) in cash
and cash equivalents -- -- (2,364) 1,872 -- (492)
Cash and cash equivalents
at beginning of period -- -- 456 4,154 -- 4,610
- ----------------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents
at end of period $ -- $ -- $ (1,908) $ 6,026 $ -- $ 4,118
==================================================================================================================================

76

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Board of Directors and Shareholders of Playboy Enterprises, Inc.

We have audited the accompanying consolidated balance sheets of Playboy
Enterprises, Inc. as of December 31, 2004 and 2003, and the related consolidated
statements of operations, shareholders' equity, and cash flows for each of the
three years in the period ended December 31, 2004. Our audits also included the
financial statement schedules listed in the Index at Item 15(a). These financial
statements and schedules are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements and
schedules based on our audits.

We conducted our audits in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards require that
we plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of Playboy
Enterprises, Inc. at December 31, 2004 and 2003, and the consolidated results of
their operations and their cash flows for each of the three years in the period
ended December 31, 2004, in conformity with U.S. generally accepted accounting
principles. Also, in our opinion, the related financial statement schedules,
when considered in relation to the basic financial statements taken as a whole,
present fairly in all material respects the information set forth therein.

We also have audited, in accordance with the standards of the Public
Company Accounting Oversight Board (United States), the effectiveness of Playboy
Enterprises, Inc.'s internal control over financial reporting as of December 31,
2004, based on criteria established in Internal Control--Integrated Framework
issued by the Committee of Sponsoring Organizations of the Treadway Commission
and our report dated February 18, 2005 expressed an unqualified opinion thereon.

Ernst & Young LLP

Chicago, Illinois
February 18, 2005,
except for Note (W), as to which the date is
February 22, 2005

77

Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure

None.

Item 9A. Controls and Procedures

(a) Evaluation of Disclosure Controls and Procedures

Our management, under the supervision and with the participation of our
Chief Executive Officer and Chief Financial Officer, has evaluated the
effectiveness of our disclosure controls and procedures (as such term is defined
in Rules 13a-15(e) and 15d-15(f) under the Securities Exchange Act of 1934, as
amended, or the Exchange Act) as of December 31, 2004. Based on that evaluation,
our Chief Executive Officer and Chief Financial Officer have concluded that, as
of December 31, 2004, our disclosure controls and procedures are effective.

(b) Management's Annual Report on Internal Control Over Financial Reporting

Our management is responsible for establishing and maintaining adequate
internal control over financial reporting, as such term is defined in Exchange
Act Rules 13a-15(f) and 15d-15(f). Our internal control system was designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of the consolidated financial statements for external
purposes in accordance with generally accepted accounting principles.

Under the supervision and with the participation of our management,
including our Chief Executive Officer and Chief Financial Officer, we conducted
an evaluation of the effectiveness of our internal control over financial
reporting as of December 31, 2004. In making this evaluation, management used
the criteria set forth in Internal Control-Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission. Based on our
evaluation, our management believes that our internal control over financial
reporting is effective as of December 31, 2004.

Management's assessment of the effectiveness of our internal control over
financial reporting as of December 31, 2004 has been audited by Ernst & Young
LLP, an independent registered public accounting firm, as stated in their report
which is included herein.

78

(c) Report of Independent Registered Public Accounting Firm on Internal
Control Over Financial Reporting

To the Board of Directors and Shareholders of Playboy Enterprises, Inc.

We have audited management's assessment, included in the accompanying
Management's Annual Report on Internal Control over Financial Reporting, that
Playboy Enterprises, Inc. maintained effective internal control over financial
reporting as of December 31, 2004, based on criteria established in Internal
Control--Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission (the COSO criteria). Playboy
Enterprises Inc.'s management is responsible for maintaining effective internal
control over financial reporting and for its assessment of the effectiveness of
internal control over financial reporting. Our responsibility is to express an
opinion on management's assessment and an opinion on the effectiveness of the
company's internal control over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards require that
we plan and perform the audit to obtain reasonable assurance about whether
effective internal control over financial reporting was maintained in all
material respects. Our audit included obtaining an understanding of internal
control over financial reporting, evaluating management's assessment, testing
and evaluating the design and operating effectiveness of internal control, and
performing such other procedures as we considered necessary in the
circumstances. We believe that our audit provides a reasonable basis for our
opinion.

A company's internal control over financial reporting is a process
designed to provide reasonable assurance regarding the reliability of financial
reporting and the preparation of financial statements for external purposes in
accordance with generally accepted accounting principles. A company's internal
control over financial reporting includes those policies and procedures that (1)
pertain to the maintenance of records that, in reasonable detail, accurately and
fairly reflect the transactions and dispositions of the assets of the company;
(2) provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally accepted
accounting principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management and directors of
the company; and (3) provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use, or disposition of the company's
assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial
reporting may not prevent or detect misstatements. Also, projections of any
evaluation of effectiveness to future periods are subject to the risk that
controls may become inadequate because of changes in conditions, or that the
degree of compliance with the policies or procedures may deteriorate.

In our opinion, management's assessment that Playboy Enterprises, Inc.
maintained effective internal control over financial reporting as of December
31, 2004, is fairly stated, in all material respects, based on the COSO
criteria. Also, in our opinion, Playboy Enterprises, Inc. maintained, in all
material respects, effective internal control over financial reporting as of
December 31, 2004, based on the COSO criteria.

We also have audited, in accordance with the standards of the Public
Company Accounting Oversight Board (United States), the consolidated balance
sheets of Playboy Enterprises, Inc. as of December 31, 2004 and 2003, and the
related consolidated statements of operations, shareholders' equity, and cash
flows for each of the three years in the period ended December 31, 2004, and our
report dated February 18, 2005, except for Note (W), as to which the date is
February 22, 2005, expressed an unqualified opinion thereon.

Ernst & Young LLP

Chicago, Illinois
February 18, 2005

(d) Change in Internal Control Over Financial Reporting

There have not been any changes in our internal control over financial
reporting during the fiscal quarter ended December 31, 2004 that have materially
affected, or are reasonably likely to materially affect, our internal control
over financial reporting.

79

Item 9B. Other Information

None.

PART III

Item 10. Directors and Executive Officers of the Registrant

The information required by Item 10 is included in our Proxy Statement (to
be filed) relating to the Annual Meeting of Stockholders to be held in May 2005,
which will be filed within 120 days after the close of our fiscal year ended
December 31, 2004, and is incorporated herein by reference, pursuant to General
Instruction G(3).

We have adopted a code of ethics that applies to our Chief Executive
Officer, Chief Financial Officer and Corporate Controller. That code is part of
our Code of Business Conduct, which is available free of charge through our
website, www.playboyenterprises.com, and is available in print to any
shareholder who sends a request for a paper copy to: Investor Relations, Playboy
Enterprises, Inc., 680 North Lake Shore Drive, Chicago, Illinois 60611. We
intend to include on our website any amendment to, or waiver from, a provision
of the Code of Business Conduct that applies to our Chief Executive Officer,
Chief Financial Officer and Corporate Controller that relates to any element of
the code of ethics definition enumerated in Item 406(b) of Regulation S-K.

Item 11. Executive Compensation

The information required by Item 11 is included in our Proxy Statement (to
be filed) relating to the Annual Meeting of Stockholders to be held in May 2005,
which will be filed within 120 days after the close of our fiscal year ended
December 31, 2004, and is incorporated herein by reference (excluding the Report
of the Compensation Committee and the Performance Graph), pursuant to General
Instruction G(3).

Item 12. Security Ownership of Certain Beneficial Owners and Management and
Related Stockholder Matters

The following table sets forth information regarding outstanding options
and shares reserved for future issuance as of December 31, 2004:

Class B Stock
-------------------------------------------------------
Weighted
Average Number
Number of Exercise Price of Shares
Options of Options Remaining for
Outstanding Outstanding Future Issuance
- ------------------------------------------------------------------------------------------------------------

Total equity compensation plans approved by
security holders 3,232,720 $16.09 1,581,575
============================================================================================================

The other information required by Item 12 is included in our Proxy
Statement (to be filed) relating to the Annual Meeting of Stockholders to be
held in May 2005, which will be filed within 120 days after the close of our
fiscal year ended December 31, 2004, and is incorporated herein by reference,
pursuant to General Instruction G(3).

Item 13. Certain Relationships and Related Transactions

The information required by Item 13 is included in our Proxy Statement (to
be filed) relating to the Annual Meeting of Stockholders to be held in May 2005,
which will be filed within 120 days after the close of our fiscal year ended
December 31, 2004, and is incorporated herein by reference, pursuant to General
Instruction G(3).

Item 14. Principal Accounting Fees and Services

The information required by Item 14 is included in our Proxy Statement (to
be filed) relating to the Annual Meeting of Stockholders to be held in May 2005,
which will be filed within 120 days after the close of our fiscal year ended
December 31, 2004, and is incorporated herein by reference, pursuant to General
Instruction G(3).

80

PART IV

Item 15. Exhibits, Financial Statement Schedule and Reports on Form 8-K

(a) Certain Documents Filed as Part of the Form 10-K

Our Financial Statements and Supplementary Data following are
as set forth under Part II. Item 8. of this Form 10-K Annual Report: Page
----

Consolidated Statements of Operations - Fiscal Years Ended December 31, 2004,
2003 and 2002 45

Consolidated Balance Sheets - December 31, 2004 and 2003 46

Consolidated Statements of Shareholders' Equity - Fiscal Years Ended
December 31, 2004, 2003 and 2002 47

Consolidated Statements of Cash Flows - Fiscal Years Ended December 31, 2004,
2003 and 2002 48

Notes to Consolidated Financial Statements 49

Condensed Consolidating Statements of Operations - Fiscal Years Ended December 31, 2004,
2003 and 2002 70

Condensed Consolidating Balance Sheets - December 31, 2004 and 2003 72

Condensed Consolidating Statements of Cash Flows - Fiscal Years Ended December 31, 2004,
2003 and 2002 74

Report of Independent Registered Public Accounting Firm 77

Schedule II - Valuation and Qualifying Accounts 91

(b) Reports on Form 8-K

On November 2, 2004, we furnished a Current Report on Form 8-K, dated
November 2, 2004, under Item 2., attaching our press release announcing our
financial results for the third quarter of 2004.

On December 6, 2004, we furnished a Current Report on Form 8-K, dated
December 6, 2004, under Item 9., attaching our press release disclosing certain
projections and remarks made during our presentation at the Credit Suisse First
Boston Media Week conference on December 6, 2004.

(c) Exhibits

See Exhibit Index.

81

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) 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.

PLAYBOY ENTERPRISES, INC.

March 2, 2005 By /s/ Linda G. Havard
------------------------
Linda G. Havard
Executive Vice President,
Finance and Operations,
and Chief Financial Officer
(Authorized Officer)

Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.

/s/ Christie Hefner March 2, 2005
- ----------------------------------------
Christie Hefner
Chairman of the Board,
Chief Executive Officer and Director
(Principal Executive Officer)

/s/ Richard S. Rosenzweig March 2, 2005
- ----------------------------------------
Richard S. Rosenzweig
Executive Vice President and Director

/s/ Dennis S. Bookshester March 2, 2005
- ----------------------------------------
Dennis S. Bookshester
Director

/s/ David I. Chemerow March 2, 2005
- ----------------------------------------
David I. Chemerow
Director

/s/ Donald G. Drapkin March 2, 2005
- ----------------------------------------
Donald G. Drapkin
Director

/s/ Jerome H. Kern March 2, 2005
- ----------------------------------------
Jerome H. Kern
Director

/s/ Russell I. Pillar March 2, 2005
- ----------------------------------------
Russell I. Pillar
Director

/s/ Sol Rosenthal March 2, 2005
- ----------------------------------------
Sol Rosenthal
Director

/s/ Linda G. Havard March 2, 2005
- ----------------------------------------
Linda G. Havard
Executive Vice President,
Finance and Operations,
and Chief Financial Officer
(Principal Financial and
Accounting Officer)

82

EXHIBIT INDEX

All agreements listed below may have additional exhibits which are not
attached. All such exhibits are available upon request, provided the requesting
party shall pay a fee for copies of such exhibits, which fee shall be limited to
our reasonable expenses incurred in furnishing these documents.

Exhibit
Number Description
- ------- -----------

#2.1 Asset Purchase Agreement, dated as of June 29, 2001, by and among
Playboy Enterprises, Inc., Califa Entertainment Group, Inc., V.O.D.,
Inc., Steven Hirsch, Dewi James and William Asher (incorporated by
reference to Exhibit 2.1 from the Current Report on Form 8-K dated
July 6, 2001)

3.1 Certificate of Incorporation of Playboy Enterprises, Inc.
(incorporated by reference to Exhibit 3 from our quarterly report on
Form 10-Q dated March 31, 2003)

3.2 Amended and Restated Bylaws of Playboy Enterprises, Inc.
(incorporated by reference to Exhibit 3.4 from the Current Report on
Form 8-K dated March 15, 1999)

3.3 Certificate of Amendment of the Amended and Restated Certificate of
Incorporation of Playboy Enterprises, Inc. (incorporated by
reference to Exhibit 3.2 from our quarterly report on Form 10-Q
dated June 30, 2004)

4.1 11% Senior Secured Notes due 2010

a Indenture, dated as of March 11, 2003, or the Indenture,
between PEI Holdings, Inc., the Guarantors party thereto and
Bank One, N.A., as Trustee

b Form of 11% Senior Secured Note due 2010 (included in Exhibit
4.1(a))

c Pledge Agreement, dated as of March 11, 2003, between PEI
Holdings, Inc. and Bank One, N.A., as Trustee under the
Indenture

d Pledge Agreement, dated as of March 11, 2003, among Chelsea
Court Holdings LLC, as the limited partner in 1945/1947 Cedar
River C.V., Candlelight Management LLC, as the general partner
in 1945/1947 Cedar River C.V., and Bank One, N.A., as Trustee
under the Indenture

e Pledge Agreement, dated as of March 11, 2003, between Claridge
Organization LLC and Bank One, N.A., as Trustee under the
Indenture

f Pledge Agreement, dated as of March 11, 2003, between Playboy
Clubs International, Inc. and Bank One, N.A., as Trustee under
the Indenture

g Pledge Agreement, dated as of March 11, 2003, between CPV
Productions, Inc. and Bank One, N.A., as Trustee under the
Indenture

h Pledge Agreement, dated as of March 11, 2003, between Playboy
Entertainment Group, Inc. and Bank One, N.A., as Trustee under
the Indenture

i Pledge Agreement, dated as of March 11, 2003, between Playboy
Gaming International, Ltd. and Bank One, N.A., as Trustee
under the Indenture

j Pledge Agreement, dated as of March 11, 2003, between Playboy
Entertainment Group, Inc. and Bank One, N.A., as Trustee under
the Indenture

k Pledge Agreement, dated as of March 11, 2003, between Playboy
Enterprises, Inc. and Bank One, N.A., as Trustee under the
Indenture

l Pledge Agreement, dated as of March 11, 2003, between Playboy
Enterprises International, Inc. and Bank One, N.A., as Trustee
under the Indenture

m Pledge Agreement, dated as of March 11, 2003, between Planet
Playboy, Inc. and Bank One, N.A., as Trustee under the
Indenture

n Pledge Agreement, dated as of March 11, 2003, between Spice
Entertainment, Inc. and Bank One, N.A., as Trustee under the
Indenture

o Pledge Agreement, dated as of March 11, 2003, between Playboy
TV International, LLC and Bank One, N.A., as Trustee under the
Indenture

p Pledge Agreement, dated as of March 11, 2003, between Playboy
TV International, LLC and Bank One, N.A., as Trustee under the
Indenture

q Security Agreement, dated as of March 11, 2003, between PEI
Holdings, Inc. and Bank One, N.A., in its capacity as Trustee
under the Indenture

r Security Agreement, dated as of March 11, 2003, among Playboy
Enterprises, Inc. and each of the domestic subsidiaries of PEI
Holdings, Inc. set forth on the signature pages thereto and
Bank One, N.A., in its capacity as Trustee under the Indenture

83

s Trademark Security Agreement, dated as of March 11, 2003, by
AdulTVision Communications, Inc., Alta Loma Entertainment,
Inc., Lifestyle Brands, Ltd., Playboy Entertainment Group,
Inc., Spice Entertainment, Inc., Playboy Enterprises
International, Inc. and Spice Hot Entertainment, Inc. in favor
of Bank One, N.A., in its capacity as Trustee under the
Indenture

t Copyright Security Agreement, dated as of March 11, 2003, by
After Dark Video, Inc., Alta Loma Distribution, Inc., Alta
Loma Entertainment, Inc., Impulse Productions, Inc., Indigo
Entertainment, Inc., MH Pictures, Inc., Mystique Films, Inc.,
Playboy Entertainment Group, Inc., Precious Films, Inc. and
Women Productions, Inc. in favor of Bank One, N.A., in its
capacity as Trustee under the Indenture

u Lease Subordination Agreement, dated as of March 11, 2003, by
and among Hugh M. Hefner, Playboy Enterprises International,
Inc. and Bank One, N.A., as Trustee for various noteholders

v Second Priority Deed of Trust with Assignment of Rents,
Security Agreement and Fixture Filing, dated as of March 11,
2003, made and executed by Playboy Enterprises International,
Inc. in favor of Fidelity National Title Insurance Company for
the benefit of Bank One, N.A., as Trustee pursuant to the
Indenture

w Intercreditor Agreement, dated as of March 11, 2003, between
Bank of America, N.A., as agent, and Bank One, N.A., as
trustee

x Registration Rights Agreement, dated as of March 11, 2003, by
and among PEI Holdings, Inc., Playboy Enterprises, Inc., the
subsidiary guarantors listed on the signature pages thereof
and Banc of America Securities LLC and Lazard Freres & Co. LLC

(items (a) through (x) incorporated by reference to Exhibits 4.1(a)
through (x), respectively, from our annual report on Form 10-K for
the year ended December 31, 2002, or the 2002 Form 10-K)

y First Supplemental Indenture, dated as of July 22, 2003, among
PEI Holdings, Inc., Andrita Studios, Inc. and Bank One, N.A.,
as trustee

z First Amendment to Pledge Agreement, dated July 22, 2003,
between Playboy Entertainment Group, Inc. and Bank One, N.A.,
as Trustee under the Indenture

aa Joinder to Security Agreement, dated July 22, 2003, between
Andrita Studios, Inc. and Bank One, N.A., as Trustee under the
Indenture

(items (y), (z) and (aa) incorporated by reference to Exhibit
4.1(a)-1, 4.1(h)-1 and 4.1(r)-1 to Playboy Enterprises, Inc.'s Form
S-4, filed with the Securities Exchange Commission, or SEC, on May
19, 2003, File No. 333-105386, or the May 19, 2003 Form S-4)

4.2 Credit Agreement, dated as of March 11, 2003, among PEI Holdings,
Inc., each lender from time to time party thereto and Bank of
America, N.A. as Agent (see Exhibit 10.12) (incorporated by
reference to Exhibit 4.3 from the 2002 Form 10-K)

10.1 Playboy Magazine Printing and Binding Agreement

&a October 22, 1997 Agreement between Playboy Enterprises, Inc.
and Quad/Graphics, Inc. (incorporated by reference to Exhibit
10.4 from our transition period report on Form 10-K for the
six months ended December 31, 1997, or the Transition Period
Form 10-K)

#b Amendment to October 22, 1997 Agreement dated as of March 3,
2000 (incorporated by reference to Exhibit 10.1 from our
quarterly report on Form 10-Q for the quarter ended March 31,
2000)

c Second Amendment to October 22, 1997 Agreement dated as of
March 2, 2004 (incorporated by reference to Exhibit 10.1 from
our annual report on Form 10-K for the year ended December 31,
2003, or the 2003 Form 10-K)

10.2 Playboy Magazine Distribution Agreement

a July 2, 1999 Agreement between Warner Publisher Services, Inc.
and Playboy Enterprises, Inc. (incorporated by reference to
Exhibit 10.4 from our quarterly report on Form 10-Q for the
quarter ended September 30, 1999)

&b May 4, 2004 Agreement between Warner Publisher Services, Inc.
and Playboy Enterprises, Inc. (incorporated by reference to
Exhibit 10.1 from our quarterly report on Form 10-Q for the
quarter ended June 30, 2004)

10.3 Playboy Magazine Subscription Fulfillment Agreement

a July 1, 1987 Agreement between Communication Data Services,
Inc. and Playboy Enterprises, Inc. (incorporated by reference
to Exhibit 10.12(a) from our annual report on Form 10-K for
the year ended June 30, 1992, or the 1992 Form 10-K)

84

b Amendment dated as of June 1, 1988 to said Fulfillment
Agreement (incorporated by reference to Exhibit 10.12(b) from
our annual report on Form 10-K for the year ended June 30,
1993, or the 1993 Form 10-K)

c Amendment dated as of July 1, 1990 to said Fulfillment
Agreement (incorporated by reference to Exhibit 10.12(c) from
our annual report on Form 10-K for the year ended June 30,
1991, or the 1991 Form 10-K)

d Amendment dated as of July 1, 1996 to said Fulfillment
Agreement (incorporated by reference to Exhibit 10.5(d) from
our annual report on Form 10-K for the year ended June 30,
1996, or the 1996 Form 10-K)

#e Amendment dated as of July 7, 1997 to said Fulfillment
Agreement (incorporated by reference to Exhibit 10.6(e) from
the Transition Period Form 10-K)

#f Amendment dated as of July 1, 2001 to said Fulfillment
Agreement (incorporated by reference to Exhibit 10.1 from our
quarterly report on Form 10-Q for the quarter ended September
30, 2001, or the September 30, 2001 Form 10-Q)

10.4 Transponder Service Agreements

a SKYNET Transponder Service Agreement dated March 1, 2001
between Playboy Entertainment Group, Inc. and LORAL SKYNET
(incorporated by reference to Exhibit 10.1 from our quarterly
report on Form 10-Q for the quarter ended March 31, 2001)

b SKYNET Transponder Service Agreement dated February 8, 1999 by
and between Califa Entertainment Group, Inc. and LORAL SKYNET

c Transfer of Service Agreement dated February 22, 2002 between
Califa Entertainment Group, LORAL SKYNET and Spice Hot
Entertainment, Inc.

d Amendment One to the Transponder Service Agreement between
Spice Hot Entertainment, Inc. and LORAL SKYNET dated February
28, 2002

(items(b), (c) and (d) incorporated by reference to Exhibits
10.4(b), (c) and (d), respectively, from our annual report on Form
10-K for the year ended December 31, 2001, or the 2001 Form 10-K)

e Transponder Service Agreement dated August 12, 1999 between
British Sky Broadcasting Limited and The Home Video Channel
Limited (incorporated by reference to Exhibit 10.4 from the
2002 Form 10-K)

@f First Amendment dated as of May 7, 2004 between Playboy and
LORAL SKYNET extending its current term expiration of January
31, 2010 to January 31, 2013

@g Intelsat LLC acquired assets of LORAL SKYNET effective March
17, 2004

&10.5 Playboy TV - Latin America, LLC Agreements

a Second Amended and Restated Operating Agreement for Playboy TV
- Latin America, LLC, effective as of April 1, 2002, by and
between Playboy Entertainment Group, Inc. and Lifford
International Co. Ltd. (BVI)

b Playboy TV - Latin America Program Supply and Trademark
License Agreement, dated as of December 23, 2002 and effective
as of April 1, 2002, by and between Playboy Entertainment
Group, Inc. and Playboy TV - Latin America, LLC

(items (a) and (b) incorporated by reference to Exhibits 10.1 and
10.2, respectively, from the Current Report on Form 8-K dated
December 23, 2002 and filed with the SEC on February 12, 2003)

10.6 Transfer Agreement, dated as of December 23, 2002, by and among
Playboy Enterprises, Inc., Playboy Entertainment Group, Inc.,
Playboy Enterprises International, Inc., Claxson Interactive Group
Inc., Carlyle Investments LLC (in its own right and as a successor
in interest to Victoria Springs Investments Ltd.), Carlton
Investments LLC (in its own right and as a successor in interest to
Victoria Springs Investments Ltd.), Lifford International Co. Ltd.
(BVI) and Playboy TV International, LLC. (incorporated by reference
to Exhibit 2.1 from the Current Report on Form 8-K dated December
23, 2002 and filed with the SEC on January 7, 2003)

#10.7 Amended and Restated Affiliation and License Agreement dated May 17,
2002 between DirecTV, Inc. and Playboy Entertainment Group, Inc.,
Spice Entertainment, Inc., Spice Hot Entertainment, Inc. and Spice
Platinum Entertainment, Inc. regarding DBS Satellite Exhibition of
Programming (incorporated by reference to Exhibit 10.1 from our
quarterly report on Form 10-Q dated June 30, 2002, or the June 30,
2002 Form 10-Q)

85

&10.8 Affiliation Agreement dated July 8, 2004 between Playboy
Entertainment Group, Inc,. Spice Entertainment, Inc., Spice Hot
Entertainment, Inc., and Time Warner Cable Inc. (incorporated by
reference to Exhibit 10.1 from the September 30, 2004 Form 10-Q)

10.9 Master Lease Agreement dated December 22, 2003 between The Walden
Asset Group, LLC and Playboy Entertainment Group, Inc.

a Master Lease Agreement

b Equipment Schedule No. 1

c Acceptance Certificate for Equipment Schedule No. 1

(items (a) thru (c) incorporated by reference to Exhibit 10.8 from
the 2003 Form 10-K)

10.10 Acknowledgement of Assignment dated December 22, 2003 among Playboy
Entertainment Group, Inc., The Walden Asset Group, LLC and General
Electric Capital Corporation (incorporated by reference to Exhibit
10.9 from the 2003 Form 10-K)

10.11 Corporate Guaranty dated December 22, 2003 executed by General
Electric Capital Corporation regarding the Master Lease Agreement
dated December 22, 2003 (incorporated by reference to Exhibit 10.10
from the 2003 Form 10-K)

10.12 Fulfillment and Customer Service Services Agreement dated January 2,
2004 between Infinity Resources, Inc. and Playboy.com, Inc.
(incorporated by reference to Exhibit 10.2 from the June 30, 2004
Form 10-Q)

10.13 Credit Agreement, dated March 11, 2003, or the Credit Agreement,
among PEI Holdings, Inc., each lender from time to time party
thereto and Bank of America, N.A., as Agent

a Credit Agreement

a-1 Master Corporate Guaranty, dated March 11, 2003

b Security Agreement, dated as of March 11, 2003, between PEI
Holdings, Inc. and Bank of America, N.A., as Agent under the
Credit Agreement

c Security Agreement, dated as of March 11, 2003, among Playboy
Enterprises, Inc. and each of the domestic subsidiaries of PEI
Holdings, Inc. set forth on the signature pages thereto and
Bank of America, N.A., as Agent under the Credit Agreement

d Pledge Agreement, dated as of March 11, 2003, between PEI
Holdings, Inc. and Bank of America, N.A., as agent for the
various financial institutions from time to time parties to
the Credit Agreement

e Pledge Agreement, dated as of March 11, 2003, among Chelsea
Court Holdings LLC, as the limited partner in 1945/1947 Cedar
River C.V., Candlelight Management LLC, as the general partner
in 1945/1947 Cedar River C.V., and Bank of America, N.A., as
agent for the various financial institutions from time to time
parties to the Credit Agreement

f Pledge Agreement, dated as of March 11, 2003, between Claridge
Organization LLC and Bank of America, N.A., as agent for the
various financial institutions from time to time parties to
the Credit Agreement

g Pledge Agreement, dated as of March 11, 2003, between Playboy
Clubs International, Inc. and Bank of America, N.A., as agent
for the various financial institutions from time to time
parties to the Credit Agreement

h Pledge Agreement, dated as of March 11, 2003, between CPV
Productions, Inc. and Bank of America, N.A., as agent for the
various financial institutions from time to time parties to
the Credit Agreement

i Pledge Agreement, dated as of March 11, 2003, between Playboy
Entertainment Group, Inc. and Bank of America, N.A., as agent
for the various financial institutions from time to time
parties to the Credit Agreement

j Pledge Agreement, dated as of March 11, 2003, between Playboy
Gaming International, Ltd. and Bank of America, N.A., as agent
for the various financial institutions from time to time
parties to the Credit Agreement

k Pledge Agreement, dated as of March 11, 2003, between Playboy
Entertainment Group, Inc. and Bank of America, N.A., as agent
for the various financial institutions from time to time
parties to the Credit Agreement

l Pledge Agreement, dated as of March 11, 2003, between Playboy
Enterprises, Inc. and Bank of America, N.A., as agent for the
various financial institutions from time to time parties to
the Credit Agreement

86

m Pledge Agreement, dated as of March 11, 2003, between Playboy
Enterprises International, Inc. and Bank of America, N.A., as
agent for the various financial institutions from time to time
parties to the Credit Agreement

n Pledge Agreement, dated as of March 11, 2003, between Planet
Playboy, Inc. and Bank of America, N.A., as agent for the
various financial institutions from time to time parties to
the Credit Agreement

o Pledge Agreement, dated as of March 11, 2003, between Spice
Entertainment, Inc. and Bank of America, N.A., as agent for
the various financial institutions from time to time parties
to the Credit Agreement

p Pledge Agreement, dated as of March 11, 2003, between Playboy
TV International, LLC and Bank of America, N.A., as agent for
the various financial institutions from time to time parties
to the Credit Agreement

q Pledge Agreement, dated as of March 11, 2003, between Playboy
TV International, LLC and Bank of America, N.A., as agent for
the various financial institutions from time to time parties
to the Credit Agreement

r Trademark Security Agreement, dated as of March 11, 2003, by
AdulTVision Communications, Inc., Alta Loma Entertainment,
Inc., Lifestyle Brands, Ltd., Playboy Entertainment Group,
Inc., Spice Entertainment, Inc., Playboy Enterprises
International, Inc. and Spice Hot Entertainment, Inc. in favor
of Bank of America, N.A., as Agent under the Credit Agreement

s Copyright Security Agreement, dated March 11, 2003, by After
Dark Video, Inc., Alta Loma Distribution, Inc., Alta Loma
Entertainment, Inc., Impulse Productions, Inc., Indigo
Entertainment, Inc., MH Pictures, Inc., Mystique Films, Inc.,
Playboy Entertainment Group, Inc., Precious Films, Inc. and
Women Productions, Inc. in favor of Bank of America, N.A., as
Agent under the Credit Agreement

t Lease Subordination Agreement, dated as of March 11, 2003, by
and among Hugh M. Hefner, Playboy Enterprises International,
Inc. and Bank of America, N.A., as Agent for various lenders

u Deed of Trust with Assignment of Rents, Security Agreement and
Fixture Filing, dated as of March 11, 2003, made and executed
by Playboy Enterprises International, Inc. in favor of
Fidelity National Title Insurance Company for the benefit of
Bank of America, N.A., as agent for Lenders under the Credit
Agreement (items (a) through (u) incorporated by reference to
Exhibits 10.9(a) through (u), respectively, from the 2002 Form
10-K)

v Pledge Amendment, dated July 22, 2003, between Playboy
Entertainment Group, Inc. and Bank of America, N.A., as agent
for the various financial institutions from time to time
parties to the Credit Agreement (incorporated by reference to
Exhibit 10.9(i)-1 to Playboy Enterprises, Inc.'s May 19, 2003
Form S-4).

w First Amendment to March 11, 2003 Credit Agreement dated July
30, 2004 among PEI Holding, Inc., each lender from time to
time party thereto and Bank of America, N.A. as Agent
(incorporated by reference to Exhibit 10.3 from the June 30,
2004 Form 10-Q)

y Second Amendment, dated September 15, 2004, to the Credit
Agreement, dated March 11, 2003 among PEI Holdings, Inc., each
lender from time to time party thereto and Bank of America,
N.A., as Agent (incorporated by reference to Exhibit 10.3 from
the September 30, 2004 Form 10-Q)

z First Amendment, dated September 15, 2004, to Deed of Trust
With Assignment of Rents. Security Agreement and Fixture
Filing, dated as of March 11, 2003, made and executed between
Playboy Enterprises International, Inc. and Bank of America,
N.A., as Agent (incorporated by reference to Exhibit 10.4 from
the September 30, 2004 10-Q)

10.14 Joinder to Master Corporate Guaranty, dated July 22, 2003, executed
by Andrita Studios, Inc. (incorporated by reference to Exhibit
10.9(a)-2 to Playboy Enterprises, Inc.'s Form S-4, filed with the
SEC on May 19, 2003, File No. 333-105386)

10.15 Joinder to Security Agreement, dated July 22, 2003, executed by
Andrita Studios, Inc. (incorporated by reference to Exhibit
10.9(c)-7 to Playboy Enterprises, Inc.'s Form S-4, filed with the
SEC on May 19, 2003, File No. 333-105386)

10.16 Exchange Agreement, dated as of March 11, 2003, among Hugh M.
Hefner, Playboy.com, Inc., PEI Holdings, Inc. and Playboy
Enterprises, Inc. (incorporated by reference to Exhibit 10.11 from
the 2002 Form 10-K)

87

10.17 Playboy Mansion West Lease Agreement, as amended, between Playboy
Enterprises, Inc. and Hugh M. Hefner

a Letter of Interpretation of Lease

b Agreement of Lease

(items (a) and (b) incorporated by reference to Exhibits 10.3(a) and
(b), respectively, from the 1991 Form 10-K)

c Amendment to Lease Agreement dated as of January 12, 1998
(incorporated by reference to Exhibit 10.2 from our quarterly
report on Form 10-Q for the quarter ended March 31, 1998, or
the March 31, 1998 Form 10-Q)

d Lease Subordination Agreement, dated as of March 11, 2003, by
and among Hugh M. Hefner, Playboy Enterprises International,
Inc. and Bank One, N.A., as Trustee for various noteholders
(see Exhibit 4.1(u))

e Lease Subordination Agreement, dated as of March 11, 2003, by
and among Hugh M. Hefner, Playboy Enterprises International,
Inc. and Bank of America, N.A., as Agent for various lenders
(see Exhibit 10.9(t))

(items (d) and (e) incorporated by reference to Exhibits 10.13(d)
and (e), respectively, from the 2002 Form 10-K)

10.18 Los Angeles Office Lease Documents

a Agreement of Lease dated April 23, 2002 between Los Angeles
Media Tech Center, LLC and Playboy Enterprises, Inc.
(incorporated by reference to Exhibit 10.4 from the June 30,
2002 Form 10-Q)

b First Amendment to April 23, 2002 Lease dated June 28, 2002
(incorporated by reference to Exhibit 10.4 from our quarterly
report on Form 10-Q for the quarter ended September 30, 2002
Form 10-Q, or the September 30, 2002 Form 10-Q)

c Second Amendment to April 23, 2002 Lease dated September 23,
2004 between Los Angeles Media Tech Center, LLC and Playboy
Enterprises, Inc. (incorporated by reference to Exhibit 10.2
from the September 30, 2004 Form 10-Q)

10.19 Chicago Office Lease Documents

a Office Lease dated April 7, 1988 by and between Playboy
Enterprises, Inc. and LaSalle National Bank as Trustee under
Trust No. 112912 (incorporated by reference to Exhibit 10.7(a)
from the 1993 Form 10-K)

b First Amendment to April 7, 1988 Lease dated October 26, 1989
(incorporated by reference to Exhibit 10.15(b) from our annual
report on Form 10-K for the year ended June 30, 1995, or the
1995 Form 10-K)

c Second Amendment to April 7, 1988 Lease dated June 1, 1992
(incorporated by reference to Exhibit 10.1 from our quarterly
report on Form 10-Q for the quarter ended December 31, 1992)

d Third Amendment to April 7, 1988 Lease dated August 30, 1993
(incorporated by reference to Exhibit 10.15(d) from the 1995
Form 10-K)

e Fourth Amendment to April 7, 1988 Lease dated August 6, 1996
(incorporated by reference to Exhibit 10.20(e) from the 1996
Form 10-K)

f Fifth Amendment to April 7, 1988 Lease dated March 19, 1998
(incorporated by reference to Exhibit 10.3 from the March 31,
1998 Form 10-Q)

10.20 New York Office Lease Documents

a Agreement of Lease dated August 11, 1992 between Playboy
Enterprises, Inc. and Lexington Building Co. (incorporated by
reference to Exhibit 10.9(b) from the 1992 Form 10-K)

b Second Amendment to August 11, 1992 Lease dated June 28, 2004
(incorporated by reference to Exhibit 10.4 from the June 30,
2004 Form 10-Q)

10.21 Los Angeles Studio Facility Lease Documents

a Agreement of Lease dated September 20, 2001 between Kingston
Andrita LLC and Playboy Entertainment Group, Inc.
(incorporated by reference to Exhibit 10.3(a) from the
September 30, 2001 Form 10-Q)

b First Amendment to September 20, 2001 Lease dated May 15, 2002
(incorporated by reference to Exhibit 10.3 from the June 30,
2002 Form 10-Q)

c Second Amendment to September 20, 2001 Lease dated July 23,
2002 (incorporated by reference to Exhibit 10.6 from the
September 30, 2002 Form 10-Q)

d Third Amendment to September 20, 2001 Lease dated October 31,
2002

e Fourth Amendment to September 20, 2001 Lease dated December 2,
2002

f Fifth Amendment to September 20, 2001 Lease dated December 31,
2002

88

g Sixth Amendment to September 20, 2001 Lease dated January 31,
2003

(items (d) through (g) incorporated by reference to Exhibits
10.17(d) through (g), respectively, from the 2002 Form 10-K)

h Guaranty dated September 20, 2001 by Playboy Entertainment
Group, Inc. in favor of Kingston Andrita LLC (incorporated by
reference to Exhibit 10.3(c) from the September 30, 2001 Form
10-Q)

i Seventh Amendment to September 20, 2001 Lease dated July 23,
2003 (incorporated by reference to Exhibit 10.1 from our
quarterly report on Form 10-Q dated September 30, 2003)

*10.22 Selected Company Remunerative Plans

a Executive Protection Program dated March 1, 1990 (incorporated
by reference to Exhibit 10.18(c) from the 1995 Form 10-K)

b Amended and Restated Deferred Compensation Plan for Employees
effective January 1, 1998

c Amended and Restated Deferred Compensation Plan for Board of
Directors' effective January 1, 1998

(items (b) and (c) incorporated by reference to Exhibits 10.2(a) and
(b), respectively, from our quarterly report on Form 10-Q for the
quarter ended June 30, 1998)

*10.23 1991 Directors' Plan

a Playboy Enterprises, Inc. 1991 NonQualified Stock Option Plan
for NonEmployee Directors, as amended

b Playboy Enterprises, Inc. 1991 NonQualified Stock Option
Agreement for NonEmployee Directors

(items (a) and (b) incorporated by reference to Exhibits 10.4(rr)
and (nn), respectively, from the 1991 Form 10-K)

@c Playboy Enterprises, Inc. 1991 NonQualified Stock Option Plan
for NonEmployee Directors, as amended

*10.24 1995 Stock Incentive Plan

a Second Amended and Restated Playboy Enterprises, Inc. 1995
Stock Incentive Plan

b Form of NonQualified Stock Option Agreement for NonQualified
Stock Options which may be granted under the Plan

c Form of Incentive Stock Option Agreement for Incentive Stock
Options which may be granted under the Plan

d Form of Restricted Stock Agreement for Restricted Stock issued
under the Plan

(items (b), (c) and (d) incorporated by reference to Exhibits 4.3,
4.4 and 4.5, respectively, from our Registration Statement No.
33-58145 on Form S-8 dated March 20, 1995)

e Form of Section 162(m) Restricted Stock Agreement for Section
162(m) Restricted Stock issued under the Plan (incorporated by
reference to Exhibit 10.1(e) from the 1997 Form 10-K)

@f Amendment to the Second Amended and Restated Playboy
Enterprises, Inc. 1995 Stock Incentive Plan

*10.25 1997 Directors' Plan

a Amended and Restated 1997 Equity Plan for NonEmployee
Directors of Playboy Enterprises, Inc.

b Form of Restricted Stock Agreement for Restricted Stock issued
under the Plan (incorporated by reference to Exhibit 10.1(b)
from our quarterly report on Form 10-Q for the quarter ended
September 30, 1997)

@c Amendment to the Amended and Restated 1997 Equity Plan for
Non-Employee Directors of Playboy Enterprises, Inc.

*10.26 Form of Nonqualified Option Agreement between Playboy Enterprises,
Inc. and each of Dennis S. Bookshester and Sol Rosenthal
(incorporated by reference to Exhibit 4.4 from our Registration
Statement No. 333-30185 on Form S-8 dated November 13, 1996)

*10.27 Employee Stock Purchase Plan

a Playboy Enterprises, Inc. Employee Stock Purchase Plan, as
amended and restated (incorporated by reference to Exhibit
10.2 from our quarterly report on Form 10-Q for the quarter
ended March 31, 1997)

b Amendment to Playboy Enterprises, Inc. Employee Stock Purchase
Plan, as amended and restated (incorporated by reference to
Exhibit 10.4 from the quarterly report on Form 10-Q for the
quarter ended June 30, 1999)

89

*10.28 Selected Employment, Termination and Other Agreements

a Form of Severance Agreement by and between Playboy
Enterprises, Inc. and each of James Griffiths, Linda Havard,
Christie Hefner, Martha Lindeman, Richard Rosenzweig, Howard
Shapiro and Alex Vaickus (incorporated by reference to Exhibit
10.23(a) from the 2001 Form 10-K)

b Memorandum dated May 21, 2002 regarding severance agreement
for Linda Havard (incorporated by reference to Exhibits 10.5
and 10.6, respectively, from the June 30, 2002 Form 10-Q)

c Employment Agreement dated January 8, 2004 regarding
employment of James Griffiths (incorporated by reference to
Exhibit 10.29 from the 2003 Form 10-K)

d Letter Agreement dated June 4, 2004 regarding employment of
James English (incorporated by reference to Exhibit 10.5 from
the June 30, 2004 Form 10-Q)

10.29 11% Senior Secured Notes due 2010 (see Exhibit 4.1) (incorporated by
reference to Exhibits 10.27 from the 2002 Form 10-K)

@21 Subsidiaries

@23 Consent of Ernst & Young LLP

@31.1 Certification of Chief Executive Officer pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002

@31.2 Certification of Chief Financial Officer pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002

@32 Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

- ----------
* Indicates management compensation plan

# Certain information omitted pursuant to a request for confidential
treatment filed separately with and granted by the SEC

& Certain information omitted pursuant to a request for confidential
treatment filed separately with the SEC

@ Filed herewith

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PLAYBOY ENTERPRISES, INC. AND SUBSIDIARIES
SCHEDULE II
VALUATION AND QUALIFYING ACCOUNTS
(in thousands)

===========================================================================================================================
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E
- ---------------------------------------------------------------------------------------------------------------------------
Additions
-----------------------------
Balance at Charged to Charged to Balance at
Beginning Costs and Other End
Description of Period Expenses Accounts Deductions of Period
- ---------------------------------------- ---------- ---------- ---------- ---------- ----------

Allowance deducted in the balance sheet
from the asset to which it applies:

Fiscal Year Ended December 31, 2004:

Allowance for doubtful accounts $ 4,364 $ 239 $ 1,133(a) $ 1,839(b) $ 3,897
========== ========== ========== ========== ==========

Allowance for returns $ 27,137 $ 203 $ 43,766(c) $ 42,822(d) $ 28,284
========== ========== ========== ========== ==========

Deferred tax asset valuation allowance $ 72,453 $ -- $ -- $ 9,163(e) $ 63,290
========== ========== ========== ========== ==========

Fiscal Year Ended December 31, 2003:

Allowance for doubtful accounts $ 5,124 $ 1,409 $ 1,451(a) $ 3,620(b) $ 4,364
========== ========== ========== ========== ==========

Allowance for returns $ 24,595 $ -- $ 47,536(c) $ 44,994(d) $ 27,137
========== ========== ========== ========== ==========

Deferred tax asset valuation allowance $ 69,146 $ 3,307(f) $ -- $ -- $ 72,453
========== ========== ========== ========== ==========

Fiscal Year Ended December 31, 2002:

Allowance for doubtful accounts $ 6,406 $ 213 $ 2,010(a) $ 3,505(b) $ 5,124
========== ========== ========== ========== ==========

Allowance for returns $ 30,514 $ -- $ 48,227(c) $ 54,146(d) $ 24,595
========== ========== ========== ========== ==========

Deferred tax asset valuation allowance $ 54,588 $ 14,558(f) $ -- $ -- $ 69,146
========== ========== ========== ========== ==========

Notes:

(a) Primarily represents provisions for unpaid subscriptions charged to net
revenues. Also, includes a $660 provision in 2002 related to the December
2002 PTVI restructuring.

(b) Primarily represents uncollectible accounts less recoveries.

(c) Represents provisions charged to net revenues for estimated returns of
Playboy magazine, other domestic publishing products and domestic home
videos.

(d) Represents settlements on provisions previously recorded.

(e) Represents noncash federal income tax benefit related to reducing the
valuation allowance.

(f) Represents noncash federal income tax expense related to increasing the
valuation allowance.

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