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EX-31.2 - PIKSEL, INC.v193843_ex31-2.htm
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EX-31.1 - PIKSEL, INC.v193843_ex31-1.htm
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
  Washington, D.C. 20549

Form 10-Q

(Mark One)
 
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2010

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 001-34437
 
KIT digital, Inc.
(Exact Name of Registrant as Specified in Its Charter)
 
Delaware
11-3447894
(State or Other Jurisdiction of
(I.R.S. Employer
Incorporation or Organization)
Identification No.)
   
 
168 Fifth Avenue, Suite 302, New York, New York
   10010   
 
 
(Address of Principal Executive Offices)
(Zip Code)
 

+1 (212) 661-4111
(Registrant’s Telephone Number, Including Area Code)
 
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x   No ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes   ¨   No ¨ (not required)
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definition of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
 
Large accelerated Filer ¨
Accelerated filer ¨
   
Non-accelerated filer ¨
Smaller reporting company x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes ¨   No x

As of August13, 2010, there were 23,230,279 shares of the registrant’s common stock outstanding.

 
 

 

KIT digital, Inc.

  TABLE OF CONTENTS

   
Page
PART I - FINANCIAL INFORMATION
     
Item 1.
Financial Statements  
2
 
Consolidated Balance Sheets - As of June 30, 2010 (unaudited) and December 31, 2009
2
 
Consolidated Statements of Operations and Comprehensive Income (Loss) - For the three and six months ended June 30, 2010 and 2009 (unaudited) 
3
 
Consolidated Statements of Stockholders’ Equity - For the six months ended June 30, 2010 (unaudited)
4
 
Consolidated Statements of Cash Flows - For the six months ended June 30, 2010 and 2009 (unaudited)
5
 
Notes to Consolidated Financial Statements (unaudited)
7
Management’s Discussion and Analysis of Financial Condition and Results of Operations  
18
Quantitative and Qualitative Disclosures About Market Risk  
23
Controls and Procedures
23
     
     
Legal Proceedings  
24
Risk Factors
24
Unregistered Sales of Equity Securities and Use of Proceeds  
24
Defaults Upon Senior Securities  
24
Reserved  
24
Other Information  
24
Exhibits  
24
     
25
 
 
 

 

PART I - FINANCIAL INFORMATION
 Item 1.  Financial Statements  

KIT DIGITAL, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Amounts in Thousands, Except Share Data) 

 
   
June 30, 
2010
   
December 31, 
2009 (A)
 
   
(Unaudited)
       
Assets:
           
Current assets:
           
Cash and cash equivalents
  $ 67,110     $ 6,791  
Restricted cash
    2,035       -  
Investments
    932       217  
Accounts receivable, net
    22,512       17,258  
Unbilled revenue
    2,567       2,960  
Inventory
    1,065       708  
Other current assets
    5,823       2,205  
Total current assets
    102,044       30,139  
                 
Property and equipment, net
    5,786       5,697  
Software, net
    2,920       3,436  
Customer list, net
    5,450       4,650  
Goodwill
    79,108       36,492  
Total assets
  $ 195,308     $ 80,414  
                 
Liabilities and Stockholders' Equity:
               
Current liabilities:
               
Bank overdraft
  $ 1,608     $ 2,944  
Capital lease and other obligations
    801       1,218  
Secured notes payable
    751       -  
Accounts payable
    10,112       6,647  
Accrued expenses
    9,702       8,501  
Income tax payable
    279       312  
Deferred tax liability
    580       580  
Acquisition liability
    2,146       1,075  
Derivative liability
    2,548       21,314  
Other current liabilities
    4,832       3,455  
Total current liabilities
    33,359       46,046  
                 
Capital lease and other obligations, net of current
    567       377  
Secured notes payable, net of current and debt discount
    5,052       -  
Acquisition liability, net of current
    7,560       -  
Total liabilities
    46,538       46,423  
                 
Equity:
               
Stockholders' equity:
               
                 
Common stock, $0.0001 par value: authorized 30,000,000 shares; issued and outstanding 23,230,279 and 10,844,853, respectively
    2       1  
Additional paid-in capital
    263,861       128,263  
Accumulated deficit
    (112,727 )     (93,943 )
Accumulated other comprehensive (loss) income
    (2,366 )     (330 )
Total stockholders' equity
    148,770       33,991  
Total liabilities and stockholders' equity
  $ 195,308     $ 80,414  
 
(A) - Reference is made to the Company’s Annual Report on Form 10-K for the year ended December 31, 2009, filed with the U.S. Securities and Exchange Commission on April 5, 2010.
 
The Accompanying Notes are an Integral Part of these Consolidated Financial Statements.

 
2

 

 
KIT DIGITAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)
(Amounts in Thousands, Except Share and Per Share Data)
(Unaudited)   


   
Three months ended
   
S ix months ended
 
   
June 30,
   
June 30,
 
   
2010
   
2009
   
2010
   
2009
 
Revenue
  $ 23,055     $ 10,494     $ 40,419     $ 20,118  
                                 
Variable and direct third party costs:
                               
Cost of goods and services
    6,366       3,634       10,718       7,112  
Hosting, delivery and reporting
    1,290       414       2,364       696  
Content costs
    249       357       484       818  
Direct third party creative production costs
    656       1,153       1,546       1,958  
Total variable and direct third party costs
    8,561       5,558       15,112       10,584  
                                 
Gross profit
    14,494       4,936       25,307       9,534  
                                 
General and administrative expenses:
                               
Compensation, travel and associated costs (including non-cash stock- based compensation of $1,084, $272, $1,636 and $552, respectively)
    8,536       3,481       14,186       7,174  
Legal, accounting, audit and other professional service fees
    530       160       1,220       430  
Office, marketing and other corporate costs
    2,313       896       4,377       1,613  
Merger and acquisition and investor relations expenses
    886       351       2,105       729  
Depreciation and amortization
    2,049       910       3,703       1,593  
Restructuring charges
    (119 )     195       3,574       314  
Integration expenses
    3,378       747       6,299       991  
Total general and administrative expenses
    17,573       6,740       35,464       12,844  
                                 
Loss from operations
    (3,079 )     (1,804 )     (10,157 )     (3,310 )
                                 
Interest income
    27       3       28       4  
Interest expense
    (248 )     (178 )     (340 )     (317 )
Amortization of deferred financing costs and debt discount
    (14 )     (449 )     (14 )     (613 )
Derivative income (expense)
    2,368       506       (9,075 )     10,682  
Other income
    604       311       788       340  
                                 
Net (loss) income before income taxes
    (342 )     (1,611 )     (18,770 )     6,786  
                                 
Income tax expense (benefit)
    -       1       (14 )     (2 )
Net (loss) income available to common shareholders
  $ (342 )   $ (1,610 )   $ (18,784 )   $ 6,784  
                                 
Basic and diluted net (loss) income per common share
  $ (0.02 )   $ (0.37 )   $ (1.06 )   $ 1.50  
Basic and diluted weighted average common shares outstanding
    21,404,907       4,322,798       17,662,700       4,535,629  
                                 
Comprehensive income (loss):
                               
Net (loss) income
  $ (342 )   $ (1,610 )   $ (18,784 )   $ 6,784  
Foreign currency translation
    (1,619 )     414       (2,052 )     377  
Change in unrealized gain on investments, net
    (53 )     -       16       -  
Comprehensive (loss) income:
  $ (2,014 )   $ (1,196 )   $ (20,820 )   $ 7,161  

The Accompanying Notes are an Integral Part of these Consolidated Financial Statements.

 
3

 

KIT DIGITAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(Amounts in Thousands, Except Share Data)   

 
   
Common
Stock
   
Common
Stock
Par Value
   
Additional
Paid-in
Capital
 
                   
Balance – December 31, 2009
   
10,844,853
   
$
1
   
$
128,263
 
Issue of stock in public offerings, net
   
9,968,253
     
1
     
106,689
 
Issue of stock for exercise of stock options
   
13,734
     
     
67
 
Issue of stock for exercise of warrants
   
568,158
     
     
6,946
 
Issue of stock for acquisitions
   
1,788,719
     
     
19,145
 
Issue of warrants for services
   
     
     
588
 
Debt discount on notes
   
     
     
210
 
Issue of stock for compensation
   
16,500
     
     
190
 
Issue of stock for services
   
30,062
     
     
317
 
Stock-based compensation
   
     
     
1,446
 
Foreign currency translation adjustment
   
     
     
 
Fair market value adjustment for available for sale securities
   
     
     
 
Net loss
   
     
     
 
                         
Balance – June 30, 2010
   
23,230,279
   
$
2
   
$
263,861
 
 
   
Accumulated
(Deficit)
   
Accumulated
Other
Comprehensive
Income
(Loss)
   
Total
Shareholders’
Equity
 
                   
Balance – December 31, 2009
 
$
(93,943
)
 
$
(330
)
 
$
33,991
 
Issue of stock in public offerings, net
   
     
     
106,689
 
Issue of stock for exercise of stock options
   
     
     
67
 
Issue of stock for exercise of warrants
   
     
     
6,946
 
Issue of stock for acquisitions
   
     
     
19,145
 
Issue of warrants for services
   
     
     
588
 
Debt discount on notes
   
     
     
210
 
Issue of stock for compensation
   
     
     
190
 
Issue of stock for services
   
     
     
317
 
Stock-based compensation
   
     
     
1,446
 
Foreign currency translation adjustment
   
     
(2,052
   
(2,052
Fair market value adjustment for available for sale securities
   
     
16
     
16
 
Net loss
   
(18,784
)
   
     
(18,784
)
                         
Balance – June 30, 2010
 
$
(112,727
)
 
$
(2,366
)
 
$
148,770
 
 
The Accompanying Notes are an Integral Part of these Consolidated Financial Statements.  

 
4

 

KIT DIGITAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Amounts in Thousands)
(Unaudited)


   
Six months ended June 30,
 
   
2010
   
2009
 
Operating Activities:
           
Net (loss) income
  $ (18,784 )     6,784  
Adjustments to reconcile net loss to net cash used by operating activities:
               
Provision for doubtful accounts
    221       205  
Depreciation
    2,184       785  
Amortization of intangible assets
    1,519       808  
Amortization of deferred financing costs
    2       54  
Amortization of debt discount
    12       560  
Loss on disposal of property and equipment
    87       -  
Derivative expense (income)
    9,075       (10,682 )
Less: merger and acquisition expenses
    822       -  
Non-cash stock based compensation
    1,636       631  
Non-cash warrants for services
    588       -  
Non-cash stock for services
    317       41  
Gain on bargain purchase
    -       (26 )
                 
Changes in assets and liabilities:
               
Accounts receivable
    (5,568 )     (5,795 )
Unbilled revenue
    186       -  
Inventory
    127       607  
Other assets
    (2,955 )     (576 )
Accounts payable
    352       1,249  
Accrued expenses
    892       3,094  
Income tax payable
    (24 )     -  
Other liabilities
    (1,113 )     (1,607 )
Total adjustments
    8,360       (10,652 )
                 
Net cash used by operating activities - forward
    (10,424 )     (3,868 )
                 
Investing Activities:
               
Cash paid into restricted cash
    (2,035 )     -  
Cash paid into investment
    (700 )     (200 )
Cash received in acquisition of Narrowstep
    -       279  
Cash paid in acquisition of Visual
    (2,900 )     (180 )
Cash paid in acquisition of Multicast
    (4,746 )     -  
Cash received in acquisition of Multicast
    396       -  
Cash paid in acquisition of Benchmark
    (4,905 )     -  
Cash received in acquisition of Benchmark
    2,545       -  
Merger and acquisition expenses
    (822 )     -  
Purchase of equipment
    (752 )     (1,566 )
                 
Net cash used by investing activities - forward
  $ (13,919 )     (1,667 )
 
 
5

 
KIT DIGITAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
(Amounts in Thousands)
(Unaudited)

 
   
Six months ended June 30,
 
   
2010
   
2009
 
             
Net cash used by operating activities - forwarded
  $ (10,424 )     (3,868 )
                 
Net cash used by investing activities - forwarded
    (13,919 )     (1,667 )
                 
Financing Activities:
               
Proceeds from public offering, net
    106,690       -  
Proceeds from exercise of stock options
    67       27  
Proceeds from exercise of warrants
    3,030       -  
Payments for warrant buybacks
    (23,925 )     -  
Bank overdraft
    148       (348 )
Proceeds from issuance of secured notes
    5,762       352  
Payments of secured notes
    (1,020 )     (43 )
Payments of senior secured note
    -       (150 )
Proceeds from issuance of notes payable
    -       2,600  
Repayments of notes payable
    (4,500 )     -  
Payment on capital leases
    (639 )     (210 )
                 
Net cash provided by financing activities
    85,613       2,228  
                 
Effect of exchange rate changes on cash
    (951 )     165  
                 
Net increase (decrease) in cash and cash equivalents
    60,319       (3,142 )
Cash and cash equivalents - beginning of period
    6,791       5,878  
Cash and cash equivalents - end of period
  $ 67,110       2,736  
                 
Supplemental disclosures of cash flow information:
               
Cash paid during the period for:
               
Income taxes
  $ -       -  
Interest
  $ 340       317  

The Accompanying Notes are an Integral Part of these Consolidated Financial Statements.

 
6

 

KIT DIGITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in Thousands, Except Share and Per Share Data)
(Unaudited) 

 
(1) Nature of Business and Nature of Presentation   

KIT digital, Inc. ("we," "us," "our," the "Company" or "KIT digital"), through our operating subsidiaries, provides enterprise clients an end-to-end technology platform for managing Internet Protocol (“IP”)-based video assets across the browser, mobile device and IPTV set-top box-enabled television set. We offer creative interface design, branding, strategic planning and technical integration services to complement our “VX”-branded software platform. Our solutions includes the delivery of IP video software solutions, including software-as-a-service (“SaaS”) fees, enterprise license fees, software usage fees, set-up/support services, storage, hardware components, content delivery, content syndication, and advertising-based monetization. Our solutions also include technical integration services, interface design, branding, strategic planning, creative production, online marketing, media planning and analytics.

The accompanying interim consolidated financial statements are unaudited and have been prepared in accordance with accounting principles generally accepted in the United States of America, or GAAP, for interim financial information. These financial statements include the accounts of KIT digital and its wholly-owned subsidiaries. All intercompany transactions and balances have been eliminated in the accompanying financial statements.

Certain information and footnote disclosures normally included in the Company’s annual audited consolidated financial statements and accompanying notes have been condensed or omitted in these interim financial statements. Accordingly, the unaudited consolidated financial statements included herein should be read in conjunction with the audited consolidated financial statements and accompanying notes included in KIT digital’s annual report on Form 10-K for the year ended December 31, 2009, filed with the U.S. Securities and Exchange Commission.

The results of operations presented in this quarterly report on Form 10-Q are not necessarily indicative of the results of operations that may be expected for any future periods. In the opinion of management, these unaudited consolidated financial statements include all adjustments and accruals, consisting only of normal recurring adjustments, that are necessary for a fair statement of the results of all interim periods reported herein.

(2) Recent Accounting Pronouncements   

In October 2009, the FASB issued Accounting Standards Update on Multiple-Deliverable Revenue Arrangements, which addresses the accounting for multiple-deliverable arrangements and requires that the overall arrangement consideration be allocated to each deliverable in a revenue arrangement based on an estimated selling price when vendor specific objective evidence or third-party evidence of fair value is not available. This guidance also eliminates the residual method of allocation and requires that arrangement consideration be allocated to all deliverables using the relative selling price method. This update is effective for fiscal years beginning on or after June 15, 2010 and early adoption is permitted.  We do not expect the adoption of this update to have a material impact.

In October 2009, the FASB issued Accounting Standards Update on Certain Revenue Arrangements That Include Software Elements, which changes the accounting model for revenue arrangements that include both tangible products and software elements. Tangible products containing both software and non-software components that function together to deliver the product’s essential functionality will no longer be within the scope of Software Revenue Recognition. This update is effective for fiscal years beginning on or after June 15, 2010 and early adoption is permitted. We do not expect the adoption of this update to have a material impact.

(3) Cash and Cash Equivalents

We consider all highly liquid investments with original maturities of ninety days or less when purchased to be cash and cash equivalents. As of June 30, 2010, the Company had $2,049 of cash equivalents in an account that pays interest at LIBOR plus 150 basis points. This account is guaranteed and backed by liquid collateral instruments, and can be redeemed with 14 days prior written notice. As of June 30, 2010, the Company had $65,061 of cash in low interest-bearing accounts in accordance with the Company's cash management policy.
 
 
7

 

KIT DIGITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in Thousands, Except Share and Per Share Data)
(Unaudited )

 
(4) Fair Value of Financial Instruments

 On January 1, 2008, we adopted the standard that defines fair value, establishes a framework for measuring fair value in GAAP and expands disclosure about fair value measurements. This standard defines fair value as the amount that would be received upon sale of an asset or paid to transfer a liability in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. It also establishes a fair value hierarchy which prioritizes the types of inputs to valuation techniques that companies may use to measure fair value. The fair value hierarchy gives the highest priority to quoted prices in active markets for identical assets or liabilities (Level 1). The next highest priority is given to inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly (Level 2). The lowest priority is given to unobservable inputs in which there is little or no market data available and which require the reporting entity to develop its own assumptions (Level 3).

The assets and liabilities that are measured at fair value on a recurring basis and are categorized using the fair value hierarchy are Investments and Derivative Liabilities. Investments are measured using active quoted market prices (Level 1). See Note 10 for fair value hierarchy on the Derivative Liabilities.

Investments include an investment in a limited partnership fund which invests, on a hedged basis, primarily in the U.S. equity markets. This initial investment was made in March 2009 and a subsequent investment was made in February 2010 and is recorded at a fair value of $932 since we do not exercise control over this fund.

(5) Accounts Receivable

Trade accounts receivable are stated net of allowances for doubtful accounts. Specific customer provisions are made when a review of significant outstanding amounts, customer creditworthiness and current economic trends, indicates that collection is doubtful. In addition, provisions are made at differing amounts, based upon the balance and age of the receivable and the Company’s historical collection experience. Trade accounts are charged off against the allowance for doubtful accounts or expense when it is probable the accounts will not be recovered. The allowance for doubtful accounts as of June 30, 2010 and December 31, 2009 was $972 and $874, respectively.

(6) Concentration of Credit Risk

Financial instruments which potentially subject us to concentrations of credit risk consist principally of cash and cash equivalents and trade accounts receivable. We place our cash and cash equivalents with high credit quality institutions to limit credit exposure, and from time to time, obtain collateral for our accounts where we deem prudent and is feasible. We believe no significant concentration of credit risk exists with respect to these investments. The amount held in foreign currencies as of June 30, 2010 and December 31, 2009 was $2,984 and $2,272, respectively. The amount of cash in excess of FDIC insured amounts as of June 30, 2010 and December 31, 2009, was $66,360 and $6,541, respectively.

Concentrations of credit risk with respect to trade accounts receivable are limited due to the nature of our customers who are dispersed across many industries and geographic regions. As of June 30, 2010, no customer accounted for 10% or more of our trade accounts receivable. As of December 31, 2009, three customers accounted for approximately 39.6% of our trade accounts receivable. We routinely assess the financial strength of customers and, based upon factors concerning credit risk, we establish an allowance for doubtful accounts. Management believes that accounts receivable credit risk exposure beyond such allowance is limited.

(7) Inventory

Inventory is valued at the lower of cost (first-in, first-out method) or market and are comprised of finished goods. On a quarterly basis, we review inventory quantities on hand and analyze the provision for excess and obsolete inventory based primarily on product age in inventory and our estimated sales forecast, which is based on sales history and anticipated future demand. As of June 30, 2010 and December 31, 2009, our reserves for excess and obsolete inventory were $110 and $136, respectively.

 
8

 
KIT DIGITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in Thousands, Except Share and Per Share Data)
(Unaudited)
    
(8) Secured Notes Payable

In April 2010, we received $5,000 in gross proceeds from the issuance of a note. Interest is payable monthly in advance at 12.7% per year and matures on July 1, 2013.  We paid interest only of $22 for April 2010 and agreed to pay interest only of $42 for the next nine months. Commencing on February 1, 2011, payments for principal and interest are due in thirty equal consecutive payments of $188. A final balloon payment of $538 will be due and payable upon maturity. The note is secured by the Company’s property, including accounts receivable and inventory.  In conjunction with the borrowing, we issued to the lender a warrant entitling it to purchase, for $14.24 per share, 40,976 shares of our common stock with a five year life through April 15, 2015. A debt discount of $183 was recorded related to these warrants and is being amortized over the term of the loan.

In June 2010, we received $1,000 in gross proceeds from the issuance of a note. Interest is payable monthly in advance at 12.7% per year and matures on September 1, 2013.  We paid interest only of $5 for June 2010 and agreed to pay interest only of $8 for the next nine months. Commencing on April 1, 2011 payments for principal and interest are due in thirty equal consecutive payments of $38. A final balloon payment of $108 will be due and payable upon maturity. The note is secured by the Company’s property, including accounts receivable and inventory.  In conjunction with the borrowing, we issued to the lender a warrant entitling it to purchase, for $13.76 per share, 8,480 shares of our common stock with a five year life through June 14, 2015. A debt discount of $27 was recorded related to these warrants and is being amortized over the term of the loan.

 (9) Acquisitions

In late March 2010, we acquired Multicast Media Technologies, Inc., a United States company engaged in live event broadcasting, internet video and targeted multimedia communications (“Multicast”), in exchange for 2,379,714 shares of our common stock and approximately $4,750 in cash (the “Cash Consideration”). The share consideration issuable to Multicast stockholders was reduced to 1,312,034 shares of KIT digital common stock (the “Merger Shares”), after giving effect to adjustments for assumption by KIT digital of existing indebtedness and other liabilities of Multicast in the amount of approximately $5,927. The merger consideration is subject to adjustment upwards or downwards to the extent that the closing working capital of Multicast is greater or less than zero and subject to the final fair valuation of Merger Shares. The Cash Consideration and Merger Shares were delivered as follows: (i) $4,000 in cash and 842,500 shares of our stock promptly following the closing; and (ii) a “holdback amount” of an additional $746 in cash and 469,534 shares of KIT digital common stock, less any amount used by KIT digital to offset negative working capital and satisfy indemnity claims as described below, will be delivered to such stockholders not later than one year after the closing or such later date as all indemnity claims have been resolved. Of the total “holdback amount,” $712 in cash and 196,798 Merger Shares will be used to offset any negative working capital balance of Multicast as of the effective date of the merger. The remaining $34 in cash and 272,736 Merger Shares being held back by KIT digital will be used to indemnify KIT digital against any breaches of representations, warranties and covenants by Multicast, as well as against certain additional specified liabilities The Company has allocated the aggregate cost of the acquisition to Multicast’s net tangible and identifiable intangible assets based on their estimated fair values. The excess of the aggregate cost of the acquisition over the net estimated fair value of the tangible and identifiable intangible assets and liabilities assumed was recorded to goodwill.

The following table summarizes the preliminary estimated fair values of the assets acquired and liabilities assumed at the date of acquisition.

Current assets
  $ 612  
Property and equipment
    1,548  
Intangible assets – developed software
    200  
Intangible assets – customer list
    1,600  
Goodwill
    20,530  
Total assets acquired
    24,490  
         
Current liabilities and assumed debt
    (7,025 )
         
Net assets acquired
  $ 17,465  

On May 14, 2010, we acquired Benchmark Broadcast Systems Pte. Ltd., a Singapore company engaged in providing asset management solutions and integration of broadcast video systems, and subsidiaries (“Benchmark”), in exchange for 353,744 shares of our common stock valued at $4,775 and approximately $4,905 in cash (the “Cash Consideration”) at the time of acquisition. The estimated aggregate cost of the acquisition of Benchmark was $19,386. Additionally, the cost includes $1,119 for the working capital due to the seller, $1,028 estimated to be due after one year from closing based on a percentage of revenue and meeting earnings targets and $7,560 estimated to be due after two years from closing based on a percentage of revenue and meeting earnings targets. Of these amounts, $2,146 is included in the Balance Sheet in “Acquisition liability” and $7,560 is in the Balance Sheet in “Acquisition liability, net of current.” Pursuant to the agreement, we have put $2,000 into escrow for potential future obligations, which is included in “Restricted Cash” in the Balance Sheet as of June 30, 2010. We have allocated the aggregate cost of the acquisition to Benchmark’s net tangible and identifiable intangible assets based on their estimated fair values. The excess of the aggregate cost of the acquisition over the net estimated fair value of the tangible and identifiable intangible assets and liabilities assumed was recorded as goodwill.

The following table summarizes the preliminary estimated fair values of the assets acquired and liabilities assumed at the date of acquisition.

Current assets
 
$
2,523
 
Property and equipment
   
166
 
Goodwill
   
19,010
 
Total assets acquired
   
21,699
 
         
Current liabilities and assumed debt
   
(4,858)
 
         
Net assets acquired
 
$
16,841
 

In June 2010, we paid $2,900 in cash and issued 122,911 shares of our common stock valued at $1,250 to the former shareholders of Visual Connection a.s. (“Visual”), pursuant to an amendment to the Visual Share Purchase Agreement dated October 5, 2008 (“Visual SPA”) and in satisfaction of all remaining earn-out provisions. We have recorded an increase of $3,075 to “Goodwill” in the Balance Sheet as of June 30, 2010 and a reduction of $1,075 of the previously recorded contingent liability.

 
9

 
 
KIT DIGITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in Thousands, Except Share and Per Share Data)
(Unaudited)

 
(9) Acquisitions (continued)
 
Selected unaudited pro forma combined results of operations for the six months ended June 30, 2009, assuming the Multicast and Benchmark acquisitions occurred on January 1, 2009 using actual unaudited figures from each entity prior to acquisition, are presented as follows:

Total revenue
  $ 32,974  
Net income
  $ 5,701  

Selected unaudited pro forma combined results of operations for the six months ended June 30, 2010, assuming the Multicast and Benchmark acquisitions occurred on January 1, 2010 using actual unaudited figures from each entity prior to acquisition, are presented as follows:

Total revenue
  $ 47,375  
Net income
  $ (19,029 )

The acquisitions of Nunet AG and The FeedRoom, Inc. from October 2009 are not presented above in the proforma combined results of operations for the six months ended June 30, 2009 as portions of these businesses were discontinued and management believes that the organization and nature of these businesses have changed significantly after acquisition.

(10) Derivative Liabilities

Upon the adoption of a new standard effective January 1, 2009, instruments which contain full ratchet anti-dilution provisions will no longer be considered indexed to a company’s own stock for purposes of determining whether it meets the first part of the scope exception. The adoption required us to (1) evaluate our instrument’s contingent exercise provisions and (2) evaluate the instrument’s settlement provisions. Based upon applying this approach to instruments within the scope of the consensus, we have determined that certain of our warrants which were classified in stockholders’ equity on December 31, 2008, no longer meet the definition of Indexed to a Company’s Own Stock provided in the Consensus. Accordingly, effective on January 1, 2009, we were required to reclassify those warrants, at their fair value, into liabilities. The accounting standard requires that the fair value of these liabilities be re-measured at the end of every reporting period with the change in value over the period reported in the statement of operations. The difference between the amount the warrants were originally recorded in the financial statements and the fair value of the instruments on January 1, 2009 was considered a cumulative effect of a change in accounting principle and required an adjustment to the opening balance of retained earnings and a reduction in additional paid-in capital in the amount of $8,498 and $24,235, respectively. The derivative liability as of January 1, 2009 was $15,736. These amounts have been adjusted for the errors noted in fair value computations. See Note 16, “Correction of errors” for further details. The common shares indexed to the derivative financial instruments used in the calculation of the fair value and recorded as liabilities at January 1, 2009, December 31, 2009 and June 30, 2010 were 5,806,230, 4,794,400 and 741,353, respectively. The number of shares for the determination of the liability have been computed based on the effective exercise price used in the valuation. The actual number of common shares indexed to the warrants at January 1, 2009, December 31, 2009 and June 30, 2010 were 2,886,038, 4,794,400 and 741,353, respectively.

We estimate fair values of derivative financial instruments using various techniques (and combinations thereof) that are considered to be consistent with the objective measuring fair values. In selecting the appropriate technique, we consider, among other factors, the nature of the instrument, the market risks that it embodies and the expected means of settlement. For less complex derivative instruments, such as free-standing warrants, we generally use the Black-Scholes-Merton (“BSM”) option valuation technique, adjusted for the effect of dilution, because it embodies all of the requisite assumptions (including trading volatility, estimated terms, dilution and risk free rates) necessary to fair value these instruments.
 
Estimating fair values of derivative financial instruments requires the development of significant and subjective estimates that may, and are likely to, change over the duration of the instrument with related changes in internal and external market factors. In addition, option-based techniques (such as BSM) are highly volatile and sensitive to changes in the trading market price of our common stock. Since derivative financial instruments are initially and subsequently carried at fair values, our income (expense) going forward will reflect the volatility in these estimates and assumption changes. Under the terms of the new accounting standard, increases in the trading price of the company’s common stock and increases in fair value during a given financial quarter result in the application of non-cash derivative expense. Conversely, decreases in the trading price of the company’s common stock and decreases in trading fair value during a given financial quarter result in the application of non-cash derivative income.

 
10

 

 
KIT DIGITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in Thousands, Except Share and Per Share Data)
(Unaudited)

 
(10) Derivative Liabilities (continued)

The following table summarizes the components of derivative liabilities as of June 30, 2010, December 31, 2009 and the re-measurement date, January 1, 2009:

   
June 30,
2010
   
December
31, 2009
   
Re-measurement
date
January 1, 2009
 
Fair value of warrants with anti-dilution provisions
 
$
(2,548
)
 
$
(21,314
)
 
$
(15,736
)
                         
Significant assumptions (or ranges):
                       
Trading market values  (1)
 
$
8.82
   
$
11.00
     
5.25
 
Term (years)
   
2.86
   
3.35 to 4.00
   
$
4.35 to 5.00
 
Volatility   (1)
   
59.41
   
61.98
   
101.98
Risk-free rate   (2)
   
1.00
   
1.70
   
1.55
%
Effective Exercise price  (3)
 
$
7.00
   
$
7.00
   
$
5.92
 

Fair value hierarchy:

(1)
Level 1 inputs are quoted prices in active markets for identical assets and liabilities, or derived there from. Our trading market values and the volatilities that are calculated thereupon are level 1 inputs.
(2)
Level 2 inputs are inputs other than quoted prices that are observable. We use the current published yields for zero-coupon US Treasury Securities, with terms nearest the remaining term of the warrants for our risk free rate.
(3)
Level 3 inputs are unobservable inputs. Inputs for which any parts are level 3 inputs are classified as level 3 in their entirety. The remaining term used equals the remaining contractual term as our best estimate of the expected term and the effective exercise price which is based on the stated exercise price adjusted for anti-dilution provisions.

The effects on our income (expense) associated with changes in the fair values of our derivative financial instruments for the three months ended June 30, 2010 and 2009 was $2,368 and $1,626, respectively. Included in the $2,368 income for the three months ended June 30, 2010 is a gain on settlement of $21 related to the repurchase of warrants. The effects on our income (expense) associated with changes in the fair values of our derivative financial instruments for the six months ended June 30, 2010 and 2009 was $(9,075) and $3,576, respectively. Included in the $(9,075) expense for the six months ended June 30, 2010 is a loss on settlement of ($3,016) related to the repurchase of warrants.

See Note 16, “Correction of errors”, for a description of the correction of an error related to the derivative liability for the three and six months ended June 30, 2009.

On March 7, 2010, our board of directors approved the repurchase of certain outstanding warrants with exercise prices below the then-current market price from certain warrant holders (who had acquired the warrants in prior private placement financings), including KIT Media, an entity controlled by Kaleil Isaza Tuzman, our Chairman and Chief Executive Officer and Wellington Management Company (“Wellington”), an entity with greater than a 10% holding in KIT digital’s outstanding common stock at the time of the transaction. KIT Media and Wellington are considered related parties of the Company. The terms of the warrant repurchase were identical for KIT Media and Wellington, and the negotiation of such terms was led by Wellington. The Company offered to purchase and cancel these warrants at 133% of the intrinsic value of the warrants (intrinsic value being based on a 20-day trailing volume weighted average price of the underlying common stock).  These warrants with anti-ratchet dilution provisions totaling 3,030,747 were cancelled effective on March 31, 2010. These warrants were included in the warrant buyback liability as at March 31, 2010 and were paid after such date. We also repurchased and cancelled another 347,835 and 4,860 warrants with anti-ratchet dilution provisions during the quarters ended March 31, 2010 and June 30, 2010, respectively, at varying prices, from parties other than KIT Media and Wellington for $1,141 and $14, respectively.

 
11

 

 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in Thousands, Except Share and Per Share Data)
(Unaudited) 

 
 (11) Stock-Based Compensation

On March 17, 2008, the board of directors adopted an incentive compensation plan (the “2008 Incentive Stock Plan”). The 2008 Incentive Stock Plan currently has reserved 857,143 shares of common stock for issuance. The 2004 Stock Option Plan has reserved 342,858 shares of common stock for issuance. In November 2009, our board of directors voted unanimously to increase the number of shares which may be issued under the 2008 Incentive Plan by 2,642,857 to an aggregate of 3,500,000 shares of common stock subject to ratification by our stockholders at our next Annual Meeting of Stockholders.

The Company’s outstanding unvested stock options have maximum contractual terms of up to five years, principally vest on a quarterly basis ratably over four years and were granted at exercise prices equal to the market price of the Company’s common stock on the date of grant. The Company’s outstanding stock options are exercisable into shares of the Company’s common stock. The Company measures the cost of employee services received in exchange for an award of equity instruments, including grants of employee stock options, warrants and restricted stock awards, based on the fair value of the award at the date of grant in   accordance with the modified prospective method. The Company uses the Black-Scholes model for purposes of determining the fair value of stock options granted and recognizes compensation costs ratably over the requisite service period, net of estimated forfeitures.

On May 8, 2010, our board of directors authorized the issuance of 2,141,013 stock options pursuant to the 2008 Incentive Stock Plan, at a strike price of $12.36 per share (reflecting the previous trading day’s closing price), subject to approval by a majority of the Company’s shareholders at the next Annual Meeting of Stockholders. These stock options carry a four-year quarterly vesting term and a five-year exercise term. In aggregate, as of May 17, 2010, shares underlying the Company’s total issued employee stock options represent less than 14% of the Company’s outstanding common shares. The board of directors had not authorized a substantial issuance of stock options since June 2008. The board of directors authorized the issuance of the 2,141,013 stock options to (a) account for the addition of over 200 staff members since the last authorized options issuance, (b) incentivize all staff for future performance, and (c) adjust existing employees’ options levels to account for dilution in the Company’s total shares outstanding that has occurred over time. Kaleil Isaza Tuzman, Gavin Campion and Robin Smyth did not receive any new options as part of this issuance.

For the three months ended June 30, 2010 and 2009, we recognized $1,084 and $272, respectively, of non-cash stock-based compensation expense in the consolidated statements of operations. Also included in non-cash stock-based compensation are warrants to purchase 34,286 shares of common stock with an exercise price of $4.655 issued on March 30, 2008, that vest over three years from the issue date. During the three months ended June 30, 2010, a total of 2,857 of these warrants vested with 25,714 vested and 8,572 unvested as of June 30, 2010. The intrinsic value as of June 30, 2010 of these outstanding warrants and exercisable warrants are $143 and $107, respectively.

For the six months ended June 30, 2010 and 2009, we recognized $1,636 and $552, respectively, of non-cash stock-based compensation expense in the consolidated statements of operations. Included in the 2010 amount of $1,636, is $190 of stock issued for compensation. Also included in non-cash stock-based compensation are warrants to purchase 34,286 shares of common stock with an exercise price of $4.655 issued on March 30, 2008, that vest over three years from the issue date. During the six months ended June 30, 2010, a total of 5,714 of these warrants vested.

As of June 30, 2010, there was approximately $9,973 of total unrecognized compensation cost related to unvested share-based compensation grants, which is expected to be amortized over a weighted-average period of 3.4 years.
 
12

 

KIT DIGITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in Thousands, Except Share and Per Share Data)
(Unaudited)

  
(11) Stock-Based Compensation (continued)

The fair value of each option grant is estimated on the date of grant using the Black-Scholes model with the following weighted-average assumptions:
   
Six Months Ended
June
30, 2010
   
Six
Months Ended
June
30, 2009
 
Expected life (in years)
    4.01       5.00  
Risk-free interest rate
    1.76 %     1.88 %
Volatility
    37.78 %     105.61 %
Dividend yield
    0       0  

A summary of the status of stock option awards and changes during the six months ended June 30, 2010 are presented below:
   
Shares
   
Weighted
Average
Exercise
Price
   
Weighted
Average
Remaining
Contractual
Life (Years)
   
Intrinsic
Value
 
                         
Outstanding at December 31, 2009
    877,973       7.14              
Granted
    2,193,306       12.34              
Exercised
    (13,734 )     4.89              
Cancelled, expired, or forfeited
    (64,204 )     8.86              
Outstanding at June 30, 2010
    2,993,341       10.92       4.49     $ -  
Exercisable at June 30, 2010
    661,723       8.65       3.89     $ 112  

The weighted-average grant-date fair value of option awards granted during the six months ended June 30, 2010 was $3.94.

 
13

 

KIT DIGITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in Thousands, Except Share and Per Share Data)
(Unaudited)

 
(12) Stock Issuances

During the quarter ended March 31, 2010, we issued 6,771,093 shares of common stock. Of this amount, we issued 2,980,000 shares in the January 2010 public offering, 350,000 shares in the February 2010 over-allotment, 1,541,624 shares in the March 2010 public offering, 231,244 shares in the March 2010 over-allotment,  1,312,034 shares for the acquisition of Multicast, 308,007 shares for the exercise of warrants with proceeds of $1,448, 7,622 shares for the exercise of options with proceeds of $41, 16,500 shares for compensation valued at $190 and 24,062 shares for services valued at $236.

On January 26, 2010, we completed an underwritten public offering of 2,980,000 shares of our common stock, pursuant to our shelf registration statement on Form S-3 (No. 333-162325), which was originally filed and declared effective in October 2009, and related prospectus supplement dated January 21, 2010.  We sold such shares in the offering at a price of $10.50 per share and received $31,290 in gross proceeds and approximately $28,890 in net proceeds, after deducting underwriting discounts, commissions, legal fees and other estimated offering expenses.  The impact of the public offering increased our total stockholders’ equity by $28,890.  As part of the offering, we granted the underwriters an over-allotment option to purchase an additional 447,000 shares of common stock at the same price per share through February 20, 2010.  We subsequently sold 350,000 additional shares of common stock pursuant to the over-allotment option on February 23, 2010, and received $3,675 in gross proceeds and approximately $3,433 in net proceeds.

On March 9, 2010, we completed an underwritten public offering of 1,541,624 shares of our common stock, pursuant to our shelf registration statement on Form S-3 (No. 333-164655), which was originally filed and declared effective in February 2010, and related prospectus supplement dated March 4, 2010.  We sold such shares in the offering at a price of $9.73 per share and received $15,000 in gross proceeds and approximately $14,075 in net proceeds, after deducting underwriting discounts, commissions, legal fees and other estimated offering expenses. The impact of the public offering increased our total stockholders’ equity by $14,075. We subsequently sold 231,244 additional shares of common stock pursuant to an underwriters’ over-allotment option on March 22, 2010, and received $2,250 in gross proceeds and approximately $2,087 in net proceeds.

KIT Media Ltd., an entity controlled by Kaleil Isaza Tuzman, our Chairman and Chief Executive Officer (“KIT Media”), purchased $1,750 of common stock (179,856 shares) in the March 9, 2010 offering, at the same price and on the same terms as the other investors in this offering.

During the quarter ended June 30, 2010, we issued 5,614,333 shares of common stock. Of this amount, we issued 4,230,770 shares in the April 2010 public offering, 634,615 shares in the May 2010 over-allotment, 353,774 shares in the acquisition of Benchmark, 122,911 shares in the final payout of the acquisition of Visual, 260,151 shares for the exercise of warrants with proceeds of $1,582, 6,112 shares for the exercise of options with proceeds of $26 and 6,000 shares for services valued at $82.

On April 27, 2010, we completed an underwritten public offering of 4,230,770 shares of our common stock, pursuant to our shelf registration statement on Form S-3 (No. 333-164655), which was originally filed and declared effective in February 2010, and related prospectus supplement dated April 22, 2010. We sold such shares in the offering at a price of $13.00 per share and received $55,000 in gross proceeds and approximately $50,574 in net proceeds, after deducting underwriting discounts, commissions, legal fees and other estimated offering expenses. We subsequently sold 634,615 additional shares of common stock pursuant to an underwriters’ over-allotment option on May 6, 2010, and received $8,250 in gross proceeds and approximately $7,628 in net proceeds. KIT Capital purchased $1,300 of common stock (100,000 shares) in the April 27, 2010 offering at the same price and on the same terms as the other investors in this offering.
 
As of June 30, 2010, the outstanding warrants (excluding the warrants included in the derivative liability of 741,353 and stock-based compensation of 34,286) were 702,245 with a weighted average exercise price of $22.81. As of December 31, 2009, the outstanding warrants (excluding the warrants included in the derivative liability of 4,794,400 and stock-based compensation of 34,286) were 510,639 with a weighted average exercise price of $51.36.

In April 2010, the Company repurchased and cancelled a warrant to purchase 47,143 shares from Robin Smyth, our Chief Financial Officer. The terms of the warrant repurchase were identical to Wellington and KIT Media, the negotiation of which terms was led by Wellington.

 
14

 

KIT DIGITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in Thousands, Except Share and Per Share Data)
(Unaudited ) 

  
(13) Restructuring Charges

In the first quarter of 2010, management approved restructuring plans for all entities acquired since September 2009. Management expects to complete the restructuring by the end of the year. Restructuring charges include the costs of future employee terminations, contract settlements and facility closing costs.

The following table summarizes the restructuring charges for the three and six months ended June 30, 2010, respectively:

   
Three months ended
   
Six months ended
 
   
June 30, 2010
   
June 30, 2010
 
Employee termination costs
  $ -     $ 2,632  
Contract settlements
    26       67  
Facility closing costs
    (145 )     875  
Total restructuring charges
  $ (119 )   $ 3,574  

The following table summarizes the restructuring activity for the three and six months ended June 30, 2010:

   
Employee
Termination
Costs
   
Contract
Settlements
   
Facility
Closing Costs
   
Total
 
Balance as of December 31, 2009
  $ -     $ -     $ 829     $ 829  
                                 
Additions
    2,632       41       1,020       3,693  
Cash payments
    (6 )     -       (446 )     (452 )
Balance as of March 31, 2010
  $ 2,626     $ 41     $ 1,403     $ 4,070  
                                 
Additions
    -       26       -       26  
Reversal
    -       -       (145 )     (145 )
Cash payments
    (362 )     (50 )     (548 )     (960 )
Balance as of June 30, 2010
  $ 2,264     $ 17     $ 710     $ 2,991  

The accrued restructuring of $2,991 is included in accrued expenses in the consolidated balance sheets as of June 30, 2010, respectively.

The Company recorded restructuring charges of $195 and $314 for the three and six months ended June 30, 2009, respectively. These amounts are comprised of employee termination costs related to the reorganization of the Company of $96 and $143 and facility closing costs related to the closing of one of the Melbourne, Australia offices and one of the Dubai offices of $99 and $171 for the three and six months ended June 30, 2009, respectively.

(14) Integration Expenses

The Company has recorded integration charges related to the redundancy in staff and consultants during reorganization, corporate rebranding related to the reorganization, and the integration of acquired companies and assets of $3,378 and $6,299 for the three and six months ended June 30, 20010, respectively.

The Company has recorded integration charges related to the redundancy in staff and consultants for the transition of technology infrastructure during reorganization due to the centralizing of resources in Prague of $747 and $991 for the three and six months ended June 30, 2009, respectively.

 
15

 
 
KIT DIGITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in Thousands, Except Share and Per Share Data)
(Unaudited ) 

  
 (15) Segment Reporting

We have presented geographical location for revenue and assets below. We have presented operating segments in the past for Digital Media Solutions and Professional Services but since Professional Services represents less than 10% of total assets and total revenues and we expect this segment to continue to decrease, we are not presenting financial information for operating segments.


 
   
Three months ended
   
Six months ended
 
   
June 30,
   
June 30,
 
   
2010
   
2009
   
2010
   
2009
 
Revenue:
                       
EMEA
  $ 9,494     $ 6,773     $ 21,537     $ 13,609  
AsiaPac
    5,379       3,148       8,196     $ 5,426  
Americas
    8,182       573       10,686     $ 1,083  
                                 
Total revenue
  $ 23,055     $ 10,494     $ 40,419     $ 20,118  

   
June 30,
   
December 31,
 
   
2010
   
2009
 
Assets:
           
EMEA
  $ 28,958     $ 21,887  
AsiaPac
    8,936       3,743  
Americas
    9,672       4,447  
Corporate
    147,742       50,337  
Total assets
  $ 195,308     $ 80,414  
 
 
16

 

KIT DIGITAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in Thousands, Except Share and Per Share Data)
(Unaudited)

 
(16) Correction of Errors

Our previously issued financial statements have been corrected for the following;

An adjustment was made on September 30, 2009 for an increase in the common shares indexed to the financial instruments for both warrants that were mistakenly not included and for a change in the calculation of the fair value for the anti-dilution provision that increases the common shares indexed to the financial instruments. As of January 1, 2009, the effect of the correction increased the derivative liability by $10,066 to $15,736, decreased retained earnings by $6,082 and decreased additional paid-in capital by $3,984. As of June 30, 2009, the effect of the correction increased the derivative liability by $2,960 and increased the derivative income by $7,106, in addition to the corrections above as of January 1, 2009 to the consolidated balance sheet. As of June 30, 2009, the corrected consolidated balance sheet has a derivative liability of $5,054 and total liabilities of $30,892. In the three and six months ended June 30, 2009, the corrected consolidated statement of operations has a derivative income of $506 and $10,682 and a net (loss) income available to common shareholders of $(1,610) and 6,784, with a basic and diluted net income per common share of $(0.37) and $1.50.
 
The derivative income (expense) reflected in the consolidated statement of operations and comprehensive income (loss) for the three and six months ended June 30, 2009 is based on changes in the fair values, adjusted for the correction of the above mentioned errors.

 (17) Related Party Transactions

In December 2007, we entered into an agreement with KIT Capital, Ltd. (“KIT Capital”), a company beneficially controlled and led by Kaleil Isaza Tuzman, our Chairman and Chief Executive Officer, under which KIT Capital has provided us managerial services. The total amount paid to KIT Capital and included in our results of operations in the six months ended June 30, 2010 and 2009 were $220 and $252, respectively.

KIT Media purchased $1,750 of common stock (179,856 shares) in the March 9, 2010 offering at the same price and on the same terms as the other investors in this offering.

KIT Capital purchased $1,300 of common stock (100,000 shares) in the April 27, 2010 offering at the same price and on the same terms as the other investors in this offering.
 
See Note 10, “Derivative Liabilities” for a description of warrant repurchases from KIT Media and Wellington.

See Note 12, “Stock Issuances”, for a description of warrant repurchase from Robin Smyth, Chief Financial Offcier.

 
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ITEM 2.   MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Amounts in Thousands, Except Share and Per Share Data)

Overview

Through our operating subsidiaries, we are in the business of providing software solutions that enable our customers to manage and distribute video content through Internet websites, mobile devices and IPTV networks. Our core digital asset management software suite, marketed under the “KIT VX” brand, includes online and mobile video players, ingestion and trans-coding video content for Internet and mobile devices, IPTV set-top box development, IPTV recording and editing suite deployment, video content localization and syndication, digital rights management, hosting, storage,  content delivery and content syndication. We currently provide IP video solutions internationally through our offices in Atlanta, Beijing, Buenos Aires, Chennai, Cologne, Delhi, Dubai, Kolkata, Melbourne (Australia), Mumbai, Prague, Toronto, Stockholm, New York, London, Cairo and Singapore. To support IPTV enablement, we provide technical integration and integrated marketing solutions, including interface design services, branding, online marketing, data management and analytics.

Set forth below is a discussion of the financial condition and results of operations of KIT digital, Inc. and its consolidated subsidiaries (collectively, “we,” “us” or “our”), for the three and six months ended June 30, 2010 and 2009. The following discussion should be read in conjunction with the information set forth in the consolidated financial statements and the related notes thereto appearing elsewhere in this report.

As a component of our management’s review of the financial statements, our management recently reviewed and modified the categorization of costs in the Consolidated Statements of Operations. Management believes these changes in classifications present additional information to the readers of the financial statements and previously reported amounts were re-categorized to conform to the current presentation.

Results of Operations - Three Months Ended June 30, 2010 Compared to Three Months Ended June 30, 2009

Revenue. Consolidated revenue increased by $12,561 from $10,494 for the three months ended June 30, 2009 to $23,055 for the three months ended June 30, 2010, an increase of 120%. This increase in primarily due an increase in customers, increased spending by existing customers, and revenue from the acquired companies not included in prior period results.

Variable and Direct Third Party Costs

Cost of Goods and Services. Cost of goods and services increased by $2,732 from $3,634 for the three months ended June 30, 2009 to $6,366 for the three months ended June 30, 2010, an increase of 75%. These costs represent the costs of equipment and services for the supply of digital media and IPTV solutions, services and components. The increase was due to an increase in revenue for the supply of digital media and IPTV solutions, services and components and the acquisition of Benchmark in May 2010.

Hosting, Delivery and Reporting. These costs increased by $876 from $414 for the three months ended June 30, 2009 to $1,290 for the three months ended June 30, 2010, an increase of 212%.  These costs increased primarily due to the recent acquisitions in October 2009 and March 2010.

Content Costs. Content costs decreased by $108 from $357 for the three months ended June 30, 2009 to $249 for the three months ended June 30, 2010, a decrease of 30%. The decrease was primarily due to the elimination of monthly minimum guarantees with many content providers and the reduction in content providers.
 
Direct Third Party Creative Production Costs. Direct third party creative production costs decreased by $497 from $1,153 for the three months ended June 30, 2009 to $656 for the three months ended June 30, 2010, a decrease of 43% attributable to lower revenue requiring creative production costs.

 
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General and Administrative Expenses

Compensation, Travel and Associated Costs (IncludingNon-Cash Stock-Based Compensation). These costs increased by $5,055 from $3,481 for the three months ended June 30, 2009 to $8,536 for the three months ended June 30, 2010, an increase of 145%.  The increase was primarily due to the recent acquisitions in October 2009, March 2010 and May 2010 and the increase in non-cash stock-based compensation of $812.

Legal, Accounting, Audit and Other Professional Services Fees. These expenses increased by $370 from $160 for the three months ended June 30, 2009 to $530 for the three months ended June 30, 2010, an increase of 231%,  primarily due to the increase in audit, Sarbanes-Oxley consulting fees and other legal fees

Office, Marketing and Other Corporate Costs. These expenses increased by $1,417 from $896 for the three months ended June 30, 2009 to $2,313 for the three months ended June 30, 2010, an increase of 158%.  The increase was primarily due to the increases related to recent acquisitions in October 2009, March 2010 and May 2010.

Merger and Acquisition and Investor Relation Expenses. Merger and acquisition and certain investor relation expenses increased by $535 from $351 for the three months ended June 30, 2009 to $886 for the three months ended June 30, 2010 an increase of 152%. The increase in costs for the three months are primarily due to the acquisition of Benchmark in May 2010 and other merger and acquisition activities and investor relation expenses.

Depreciation and Amortization. Depreciation and amortization expense increased 125% by $1,139 from $910 for the three months ended June 30, 2009 to $2,049 for the three months ended June 30, 2010. The increase is primarily attributed to the amortization of intangible assets and depreciation of long lived assets acquired as part of the acquisitions of Nunet and Feedroom in October 2009, Multicast in March 2010 and Benchmark in May 2010.
 
Restructuring Charges. Restructuring charges decreased 161% by $314, from an expense of $195 for the three months ended June 30, 2009 to a gain of $119 for the three months ended June 30, 2010. This was due to a benefit derived from the lower than expected payout of facility costs.

Integration expenses. Integration expenses increased by $2,631 from $747 for the three months ended June 30, 2009 to $3,378 for the three months ended June 30, 2010. Integration expenses are related to the redundancy in staff and consultants during reorganization, corporate rebranding related to the reorganization, and the integration of acquired companies.

             Interest Income. Interest income increased by $24 from $3 for the three months ended June 30, 2009 to $27 for the three months ended June 30, 2010, due to an increase in cash and cash equivalents.

Interest Expense. Interest expense increased by $70 from $178 for the three months ended June 30, 2009 to $248 for the three months ended June 30, 2010, due to an increase in debt.
 
Amortization of Deferred Financing Costs and Debt Discount. Amortization of deferred financing costs and debt discount were $449 for the three months ended June 30, 2009. These costs resulted from the issuance of $1,500 of a senior secured note in November 2008 which was repaid in August 2009. Amortization of deferred financing costs and debt discount were $14 for the three months ended June 30, 2010. These costs resulted from the issuance of $6,000 of secured notes payable in April 2010 and June 2010.

Derivative income. Derivative income was $2,368 for the three months ended June 30, 2010 as compared to $506 for the three months ended June 30, 2009. Derivative income or expense is the change in the period based on the fair value of warrants containing reset provisions.

Other Income/(Expense). Other income increased by $293 from $311 for the three months ended June 30, 2009 to other income of $604 for the three months ended June 30, 2010, primarily due to an increase in foreign currency gain.

Net Loss Available to Common Shareholders. As a result of the factors described above, we reported net loss available to common shareholders of $342 for the three months ended June 30, 2010 compared to a net loss available to common shareholders of $1,610 for the three months ended June 30, 2009, a decrease in net loss of $1,268.

 
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 Results of Operations - Six Months Ended June 30, 2010 Compared to Six Months Ended June 30, 2009

Revenue. Consolidated revenue increased by $20,301 from $20,118 for the six months ended June 30, 2009 to $40,419 for the six months ended June 30, 2010, an increase of 101%. This increase in primarily due an increase in customers, increased spending by existing customers, and revenue from the acquired companies not included in prior period results.
 
Variable and Direct Third Party Costs

Cost of Goods and Services. Cost of goods and services increased by $3,606 from $7,112 for the six months ended June 30, 2009 to $10,718 for the six months ended June 30, 2010, an increase of 51%. These costs represent the costs of equipment and services for the supply of digital media and IPTV solutions, services and components. The increase is due to an increase in revenue for the supply of digital media and IPTV solutions, services and components and the acquisition of Benchmark in May 2010.

Hosting, Delivery and Reporting. These costs increased by $1,668 from $696 for the six months ended June 30, 2009 to $2,364 for the six months ended June 30, 2010, an increase of 240%.  These costs increased primarily due to the recent acquisitions in October 2009 and March 2010.

Content Costs. Content costs decreased by $334 from $818 for the six months ended June 30, 2009 to $484 for the six months ended June 30, 2010, a decrease of 41%. The decrease is primarily due to the elimination of monthly minimum guarantees with many content providers and the reduction in content providers.
 
Direct Third Party Creative Production Costs. Direct third party creative production costs decreased by $412 from $1,958 for the six months ended June 30, 2009 to $1,546 for the six months ended June 30, 2010, a decrease of 21% attributable to lower revenue requiring creative production costs.

General and Administrative Expenses

Compensation, Travel and Associated Costs (IncludingNon-Cash Stock-Based Compensation). These costs increased by $7,012 from $7,174 for the six months ended June 30, 2009 to $14,186 for the six months ended June 30, 2010, an increase of 98%.  The increase was primarily due to the recent acquisitions in October 2009, March 2010 and May 2010 and the increase in non-cash stock-based compensation of $1,084.

Legal, Accounting, Audit and Other Professional Services Fees. These expenses increased by $790 from $430 for the six months ended June 30, 2009 to $1,220 for the six months ended June 30, 2010, an increase of 184%,  primarily due to the increase in audit, Sarbanes-Oxley consulting fees and other legal fees

Office, Marketing and Other Corporate Costs. These expenses increased by $2,764 from $1,613 for the six months ended June 30, 2009 to $4,377 for the six months ended June 30, 2010, an increase of 171%.  The increase was primarily due to the increases related to recent acquisitions in October 2009, March 2010and May 2010.
 
Merger and Acquisition and Investor Relation Expenses. Merger and acquisition and certain investor relation expenses increased by $1,376 from $729 for the six months ended June 30, 2009 to $2,105 for the six months ended June 30, 2010 an increase of 189%. The increase in costs for the six months are primarily due to the acquisition of Multicast in March 2010, Benchmark in May 2010 and other merger and acquisition activities and investor relation expenses.

Depreciation and Amortization. Depreciation and amortization expense increased 132% by $2,110 from $1,593 for the six months ended June 30, 2009 to $3,703 for the six months ended June 30, 2010. The increase is primarily attributed to the amortization of intangible assets and depreciation of long lived assets acquired as part of the acquisitions of Nunet and Feedroom in October 2009, Multicast in March 2010 and Benchmark in May 2010.
 
Restructuring Charges. Restructuring charges increased by $3,260, from $314 for the six months ended June 30, 2009 to $3,574 for the six months ended June 30, 2010.  Restructuring charges consist of employee termination costs, contract settlements and facility closing costs. These charges increased due to the approved restructuring plan put into place in the first quarter of 2010.

 
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Integration expenses. Integration expenses increased by $5,308 from $991 for the six months ended June30, 2009 to $6,299 for the six months ended June 30, 2010. Integration expenses are related to the redundancy in staff and consultants during reorganization, corporate rebranding related to the reorganization, and the integration of acquired companies.

Interest Income. Interest income increased by $24 from $4 for the six months ended June 30, 2009 to $28 for the six months ended June 30, 2010, due to an increase in cash and cash equivalents.

Interest Expense. Interest expense increased by $23 from $317 for the six months ended June 30, 2009 to $340 for the six months ended June 30, 2010, due to an increase in debt.
 
Amortization of Deferred Financing Costs and Debt Discount. Amortization of deferred financing costs and debt discount were $613 for the six months ended June 30, 2009. These costs resulted from the issuance of $1,500 of a senior secured note in November 2008 which was repaid in August 2009. Amortization of deferred financing costs and debt discount were $14 for the six months ended June 30, 2010. These costs resulted from the issuance of $6,000 of secured notes payable in April 2010 and June 2010.

Derivative income/expense. Derivative expense was $9,075 for the six months ended June 30, 2010 as compared to derivative income of $10,682 for the six months ended June 30, 2009. Derivative income or expense is the change in the period based on the fair value of warrants containing reset provisions.

Other Income/(Expense). Other income increased by $448 from $340 for the six months ended June 30, 2009 to other income of $788 for the six months ended June 30, 2010, primarily due to an increase in foreign currency gain.

Net (Loss) Income Available to Common Shareholders. As a result of the factors described above, we reported net loss available to common shareholders of $18,784 for the six months ended June 30, 2010 compared to net income available to common shareholders of $6,784 for the six months ended June 30, 2009, an increase in net loss of $18,462.


As of June 30, 2010, we had cash and cash equivalents of $67,110 and working capital of approximately $63,633. During the six months ended June 30, 2010, we received net proceeds of $106,690 in public offerings, repurchased warrants for $23,925 and paid net cash of $11,210 related to the acquisitions of Benchmark and Multicast, including the extinguishment of Multicast’s notes payable. We plan to primarily use net proceeds of the most recent equity offering to finance the costs of acquiring or investing in competitive and complementary businesses, products and technologies as a part of our growth strategy. Management anticipates that going-forward, we will generate sufficient cash flows from operating activities to meet our capital requirements. We believe that we have sufficient liquidity to finance our operational and acquisition plan for the next twelve months.

Net cash used by operating activities was $9,030 for the six months ended June 30, 2010, compared to $3,868 for the six months ended June 30, 2009, an increase of $5,162. The increase in net cash used in operating activities is primarily related to the increase in receivables attributable to an increase in revenues and a couple slower paying major clients, an increase in merger and acquisition and investor relations expenses and restructuring and integration expenses offset by the accrual for these items in the six months ended June 30, 2010.

Net cash used by investing activities was $15,313 for the six months ended June 30, 2010, compared to $1,667 for the six months ended June 30, 2009, a increase in net cash used in investing activities of $13,646. In 2010, this consisted primarily of cash paid in the acquisition of Multicast of $4,746 offset by cash received of $396, cash paid in the acquisition of Benchmark of $4,905 offset by cash received of $2,545, cash paid into restricted cash related to the Benchmark acquisition, cash paid in final settlement of Visual acquisition of $2,900, cash paid into investment of $700 and purchase of equipment of $752. In 2009, this primarily consisted of cash paid into investment of $200, cash paid in the acquisition of Visual of $180, the purchase of software of $1,500 and other equipment of $66.

Net cash provided by financing activities was $85,613 for the six months ended June 30, 2010, compared to net cash provided by financing activities of $2,228 for the six months ended June 30, 2009. In 2010, this primarily consisted of the proceeds from public offerings of $106,690, net proceeds from the issuance of secured notes of $5,762, proceeds from the exercise of warrants and options of $3,097 offset by payments related to the buyback of warrants of $23,925, payments of notes related to the Multicast acquisition of $4,500 and payments of other notes, capital leases and other obligations of $1,659. In 2009, this primarily consisted of proceeds from the issuance of note payable of $2,600 offset by payments of capital leases, secured notes and other obligations of $399.

 
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Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements that are reasonably likely to have a current or future effect on our financial condition, revenues, results of operations, liquidity or capital expenditures.

SPECIAL NOTE REGARDING FORWARD-LOOKING INFORMATION
 
           This Form 10-Q includes forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”).  We intend such forward-looking statements to be covered by the safe harbor provisions for forward-looking statements contained in the United States Private Securities Litigation Reform Act of 1995.  All statements, other than statements of historical facts, included in this Form 10-Q regarding our strategy, future operations, financial position, future revenues, projected costs, prospects, plans and objectives of management are forward-looking statements.  The words “anticipates,” “believes,” “estimates,” “expects,” “intends,” “may,” “plans,” “projects,” “will,” “would” and similar expressions are intended to identify forward-looking statements, although not all forward-looking statements contain these identifying words. We cannot guarantee that we actually will achieve the plans, intentions or expectations disclosed in our forward-looking statements and you should not place undue reliance on our forward-looking statements.  There are a number of important factors that could cause our actual results to differ materially from those indicated by these forward-looking statements.  These important factors include risks related to our history of net losses and accumulated deficits, integration of acquired businesses, future capital requirements, competition and technological advances, dependence on the market for digital advertising, and other factors that we identify in this Form 10-Q and in other filings we make with the SEC.  For additional factors that can affect these forward-looking statements, see the “Risk Factors” section in our Annual Report on Form 10-K for the year ended December 31, 2009.  You should read these factors and other cautionary statements made in this Form 10-Q as being applicable to all related forward-looking statements wherever they appear in the Form 10-Q.  Except to the extent required by federal securities laws, we do not assume any obligation to update any forward-looking statements made by us.

 
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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

See Item 7A of Part II of our annual report on Form 10-K for the year ended December 31, 2009. There have been no material changes since disclosure in the most recently filed Form 10-K.

ITEM 4T. CONTROLS AND PROCEDURES.

Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures

As of the end of the period covered by this report, we conducted an evaluation, under the supervision and with the participation of our chief executive officer and chief financial officer of our disclosure controls and procedures (as defined in Rule 13a-15(e) and Rule 15d-15(e) of the Exchange Act). Based upon this evaluation, our chief executive officer and chief financial officer concluded that our disclosure controls and procedures are effective to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is: (1) accumulated and communicated to our management, including our chief executive officer and chief financial officer, as appropriate to allow timely decisions regarding required disclosure; and (2) recorded, processed, summarized and reported, within the time periods specified in the SEC's rules and forms. There was no change to our internal controls or in other factors that could affect these controls during our last fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

Changes in Internal Control Over Financial Reporting

There was no change to our internal controls or in other factors that could affect these controls during our last fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 
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PART II - OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS.

None

ITEM 1A. RISK FACTORS.

There are no material changes in the risk factors previously disclosed in our annual report on Form 10-K for the year ended December 31, 2009.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS.
 
None

ITEM 3. DEFAULTS UPON SENIOR SECURITIES.

None

ITEM 4. RESERVED
 
None

ITEM 5. OTHER INFORMATION.
 
None
 
ITEM 6. EXHIBITS.

Exhibit No.
 
Description
     
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.
     
32.1
 
Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
     
32.2
 
Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 
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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
 
KIT DIGITAL, INC.
     
Dated:  August 16, 2010
By:  
/s/ Kaleil Isaza Tuzman
 
Kaleil Isaza Tuzman
 
Chairman and Chief Executive Officer
(principal executive officer)

Dated:  August 16, 2010
By:  
/s/ Robin Smyth
 
Robin Smyth
 
Chief Financial Officer
(principal financial and accounting officer)

 
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