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EX-21.1 - Onstream Media CORPv207500_ex21-1.htm
EX-32.1 - Onstream Media CORPv207500_ex32-1.htm
EX-23.2 - Onstream Media CORPv207500_ex23-2.htm
EX-32.2 - Onstream Media CORPv207500_ex32-2.htm
EX-31.1 - Onstream Media CORPv207500_ex31-1.htm
EX-23.1 - Onstream Media CORPv207500_ex23-1.htm
EX-31.2 - Onstream Media CORPv207500_ex31-2.htm
 
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 September 30, 2010

¨
TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from ________ to   ________

Commission file number 000-22849

Onstream Media Corporation
(Exact name of registrant as specified in its charter)

Florida
 
65-0420146
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer
Identification No.)

1291 SW 29 Avenue
   
Pompano Beach, Florida
 
33069
(Address of principal executive offices)
 
(Zip Code)

Registrant's telephone number, including area code   954-917-6655

Securities registered under Section 12(b) of the Act:

Title of each class
 
Name of each exchange on which registered
     
None
  
not applicable

Securities registered under Section 12(g) of the Act:  
  Common Stock
 
(Title of class)

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act     ¨  Yes    x  No

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act     ¨  Yes    x  No

Note – Checking the box above will not relieve any registrant required to file reports pursuant to Section 13 or 15(d) of the Exchange Act from their obligations under those Sections.

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act 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 (Section 232.05 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 ¨

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (Section 229.405 of this chapter) 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 a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See the definitions of “large accelerated filer”, “accelerated filer”, “non-accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer
¨
 
Accelerated filer
¨
Non-accelerated filer
¨
(Do not check if a smaller reporting company)
Smaller reporting company
x

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

State the aggregate market value of the voting and non-voting common equity held by non-affiliates computed by reference to the price at which the common equity was last sold, or the averaged bid and asked price of such common equity, as of the last business day of the registrant’s most recently completed second fiscal quarter. The aggregate market value of the common equity held by non-affiliates computed at the closing price of the registrant’s common stock on March 31, 2010 was approximately $13.8 million.

Note – If a determination as to whether a particular person or entity is an affiliate cannot be made without involving unreasonable effort and expense, the aggregate market value of the common stock held by non-affiliates may be calculated on the basis of assumptions reasonable under the circumstances, provided that the assumptions are set forth in this Form.

Indicate the number of shares outstanding of each of the registrant's classes of common stock, as of the latest practicable date.  As of December 24, 2010, 8,941,353 shares of common stock were issued and outstanding.
 
DOCUMENTS INCORPORATED BY REFERENCE

List hereunder the following documents if incorporated by reference and the part of the Form 10-K (e.g., Part I, Part II, etc.) into which the document is incorporated: (1) Any annual report to security holders; (2) Any proxy or information statement; and (3) Any prospectus filed pursuant to Rule 424(b) or (c) under the Securities Act of 1933. The listed documents should be clearly described for identification purposes (e.g., annual report to security holders for fiscal year ended December 24, 1980).

 Not Applicable.

 

 

A 1-for-6 reverse stock split of the outstanding shares of our common stock was effective on April 5, 2010. Except as otherwise indicated, all related amounts reported in our consolidated financial statements and in this 10-K including common share quantities, convertible debenture conversion prices and exercise prices of options and warrants, have been retroactively adjusted for the effect of this reverse stock split.

CERTAIN CAUTIONARY STATEMENTS REGARDING FORWARD-LOOKING INFORMATION

Certain statements in this annual report on Form 10-K contain or may contain forward-looking statements that are subject to known and unknown risks, uncertainties and other factors which may cause actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. These forward-looking statements were based on various factors and were derived utilizing numerous assumptions and other factors that could cause our actual results to differ materially from those in the forward-looking statements. These risks, uncertainties and other factors include, but are not limited to, our ability to implement our strategic initiatives (including our ability to successfully complete, produce, market and/or sell the DMSP and/or our ability to eliminate cash flow deficits by increasing our sales), economic, political and market conditions and fluctuations, government and industry regulation, interest rate risk, U.S. and global competition, and other factors affecting our operations and the fluctuation of our common stock price, and other factors discussed elsewhere in this report and in other documents filed by us with the Securities and Exchange Commission from time to time. Most of these factors are difficult to predict accurately and are generally beyond our control. You should consider the areas of risk described in connection with any forward-looking statements that may be made herein. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of September 30, 2010, unless otherwise stated. Readers should carefully review this Form 10-K in its entirety, including but not limited to our financial statements and the notes thereto. Except for our ongoing obligations to disclose material information under the Federal securities laws, we undertake no obligation to release publicly any revisions to any forward-looking statements, to report events or to report the occurrence of unanticipated events. Actual results could differ materially from the forward-looking statements. In light of these risks and uncertainties, there can be no assurance that the forward-looking information contained in this report will, in fact, occur. For any forward-looking statements contained in any document, we claim the protection of the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995.

When used in this Annual Report, the terms "we", "our", and "us” refers to Onstream Media Corporation, a Florida corporation, and its subsidiaries.

PART I

ITEM 1.                                BUSINESS

Our Business, Products and Services

We are a leading online service provider of live and on-demand Internet video, corporate audio and web communications and content management applications.  We had approximately 96 full time employees as of September 30, 2010, with operations organized in two main operating groups:

 
·
Digital Media Services Group
 
·
Audio and Web Conferencing Services Group

 
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Products and services provided by each of the groups are:

 Digital Media Services Group

Our Digital Media Services Group consists of our Webcasting division, our DMSP (“Digital Media Services Platform”) division, our UGC (“User Generated Content”) division and our Smart Encoding division.  This group represented approximately 47.1% and 45.7% of our revenues for the years ended September 30, 2010 and 2009, respectively. These revenues are comprised primarily of fees for hosting/storage, search/retrieval and distribution/streaming of digital assets as well as encoding and production fees.

Our Webcasting division, which operates primarily from Pompano Beach, Florida, provides an array of corporate-oriented, web-based media services to the corporate market including live audio and video webcasting and on-demand audio and video streaming for any business, government or educational entity.  This includes online webcasting services, a cost effective means for corporations to broadcast conference calls live, making them available to the investing public, the media and to anyone worldwide with Internet access. The Webcasting division also has a sales and production support office in New York City as well as additional production and back-up webcasting facilities in our San Francisco office. We market the webcasting services through a direct sales force and through channel partners, also known as resellers.  Each webcast can be heard and/or viewed live, and then archived for replay, with an option for accessing the archived material through a company's own web site. These webcasts primarily communicate corporate earnings and other financial information; product launches and other marketing information; training, emergency or other information directed to employees; and corporate or other special events.
 
Our DMSP division, which operates primarily from Colorado Springs, Colorado provides an online, subscription based service that includes access to enabling technologies and features for our clients to acquire, store, index, secure, manage, distribute and transform these digital assets into saleable commodities. In December 2004 we completed our acquisition of an entity formerly named Onstream Media Corporation that we now identify as Acquired Onstream. Acquired Onstream was a development stage company founded in 2001 with the business objective of developing a feature rich digital asset management service and offering the service on a subscription basis over the Internet. This service was the initial version of what became the DMSP, which is comprised of four separate products - encoding, storage, search/retrieval and distribution. Although a limited version of the DMSP was released in November 2005, the first complete version of the DMSP, known as “Store and Stream”, was offered for sale to the general public since October 2006.  In February 2009, we launched “Streaming Publisher”, a second version of the DMSP with additional functionality. Streaming Publisher is a stand-alone product based on a different architecture than Store and Stream and is a primary building block of the recently launched MarketPlace365 platform, which will enable the creation of on-line virtual marketplaces and trade shows utilizing many of our other technologies such as DMSP, webcasting, UGC and conferencing.

Our UGC division, which also operates as Auction Video, provides a video ingestion and flash encoder that can be used by our clients on a stand-alone basis or in conjunction with the DMSP. In March 2007 we completed the acquisition of Auction Video. The primary assets acquired included the video ingestion and flash transcoder as well as related technology and patents pending.

Our Smart Encoding division, which operates primarily from San Francisco, California, provides both automated and manual encoding and editorial services for processing digital media, using a set of coordinated technologies and processes that allow the quick and efficient online search, retrieval and streaming of this media, which can include photos, videos, audio, engineering specs, architectural plans, web pages, and many other pieces of business collateral.

 
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Audio and Web Conferencing Services Group

Our Audio and Web Conferencing Services Group includes our Infinite Conferencing (“Infinite”) division, which operates primarily from the New York City area and provides “reservationless” and operator-assisted audio and web conferencing services and our EDNet division, which operates primarily from San Francisco, California and provides connectivity within the entertainment and advertising industries through its managed network, which encompasses production and post-production companies, advertisers, producers, directors, and talent.

This group represented approximately 52.9% and 54.3% of our revenues for the years ended September 30, 2010 and 2009, respectively. These revenues are comprised primarily of network access and usage fees as well as the sale and rental of communication equipment.

Sales and Marketing

We use a variety of marketing methods, including our internal sales force and channel partners, also known as resellers, to market our products and services. One key element of our marketing strategy has been to enter into distribution agreements with recognized leaders in each of the markets for our products and services. By offering our products and services in conjunction with the distributors’ products, we believe these distribution agreements enable us to take advantage of the particular distributors' existing marketing programs, sales forces and business relationships. Contracts with these distributors generally range from one to two years and may be terminable earlier based on certain contractual provisions.

We have expanded our marketing efforts during the past year to include: targeted e-mail campaigns, trade show participation, advanced search engine optimization, pay-per-click, a public relations byline program and selected trade magazine advertising. We intend to continue these actions during the coming year.

No single customer has represented more than 10% of our consolidated revenues during the years ended September 30, 2010 or 2009.

Competition

We operate in highly competitive and rapidly changing business segments. We expect our competition to intensify. We compete with:

 
·
other web sites, Internet portals and Internet broadcasters to acquire and provide content to attract users;
 
 
·
video and audio conferencing companies and Internet business service broadcasters;
 
 
·
online services, other web site operators and advertising networks;
 
 
·
traditional media, such as television, radio and print; and
 
 
·
end-user software products.

Our webcasting products and services fall into two competitive areas: live or archived financial and fair-disclosure related conferences, and all other live or archived webcast productions for the corporate, financial, educational and government segments.  In the financial conferences area, we compete with ON24, IVT, WILink, Talkpoint, Wall Street Transcripts, Netbriefings, PTEK Holdings, Shareholder.com, Thomson Financial Group, ViaVid and others that offer live webcasts of quarterly earnings conference calls. This list includes entities that are currently active resellers of our services and not in significant competition with us, but could compete with us under certain circumstances. For other webcast production, we compete with other smaller geographically local entities.  Our production services, however, have been in demand by some of our competitors, and from time to time we have provided services to these companies.  The nature of the streaming media sector of the Internet market is highly interdependent while being competitive.

 
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While there is competition for the provision of digital media services by our Digital Media Services Group, this is a relatively new product and environment with few established professional services providers. We believe that our approach of partnering with complimentary technology providers such as SAIC, Autonomy/Virage Application Services, Adobe Systems and Microsoft reduces the number of full-scale competitors in our markets. We also believe that our strategic offering of integrated webcasting, multi-screen encoding, intelligent syndication with broad spectrum video indexing services, all as part of a unified and scalable digital media platform (the DMSP) provides significant differentiation from our competitors. However, companies that compete in some portion of the digital media services market targeted by us include Ascent Media, Neulion, BrightCove, Maven Networks (Yahoo), VitalStream (Internap), and thePlatform (Comcast). There are video publishing platforms that compete with our DMSP, including those offered by Move Networks, ExtendMedia, the Feedroom, Ooyala and others.

Competition for audio and web conferencing is primarily segregated between the low-cost, low-service offerings such as FreeConference.Com and other more high-end providers such as Premiere Global Services. Our Infinite division services a niche market for audio and web conferencing services primarily for SMB (small to medium size) companies looking for superior customer service at an affordable rate. This division's niche also includes a growing demand for lead generation “webinars” (seminars presented via the Internet), which it addresses by offering a dedicated account manager to coordinate a customized solution for each event.
 
Competition for the audio and video networking services provided by our EDNet division is based upon the ability to provide equipment, connectivity and technical support for disparate audio and video communications systems and to provide interoperable compatibility for proprietary and off-the-shelf codecs. Due to the difficulty and expense of developing and maintaining private digital networks, bridging services, engineering availability and service quality, we believe that the number of audio networking competitors is small and will remain so. Our primary video networking competitors are video and audio appliance dealers that source encoding, decoding and transport hardware.  This division's advantage is the provision of a total solution including system design, isochronous (a data flow type used for streaming audio and video) connection and broadband connection sourcing, and custom software connectivity applications that include a comprehensive digital path for radio and television commercial transport. However, companies that compete in some portion of the audio and video networking services market targeted by us include Telestream, Globix, Acceris, Media Link, Savvis, Digital Generation (DG) Systems, Globecast, SohoNet, Pathfire, Source Elements and Ascent Media.

Government Regulation

Although there are currently few laws and regulations directly applicable to the Internet, it is likely that new laws and regulations will be adopted in the United States and elsewhere covering issues such as broadcast license fees, copyrights, privacy, pricing, sales taxes and characteristics and quality of Internet services. It is possible that governments will enact legislation that may be applicable to us in areas such as content, network security, encryption and the use of key escrow, data and privacy protection, electronic authentication or "digital" signatures, illegal and harmful content, access charges and retransmission activities. Moreover, the applicability to the Internet of existing laws governing issues such as property ownership, content, taxation, defamation and personal privacy is uncertain. The majority of such laws was adopted before the widespread use and commercialization of the Internet and, as a result, do not contemplate or address the unique issues of the Internet and related technologies. Any such export or import restrictions, new legislation or regulation or governmental enforcement of existing regulations may limit the growth of the Internet, increase our cost of doing business or increase our legal exposure, which could have a material adverse effect on our business, financial condition and results of operations.

 
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By distributing content over the Internet, we face potential liability for claims based on the nature and content of the materials that we distribute, including claims for defamation, negligence or copyright, patent or trademark infringement, which claims have been brought, and sometimes successfully litigated, against Internet companies. To protect our company from such claims, we maintain general liability (including umbrella coverage), professional liability and employment practices liability insurance. These insurances may not cover all potential claims of this type or may not be adequate to indemnify us for any liability to which we may be exposed. Any liability not covered by insurance or in excess of insurance coverage could have a material adverse effect on our business, results of operations and financial condition.

Our audio and video networking services are conducted primarily over telephone lines, which are heavily regulated by the various Federal and other agencies. Although we believe that the responsibility for compliance with those regulations primarily falls on the local and long distance telephone service providers and not us, the Federal Communications Commission (FCC) recently issued an order that requires conference calling companies to remit Universal Service Fund (USF) contribution payments on customer usage associated with conference calls. This obligation requires Infinite to register as a reporting company with the FCC, as well as to file both quarterly and annual reports regarding the revenues derived from conference calling.

Intellectual Property

Our success depends in part on our ability to protect our intellectual property. To protect our proprietary rights, we rely generally on copyright, trademark and trade secret laws, confidentiality agreements with employees and third parties, and agreements with consultants, vendors and customers, although we have not signed such agreements in every case.

As part of our March 2007 acquisition of Auction Video, a pending United States patent was assigned to us covering certain aspects of uploading live webcam images. A parallel filing was done to protect these patent rights on an international basis, via the filing of a “Patent Cooperation Treaty Request”. We are currently pursuing the final approval of this patent application and in March 2008 retained the law firm of Hunton & Williams to assist in expediting the patent approval process and to help protect rights related to our UGV (User Generated Video) technology. In April 2008, we revised the original patent application primarily for the purpose of splitting it into two separate applications, which, while related, are being evaluated separately by the U.S. Patent Office (“USPO”). With respect to the claims pending in the first of the two applications, the USPO issued non-final rejections in August 2008, February 2009 and May 2009, as well as final rejections in January 2010 and June 2010. Our responses to certain of these rejections included modifications to certain claims made in the original patent application. In response to the latest rejection we filed a Notice of Appeal with the USPO on November 22, 2010 and the expected next step is our filing of an appeal brief with the USPO, which is due on January 22, 2011, although extensions for this filing are available until June 22, 2011 with the payment of additional fees. After our appeal brief is filed, the USPO would be expected to file a response and following that, a decision would be made by a three member panel, either based on the filings or a hearing if requested by us. Regardless of the ultimate outcome of this matter, our management has determined that a final rejection of these claims would not have a material adverse effect on our financial position or results of operations. The USPO has taken no formal action with regard to the second of the two applications. Certain of the former owners of Auction Video, Inc. have an interest in proceeds that we may receive under certain circumstances in connection with these patents.

Despite such protections, a third party could, without authorization, copy or otherwise obtain and use our content. We can give no assurance that our agreements with employees, consultants and others who participate in development activities will not be breached, or that we will have adequate remedies for any breach, or that our trade secrets will not otherwise become known or independently developed by competitors.

 
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We may pursue the registration of certain of our trademarks and service marks in the United States, although we have not secured registration of all our marks. In addition, the laws of some foreign countries do not protect our proprietary rights to the same extent as do the laws of the United States, and effective copyright, trademark and trade secret protection may not be available in such jurisdictions. In general, there can be no assurance that our efforts to protect our intellectual property rights through copyright, trademark and trade secret laws will be effective to prevent misappropriation of our content. Our failure or inability to protect our proprietary rights could materially adversely affect our business, financial condition and results of operations.

Employees

At December 24, 2010 we had approximately 100 full time employees, of whom 56 were design, production and technical personnel, 19 were sales and marketing personnel and 25 were general, administrative and executive management personnel. None of the employees are covered by a collective bargaining agreement and our management considers relations with our employees to be good.

General

We were formed under the laws of the State of Florida in May 1993. Our executive offices are located at 1291 SW 29th Avenue, Pompano Beach, Florida 33069. Our telephone number at that location is (954) 917-6655.

ITEM 2.                                PROPERTIES

We lease:

 
·
an approximately 16,500 square foot facility at 1291 SW 29th Street in Pompano Beach, Florida, which serves as our corporate headquarters and houses the majority of our webcasting production, marketing and distribution activities.  The monthly base rental is approximately $23,400 (including our share of property taxes and common area expenses). Our lease expired on September 15, 2010 and we are currently in negotiations to extend this lease for an additional three years, and have tentatively agreed to a starting monthly base rental of approximately $21,100 (including our share of property taxes and common area expenses), which would also be retroactive to September 15, 2009, plus two percent (2%) annual increases. The proposed extension would provide one two-year renewal option, with a three percent (3%) rent increase in year one.

 
·
an approximately 4,700 square foot facility at 901 Battery Street, Suite 200 in San Francisco, which serves as administrative headquarters for the Smart Encoding division of the Digital Media Services Group, as well as the EDNet division of the Audio and Web Conferencing Services Group, and houses the centralized network hub for electronically bridging affiliate studios. In addition, the facility operates as a backup to Florida for webcasting operations. Our lease expires on July 31, 2015 and provides for one five-year renewal option at 95% of fair market value and also provides for early cancellation at any time after August 1, 2011 at our option, with six months notice and a payment of no more than approximately $25,000.   The monthly base rental is approximately $8,900 (including month-to-month parking) with annual increases up to 5.1%.

 
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·
an approximately 6,800 square foot facility at 100 Morris Avenue in Springfield, New Jersey, which houses the Infinite Conferencing audio and web conferencing operations. Our lease expires on October 31, 2012 and provides one two-year renewal option, with no rent increase. The monthly base rental is approximately $10,800 with annual five percent (5%) increases.

 
·
business offices located at 221 West Twenty-Sixth Street, New York City, New York.  These offices total approximately 1,000 square feet and serve primarily for webcasting sales activities and backup to Florida-based webcasting operations. Our lease expires January 31, 2013, although both we and the landlord have the right to terminate the lease without penalty, upon nine (9) months notice given any time after February 1, 2011. The monthly base rental is approximately $12,000, with no increases.

 
·
small limited purpose office space in Colorado Springs, Colorado, as well as equipment space at co-location or other equipment housing facilities in South Florida; Atlanta, Georgia; Jersey City, New Jersey; San Francisco, California and Colorado Springs, Colorado.

ITEM 3.                                LEGAL PROCEEDINGS

On May 29, 2008, we entered into an Agreement and Plan of Merger (the “Merger Agreement”) to acquire Narrowstep, Inc. (“Narrowstep”), which Merger Agreement was amended twice (on August 13, 2008 and on September 15, 2008). The terms of the Merger Agreement, as amended, allowed that if the acquisition did not close on or prior to November 30, 2008, the Merger Agreement could be terminated by either us or Narrowstep at any time after that date provided that the terminating party was not responsible for the delay. On March 18, 2009, we terminated the Merger Agreement and the acquisition of Narrowstep.

On December 1, 2009, Narrowstep filed a complaint against us in the Court of Chancery of the State of Delaware, alleging breach of contract, fraud and three additional counts and seeking (i) $14 million in damages, (ii) reimbursement of an unspecified amount for all of its costs associated with the negotiation and drafting of the Merger Agreement, including but not limited to attorney and consulting fees, (iii) the return of Narrowstep’s equipment alleged to be in our possession, (iv) reimbursement of an unspecified amount for all of its attorneys fees, costs and interest associated with this action and (v) any further relief determined as fair by the court. After reviewing the complaint document, we determined that Narrowstep had no basis in fact or in law for any claim and accordingly, this matter was not reflected as a liability on our financial statements. On December 30, 2010 Narrowstep counsel advised the Court in writing that Narrowstep had reached an agreement in principle with us to dismiss their lawsuit with prejudice, provided that both parties executed a mutual release. Under this mutual release, which has been agreed to in principle by both parties but is still being finalized, no further actions will be filed against each other or affiliated parties in connection with this matter. This resolution of this matter will not have a material adverse impact on our future financial position or results of operations.

We are involved in other litigation and regulatory investigations arising in the ordinary course of business. While the ultimate outcome of these matters is not presently determinable, it is the opinion of our management that the resolution of these outstanding claims will not have a material adverse effect on our future financial position or results of operations.
 
ITEM 4.                                REMOVED AND RESERVED

 
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PART II

ITEM 5.
MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

Our common stock is listed for trading on The NASDAQ Capital Market, under the symbol "ONSM." The following table sets forth the high and low closing sale prices for our common stock as reported on The NASDAQ Capital Market for the period from October 1, 2008 through December 23, 2010. These prices do not include retail mark-ups, markdowns or commissions, and may not necessarily represent actual transactions. A 1-for-6 reverse stock split of the outstanding shares of our common stock was effective on April 5, 2010. All prices in the following table have been retroactively adjusted for the effect of this reverse stock split.

   
High
   
Low
 
FISCAL YEAR 2009
           
First Quarter
  $ 2.82     $ 1.32  
Second Quarter
  $ 1.92     $ 0.84  
Third Quarter
  $ 1.98     $ 1.38  
Fourth Quarter
  $ 3.54     $ 1.62  
                 
FISCAL YEAR 2010
               
First Quarter
  $ 2.64     $ 1.62  
Second Quarter
  $ 2.88     $ 1.62  
Third Quarter
  $ 2.20     $ 1.03  
Fourth Quarter
  $ 1.47     $ 0.79  
                 
FISCAL YEAR 2011
               
First Quarter (to Dec 23)
  $ 1.19     $ 0.75  

On December 23, 2010, the last reported sale price of the common stock on The NASDAQ Capital Market was $0.76 per share.   As of December 23, 2010 there were approximately 546 shareholders of record of the common stock.

NASDAQ Listing Issues

We have received letters from NASDAQ with respect to our non-compliance with two requirements necessary to maintain our current NASDAQ listing, as follows:

Share price requirementOn December 7, 2010, we received a letter from NASDAQ stating that we have 180 calendar days, or until June 6, 2011, to regain compliance with Listing Rule 5550 (a) (2) (a) (the “Bid Price Rule”), for which compliance is necessary in order to be eligible for continued listing on The NASDAQ Capital Market. The letter from NASDAQ indicated that our non-compliance with the Bid Price Rule was as a result of the closing bid price for our common stock being below $1.00 per share for the preceding thirty consecutive business days. We may be considered compliant with the Bid Price Rule, subject to the NASDAQ staff’s discretion, if our common stock closes at $1.00 per share or more for a minimum of ten consecutive business days before the June 6, 2011 deadline. If we are not considered compliant by June 6, 2011, but meet the continued listing requirement for market value of publicly held shares and all other initial listing standards for The NASDAQ Capital Market, and we provide written notice of our intention to cure the deficiency during the second compliance period, including a reverse stock split if necessary, we will be granted an additional 180 calendar day compliance period. During the compliance period(s), our stock will continue to be listed and eligible for trading on The NASDAQ Capital Market.

 
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Minimum audit committee size requirement – On June 24, 2010, we received a letter from NASDAQ stating that we are currently not compliant with NASDAQ’s minimum audit committee size requirement of three independent members, as set forth in Listing Rule 5605 (c) (2) (a) (the “Audit Committee Rule”), for which compliance is necessary in order to be eligible for continued listing on The NASDAQ Capital Market. Unless we regain compliance with the Audit Committee Rule as of the earlier of our next annual shareholders’ meeting or June 5, 2011, our common stock will be subject to immediate delisting.

On June 14, 2010, we were notified that Mr. Robert J. Wussler, who was then a director and a member of our audit committee, had passed away on June 5, 2010. He has not at the present time been replaced on the audit committee, which currently has two independent members. We are in the process of evaluating independent candidates to fill the vacancy left as a result of Mr. Wussler’s passing, both on the Board as well as the audit committee. We will make that selection as soon as possible.

Dividend Policy

We have never declared or paid any cash dividends on our common stock.  We currently expect to retain future earnings, if any, to finance the growth and development of our business. Dividends related to the Series A-13 Convertible Preferred and the Series A-14 Convertible Preferred are cumulative and must be fully paid by us prior to the payment of any dividend on our common stock. 

Recent Sales of Unregistered Securities

During the period from August 10, 2010 through September 30, 2010, we recorded the issuance of 61,253 unregistered shares of common stock for financial consulting and advisory and legal services. The services are being provided over a period of three to eight months, and will result in a professional fees expense of approximately $60,000 over the service period. None of these shares were issued to our directors or officers.

During the period from October 1, 2010 through December 24, 2010, we recorded the issuance of 72,113 unregistered shares of common stock for financial consulting and advisory services. The services are being provided over a period of six to twelve months and will result in a professional fees expense of approximately $55,000 over the service period. None of these shares were issued to our directors or officers.

During February 2010 we issued the unsecured subordinated convertible Wilmington Notes for gross proceeds of $500,000, which notes had a remaining principal balance of $344,000 as of September 30, 2010. This $344,000 balance, as well as all accrued but unpaid interest, was satisfied by us on October 1, 2010 with cash payments aggregating $238,756 plus the issuance of 137,901 unregistered common shares.

On December 2, 2010, we issued 76,769 unregistered shares of common stock for interest on $1,000,000 face value convertible debentures for the period from May 2010 through October 2010. The shares were in satisfaction of interest expense of approximately $73,698 recognized over that period. None of these shares were issued to our directors or officers, although 3,838 of these shares were issued to CCJ Trust, which is a trust for the adult children of one of our directors, who in turn disclaims beneficial ownership in CCJ Trust.
 
All of the above securities were offered and sold without such offers and sales being registered under the Securities Act of 1933, as amended (together with the rules and regulations of the Securities and Exchange Commission (the "SEC") promulgated thereunder, the "Securities Act"), in reliance on exemptions therefrom as provided by Section 4(2) of the Securities Act of 1933, for securities issued in private transactions. The recipients were accredited investors and the certificates evidencing the shares that were issued contained a legend restricting their transferability absent registration under the Securities Act of 1933 or the availability of an applicable exemption therefrom. The purchasers had access to business and financial information concerning our company. Each purchaser represented that he or she was acquiring the shares for investment purposes only, and not with a view towards distribution or resale except in compliance with applicable securities laws.

 
10

 
 
Securities Authorized for Issuance Under Equity Compensation Plans

The following table sets forth securities authorized for issuance under equity compensation plans, including our 1996 Stock Option Plan, our 2007 Equity Incentive Plan, individual compensation arrangements and any other compensation plans as of September 30, 2010.

Plan Category
 
Number of securities
to be issued upon
exercise of
outstanding options,
warrants and rights
   
Weighted average
exercise price of
outstanding
options, warrants
and rights
   
Number of securities
remaining available for
future issuance under
equity compensation
plans (excluding
securities reflected in
column (a))
 
   
(a)
   
(b)
   
(c)
 
1996 Stock Option Plan (1)
 
229,500
   
$ 6.47
   
None
 
                   
2007 Equity Incentive Plan (2)
 
941,343
   
$ 9.15
   
1,029,491
 
                   
Equity compensation plans
                 
approved by shareholders (3)
 
41,962
   
$ 20.26
   
None
 
                   
Equity compensation plans not
                 
approved by shareholders (4)
 
310,322
   
$ 8.14
   
445,000
 

1)
On February 9, 1997, our Board of Directors and a majority of our shareholders adopted the 1996 Stock Option Plan (the "1996 Plan"), which, including the effect of subsequent amendments to the 1996 Plan, authorized up to 750,000 shares available for issuance as options and up to another 333,333 shares available for stock grants. Since the provisions of the 1996 Plan call for its termination 10 years from the date of its adoption, as of February 9, 2007 the 1996 Plan terminated and we may no longer issue additional options or stock grants under the 1996 Plan. However, the termination of the 1996 Plan did not affect the validity of any Plan Options previously granted thereunder.

2)
On September 18, 2007, our Board of Directors and a majority of our shareholders adopted the 2007 Equity Incentive Plan (the “2007 Plan”), which authorized the issuance of up to 1,000,000 shares of ONSM common stock pursuant to stock options, stock purchase rights, stock appreciation rights and/or stock awards for employees, directors and consultants. On March 25, 2010, our Board of Directors and a majority of our shareholders approved a 1,000,000 increase in the number of shares authorized for issuance under the 2007 Equity Incentive Plan (the “2007 Plan”), for total authorization of 2,000,000 shares.
 
3)
On December 15, 2004, a majority of our shareholders voted to issue 270,047 Non-Plan options to certain executives, directors and other management in connection with the Onstream Merger, of which (i) 84,375 were cancelled on August 11, 2009 in exchange for the issuance of an equivalent number of 2007 Plan Options, (ii) 124,884 were cancelled on December 17, 2009 in exchange for the issuance of an equivalent number of 2007 Plan Options and (iii) 18,826 had expired as of September 30, 2010.

4)
During the fiscal years ended September 30, 2005 through 2010, we issued Non-Plan options to consultants in exchange for financial consulting and advisory services, 310,322 of which were still outstanding and fully vested as of September 30, 2010. These outstanding options are summarized below:

 
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Issuance period
 
Number
of shares
 
Exercise price
per share
 
Expiration
Date
             
Year ended September 30, 2010
    125,000  
$3.00 - $6.00
 
Aug 2013 - July 2014
Year ended September 30, 2009
    25,000  
$3.00
 
Aug 2013 - Sept 2014
Year ended September 30, 2008
    41,667  
$10.38 - $10.98
 
Oct 2011
Year ended September 30, 2007
   
104,364
 
$6.00 - $14.88
 
Oct 2010 – Mar 2012
Year ended September 30, 2006
   
14,291
 
$6.30
 
Mar 2011
               
Total common shares underlying Non-Plan consultant options as of September 30, 2010
     310,322        

We have entered into various agreements for financial consulting and advisory services which, if not terminated as allowed by the terms of such agreements, will require the issuance after September 30, 2010 of approximately 145,000 unregistered shares and 300,000 options to purchase common shares at an exercise price of $1.50 per share. The options would include piggyback registration rights as well as cashless exercise rights starting one year after issuance until the options are registered.

ITEM 7.   MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion should be read together with the information contained in the Consolidated Financial Statements and related Notes included in the annual report.

Overview

We are a leading online service provider of live and on-demand Internet video, corporate web communications and content management applications.  We had approximately 100 full time employees as of December 24, 2010, with operations organized in two main operating groups:

 
·
Digital Media Services Group
 
·
Web and Audio Conferencing Services Group

Our Digital Media Services Group consists primarily of our Webcasting division, our DMSP (“Digital Media Services Platform”) division, our UGC (“User Generated Content”) division and our Smart Encoding division.

Our Webcasting division, which operates primarily from Pompano Beach, Florida and has its main sales facility in New York City, provides an array of corporate-oriented, web-based media services to the corporate market including live audio and video webcasting and on-demand audio and video streaming for any business, government or educational entity,  Our DMSP division, which operates primarily from Colorado Springs, Colorado provides an online, subscription based service that includes access to enabling technologies and features for our clients to acquire, store, index, secure, manage, distribute and transform these digital assets into saleable commodities. Our UGC division, which also operates as Auction Video and operates primarily from Colorado Springs, Colorado, provides a video ingestion and flash encoder that can be used by our clients on a stand-alone basis or in conjunction with the DMSP. Our Smart Encoding division, which operates primarily from San Francisco, California provides both automated and manual encoding and editorial services for processing digital media, using a set of coordinated technologies and processes that allow the quick and efficient online search, retrieval and streaming of this media, which can include photos, videos, audio, engineering specs, architectural plans, web pages, and many other pieces of business collateral.

 
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Our Web and Audio Conferencing Services Group includes our Infinite Conferencing (“Infinite”) division, which operates primarily from the New York City area and provides “reservationless” and operator-assisted audio and web conferencing services and our EDNet division, which operates primarily from San Francisco, California and provides connectivity within the entertainment and advertising industries through its managed network, which encompasses production and post-production companies, advertisers, producers, directors, and talent.

For segment information related to the revenue and operating income of these groups, see Note 7 to the Consolidated Financial Statements.

Recent Developments

A 1-for-6 reverse stock split of the outstanding shares of our common stock was effective on April 5, 2010. Except as otherwise indicated, all related amounts reported in our consolidated financial statements and in this 10-K, including common share quantities, convertible debenture conversion prices and exercise prices of options and warrants, have been retroactively adjusted for the effect of this reverse stock split.

On September 17, 2010, we entered into a Purchase Agreement (the “Purchase Agreement”) with Lincoln Park Capital Fund, LLC (“LPC”), whereby LPC agreed to an initial purchase of 300,000 shares of our common stock and 420,000 shares of our Series A-14 Preferred Stock (“Series A-14”), together with warrants to purchase 540,000 of our common shares.  In accordance with the Purchase Agreement, LPC also received 50,000 shares of our common stock as a one-time commitment fee and a cash payment of $26,250 as a one-time structuring fee. On September 24, 2010, we received net proceeds of $873,750 from LPC in exchange for our issuance of the above shares and warrants. In accordance with the Purchase Agreement, LPC also committed to purchase, at our sole discretion, up to an additional 830,000 shares of our common stock in installments over the term of the Purchase Agreement, generally at prevailing market prices, but subject to the specific restrictions and conditions in the Purchase Agreement. During the period from October 13, 2010 through January 5, 2011 LPC purchased an additional 405,000 shares of our common stock under that Purchase Agreement for net proceeds of approximately $336,000.

From January through May 2010 we borrowed an aggregate of $1.0 million from four individual investors under the terms of unsecured subordinated convertible notes. Although the remaining principal balance of these notes was $714,000 as of September 30, 2010, $503,000 of this balance was satisfied by us on October 1, 2010 by the payment of cash and the issuance of common shares.  The remaining outstanding principal balance of $211,000 as of September 30, 2010 will require future principal payments of $13,000 per month through April 2011 plus a balloon payment of $120,000 in May 2011, although it may be accelerated by the holder under certain conditions.

On March 18, 2009, we terminated the Merger Agreement for the acquisition of Narrowstep, which Merger Agreement we had first entered into on May 29, 2008. The Merger Agreement could be terminated by either Onstream or Narrowstep at any time after November 30, 2008 provided that the terminating party was not responsible for the delay. On December 1, 2009, Narrowstep filed a complaint against us in the Court of Chancery of the State of Delaware, alleging breach of contract, fraud and three additional counts and seeking (i) $14 million in damages, (ii) reimbursement of an unspecified amount for all of its costs associated with the negotiation and drafting of the Merger Agreement, including but not limited to attorney and consulting fees, (iii) the return of Narrowstep’s equipment alleged to be in our possession, (iv) reimbursement of an unspecified amount for all of its attorneys fees, costs and interest associated with this action and (v) any further relief determined as fair by the court. After reviewing the complaint document, we determined that Narrowstep had no basis in fact or in law for any claim and accordingly, this matter was not been reflected as a liability on our financial statements. On December 30, 2010 Narrowstep counsel advised the Court in writing that Narrowstep had reached an agreement in principle with us to dismiss their lawsuit with prejudice, provided that both parties executed a mutual release. Under this mutual release, which has been agreed to in principle by both parties but is still being finalized, no further actions will be filed against each other or affiliated parties in connection with this matter. This resolution of this matter will not have a material adverse impact on our future financial position or results of operations.

 
13

 

Our securities are listed on The NASDAQ Capital Market. We are currently not compliant with NASDAQ’s minimum audit committee size requirement of three independent members, as set forth in Listing Rule 5605 (c) (2) (a) (the “Rule”), for which compliance is necessary in order to be eligible for continued listing on The NASDAQ Capital Market. On June 24, 2010, we received a letter from NASDAQ stating that unless we regain compliance with the Rule as of the earlier of our next annual shareholders’ meeting or June 5, 2011, our common stock will be subject to immediate delisting. Until that time, our shares will continue to be listed on The NASDAQ Capital Market.

On June 14, 2010, we were notified that Mr. Robert J. Wussler, who was then a director and a member of our audit committee, had passed away on June 5, 2010. He has not at the present time been replaced on the audit committee, which currently has two independent members. We are in the process of evaluating independent candidates to fill the vacancy left as a result of Mr. Wussler’s passing, both on the Board as well as the audit committee. We will make that selection as soon as possible.
 
In addition to the above, on December 7, 2010, we received a letter from NASDAQ stating that we have 180 calendar days, or until June 6, 2011, to regain compliance with Listing Rule 5550 (a) (2) (a) (the “Bid Price Rule”), for which compliance is necessary in order to be eligible for continued listing on The NASDAQ Capital Market. The letter from NASDAQ indicated that our non-compliance with the Bid Price Rule was as a result of the closing bid price for our common stock being below $1.00 per share for the preceding thirty consecutive business days. We may be considered compliant with the Bid Price Rule, subject to the NASDAQ staff’s discretion, if our common stock closes at $1.00 per share or more for a minimum of ten consecutive business days before the June 6, 2011 deadline. If we are not considered compliant by June 6, 2011, but meet the continued listing requirement for market value of publicly held shares and all other initial listing standards for The NASDAQ Capital Market, and we provide written notice of our intention to cure the deficiency during the second compliance period, including a reverse stock split if necessary, we will be granted an additional 180 calendar day compliance period. During the compliance period(s), our stock will continue to be listed and eligible for trading on The NASDAQ Capital Market. Our closing share price was $0.76 per share on December 23, 2010.

Revenue Recognition

Revenues from recurring service are recognized when (i) persuasive evidence of an arrangement exists between us and the customer, (ii) the good or service has been provided to the customer, (iii) the price to the customer is fixed or determinable and (iv) collectibility of the sales price is reasonably assured.

Our Digital Media Services Group recognizes revenues from the acquisition, editing, transcoding, indexing, storage and distribution of its customers’ digital media, as well as from live and on-demand internet webcasting and internet distribution of travel information.

The Webcasting division charges for live and on-demand webcasting at the time an event is accessible for streaming over the Internet. Charges to customers by the DMSP division are generally based on a monthly subscription fee, as well as charges for hosting, storage and professional services. Fees charged to customers for customized applications or set-up are recognized as revenue at the time the application or set-up is completed. Charges to customers by the Smart Encoding and UGC divisions are generally based on the activity or volumes of such media, expressed in megabytes or similar terms, and are recognized at the time the service is performed. This division also provides hosting, storage and streaming services for digital media, which are provided via the DMSP.

 
14

 

Our Audio and Web Conferencing Services Group recognizes revenue from audio and web conferencing as well as customer usage of digital telephone connections.

The Infinite division generally charges for audio conferencing and web conferencing services on a per-minute usage rate, although webconferencing services are also available for a monthly subscription fee allowing a certain level of usage. Audio conferencing and web conferencing revenue is recognized based on the timing of the customer’s use of those services. The EDNet division primarily generates revenue from customer usage of digital telephone connections controlled by them. EDNet purchases digital phone lines from telephone companies and sells access to the lines, as well as separate per-minute usage charges. Network usage and bridging revenue is recognized based on the timing of the customer’s usage of those services.

We include the DMSP and UGC divisions’ revenues, along with the Smart Encoding division’s revenues from hosting, storage and streaming, in the DMSP and Hosting revenue caption. We include the EDNet division’s revenues from equipment sales and rentals and the Smart Encoding division’s revenues from encoding and editorial services in the Other Revenue caption.

Results of Operations

Our consolidated net loss for the year ended September 30, 2010 was approximately $9.3 million ($1.20 loss per share) as compared to a loss of approximately $11.8 million ($1.63 loss per share) for the prior fiscal year, a decrease in our loss of approximately $2.6 million (22%). The decreased net loss was primarily due to compensation expense and depreciation and amortization expense for the year ended September 30, 2010 that were approximately $1.5 million lower and $1.3 million lower, respectively, than such expenses for the prior fiscal year. In addition, the $4.7 million charge for impairment of goodwill and other intangible assets in the current fiscal year was $800,000 lower than the $5.5 million charge for such item in the prior fiscal year. These items were partially offset by an increase in interest expense of approximately $725,000, or 111%, for the year ended September 30, 2010 as compared to the prior fiscal year.

 
15

 
 
The following table shows, for the periods presented, the percentage of revenue represented by items on our consolidated statements of operations.

   
Years Ended September 30,
 
   
2010
   
2009
 
Revenue:
           
             
DMSP and hosting
    12.2 %     10.1 %
Webcasting
    34.4       33.5  
Audio and web conferencing
    40.9       41.9  
Network usage
    11.2       11.8  
Other
    1.3       2.7  
Total revenue
    100.0 %     100.0 %
                 
Cost of revenue:
               
                 
DMSP and hosting
    5.4 %     3.3 %
Webcasting
    9.2       9.9  
Audio and web conferencing
    11.9       11.4  
Network usage
    4.8       5.1  
Other
    2.1       2.8  
Total costs of revenue
    33.4 %     32.5 %
                 
Gross margin
    66.6 %     67.5 %
                 
Operating expenses:
               
Compensation
    49.6 %     57.9 %
Professional fees
    12.1       7.5  
Other general and administrative
    13.5       14.4  
Write off deferred acquisition costs
    -       3.0  
Impairment loss on goodwill and other  intangible assets
    28.2       32.5  
Depreciation and amortization
    11.5       18.9  
Total operating expenses
     114.9 %      134.2 %
                 
Loss from operations
     (48.3 )%      (66.7 )%
                 
Other expense, net:
               
Interest expense
    (8.2 )%     (3.9 )%
Other income, net
    0.9       0.6  
Total other expense, net
     (7.3 )%      (3.3 )%
                 
Net loss
     (55.6 )%      (70.0 )%

 
16

 
 
The following table is presented to illustrate our discussion and analysis of our results of operations and financial condition.  This table should be read in conjunction with the consolidated financial statements and the notes therein.

   
For the years ended
 September 30,
   
Increase (Decrease)
 
   
2010
   
2009
   
Amount
   
Percent
 
                         
Total revenue
  $ 16,694,106     $ 16,926,953     $ (232,847 )     (1.4 )%
Total costs of revenue
    5,571,640       5,493,533       78,107       1.4 %
Gross margin
    11,122,466       11,433,420       (310,954 )     (2.7 )%
                                 
General and administrative expenses
    12,554,774       13,507,867       (953,093 )     (7.1 )%
Write off deferred acquisition costs
    -       504,738       (504,738 )     (100.0 )%
Impairment loss on goodwill and other intangible assets
    4,700,000       5,500,000       (800,000 )     (14.5 )%
Depreciation and amortization
    1,923,460       3,195,291       (1,271,831 )     (39.8 )%
Total operating expenses
    19,178,234       22,707,896       (3,529,662 )     (15.5 )%
                                 
Loss from operations
    (8,055,768 )     (11,274,476 )     (3,218,708 )     (28.5 )%
                                 
Other expense, net
    (1,224,804 )     (556,309 )     668,495       120.2 %
                                 
Net loss
  $ (9,280,572 )   $ (11,830,785 )   $ (2,550,213 )     (21.6 )%

Revenues and Gross Margin

Consolidated operating revenue was approximately $16.7 million for the year ended September 30, 2010, a decrease of approximately $233,000 (1.4%) from the prior fiscal year, due to decreased revenues of the Audio and Web Conferencing Services Group.

Audio and Web Conferencing Services Group revenues were approximately $8.8 million for the year ended September 30, 2010, a decrease of approximately $354,000 (3.8%) from the prior fiscal year. This decrease was primarily a result of decreased Infinite division revenues arising from the loss of a major customer during the fourth quarter of fiscal 2009, as well as decreased network usage service fees from the EDNet division, which decrease we believe resulted from a reduction in television and movie production activity in the current fiscal year in response to a general economic slow-down.

The number of minutes billed by the Infinite division was approximately 91.0 million for the year ended September 30, 2010, as compared to approximately 98.1 million minutes billed for the prior fiscal year. However, the average revenue per minute was approximately 7.6 cents for the year ended September 30, 2010, as compared to approximately 7.3 cents for the prior fiscal year. The average revenue per minute statistic includes auxiliary services and fees that are not billed to the customer on a per minute basis.

For some time the Infinite division sales force has been focusing on entering into agreements with organizations with resources to provide Infinite’s audio and web conferencing services to certain targeted groups. This included agreements with Proforma, a leading provider of graphic communications solutions, a reseller agreement with Copper Conferencing, a leading, carrier-class conferencing services provider for small and medium-sized businesses, a master agency agreement with Presidio Networked Solutions, a systems integrator and a collaboration with PeerPort to launch WebMeet Community, an integrated suite of virtual collaboration services. In March 2010 we announced the expansion of Infinite’s alliance with BT Conferencing by providing a jointly developed conferencing platform to Infinite’s reservationless client base. Although these relationships and initiatives are important as a basis for building future sales, in some cases there will be a lead time of a year or longer before they are reflected in actual recorded sales. Furthermore, we relatively recently reorganized the Infinite management and sales staff, which included the hiring of a new divisional president in June 2009.

 
17

 

 The revenues of the Audio and Web Conferencing Services Group for the three months ended September 30, 2010 were approximately $198,000 greater than those revenues for the corresponding fiscal 2009 quarter, with this increase almost entirely related to the Infinite division. We expect this trend to continue and accordingly we expect the fiscal 2011 revenues of the Audio and Web Conferencing Services Group (for the year as a whole) to exceed the fiscal 2010 amounts, although this increase cannot be assured.

Digital Media Services Group revenues were approximately $7.9 million for the year ended September 30, 2010, an increase of approximately $121,000 (1.6%) from the prior fiscal year. This increase was primarily due to an approximately $332,000 (19.4%) net increase in DMSP and hosting revenues over the prior fiscal year. This increase in DMSP and hosting revenues included (i) an approximately $254,000 increase in hosting and bandwidth charges to certain larger DMSP customers serviced by our Smart Encoding division and (ii) an approximately $78,000 increase in the DMSP division’s revenues from its “Store and Stream” and “Streaming Publisher” products. This $332,000 increase was partially offset by an approximately $238,000 (82.3%) decrease in Smart Encoding division revenues for services other than hosting.

As of September 30, 2010, we had 354 monthly recurring subscribers to the “Store and Stream” and/or “Streaming Publisher” applications of the DMSP, which applications were developed as a focused interface for small to medium business (SMB) clients, as compared to 329 subscribers as of September 30, 2009. Including large DMSP hosting customers supported by our Smart Encoding Division, these customer counts were 364 and 345, respectively.

We expect this DMSP customer base to continue to grow, especially as a result of the launch of MP365 discussed below. In addition to the “Store and Stream” and “Streaming Publisher” applications of the DMSP, we are continuing to work with several entities assisting us in the deployment via the DMSP of enabling technologies necessary to create social networks with integrated professional and user generated multimedia content.

One of the key components of our March 2007 acquisition of Auction Video was the video ingestion and flash transcoder, already integrated into the DMSP as an integral component of the services offered to social network providers and other User Generated Video (UGV) applications. Auction Video’s technology may be used in various applications such as online Yellow Pages listings, delivering video to mobile phones, multi-level marketing and online newspaper classified advertisements, and can also provide for direct input from webcams and other imaging equipment. In addition, our Auction Video service was approved by eBay to provide video hosting services for eBay users and PowerSellers (high volume users of eBay). The Auction Video acquisition was another strategic step in providing a complete range of enabling, turnkey technologies for our clients to facilitate “video on the web” applications, which we believe will make the DMSP a more competitive option as an increasing number of companies look to enhance their web presence with digital rich media and social applications.

 
18

 

In addition to the beneficial effect of the Auction Video technology on DMSP revenues, we believe that our ownership of that technology will provide us with other revenue opportunities, including software sales and licensing fees, although the timing and amount of these revenues cannot be assured. In March 2008 we retained the law firm of Hunton & Williams to assist in expediting the patent approval process and helping protect our rights related to our patent pending UGV technology. In April 2008, we revised the original patent application primarily for the purpose of splitting it into two separate applications, which, while related, are being evaluated separately by the U.S. Patent Office (“USPO”). With respect to the claims pending in the first of the two applications, the USPO issued non-final rejections in August 2008, February 2009 and May 2009, as well as final rejections in January 2010 and June 2010. Our responses to certain of these rejections included modifications to certain claims made in the original patent application. In response to the latest rejection we filed a Notice of Appeal with the USPO on November 22, 2010 and the expected next step is our filing of an appeal brief with the USPO, which is due on January 22, 2011, although extensions for this filing are available until June 22, 2011 with the payment of additional fees. After our appeal brief is filed, the USPO would be expected to file a response and following that, a decision would be made by a three member panel, either based on the filings or a hearing if requested by us. Regardless of the ultimate outcome of this matter, our management has determined that an adverse decision with respect to this patent application would not have a material adverse effect on our financial position or results of operations. The USPO has taken no formal action with regard to the second of the two applications. Certain of the former owners of Auction Video, Inc. have an interest in proceeds that we may receive under certain circumstances in connection with these patents. As a result of this technology plus other planned enhancements to the DMSP, the expected favorable impact of the recently launched MP365 and our increased sales and marketing focus on opportunities with social networks and other high-volume users of digital rich media, we expect the fiscal 2011 DMSP and hosting revenues (for the year as a whole) to exceed the corresponding fiscal 2010 amounts, although such increase cannot be assured.

Webcasting revenues increased by approximately $71,000 (1.2%) for the year ended September 30, 2010 as compared to the prior fiscal year. We have historically experienced a seasonal decline in webcasting revenues during the fourth quarter, as compared to the preceding third quarter. However, the 18.1% decline in webcasting revenues for the fourth quarter of fiscal 2010, as compared to such revenues for the third quarter of fiscal 2010, was less than the 24.6% decline in webcasting revenues that we experienced during the fourth quarter of fiscal 2009, as compared to such revenues for the third quarter of fiscal 2009.

The number of webcasts produced, approximately 7,400 for the year ended September 30, 2010, was approximately equal to the number of webcasts for the prior fiscal year and the average revenue per webcast event of approximately $786 for the year ended September 30, 2010 was approximately equal to the prior fiscal year. The number of webcasts reported, as well as the resulting calculation of the average revenue per webcast event, does not include any webcast events attributed with $100 or less revenue, based on our determination that excluding such low-priced or even no-charge events increases the usefulness of this statistic.

In addition, we believe that the following factors will favorably impact our webcasting revenues for fiscal 2011:

·
Expanding government related business - In November 2007 we announced that we had been awarded a stake in a three-year Master Services Agreement (MSA) by the State of California to provide video and audio streaming services to the state and participating local governments. In August 2008 we announced that we had been awarded three new multi-year public sector webcasting services contracts with the United States Nuclear Regulatory Commission (NRC), California State Department of Technology Services (DTS), and California State Board of Equalization (BOE). In April 2009 we announced that, in addition to the extension of the NRC contract for the first full year after a successful initial test period, we were engaged to perform webcasting services for use by the U.S. Department of Interior, Minerals Management Service, via a strategic partner relationship.

In November 2009, we announced that we were engaged to perform webcasting services for the Department of the Treasury’s Internal Revenue Service (IRS) and to provide webinar services for use by the U.S. Department of Housing and Urban Development’s Federal Housing Administration (FHA) Philadelphia Homeownership Center (HOC), via a strategic partner relationship. We also announced the extension of the NRC contract, discussed above, for the second full year.

 
19

 

We recognized aggregate revenues for the above government-related contracts of approximately $509,000 and $322,000 for the years ended September 30, 2010 and 2009, respectively, which represents a 58.1% increase. Our financial statements for these periods include webcasting revenues from government related business not included in these numbers, as these numbers only relate to the specific government related contracts that we have publicly announced, as listed above.

 
·
New products and technology - iEncode™ is a full-featured, turnkey, standalone webcasting solution, designed to operate inside a corporate LAN environment with multicast capabilities. Although we recorded some iEncode revenue during fiscal 2009 prior to the introduction of version 2 (V2) of iEncode™ in June 2009, V2 was not available for delivery to our customers until December 2009 and we have continued to make some technical improvements after that date. Although iEncode™ sales have been limited to date, we expect them to start to increase to more meaningful levels during fiscal 2011.

We have relatively recently completed several feature enhancements to our proprietary webcasting platform including a premium Flash webcasting service announced by us in November 2010 for the Google Android™ smartphone platform.  In addition to delivering webcasts to Android based mobile users, the new Flash-based webcasting solution enhances our traditional online webcasting service to existing clients as well as opens up a new market for us with enterprise customers.

·
BT reseller agreement - In October 2009, we announced an expansion of our business relationship with BT Conferencing, a division of BT Group plc, one of the world's leading providers of communications solutions and services, via the signing of a new webcasting, iEncode, and digital media services reseller agreement. Prior to this agreement, and continuing to the current time, we recognized significant webcasting revenues from a BT business group that had succeeded to our business relationship with another reseller, by virtue of BT’s acquisition of that reseller. Under the reseller agreement announced in October 2009, another business group within BT Conferencing will also be offering our webcasting, iEncode and digital media services to its new and existing clients worldwide. The implementation of this new agreement is in process and is expected to first impact our revenues in a meaningful way during fiscal 2011.

·
Organizational changes - In October 2010, we announced Ari Kestin’s appointment as the Executive Vice President and General Manager of our Webcasting division. In his new role with the Webcasting division, Mr. Kestin will be responsible for all client-facing activities, sales and marketing, operations, partnerships, product and application development within the division. Mr. Kestin will also continue as President of the Infinite division, a position he has held since June 2009.

As a result of the above factors, we expect fiscal 2011 webcasting revenues (for the year as a whole) to exceed the corresponding fiscal 2010 amounts, although such increase cannot be assured.

 
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During fiscal 2009, we began the development of the MarketPlace365™ (MP365) platform, which enables the creation of on-line virtual marketplaces, trade shows and social communities, with the goal of generating business leads for our customers, the MP365 site promoters. There are currently four active MP365 promoter sites – SUBWAY (a private marketplace for internal use by SUBWAY vendors, franchisees and staff and the first site launched in July 2010), Home Service Expo (a general public accessible marketplace providing services for homeowners in the Dade, Broward and Palm Beach counties of Florida launched in November 2010), Green Light Expo (a general public accessible global products and services expo targeting all things green for lifestyle and business applications launched in November 2010) and ProActive Capital Forum (general public accessible and believed to be the first 24/7/365 financial tradeshow concentrating on companies in the life-sciences and  technology areas launched in November 2010). Fred DeLuca, co-founder and co-owner of SUBWAY and active in the management of that company, is one of our major shareholders and also controls Rockridge Capital Holdings, LLC, an entity to which we owe approximately $1.5 million as of September 30, 2010 and which debt is convertible into shares of our common stock under certain conditions. The promoter of Green Light Expo’s MP365 site is also affiliated with SUBWAY.

In addition to the four active marketplaces, we have signed MP365 promoter contracts for another 18 marketplaces, several of which we expect will launch and become active in the coming weeks and months. In addition, we have entered into several MP365 agent agreements, including the following:

 
·
In December 2009, we announced an agreement with the Tarsus Group plc (“Tarsus”) for them to market MP365 to Tarsus' more than 19,000 trade shows and 2,000 suppliers that are part of their Trade Show News Network (“TSNN”), a leading online resource for the trade show, exhibition and event industry.

 
·
In February 2010, we announced an agreement with the Trade Show Exhibitors Association (“TSEA”) for them to market MP365 to TSEA’s members, vendors and sponsors.

 
·
In April 2010, we announced an agreement with AMC Institute, to provide MP365, as well as our full suite of digital media and communications services, to the organization’s 150 association management company members who represent over 1,500 associations throughout the U.S., Canada, Europe and Asia.

 
·
In May 2010, we announced an MP365 agent agreement with Conventions.net, which has thousands of industry suppliers in over 150 categories and plans to showcase the MP365 platform through its website and other marketing vehicles.

We will charge each promoter a monthly fee based on the number of exhibitors within their MP365 marketplace, as well as a share of the revenue from advertising in their MP365 marketplace, but we also expect to recognize additional revenue beyond these exhibitor and advertising fees since MP365 will integrate with and utilize almost all of our other technologies including DMSP, webcasting, UGC and conferencing. Special pricing and payment terms have been granted to SUBWAY and may be granted to other MP365 promoters, particularly during the initial stages of introducing the MP365 platform. Once we are past the initial introductory stage and as the process of launching MP365 sites continues, we expect that revenues from MP365 will begin to be a meaningful part of our overall operating results. However, the attainment of any revenue from a MP365 marketplace or promoter contract will be subject to various factors, including the implementation of the MP365 product by the promoter/purchaser, including the sales of booths to exhibitors and related advertising, which amount and timing cannot be assured.

Due to the anticipated increases in webcasting and DMSP and hosting revenues, as well as our anticipation of meaningful revenues in fiscal 2011 from the recently launched MP365 platform, all as discussed above, we expect the fiscal 2011 revenues of the Digital Media Services Group (for the year as a whole) to exceed the corresponding fiscal 2010 amounts, although such increase cannot be assured.

 
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Consolidated gross margin was approximately $11.1 million for the year ended September 30, 2010, a decrease of approximately $311,000 (2.7%) from the prior fiscal year. This decrease was due to approximately $369,000 less gross margin from the Audio and Web Conferencing Services Group, corresponding to the $354000 decrease in Audio and Web Conferencing Services Group revenues as discussed above, as well as decreased gross margin percentage on those revenues from 69.2% to 67.8%. Primary reasons for this decreased gross margin percentage were (i) certain costs related to providing webconferencing services that are generally fixed to us and do not vary with utilization (ii) increased costs from purchasing additional “overflow” operating capacity from third parties and (iii) decreases in our per minute charges to certain customers deemed necessary in order to respond to competition. The consolidated gross margin percentage was 66.6% for the year ended September 30, 2010, versus 67.5% for the prior fiscal year.

Based on our expectation that the fiscal 2011 revenues of both the Audio and Web Conferencing Services Group and the Digital Media Services Group (for the year as a whole) to exceed the corresponding fiscal 2010 amounts, as discussed above, we expect consolidated gross margin (in dollars) for fiscal year 2011 (for the year as a whole) to exceed the corresponding fiscal 2010 amounts, although such increase cannot be assured. However, it is possible that gross margin as a percentage of the related revenue for fiscal year 2011 may be lower than such percentage for fiscal year 2010, since (i) we expect continued price pressure in fiscal 2011, as compared to fiscal 2010, arising from competition in all of our major product lines and (ii) it is possible that the Infinite division’s cost of sales, on a per-minute basis, may increase in fiscal 2011, as compared to fiscal 2010, in order for us to attract larger customers by increasing the reliability of the subcontractors supporting our service offerings.

Operating Expenses

Consolidated operating expenses were approximately $19.2 million for the year ended September 30, 2010, a decrease of approximately $3.5 million (15.5%) from the prior fiscal year, primarily because compensation expense and depreciation and amortization expense each decreased by approximately $1.5 million and $1.3 million, respectively, for the year ended September 30, 2010, as compared to those expenses for the prior fiscal year. In addition, the $4.7 million charge for impairment of goodwill and other intangible assets in the current fiscal year was $800,000 lower than the $5.5 million charge for such item in the prior fiscal year and we recorded an approximately $540,000 charge for the write off of deferred acquisition costs for the year ended September 30, 2009 versus no such expense in the current fiscal year. This write-off related to the terminated Narrowstep acquisition, which is discussed in more detail in Item 3 of Part I of this 10-K.

The decrease in compensation expense for the year ended September 30, 2010 of approximately $1.5 million was 15.6% of that expense for the prior fiscal year. Effective October 1, 2009, a significant portion of our workforce, including all of management, took a 10% payroll reduction, which we expect will be maintained until increased revenue levels result in positive cash flow (sufficient to cover capital expenditures and debt service). This action, as well as payroll cost reduction actions we took primarily during February and March 2009, continued in 2010 resulting in compensation expense reductions of approximately $1.3 million for fiscal 2010, as compared to fiscal 2009, and are therefore the primary reason for the decreased compensation expense during fiscal 2010.

The decrease in depreciation and amortization expense for the year ended September 30, 2010 of approximately $1.3 million was 39.8% of that expense for the prior fiscal year. This decrease is primarily due to (i) reduced depreciation expense related to the DMSP as a result of certain DMSP components reaching the end of the useful lives assigned to them for book depreciation purposes and (ii) reduced amortization expense related to certain intangible assets as a result of the impairment losses we recorded during the year ended September 30, 2010 and the year ended September 30, 2009, which were recorded as a reduction of the historical depreciable cost basis of those assets as of those dates.

The Intangibles – Goodwill and Other topic of the ASC, which addresses the financial accounting and reporting standards for goodwill and other intangible assets subsequent to their acquisition, requires that goodwill be tested for impairment on a periodic basis. Although other intangible assets are being amortized to expense over their estimated useful lives, the unamortized balances are still subject to review and adjustment for impairment.

 
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There is a two step process for impairment testing of goodwill. The first step of this test, used to identify potential impairment, compares the fair value of a reporting unit with its carrying amount, including goodwill. The second step, if necessary, measures the amount of the impairment. We performed impairment tests on Infinite, EDNet and Acquired Onstream as of December 31, 2008. We assessed the fair value of the net assets of these reporting units by considering the projected cash flows and by analysis of comparable companies, including such factors as the relationship of the comparable companies’ revenues to their respective market values.  Based on these factors, we concluded that there was no impairment of the assets of EDNet as of that date. Although the first step of the two step testing process of the assets of Acquired Onstream and Infinite preliminarily indicated that the fair value of those intangible assets exceeded their recorded carrying value as of December 31, 2008, it was noted that as a result of the then recent substantial volatility in the capital markets, the price of our common stock and our market value had decreased significantly and as of December 31, 2008, our market capitalization, after appropriate adjustments for control premium and other considerations, was determined to be less than our net book value (i.e., stockholders’ equity as reflected in our financial statements). Based on this condition, and in accordance with the provisions of the Intangibles – Goodwill and Other topic of the ASC, we recorded a non-cash expense, for the impairment of our goodwill and other intangible assets, of $5.5 million for the year ended September 30, 2009. This $5.5 million adjustment was determined to relate to $1.1 million of goodwill and intangible assets of Infinite, $100,000 of intangible assets of Auction Video and $4.3 million of goodwill of Acquired Onstream.
 
We also performed impairment tests on Infinite, EDNet and Acquired Onstream as of December 31, 2009, using the same methodologies discussed above.  Based on these factors, we concluded that there was no impairment of the assets of Acquired Onstream or EDNet as of that date. However, we determined that Infinite’s goodwill and certain of its intangible assets were impaired as of that date and based on that condition, and in accordance with the provisions of the Intangibles – Goodwill and Other topic of the ASC, we recorded a non-cash expense, for the impairment of our goodwill and other intangible assets, of $3.1 million for the year ended September 30, 2010.
 
As the result of the decline in the price of our common stock from $1.86 per share as of March 31, 2010 to $1.03 as of June 30, 2010, it appeared that our market value (after certain adjustments as discussed above) was probably less than our net book value as of June 30, 2010. However, we concluded that the decline in market value as of June 30, 2010 was not of sufficient duration nor was it otherwise indicative of a triggering event that would require an interim impairment review. However, this decline continued after June 30, 2010 and resulted in a common stock price of $1.04 as of September 30, 2010 and $0.76 as of December 23, 2010.  As a result, we determined that it was appropriate for us to evaluate whether our goodwill and other intangible assets were impaired as of September 30, 2010.

We performed impairment tests on Infinite, EDNet and Acquired Onstream as of September 30, 2010, using the same methodologies discussed above.  Based on these factors, we concluded that there was no impairment of the assets of Infinite or EDNet as of that date. However, we determined that Acquired Onstream’s goodwill and certain of its intangible assets were impaired as of that date and based on that condition, and as discussed above, in accordance with the provisions of the Intangibles – Goodwill and Other topic of the ASC, we recorded a non-cash expense, for the impairment of our goodwill and other intangible assets, of $1.6 million, which combined with the adjustment described above, resulted in a total impairment expense of $4.7 million  for the year ended September 30, 2010.

The valuations of Infinite, EDNet and Acquired Onstream incorporate our management’s estimates of future sales and operating income, which estimates in the cases of Infinite and Acquired Onstream are dependent on products (audio and web conferencing and the DMSP, respectively) from which significant sales and/or sales increases may be required to support that valuation. Furthermore, even if our market value were to exceed our net book value in the future, annual reviews for impairment in future periods may result in future periodic write-downs.  Tests for impairment between annual tests may be required if events occur or circumstances change that would more likely than not reduce the fair value of the net carrying amount.

 
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Since we do not expect continued material reductions in compensation expense or depreciation and amortization expense in fiscal 2011 as compared to fiscal 2010, we expect our consolidated operating expenses for fiscal year 2011 to be approximately equal to the corresponding prior year amounts (excluding any reduction arising from fiscal 2011 reductions in goodwill impairment charges as compared to those costs in fiscal 2010), although this cannot be assured.

Other Expense

Other expense of approximately $1.2 million for the year ended September 30, 2010 represented an approximately $669,000 (120.2%) increase as compared to the prior fiscal year. This additional expense was primarily related to an increase in interest expense of approximately $725,000, arising from a much higher level of interest bearing debt, as well as increased effective interest rates, for the year ended September 30, 2010 as compared to the year ended September 30, 2009.

As of September 30, 2009, we had outstanding interest bearing debt with a total face amount of approximately $3.8 million, versus approximately $2.9 million as of September 30, 2008. The $3.8 million was primarily comprised of (i) approximately $1.4 million in borrowings outstanding for working capital under a line of credit arrangement (the “Line”), (ii) convertible debentures for financing software and equipment purchases with a balance of $1.0 million and bearing interest expense at 12% per annum and (iii) the Rockridge Note balance of approximately $1.4 million, which did not exist until April 2009 and carries an effective interest rate of approximately 28.0% per annum (after the September 2009 amendment).

In addition to the above, we have received cash proceeds from interest-bearing financing activities, net of repayments, of another approximately $933,000 during the year ended September 30, 2010. Approximately $714,000 of these cash proceeds relate to additional borrowings aggregating $1.0 million ($250,000 under the Greenberg Note in January 2010, $500,000 under the Wilmington Notes in February 2010 and $250,000 under the Lehmann Note in May 2010) less $286,000 of principal payments against those notes. The effective interest rates on these notes range from 50.7% to 83.9% per annum, with a weighted average rate of 73.9% per annum.

In addition to the increases in our outstanding debt as noted above, the Line was amended in December 2009 and as a result the interest rate modified to be 13.5% per annum, adjusted for future changes in the prime rate, plus a weekly monitoring fee of one twentieth of a percent (0.05%) of the borrowing limit. The interest rate at the time of the amendment was 14.25% per annum (prime rate plus 11%) but there was no monitoring fee. Based on the outstanding balance of approximately $1.6 million under the Line as of September 30, 2010, the amended terms would represent increased interest expense, including the monitoring fee, of approximately $40,000 per year.

As a result of the January 2011 renegotiation of the terms of the $200,000 CCJ Note, including related changes to Series A-13 Preferred also held by CCJ, the effective interest rate on the CCJ Note increased from 47.4% per annum to approximately 78.5% per annum – see the discussion of Liquidity and Capital Resources below for details.

Although a significant portion of the remaining outstanding balance due on the borrowings made during fiscal 2010 was repaid on October 1, 2010 using proceeds from non-interest bearing equity financing, based on the remaining outstanding interest-bearing portion of that debt, the increased interest rate on the Line that was not effective for the entirety of fiscal 2010, the increased effective interest rate on the CCJ Note from January 2011 and potential further borrowings in fiscal 2011 in order to address our working capital deficit, we anticipate our interest expense during fiscal 2011 to at least be equal to, or potentially greater than, that expense for fiscal 2010.

Liquidity and Capital Resources

Our financial statements for the year ended September 30, 2010 reflect a net loss of approximately $9.3 million and cash used in operations for that period of approximately $197,000. Although we had cash of approximately $825,000 at September 30, 2010, our working capital was a deficit of approximately $3.6 million at that date.

 
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During the year ended September 30, 2010, we obtained financing from four primary sources – (i) the sale of our common and preferred stock under the terms of the LPC Purchase Agreement, discussed in more detail below and which resulted in net cash proceeds of approximately $824,000 during the period (ii) the unsecured subordinated convertible Greenberg Note, Wilmington Notes and Lehmann Note, under which we borrowed an aggregate of $714,000 (net of repayments) during the period, (iii) the Line, collateralized by our accounts receivable, under which we borrowed approximately $255,000 (net of repayments) during the period and (iv) the Rockridge Note, collateralized by all our assets not pledged under the Line, under which we borrowed approximately $170,000 (net of repayments) during the period.

On September 17, 2010, we entered into a Purchase Agreement (the “Purchase Agreement”) with Lincoln Park Capital Fund, LLC (“LPC”), whereby LPC agreed to an initial purchase of 300,000 shares of our common stock and 420,000 shares of our Series A-14 Preferred Stock (“Series A-14”), together with warrants to purchase 540,000 of our common shares.  In accordance with the Purchase Agreement, LPC also received 50,000 shares of our common stock as a one-time commitment fee and a cash payment of $26,250 as a one-time structuring fee. On September 24, 2010, we received net proceeds of $873,750 from LPC in exchange for our issuance of the above shares and warrants. After deducting legal, accounting and other out-of-pocket costs incurred by us in connection with this transaction, the net cash proceeds were $824,044.

During the period from October 13, 2010 through January 5, 2011 LPC purchased an additional 405,000 shares of our common stock under that Purchase Agreement for net proceeds of approximately $336,000.  LPC has also committed to purchase, at our sole discretion, up to an additional 425,000 shares of our common stock in installments over the remaining term of the Purchase Agreement, generally at prevailing market prices, but subject to the specific restrictions and conditions in the Purchase Agreement. There is no upper limit to the price LPC may pay to purchase these additional shares. The purchase of our shares by LPC will occur on dates determined solely by us and the purchase price of the shares will be fixed on the purchase date and will be equal to the lesser of (i) the lowest sale price of our common stock on the purchase date or (ii) the average of the three (3) lowest closing sale prices of our common stock during the twelve (12) consecutive business days prior to the date of a purchase by LPC.  LPC shall not have the right or the obligation to purchase any shares of our common stock from us at a price below $0.75 per share.

In addition, we have agreed to use our best efforts to get, within 190 days from the date of the Purchase Agreement, shareholder approval to sell up to an additional 1,900,000 of our common shares to LPC, which upon such approval LPC has agreed to purchase, at our sole discretion and subject to the same restrictions and conditions in the Purchase Agreement.

The Purchase Agreement has a term of 25 months but may be terminated by us at any time after the first year at our discretion without any cost to us and may be terminated by us at any time in the event LPC does not purchase shares as directed by us in accordance with the terms of the Purchase Agreement. LPC may terminate the Purchase Agreement upon certain events of default set forth therein, including but not limited to the occurrence of a material adverse effect, delisting of our common stock and the lack of immediate relisting on one of the specified alternate markets and the lapse of the effectiveness of the applicable registration statement for more than the specified number of days. The Purchase Agreement restricts our use of variable priced financings for the greater of one year or the term of the Purchase Agreement and, in the event of future financings by us, allows LPC the right to participate under conditions specified in the Purchase Agreement.

The shares of common stock sold and issued under the Purchase Agreement and the shares of common stock issuable upon conversion of Series A-14, were sold and issued pursuant to a prospectus supplement filed by us on September 24, 2010 with the Securities and Exchange Commission in connection with a takedown of an aggregate of 1.6 million shares from our Shelf Registration.  In connection with the Purchase Agreement, we also entered into a Registration Rights Agreement (the “Registration Rights Agreement”) with LPC, dated September 17, 2010, under which we agreed, among other things, to use our best efforts to keep the registration statement effective until the maturity date as defined in the Purchase Agreement and to indemnify LPC for certain liabilities in connection with the sale of the securities. 

 
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From January through May 2010 we issued the unsecured subordinated convertible Greenberg Note, Wilmington Notes and Lehmann Note, for aggregate gross proceeds of $1.0 million, as discussed above. The remaining principal balance of the Greenberg and Wilmington Notes, representing $750,000 in original borrowing, was $503,000 as of September 30, 2010. This $503,000 balance, as well as all accrued but unpaid interest, was satisfied by us on October 1, 2010 with cash payments aggregating $400,000 plus the issuance of 137,901 unregistered common shares.  The effective rate of the Greenberg Note was initially calculated to be approximately 50.7% per annum, assuming a one year loan term. The effective rate of the Wilmington Notes was initially calculated to be approximately 83.9% per annum, assuming a six month loan term and excluding the finder’s fees payable by us to a third party in cash and equal to 7% of the borrowed amount.

The Lehmann Note, an unsecured subordinated convertible note under which we borrowed $250,000 in May 2010, is repayable in principal installments of $13,000 per month beginning July 3, 2010, with the final payment on May 3, 2011, including remaining principal and all accrued but unpaid interest (at 10% per annum).  The Lehmann Note is convertible into common stock at Lehmann’s option based on our closing share price on the funding date of the Lehmann Note, which was $2.04. $250,000 of the amount we borrowed under the Wilmington Notes in February 2010 came from Lehmann.

The Lehmann Note provides for (i) our issuance of 37,500 unregistered common shares upon receipt of the funds and our issuance of 25,000 unregistered common shares if the loan is still outstanding after 6 months and (ii) our prepayment of the first six months of interest in the form of shares, based on our closing share price on the funding date of the Lehmann Note. In the event the Lehmann Note is prepaid after the first six months, the second tranche of 25,000 unregistered common shares will be cancelled on a pro-rata basis, to the extent the second six month time period has not elapsed at the time of such payoff.

The effective rate of the Lehmann Note is approximately 77.0% per annum, assuming a six month loan term and excluding the finder’s fees payable by us to a third party in cash and equal to 7% of the borrowed amount.

We may prepay the Lehmann Note at any time with ten days notice, provided that Lehmann may convert the outstanding balance to common shares during such ten day period. If we successfully conclude a financing of debt or equity in excess of $1,000,000 during the term of the Lehmann Note, the proceeds of such financing will be used to pay off the remaining balance of the Lehmann Note. Although the aggregate gross proceeds from the sale of common and preferred shares under the LPC Purchase Agreement exceeded $1,000,000 as of November 3, 2010, our position is that the sale of shares in October, November and December 2010 were separate financings from the initial sale of shares in September 2010 and since none of those financings were in excess of $1,000,000, early repayment of the Lehmann Note is not required. In the event of a default, uncured after the notice provisions in the note, we will be obligated to pay Lehmann an additional 5% interest per month (based on the outstanding loan balance and pro-rated on a daily basis) until the default has been cured, payable in cash or unregistered common shares.

The maximum allowable borrowing amount under the Line is now $2.0 million, subject to certain formulas with respect to the amount and aging of the underlying receivables. The outstanding balance (approximately $1.6 million as of December 23, 2010) bears interest at 13.5% per annum, adjustable based on changes in prime after December 28, 2009, plus a weekly monitoring fee of one twentieth of a percent (0.05%) of the borrowing limit. The outstanding principal under the Line may be repaid at any time, but no later than December 2011, which term may be extended by us for an extra year, subject to compliance with all loan terms, including no material adverse change, as well as concurrence of the Lender.

 
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During fiscal 2009 we borrowed $1.5 million from Rockridge Capital Holdings, LLC (“Rockridge”), an entity controlled by one of our largest shareholders, in accordance with the terms of a Note and Stock Purchase Agreement that we entered into with Rockridge dated April 14, 2009 and amended on September 14, 2009. We received another $500,000 under the Note and Stock Purchase Agreement on October 20, 2009, resulting in cumulative allowable borrowings of $2.0 million. In connection with this transaction, we issued a Note (the “Rockridge Note”), which is secured by a first priority lien on all of our  assets, such lien subordinated only to the extent higher priority liens on assets, primarily accounts receivable and certain designated software and equipment, are held by certain of our other lenders. We also entered into a Security Agreement with Rockridge that contains certain covenants and other restrictions with respect to the collateral.

The Rockridge Note, which had an outstanding principal balance of approximately $1.5 million at September 30, 2010, is repayable in equal monthly installments of $41,409 extending through August 14, 2013 (the “Maturity Date”), which installments include principal (except for a $500,000 balloon payable at the Maturity Date and which balloon payment is also convertible into restricted ONSM common shares under certain circumstances) plus interest (at 12% per annum) on the remaining unpaid balance. Upon notice from Rockridge at any time prior to the Maturity Date, up to fifty percent (50%) of the outstanding principal amount of the Rockridge Note (excluding the balloon payment subject to conversion per the previous sentence) may be converted into a number of restricted shares of ONSM common stock. If we sell all or substantially all of our assets, or at any time after September 4, 2011 and prior to the Maturity Date, the remaining outstanding principal amount of the Rockridge Note may be converted by Rockridge into a number of restricted shares of ONSM common stock. The above conversions are subject to a minimum of one month between conversion notices (unless such conversion amount exceeds $25,000) and will use a conversion price of eighty percent (80%) of the fair market value of the average closing bid price for ONSM common stock for the twenty (20) days of trading on The NASDAQ Capital Market (or such other exchange or market on which ONSM common shares are trading) prior to such Rockridge notice, but such conversion price will not be less than $2.40 per share.

The Note and Stock Purchase Agreement also provides that Rockridge may receive an origination fee, upon not less than sixty-one (61) days written notice to us, of 366,667 restricted shares of our common stock (the “Shares”). The value of those Shares is subject to a limited guaranty of no more than an additional payment by us of $75,000 which will be effective in the event the Shares are sold for an average share price less than the minimum of $1.20 per share.

The effective interest rate of the Rockridge Note was approximately 44.3% per annum, until the September 2009 amendment, at which time it was reduced to approximately 28.0% per annum. These rates exclude the potential effect of a premium to market prices if the balloon payment is satisfied in common shares instead of cash as well as the potential effect of any appreciation in the value of the Shares at the time of issuance beyond their value at the date of the Rockridge Agreement or the Amendment, as applicable.

We are currently obligated under convertible Equipment Notes with a face value of $1.0 million which are collateralized by specifically designated software and equipment owned by us with a cost basis of approximately $1.5 million, as well as a subordinated lien on certain other of our assets to the extent that the designated software and equipment, or other software and equipment added to the collateral at a later date, is not considered sufficient security for the loan. Interest is payable every 6 months in cash or, at our option, in restricted ONSM common shares, based on a conversion price equal to seventy-five percent (75%) of the average ONSM closing price for the thirty (30) trading days prior to the date the applicable payment is due. On November 11, 2009, we elected to issue 34,920 unregistered shares of our common stock to the Investors in lieu of $60,493 cash interest on these Equipment Notes for the period from May 2009 through October 2009, which was recorded as interest expense of $67,040 on our books, based on the fair value of those shares on the issuance date. On April 30, 2010, we elected to issue 44,369 unregistered common shares to the Investors in lieu of $59,507 cash interest on these Equipment Notes for November 2009 through April 2010, which was recorded as interest expense of $92,288 on our books, based on the fair value of those shares on the issuance date. On December 2, 2010, we elected to issue 76,769 unregistered shares of our common stock to the Investors in lieu of $60,493 cash interest on these Equipment Notes for the period from May 2010 through October 2010, which was recorded as interest expense of $73,698 on our books, based on the fair value of those shares on the issuance date.

 
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The Equipment Notes may be converted to restricted ONSM common shares at any time prior to their maturity date, at the holder’s option, based on a conversion price equal to seventy-five percent (75%) of the average ONSM closing price for the thirty (30) trading days prior to the date of conversion, but in no event may the conversion price be less than $4.80 per share. In the event the Notes are converted prior to maturity (June 3, 2011), interest on the Equipment Notes for the remaining unexpired loan period will be due and payable in additional restricted ONSM common shares in accordance with the same formula for interest as described above.

During August 2009, CCJ Trust (“CCJ”) remitted $200,000 to us as a short term advance bearing interest at 0.022% per day (equivalent to approximately 8% per annum) until the date of repayment or unless the parties mutually agreed to another financing transaction(s) prior to repayment. This advance was included in accounts payable on our September 30, 2009 balance sheet. On December 29, 2009, we entered into an agreement with CCJ whereby accrued interest through that date of $5,808 was paid by us in cash and the $200,000 advance was converted to an unsecured subordinated note payable at a rate of 8% interest per annum in equal monthly installments of principal and interest for 48 months plus a $100,000 principal balloon at maturity (the “CCJ Note”) although none of those payments were subsequently made by us. To resolve this payment default, the CCJ Note was amended in January 2011 to prospectively increase the interest rate to 10% per annum, payable quarterly, and to require two principal payments of $100,000 each on December 31, 2011 and December 31, 2012, respectively. This amendment also called for our cash payment of the previously accrued interest in the amount of $16,263 on or before January 31, 2011. The remaining principal balance of this note may be converted at any time into our common shares at the greater of (i) the previous 30 day market value or (ii) $2.00 per share (which was $3.00 per share prior to the January 2011 renegotiation).
 
In conjunction with and in consideration of the December 2009 note transaction, the 35,000 shares of Series A-12 held by CCJ at that date were exchanged for 35,000 shares of Series A-13 plus four-year warrants for the purchase of 175,000 ONSM common shares at $3.00 per share. In conjunction with and in consideration of the January 2011 note amendment, it was agreed that certain terms of the 35,000 shares of Series A-13 held by CCJ at that date would be modified.
 
The effective interest rate of the CCJ Note prior to the January 2011 amendment was approximately 47.4% per annum, including the Black-Scholes value of the warrants plus the value of the increased number of common shares underlying the Series A-13 shares versus the Series A-12 shares. The effective rate of 47.4% per annum also included 11.2% per annum related to dividends that would have accrued to CCJ as a result of the later mandatory conversion date of the Series A-13 shares versus the mandatory conversion date of the Series A-12 shares. Following the January 2011 amendment, the effective interest rate of the CCJ Note increased to approximately 78.5% per annum, to reflect the value of the increased value of common shares underlying the Series A-13 shares as a result of the modified terms as well as the increase in the periodic cash interest rate from 8% to 10% per annum. The effective rate of 78.5% per annum also includes 9.3% per annum related to dividends that could accrue to CCJ as a result of the later mandatory conversion date of the Series A-13 shares as a result of the modified terms.

Projected capital expenditures for the twelve months ended September 30, 2011 total approximately $1.3 million which includes software and hardware upgrades to the DMSP, the webcasting system (including iEncode) and the audio and web conferencing infrastructure, as well as costs of software development and hardware costs in connection with the introduction and establishment of the MarketPlace365 platform. This total includes at least $550,000 of projected capital expenditures which we have determined may be financed, deferred past the twelve month period or cancelled entirely, depending on our other cash flow considerations. This total excludes approximately $270,000 reflected by us as accounts payable at September 30, 2010, primarily representing amounts that are presently the subject of litigation and which will not be reflected as capital expenditures in our cash flow statement until paid.

 
28

 

We have estimated that we would require an approximately 7-8% increase in our consolidated revenues, as compared to our revenues for the twelve months ended September 30, 2010, in order to adequately fund our anticipated operating cash expenditures for the next twelve months (including cash interest expense and a basic level of capital expenditures).  Due to seasonality, this increase would be accomplished if we were to achieve average revenues over the next four quarters equivalent to the revenues for the third quarter of fiscal 2010. We have estimated that, in addition to this revenue increase, we will also require additional debt or equity financing of approximately $1.5 to $2.0 million (in addition to recent sales of common and preferred shares discussed above) over the next twelve months to satisfy principal repayments due against existing debt (other than debt repaid from the proceeds of recent sales of common and preferred shares discussed below) as well as past due trade payables that we believe are necessary to pay to continue our operations. However, approximately $1.0 million of this $1.5 to $2.0 million would not be required until June 2011.

If we were to achieve revenue increases in excess of this 7-8%, or if any of our lenders elected to convert a portion of the existing debt to equity as allowed for under its terms, the required financing could be less than this $1.5 to $2.0 million. However, if we did not achieve these revenue increases, or if our operating expenses, cash interest or capital expenditures were higher than anticipated over the next twelve months, the required financing could be greater than this $1.5 to $2.0 million.

We have implemented and continue to implement specific actions, including hiring additional sales personnel, developing new products and initiating new marketing programs, geared towards achieving revenue increases. The costs associated with these actions were contemplated in the above calculations.  However, in the event we are unable to achieve the required revenue increases, we believe that a combination of identified decreases in our current level of expenditures that we would implement and the raising of additional capital in the form of debt and/or equity that we believe we could obtain from identified sources would be sufficient to allow us to operate for the next twelve months. We will closely monitor our revenue and other business activity to determine if further cost reductions, the raising of additional capital, or other activity is considered necessary.

A prospectus allowing us to offer and sell up to $6.6 million of our registered common shares (“Shelf Registration”) was declared effective by the SEC on April 30, 2010. In connection with the LPC Purchase Agreement 1.6 million common shares (including shares issuable upon conversion of preferred shares) were included in a prospectus supplement filed by us on September 17, 2010 with the SEC as a takedown under the Shelf Registration. However, there is no assurance that we will sell additional shares to LPC under the Purchase Agreement or that we will sell additional shares under the Shelf Registration, or if we do make such sales what the timing or proceeds will be. In addition, we may incur fees in connection with such sales. Furthermore, sales under the Shelf Registration that exceed in aggregate twenty percent (20%) of our outstanding shares would be subject to prior shareholder approval.

On January 4, 2011, we received a funding commitment letter (the “Funding Letter”) from J&C Resources, Inc. (“J&C”) irrevocably agreeing to provide us, within twenty (20) days after our notice given on or before December 31, 2011, aggregate cash funding of up to $500,000, which may be requested in multiple tranches. Mr. Charles Johnston, one of our directors, is the president of J&C. This Funding Letter was obtained by us solely to demonstrate our ability to obtain short-term funds in the event other funding sources are not available, but does not represent any obligation on our part to accept such funding on these terms and is not expected by us to be exercised. The cash provided under the Funding Letter would be in exchange for our issuance of (a) a note or notes with interest payable monthly at 15% per annum and principal payable on the earlier of a date twelve months from funding or July 1, 2012 and (b) our issuance of 1 million unregistered common shares, which shares would be prorated in the case of partial funding. The note or notes would be unsecured and subordinated to all of our other debts, except to the extent such the terms of such debts would allow pari passu status. Furthermore, the note or notes would not be subject to any provisions, other than with respect to priority of payments or collateral, of our other debts. Upon receipt by us of an equivalent amount in dollars of investment from any other source after the date of this Funding Letter, other than funding received in connection with the LPC Purchase Agreement, this Funding Letter will be terminated.

 
29

 

We have incurred losses since our inception, and have an accumulated deficit of approximately $123.4 million as of September 30, 2010. Our operations have been financed primarily through the issuance of equity and debt. Cash required to fund our continued operations will be affected by numerous known and unknown risks and uncertainties including, but not limited to, our ability to successfully market and sell the DMSP, iEncode and MarketPlace365 as well as our other existing products and services, the degree to which competitive products and services are introduced to the market, our ability to control and/or reduce expenses, our need to invest in new equipment and/or technology, and our ability to service and/or refinance our existing debt and accounts payable. We cannot assure that our revenues will continue at their present levels, nor can we assure that they will not decrease.

As long as our cash flow from sales remains insufficient to completely fund operating expenses, financing costs and capital expenditures, we will continue depleting our cash and other financial resources. Other than working capital which may become available to us from further borrowing or sales of equity (including but not limited to proceeds from the LPC Purchase Agreement, Shelf Registration or Funding Letter, as discussed above), we do not presently have any additional sources of working capital other than cash on hand and cash, if any, generated from operations. As a result of the uncertainty as to our available working capital over the upcoming months, we may be required to delay or cancel certain of the projected capital expenditures, some of the planned marketing expenditures, or other planned expenses. In addition, it is likely that we will need to seek additional capital through equity and/or debt financing.  If we raise additional capital through the issuance of debt, this will result in increased interest expense. If we raise additional funds through the issuance of equity or convertible debt securities, the percentage ownership of our company held by existing shareholders will be reduced and those shareholders may experience significant dilution.

Our continued existence is dependent upon our ability to raise capital and to market and sell our services successfully. However, there are no assurances whatsoever that we will be able to sell additional common shares or other forms of equity under the LPC Purchase Agreement, the Shelf Registration or otherwise and/or that we will be able to borrow further funds under the Funding Letter or otherwise and/or that we will increase our revenues and/or control our expenses to a level sufficient to provide positive cash flow.

Cash used in operating activities was approximately $197,000 for the year ended September 30, 2010, as compared to approximately $322,000 provided by operations for the prior fiscal year. The $197,000 reflects our net loss of approximately $9.3 million, reduced by approximately $9.1 million of non-cash expenses included in that loss and reduced by approximately $14,000 arising from a net decrease in non-cash working capital items during the period. The net decrease in non-cash working capital items for the year ended September 30, 2010 is primarily due to an approximately $715,000 increase in accounts payable, accrued liabilities and amounts due to directors and officers, offset by an approximately $768,000 increase in accounts receivable. This compares to a net decrease in non-cash working capital items of approximately $1.0 million for the corresponding period of the prior fiscal year, primarily due to an approximately $940,000 increase in accounts payable, accrued liabilities amounts due to directors and officers. The primary non-cash expenses included in our loss for the year ended September 30, 2010 were $4.7 million arising from a charge for impairment of goodwill and other intangible assets, approximately $1.9 million of depreciation and amortization, approximately $816,000 of employee compensation expense arising from the issuance of stock and options and approximately $796,000 of amortization of deferred professional fee expenses paid for by issuing stock and options. The primary sources of cash inflows from operations are from receivables collected from sales to customers.  Future cash inflows from sales are subject to our pricing and ability to procure business at existing market conditions.

 
30

 

Cash used in investing activities was approximately $1.3 million for the year ended September 30, 2010 as compared to approximately $1.4 million for the prior fiscal year. Current and prior period investing activities primarily related to the acquisition of property and equipment.

Cash provided by financing activities was approximately $1.8 million for the year ended September 30, 2010 as compared to approximately $1.0 million for the prior fiscal year. Current and prior year financing activities primarily related to net proceeds from notes payable and convertible debentures, net of repayments. The current year also included proceeds from the sale of common stock and A-14 preferred shares and the prior year also included proceeds from the sale of A-12 preferred shares.

Critical Accounting Policies and Estimates

Our consolidated financial statements have been prepared in accordance with United States generally accepted accounting principles (“GAAP”) and our significant accounting policies are described in Note 1 to those statements.  The preparation of financial statements in accordance with GAAP requires that we make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying footnotes.  Our assumptions are based on historical experiences and changes in the business environment.  However, actual results may differ from estimates under different conditions, sometimes materially.  Critical accounting policies and estimates are defined as those that are both most important to the management’s most subjective judgments.  Our most critical accounting policies and estimates are described as follows.

Our prior acquisitions of several businesses, including the Onstream Merger and the Infinite Merger, have resulted in significant increases in goodwill and other intangible assets. Goodwill and other unamortized intangible assets, which include acquired customer lists, were approximately $13.7 million at September 30, 2010, representing approximately 66% of our total assets and approximately 117% of the book value of shareholder equity. In addition, property and equipment as of September 30, 2010 includes approximately $2.0 million (net of depreciation) related to the DMSP and other capitalized internal use software, representing approximately 10% of our total assets and approximately 17% of the book value of shareholder equity.

In accordance with GAAP, we periodically test these assets for potential impairment.  As part of our testing, we rely on both historical operating performance as well as anticipated future operating performance of the entities that have generated these intangibles.  Factors that could indicate potential impairment include a significant change in projected operating results and cash flow, a new technology developed and other external market factors that may affect our customer base.  We will continue to monitor our intangible assets and our overall business environment. If there is a material adverse and ongoing change in our business operations (or if an adverse change initially considered temporary is determined to be ongoing), the value of our intangible assets, including those of our DMSP or Infinite divisions, could decrease significantly. In the event that it is determined that we will be unable to successfully market or sell our DMSP or audio and web conferencing services, an impairment charge to our statement of operations could result. Any future determination requiring the write-off of a significant portion of unamortized intangible assets, although not requiring any additional cash outlay, could have a material adverse effect on our financial condition and results of operations.
 
We follow a two step process for impairment testing of goodwill. The first step of this test, used to identify potential impairment and described above, compares the fair value of a reporting unit with its carrying amount, including goodwill. The second step, if necessary, measures the amount of the impairment, including a comparison and reconciliation of the carrying value of all of our reporting units to our market capitalization, after appropriate adjustments for control premium and other considerations. If our market capitalization, after appropriate adjustments for control premium and other considerations, is determined to be less than our net book value (i.e., stockholders’ equity as reflected in our financial statements), that condition might indicate an impairment requiring the write-off of a significant portion of unamortized intangible assets, although not requiring any additional cash outlay, could have a material adverse effect on our financial condition and results of operations.

 
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As the result of a recent decline in the price of our common stock from $1.04 per share as of September 30, 2010 to $0.76 per share as of December 23, 2010, it appears that our market value (after certain adjustments as discussed above) may be less than our net book value as of December 31, 2010. If the price of our common stock and our market value were to remain at the same levels, or decline, such condition could result in future non-cash impairment charges to our results of operations related to our goodwill and other intangible assets arising either from an interim impairment review as of December 31, 2010 or from our next scheduled recurring annual impairment review, as of September 30, 2011. We will closely monitor and evaluate all such factors as of December 31, 2010 and subsequent periods, in order to determine whether to record future non-cash impairment charges.

ITEM 8.                                FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

Our financial statements are contained in pages F-1 through F-63, which appear at the end of this annual report.

ITEM 9.
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

Effective January 1, 2010, Goldstein Lewin & Co. (“Goldstein Lewin”), our independent certifying accountant and the principal accountant engaged to audit our September 30, 2009 financial statements, consummated a sale of its attest practice (the “Accounting Firm Transaction”) to Mayer Hoffman McCann P.C. (“MHM”).  As a result, the Audit Committee of our Board of Directors has engaged MHM to serve as our new independent certifying accountant with respect to our September 30, 2010 financial statements.

The audit report of Goldstein Lewin on our financial statements for the fiscal year ended September 30, 2009 expressed an unqualified opinion.  Such audit report did not contain an adverse opinion or disclaimer of opinion or qualification.  During our two most recent fiscal years ending September 30, 2009 and the period thereafter through the date of the Accounting Firm Transaction, there were no disagreements with Goldstein Lewin on any matter of accounting principles or practices, financial statement disclosure or auditing scope or procedure, which, if not resolved to the satisfaction of Goldstein Lewin, would have caused such entity to make reference to such disagreements in its reports.  During our two most recent fiscal years ending September 30, 2009 and through the date of the Accounting Firm Transaction, no “reportable events” (as described in Item 304(a)(1)(v) of Regulation S-K) occurred that would be required by Item 304(a)(1)(v) to be disclosed in this report.

During our two most recent fiscal years ending September 30, 2009 and the period thereafter through the date of the Accounting Firm Transaction, neither we, nor anyone on our behalf, consulted MHM regarding:  (i) the application of accounting principles to a specific completed or proposed transaction; (ii) the type of audit opinion that might be rendered on our financial statements; or (iii) any matter that was either the subject of a disagreement (as defined in Rule 304(a)(1)(iv) of Regulation S-K promulgated under the Securities Act of 1933, as amended) or a reportable event (as defined in Rule 304(a)(1)(v) of Regulation S-K).

 
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ITEM 9A (T).    CONTROLS AND PROCEDURES

Management’s report on disclosure controls and procedures:

As required by Rule 13a-15 under the Securities Exchange Act of 1934, as of the end of the period covered by the annual report, being September 30, 2010, we have carried out an evaluation of the effectiveness of the design and operation of our company's disclosure controls and procedures. This evaluation was carried out under the supervision and with the participation of our company's management, including our company's President along with our company's Chief Financial Officer. Based upon that evaluation, our company's President along with our company's Chief Financial Officer concluded that our company's disclosure controls and procedures are effective.

Disclosure controls and procedures and other procedures that are designed to ensure that information required to be disclosed in our reports filed or submitted under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported, within the time period specified in the Securities and Exchange Commission's rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed in our reports filed under the Securities Exchange Act of 1934 is accumulated and communicated to management including our President and Chief Financial Officer as appropriate, to allow timely decisions regarding required disclosure.

Management’s report on internal control over financial reporting:

We are responsible for establishing and maintaining adequate internal control over financial reporting. Internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of external financial statements in accordance with generally accepted accounting principles. However, all internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation. Because of 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.

As required by Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934, as of the end of the period covered by the annual report, being September 30, 2010, we have carried out an evaluation of the effectiveness of the design and operation of our company's internal control over financial reporting. This evaluation was carried out under the supervision and with the participation of our company's management, including our company's President along with our company's Chief Financial Officer and was based on the criteria set forth in “Internal Control – Integrated Framework”, issued by the Committee of Sponsoring Organizations of the Treadway Commission (‘COSO”). This evaluation included review of the documentation of controls, evaluation of the design effectiveness of controls and testing of the operating effectiveness of controls. Based upon that evaluation, our company's President along with our company's Chief Financial Officer concluded that our company's internal control over financial reporting is effective. Based upon that evaluation, no change in our company's internal controls over financial reporting has occurred during the quarter then ended, which has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

ITEM 9B.
OTHER INFORMATION

None.

 
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PART III

ITEM 10.
DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE

Executive Officers and Directors

Our executive officers and directors, and their ages are as follows:
         
Name
 
Age
 
Position
         
Randy S. Selman
 
54
 
Chairman of the Board, President and Chief Executive Officer
Alan M. Saperstein
 
51
 
Director and Chief Operating Officer
Robert E. Tomlinson
 
53
 
Senior Vice President and Chief Financial Officer
Clifford Friedland
 
59
 
Senior Vice President Business Development
David Glassman
 
59
 
Senior Vice President and Chief Marketing Officer
Charles C. Johnston  (1)(2)(3)
 
75
 
Director
Carl L. Silva (1)(2)(3)(4)
 
47
 
Director
Leon Nowalsky (2)(3)
  
49
  
Director

(1)
Member of the Audit Committee.
(2)
Member of the Compensation Committee.
(3)
Member of the Governance and Nominating Committee.
(4)
Member of the Finance Committee.

Randy S. Selman. Mr. Selman has served as our Chairman of the Board, President and Chief Executive Officer since our inception in May 1993 and, from September 1996 through June 1999 and from August 1, 2004 through December 15, 2004, has also been our Chief Financial Officer.  From March 1985 through May 1993, Mr. Selman was Chairman of the Board, President and Chief Executive Officer of SK Technologies Corporation (NASDAQ:SKTC), a software development company. SKTC developed and marketed software for point-of-sale with complete back office functions such as inventory, sales analysis and communications.  Mr. Selman founded SKTC in 1985 and was involved in their initial public offering in 1989.  Mr. Selman's responsibilities included management of SKTC, public and investor relations, finance, high level sales and general overall administration.

The primary experience, qualifications, attributes and skills that led us to conclude that Mr. Selman should currently serve as a director, in light of our business and structure, are as follows: executive management, sales and software development industry experience with SKTC and executive management and public and investor relations experience with ONSM.

Alan M. Saperstein.  Mr. Saperstein has served as our Executive Vice President and a director since our inception in May 1993, and has also been our Chief Operating Officer since December 2004. From March 1989 until May 1993, Mr. Saperstein was a free-lance producer of video film projects.  Mr. Saperstein has provided consulting services for corporations that have set up their own sales and training video departments.  From 1983 through 1989, Mr. Saperstein was the Executive Director/Entertainment Division of NFL Films where he was responsible for supervision of all projects, budgets, screenings and staffing.

The primary experience, qualifications, attributes and skills that led us to conclude that Mr. Saperstein should currently serve as a director, in light of our business and structure, are as follows: video and film industry experience with NFL Films and executive management and webcasting and digital media operations experience with ONSM.

 
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Robert E. Tomlinson. On December 15, 2004 Mr. Tomlinson was appointed as our Chief Financial Officer.  Mr. Tomlinson joined us as Vice President-Finance in September 2004. Mr. Tomlinson started his financial and accounting career in 1977 with the international accounting firm of Price Waterhouse. In 1982 he left that firm to join Embraer, an international aircraft manufacturing and support firm, at their U.S. subsidiary in Fort Lauderdale, Florida, where he managed all financial functions and eventually was named Senior Vice President-Finance and a member of the U.S. firm’s Board of Directors. Mr. Tomlinson left Embraer in 1994 and joined staffing and human resource firm OutSource International, serving as its Chief Financial Officer and helping to take the company public in 1997. Mr. Tomlinson's areas of responsibility at OutSource International included corporate accounting, treasury and risk management. From when he left OutSource International in February 2000 until 2002 he worked as an independent certified public accountant, focusing on accounting and tax services to corporations. From 2002 until joining us, Mr. Tomlinson served as CFO for Total Travel and Tickets, a Fort Lauderdale based ticket broker.  Mr. Tomlinson has held an active Certified Public Accountant license since 1978.

Clifford Friedland. Mr. Friedland was appointed as a member of our Board of Directors in December 2004.  He continued as a board member until his resignation from the board in June 2010, although he continued as Senior Vice President, Business Development. Mr. Friedland’s voluntary resignation was to restore our board to the required majority of independent members, following the death of another board member. He served as Chairman, CEO and co-founder of Acquired Onstream from June 2001 until joining our company. Mr. Friedland was Vice President of Business Development and co-founder of TelePlace, Inc., a developer and owner of internet data centers and central offices from December 1999 to May 2001. Mr. Friedland was co-founder, Chairman and co-CEO of Long Distance International, Inc., one of the first competitive European telephone operators from May 1993 to December 1999. Mr. Friedland was President of Clifford Friedland Inc., a technology consulting firm, from January 1991 to April 1993. Mr. Friedland was a Director and co-founder of Action Pay-Per-View, a pay per view cable channel from January 1988 to December 1990. Mr. Friedland was President and co-founder of Long Distance America, one of the first competitive long distance operators after the breakup of AT&T from June 1984 to December 1987. Mr. Friedland was Vice President and co-founder of United States Satellite Systems, Inc., an FCC licensed builder and operator of geosynchronous communications satellites from April 1981 until December 1983. Mr. Friedland was Director and co-founder of United Satellite Communications, Inc., the world’s first direct-to-home satellite network from April 1981 until May 1984.

David Glassman. Mr. Glassman has served as our Chief Marketing Officer since December 2004. He served as Vice Chairman, President and co-founder of Acquired Onstream from June 2001 until joining our company. Mr. Glassman was Vice President of Marketing and co-founder of TelePlace, Inc., a developer and owner of internet data centers and central offices from December 1999 to May 2001. Mr. Glassman was co-founder, Vice Chairman and Co-CEO of Long Distance International, Inc., one of the first competitive European telephone operators from May 1993 to December 1999. Mr. Glassman was an independent technology consultant from January 1988 to April 1993, with a client list that included Action Pay Per View. Mr. Glassman was President and co-founder of Long Distance America, one of the first competitive long distance operators after the breakup of AT&T from January 1984 to December 1987. Mr. Glassman was a communications consultant from January 1981 to January 1984 providing services to United States Satellite Systems Inc. and United Satellite Communications Inc. Mr. Glassman was co-founder and director of All American Hero, Inc., a fast food franchisor, from January 1981 until December 1986.

 
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Charles C. Johnston. Mr. Johnston has been a member of our Board of Directors since April 2003 and serves on our Audit (as Chairman), Compensation and Governance and Nominating Committees. Mr. Johnston has been the Chairman of Ventex Technology, Inc., a privately-held neon light transformer company, since July 1993. Mr. Johnston has also served as Chairman of Inshore Technologies, a private company, since 1994 and J&C Resources, a private company, since 1987. Mr. Johnston has been a member of the board of directors of AuthentiDate Holding Company (Nasdaq National Market: ADAT), Internet Commerce Corporation (Nasdaq National Market: ICCA), McData Corporation (Nasdaq National Market: MCDT), Grumman Corporation and Teleglobe Corporation. Mr. Johnston serves as a Trustee of Worcester Polytechnic Institute, where he earned his Bachelor of Science degree.

The primary experience, qualifications, attributes and skills that led us to conclude that Mr. Johnston should currently serve as a director, in light of our business and structure, are as follows: management and board experience at public technology-oriented companies (ADAT, ICCA, MCDT, Grumman, Teleglobe) and management experience in other technology-oriented firms (Ventex, Inshore).

Carl Silva.  Mr. Silva, who has been a member of our Board of Directors since July 2006, serves on our Audit, Compensation (as Chairman), Governance and Nominating and Finance Committees. Mr. Silva has over 25 years of experience in the telecommunications and high tech industry, and he has held a variety of positions in business development, sales, marketing, software engineering, and systems engineering during this time. Mr. Silva is currently Chief Scientist and VP of Technology for Nexaira Wireless, Inc. (NXWI.OB), a 3G/4G Router company. Prior to this Mr. Silva was CEO of Conigen Business Systems, Inc. (NASDAQ: CNGW), a managed service provider for small to mid-size businesses for Voice over IP and high speed Internet. In May 2003, Mr. Silva started Anza Borrego Partners (ABP) as a management consulting firm designed to support entrepreneurs in the growth of their businesses.  Mr. Silva was Senior Vice-President for SAIC’s Converged Network Professional services organization from July 1998 to May 2003.  From September 1994 to June 1998, he was with Telcordia Technologies (formerly Bell Communications Research, or Bellcore), where he implemented the first VoIP softswitch in the cable industry.

The primary experience, qualifications, attributes and skills that led us to conclude that Mr. Silva should currently serve as a director, in light of our business and structure, are as follows: over 25 years of experience in the telecommunications and high tech industry, most notably at Nexaira, Conigen and SAIC.

Leon Nowalsky.  Mr. Nowalsky was appointed a member of our Board of Directors in December 2007 and serves on our Compensation and Governance and Nominating (as Chairman) Committees. Mr. Nowalsky, a partner in the New Orleans-based law firm of Nowalsky, Bronston & Gothard APLLC (NBG), possesses over 20 years experience in the field of telecommunications law and regulation. Mr. Nowalsky presently is a founder and board member of Thermo Credit, LLC, a specialty finance company for the telecommunications industry and J.C. Dupont, Inc., a Louisiana based oil and gas concern. Mr. Nowalsky has been general counsel for Telemarketing Communications of America, Inc., (“TMC”), as well as lead counsel in TMC’s mergers and acquisitions program, and following TMC’s acquisition by a wholly owned subsidiary of Advanced Telecommunications Corporation, Mr. Nowalsky served as ATC’s chief regulatory counsel as well as interim general counsel.  In 1990, Mr. Nowalsky left ATC to set up a private law practice specializing in telecommunications regulatory matters, mergers and acquisitions and corporate law, which later expanded to become NBG. Mr. Nowalsky has previously served as a director of the following companies: Network Long Distance, Inc., a long distance company which was acquired by IXC Communications; RFC Capital Corp., a specialty finance company dedicated exclusively to the telecommunications industry which was purchased in 1999 by TFC Financial Corp., a division of Textron (NYSE:TXT); and New South Communications, a facilities-based competitive local exchange carrier which merged to form NUVOX, which was subsequently acquired by Windstream; W2Com, LLC, a video conferencing and distance learning provider which was acquired by Arel Communications & Software, Ltd. (NASDAQ: ARLC).

The primary experience, qualifications, attributes and skills that led us to conclude that Mr. Nowalsky should currently serve as a director, in light of our business and structure, are as follows: over 20 years experience in the field of telecommunications law and regulation, most notably at TMC and ATC, as well his currently active private law practice specializing in telecommunications regulatory matters, mergers and acquisitions and corporate law.

 
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There is no family relationship between any of the executive officers and directors.  Each director is elected at our annual meeting of shareholders and holds office until the next annual meeting of shareholders, or until his successor is elected and qualified.  The bylaws permit the board of directors to fill any vacancy and such director may serve until the next annual meeting of shareholders or until his successor is elected and qualified.  The board of directors elects officers annually and their terms of office are at the discretion of the Board. Our officers devote full time to our business.

Rule 5605(b)(1) of the NASDAQ Listing Rules to which we are subject requires that a majority of the members of our board of directors are independent as defined in Rule 5605((a)(2) of the NASDAQ Listing Rules. Our independent directors are Messrs. Johnston, Silva and Nowalsky.

Expansion of our Board of Directors

 Our bylaws provide that the number of directors shall be no less than two and no more than nine. Our Board of Directors currently consists of five directors.

Director Compensation Table

The following table presents director compensation (excluding directors who are Named Executive Officers) for the year ended September 30, 2010:

                           
CHANGE IN
             
                           
PENSION VALUE
             
   
FEES EARNED
               
NON-EQUITY
   
AND NONQUALIFIED
             
   
OR PAID IN
   
STOCK
   
OPTION
   
INCENTIVE PLAN
   
DEFERRED
   
ALL OTHER
   
TOTAL
 
   
CASH
   
AWARDS
   
AWARDS
   
COMPENSATION
   
COMPENSATION
   
COMPENSATION
   
COMPENSATION
 
NAME
 
($) (1)
   
($)
   
($) (3)
   
($)
   
EARNINGS ($)
   
($)
   
($)
 
                                           
Robert J. Wussler (4)
 
$ 10,208
   
-0-
   
$ 29,972(2)
   
-0-
   
-0-
   
-0-
   
$ 40,180
 
Charles C. Johnston (4)
 
$ 15,000
   
-0-
   
$ 29,972(2)
   
-0-
   
-0-
   
-0-
   
$ 44,972
 
Carl L. Silva (4)
 
$ 15,000
   
-0-
   
-0-
   
-0-
   
-0-
   
-0-
   
$ 15,000
 
Leon Nowalsky (4)
 
$ 15,000
   
-0-
   
-0-
   
-0-
   
-0-
   
-0-
   
$ 15,000
 

1)
Directors who are not our employees received $3,750 per quarter as compensation for serving on the Board of Directors, as well as reimbursement of reasonable out-of-pocket expenses incurred in connection with their attendance at Board of Directors meetings. Mr. Wussler passed away on June 5, 2010 and his services as a director were paid for through that date.

2)
In December 2004, and in connection with the Onstream Merger, Messrs. Wussler and Johnston each received immediately exercisable five-year Non-Plan options to purchase 16,667 shares of our common stock with an exercise price of $9.42 per share (fair market value on the date of issuance). On August 11, 2009, our Compensation Committee granted 13,352 fully vested five-year Plan Options (6,676 each) to Messrs. Wussler and Johnston in exchange for the cancellation of an equivalent number of these Non-Plan Options held by them and expiring in December 2009, with no change in the exercise price, which was in excess of the market value of an ONSM share as of August 11, 2009. As a result of this cancellation and the corresponding issuance, we recognized non-cash professional fee (director compensation) expense of approximately $12,760 ($6,380 each) for the year ended September 30, 2009, which represented the full valuation of the related options using the Black-Scholes model. On December 17, 2009, our Compensation Committee granted 19,982 fully vested five-year Plan Options (9,991 each) to Messrs. Wussler and Johnston in exchange for the cancellation of an equivalent number of these Non-Plan Options held by them and expiring in December 2009, with no change in the exercise price, which was in excess of the market value of an ONSM share as of the grant date. As a result of this cancellation and the corresponding issuance, we recognized non-cash professional fee (director compensation) expense of approximately $59,944 ($29,972 each) for the year ended September 30, 2010, which represented the full valuation of the related options using the Black-Scholes model.

 
37

 
 
No other options were issued to the directors who were not also Named Executive Officers during the year ended September 30, 2010.

3)
From time to time we issue the members of our Board of Directors options to purchase shares of our common stock as compensation for their services as directors. At September 30, 2010 members of our Board of Directors (excluding those who are Named Executive Officers) held outstanding options to purchase an aggregate of 33,333 shares of our common stock at prices ranging from $4.26 to $9.42 per share. In addition to the 16,667 options held by Mr. Johnston as discussed above, 16,666 options are still held as follows:

Mr. Johnston holds immediately exercisable five-year Plan options to purchase 8,333 shares of our common stock with an exercise price of $4.26 per share (above fair market value on the date of issuance), issued to him in September 2006. 

Mr. Leon Nowalsky holds immediately exercisable four-year Plan options to purchase 8,333 shares of our common stock with an exercise price of $6.00 per share (above fair market value on the date of issuance), granted to him in December 2007 to upon his initial appointment to our Board of Directors.

4)
In addition to the allocation of a percentage of the Company Sale Price to the Executives, as discussed in Item 11 - Executive Compensation below, on August 11, 2009 our Compensation Committee determined that an additional two percent (2.0%) of the Company Sale Price would be allocated, on the same terms, to the then four outside members of our Board of Directors (0.5% each), as a supplement to provide appropriate compensation for ongoing services as a director and as a termination fee. On June 5, 2010, one of the four outside Directors passed away and we are still in the process of evaluating independent candidates to fill the resulting Board vacancy.

Board of Directors Meetings and Committees

The Board of Directors meets regularly (in-person and/or by telephone conference) during the year to review matters affecting us and to act on matters requiring Board approval and it also holds special meetings whenever circumstances require. In addition, it may act by written consent. During the fiscal year ended September 30, 2010, there were nine meetings of the Board, and the Board took action eleven times by written consent. The Board of Directors has four standing committees as discussed below and may, from time to time, establish additional committees.

 
38

 
 
Board leadership structure and role in risk oversight

The Board’s leadership structure combines the positions of chairman and CEO, which we have determined to be appropriate, given our specific characteristics and circumstances. In particular, our chairman and CEO is able to utilize the in-depth focus and perspective as a company co-founder and his practical experience gained during several years of running the company since its founding to effectively and efficiently guide the Board. The Board has not designated a lead independent director, since it has determined that our chairman closely interacts with the other members of the Board, particularly the independent directors, in fulfilling his responsibilities as chairman and CEO. Although it is management’s responsibility to assess and manage the various risks we face, it is the Board’s responsibility to oversee management in this effort. The Board administers its risk oversight function by appropriate discussions with the CEO, CFO and other members of management during meetings of the Board and at other times.

Audit Committee

The Audit Committee of the Board of Directors is responsible for the engagement of our independent public accountants, approves services rendered by our accountants, reviews the activities and recommendations of our internal audit department, and reviews and evaluates our accounting systems, financial controls and financial personnel. The Board has previously adopted a charter for the Audit Committee. Pursuant to the requirements of the Securities and Exchange Commission which requires that we provide our shareholders with a copy of the Audit Committee Charter at least once every three years, we have included a copy of the Audit Committee Charter as Appendix C to our proxy statement for our 2010 Annual Meeting filed with the SEC on February 19, 2010.

The Audit Committee is presently composed of Messrs. Johnston (chairman) and Silva. Each member of the Audit Committee is independent, as independence for audit committee members is defined in the listing standards of the NASDAQ Stock Market and they are “audit committee financial experts” within the meaning of the applicable regulations of the Securities and Exchange Commission promulgated pursuant to the Sarbanes-Oxley Act of 2002. The Audit Committee met (in-person and/or by telephone conference) four times and acted by written consent two times in fiscal 2010.

We are currently not compliant with NASDAQ’s minimum audit committee size requirement of three independent members, as set forth in Listing Rule 5605 (c) (2) (a) (the “Rule”), for which compliance is necessary in order to be eligible for continued listing on the NASDAQ Capital Market. On June 24, 2010, we received a letter from NASDAQ stating that unless we regain compliance with the Rule as of the earlier of our next annual shareholders’ meeting or June 5, 2011, our common stock will be subject to immediate delisting. Until that time, our shares will continue to be listed on the NASDAQ Capital Market.

On June 14, 2010, we were notified that Mr. Robert J. Wussler, who was then a director and a member of our audit committee, had passed away on June 5, 2010. He has not at the present time been replaced on the audit committee, which currently has two independent members. We are in the process of evaluating independent candidates to fill the vacancy left as a result of Mr. Wussler’s passing, both on the Board as well as the audit committee. We will make that selection as soon as possible.

Compensation Committee

The Compensation Committee establishes and administers our executive and director compensation practices and policies, including the review of the individual elements of total compensation for executive officers and directors and recommendation of adjustments to the Board of Directors.  In addition, the Compensation Committee administers our 1996 Stock Option Plan and our 2007 Equity Incentive Plan and determines the number of performance shares and other equity incentives awarded to executives and directors (as well as all other employees) and the terms and conditions of which they are granted and  recommends plans and plan amendments to the Board.  The Compensation Committee is presently composed of Messrs. Silva (chairman), Johnston and Nowalsky. The Compensation Committee met (in-person and/or by telephone conference) one time in fiscal 2010.

 
39

 
 
The Compensation Committee has the responsibility to review, recommend, and approve all executive officer compensation arrangements. The Compensation Committee has the specific responsibility and authority to (i) review and approve corporate goals and objectives relevant to the compensation of our Chief Executive Officer (“CEO”), (ii) evaluate the performance of our CEO in light of those goals and objectives, and (iii) determine and approve the compensation level of our CEO based upon that evaluation. The Compensation Committee also has the responsibility to annually review the compensation of our other executive officers and to determine whether such compensation is reasonable under existing facts and circumstances. In making such determinations, the Compensation Committee seeks to ensure that the compensation of our executive officers aligns the executives’ interests with the interests of our shareholders. The Compensation Committee must also review and approve all forms of incentive compensation, including stock option grants, stock grants, and other forms of incentive compensation granted to our executive officers. The Compensation Committee takes into account the recommendations of our CEO in reviewing and approving the overall compensation of the other executive officers.

We believe that the quality, skills, and dedication of our executive officers are critical factors affecting our long-term value and success. Thus, one of our primary executive compensation goals is to attract, motivate, and retain qualified executive officers. We seek to accomplish this goal by rewarding past performance, providing an incentive for future performance, and aligning our executive officers’ long-term interests with those of our shareholders. Our compensation program is specifically designed to reward our executive officers for individual performance, years of experience, contributions to our financial success, and creation of shareholder value. Our compensation philosophy is to provide overall compensation levels that (i) attract and retain talented executives and motivate those executives to achieve superior results, (ii) align executives’ interests with our corporate strategies, our business objectives, and the long-term interests of our shareholders, and (iii) enhance executives’ incentives to increase our stock price and maximize shareholder value. In addition, we strive to ensure that our compensation, particularly salary compensation, is consistent with our constant focus on controlling costs. Our primary strategy for building senior management depth is to develop personnel from within our company to ensure that our executive team as a whole remains dedicated to our customs, practices, and culture, recognizing, however, that we may gain talent and new perspectives from external sources.

Our compensation program for executive officers generally consists of the following five elements: (i) base salary, (ii) performance-based annual bonus (currently equity based) determined primarily by reference to objective financial and operating criteria, (iii) long-term equity incentives in the form of stock options and other stock-based awards or grants, (iv) specified perquisites and (v) benefits that are generally available to all of our employees.
 
The Compensation Committee has the responsibility to make and approve changes in the total compensation of our executive officers, including the mix of compensation elements. In making decisions regarding an executive’s total compensation, the Compensation Committee considers whether the total compensation is (i) fair and reasonable, (ii) internally appropriate based upon our culture and the compensation of our other employees, and (iii) within a reasonable range of the compensation afforded by other opportunities. The Compensation Committee also bases its decisions regarding compensation upon its assessment of the executive’s leadership, individual performance, years of experience, skill set, level of commitment and responsibility required in the position, contributions to our financial success, the creation of shareholder value, and current and past compensation. In determining the mix of compensation elements, the Compensation Committee considers the effect of each element in relation to total compensation. Consistent with our desired culture of industry leading performance and cost control, the Compensation Committee has attempted to keep base salaries at moderate levels for companies within our market and total capitalization and weight overall compensation toward incentive cash and equity-based compensation. The Compensation Committee specifically considers whether each particular element provides an appropriate incentive and reward for performance that sustains and enhances long-term shareholder value. In determining whether to increase or decrease an element of compensation, we rely upon the Compensation Committee’s judgment concerning the contributions of each executive and, with respect to executives other than the CEO, we consider the recommendations of the CEO. We generally do not rely on rigid formulas (other than performance measures under our annual cash bonus program) or short-term changes in business performance when setting compensation.

 
40

 
 
Pursuant to the requirements of the Securities and Exchange Commission which requires that we provide our shareholders with a copy of the Compensation Committee Charter at least once every three years, we have included a copy of the Committee Charter as Appendix D to our proxy statement for our 2010 Annual Meeting filed with the SEC on February 19, 2010.

Finance Committee

The Finance Committee reviews and makes recommendations concerning:
 
 
·
proposed dividend actions, stock splits and repurchases,
 
 
·
current and projected capital requirements,
 
 
·
issuance of debt or equity securities,
 
 
·
strategic plans and transactions, including mergers, acquisitions, divestitures, joint ventures and other equity investments,
 
 
·
customer financing activities, business and related customer finance business and funding plans of Onstream and its subsidiaries,
 
 
·
overall company risk management program and major insurance programs, and
 
 
·
investment policies, administration and performance of the trust investments of our employee benefit plans.
 
Mr.  Silva is currently the sole member of the Finance Committee. The Finance Committee met in fiscal 2010 in conjunction with meetings of the full Board of Directors.

Governance and Nominating Committee

While we have not adopted a formal charter for the Governance and Nominating Committee, in June 2003 our Board of Directors adopted Corporate Governance and Nominating Committee Principles.  An updated copy of our Corporate Governance and Nominating Committee Principles was included as Appendix A to the proxy statement for our 2008 and 2009 Annual Meeting of Stockholders filed with the SEC on January 28, 2009.

The Governance and Nominating Committee reviews and makes recommendations to the Board of Directors with respect to:
 
 
·
the responsibilities and functions of the Board and Board committees and with respect to Board compensation,
 
 
·
the composition and governance of the Board, including recommending candidates to fill vacancies on, or to be elected or re-elected to, the Board,
 
 
·
candidates for election as Chief Executive Officer and other corporate officers, and
 
 
·
monitoring the performance of the Chief Executive Officer and our plans for senior management succession.
 
 
41

 
 
The Governance and Nominating Committee has not yet had the occasion to, but will, consider properly submitted proposed nominations by stockholders who are not one of our directors, officers, or employees. These nominations will be evaluated on the same basis as candidates proposed by any other person. A stockholder may nominate a person for election as a director at an annual meeting of the stockholders only if such stockholder gives written notice to our Corporate Secretary as described in the applicable proxy statement for the previous year’s annual meeting of stockholders. Each written notice must set forth, as to each person whom the stockholder proposes to nominate for election as a director, (i) all information relating to such person that is required to be disclosed in solicitations of proxies for election of directors in an election contest, or that is otherwise required, in each case pursuant to and in accordance with Regulation 14A under the Securities Exchange Act of 1934, as amended, and (ii) such person’s written consent to being named in the proxy statement as a nominee and to serve as a director if elected. Each written notice must also set forth, as to the stockholder making such nomination, (i) the name and address of such stockholder, as they appear on our books, (ii) the class and number of shares of our stock which are owned by such stockholder, (iii) a representation that the stockholder is a holder of record of our stock entitled to vote at such meeting and intends to appear in person or by proxy at the meeting to propose such nomination, and (iv) a representation whether the stockholder intends or is a part of a group which intends (y) to deliver a proxy statement and/or form of proxy to holders of at least the percentage of our outstanding capital stock required to elect the nominee and/or (z) otherwise to solicit proxies from stockholders in support of such nomination. We will evaluate the suitability of potential candidates nominated by stockholders in the same manner as other candidates identified to the Governance and Nominating Committee, including the specific minimum qualifications described below.

The procedures for identifying candidates include a review of Onstream's current directors, soliciting input from existing directors and executive officers, and a review of submissions from stockholders, if any. Onstream’s management believes that the Board should be composed of:

 
·
directors chosen with a view to bringing to the Board a variety of experiences and backgrounds,
 
 
·
directors who have high level managerial experience or are accustomed to dealing with complex problems,
 
 
·
directors who will represent the balanced, best interests of the stockholders as a whole rather than special interest groups or constituencies, while also taking into consideration the overall composition and needs of the Board, and
 
 
·
a majority of the Board's directors must be independent directors under the criteria for independence required by the Securities and Exchange Commission and the NASDAQ Stock Market.
 
In considering possible candidates for election as an outside director, the Governance and Nominating Committee and other directors should be guided by the foregoing general guidelines and by the following criteria:

 
·
Each director should be an individual of the highest character and integrity, have experience at (or demonstrated understanding of) strategy/policy-setting and a reputation for working constructively with others.
 
 
·
Each director should have sufficient time available to devote to our affairs in order to carry out the responsibilities of a director.
 
 
42

 
 
 
·
Each director should be free of any conflict of interest, which would interfere with the proper performance of the responsibilities of a director.
 
 
·
The Chief Executive Officer is expected to be a director. Other members of senior management may be considered, but Board membership is not necessary or a prerequisite to a higher management position.
 
The Governance and Nominating Committee is presently composed of Messrs. Nowalsky (chairman), Johnston and Silva, who are each "independent" as independence for nominating committee members is defined within the NASDAQ Listing Rules. The Governance and Nominating Committee met in fiscal 2010 in conjunction with meetings of the full Board of Directors.

Code of Business Conduct and Ethics

Effective December 18, 2003, our Board of Directors adopted a Code of Business Conduct and Ethics that applies to, among other persons, our President (being our principal executive officer) and our Chief Financial Officer (being our principal financial and accounting officer), as well as persons performing similar functions. As adopted, our Code of Business Conduct and Ethics sets forth written standards that are designed to deter wrongdoing and to promote:
 
·
honest and ethical conduct, including the ethical handling of actual or apparent conflicts of interest between personal and professional relationships,
 
·
full, fair, accurate, timely, and understandable disclosure in reports and documents that we file with, or submit to, the Securities and Exchange Commission and in other public communications made by us,
 
·
compliance with applicable governmental laws, rules and regulations,
 
·
the prompt internal reporting of violations of the Code of Business Conduct and Ethics to an appropriate person or persons identified in the Code of Business Conduct and Ethics, and
 
·
accountability for adherence to the Code of Business Conduct and Ethics.
 
Our Code of Business Conduct and Ethics requires, among other things, that all of our personnel shall be accorded full access to our President and to our Chief Financial Officer, with respect to any matter that may arise relating to the Code of Business Conduct and Ethics. Further, all of our personnel are to be accorded full access to our Board of Directors if any such matter involves an alleged breach of the Code of Business Conduct and Ethics by our President or by our Chief Financial Officer.

In addition, our Code of Business Conduct and Ethics emphasizes that all employees, and particularly managers and/or supervisors, have a responsibility for maintaining financial integrity within our company, consistent with generally accepted accounting principles, and federal, provincial and state securities laws.  Any employee who becomes aware of any incidents involving financial or accounting manipulation or other irregularities, whether by witnessing the incident or being told of it, must report it to his or her immediate supervisor or to our President or our Chief Financial Officer.  If the incident involves an alleged breach of the Code of Business Conduct and Ethics by our President or by our Chief Financial Officer, the incident must be reported to any member of our Board of Directors.  Any failure to report such inappropriate or irregular conduct of others is to be treated as a severe disciplinary matter. It is against our policy to retaliate against any individual who reports in good faith the violation or potential violation of our Code of Business Conduct and Ethics by another.

Our Code of Business Conduct and Ethics is included as Exhibit 14.1 to this annual report. We will provide a copy of our Code of Business Conduct and Ethics to any person without charge, upon request. Requests can be sent to: Onstream Media Corporation, 1291 SW 29 Avenue, Pompano Beach, Florida  33069.

 
43

 
 
COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT

Based solely upon a review of Forms 3 and 4 and amendments thereto furnished to us under Rule 16a-3(d) of the Securities Exchange Act of 1934, as amended, during the fiscal year ended September 30, 2010 and Forms 5 and amendments thereto furnished to us with respect to the fiscal year ended September 30, 2010, as well as any written representation from a reporting person that no Form 5 is required, we are not aware of any person that failed to file on a timely basis, as disclosed in the aforementioned Forms, reports required by Section 16(a) of the Securities Exchange Act of 1934 during the fiscal year ended September 30, 2010, other than indicated below.

Randy Selman, our CEO and Chairman of the Board and Alan Saperstein, our COO and one of our directors, have not filed a Form 4 on a timely basis related to 44,958 options granted each of them on December 17, 2009 (as replacement for expiring options – See Item 11 – Executive Compensation). Mr. Selman and Mr. Saperstein have represented to us that they will file these forms as soon as practicable.

Charles Johnston, one of our directors, and Robert Wussler, a former director, have not filed a Form 4 on a timely basis related to 9,991 options granted to each of them on December 17, 2009 (as replacement for expiring options – See Item 10 – Director Compensation table). Mr. Johnston has represented to us that he will file this form as soon as practicable. Mr. Wussler passed away on June 5, 2010.
 
 
44

 
 
ITEM 11.            EXECUTIVE COMPENSATION

Summary Compensation Table

The following table sets forth certain information relating to the compensation of (i) our Chief Executive Officer; and (ii) each of our executive officers who earned more than $100,000 in total compensation during the most recent fiscal year (collectively, the “Named Executive Officers”):

Total compensation as presented in the following table includes cash and non-cash elements. The most significant non-cash element is the value assigned to options based on the Black-Scholes model, which options as discussed in footnotes 11, 12 and 13 below had strike prices that significantly exceeded the fair value of our shares as of September 30, 2010 and 2009, respectively and thus at those dates were what is commonly described as “under water”. See footnote 16 below for a table that presents the cash and non-cash elements of compensation for the years ended September 30, 2010 and 2009:

SUMMARY COMPENSATION TABLE

                 
STOCK
   
OPTION
 
ALL OTHER
 
TOTAL
 
NAME AND
 
FISCAL
     
BONUS
   
AWARDS
   
AWARDS
 
COMPENSATION
 
COMPENSATION
 
PRINCIPAL POSITION
 
YEAR
 
SALARY ($)
 
($)
   
($)
   
($)
 
($) (14)
 
($)(16)
 
                                   
Randy S. Selman
 
2010
 
$ 271,751
(15)
-0-
   
-0-
   
$ 45,736(12)
 
$ 55,760(1)
 
$ 373,247
 
President, Chief
 
2009
 
$ 287,687
 
-0-
   
-0-
   
$ 83,809(11)
 
$ 55,421(2)
 
$ 426,917
 
Executive Officer
                                 
and Director
                                 
                                   
Alan Saperstein
 
2010
 
$ 247,047
(15)
-0-
   
-0-
   
$ 45,736(12)
 
$ 59,660(3)
 
$ 352,443
 
Chief Operating
 
2009
 
$ 261,534
 
-0-
   
-0-
   
$ 83,809(11)
 
$ 59,591(4)
 
$ 404,934
 
Officer and Director
                                 
                                   
Robert Tomlinson
 
2010
 
$ 230,667
(15)
-0-
   
-0-
   
-0-
 
$ 61,601(5)
 
$ 292,268
 
Chief Financial
 
2009
 
$ 244,194
 
-0-
   
-0-
   
$ 28,162(13)
 
$ 62,642(6)
 
$ 334,998
 
Officer
                                 
                                   
Clifford Friedland
 
2010
 
$ 219,536
(15)
-0-
   
-0-
   
-0-
 
$ 61,552(7)
 
$ 281,088
 
Senior VP - Busi-
 
2009
 
$ 232,410
 
-0-
   
-0-
   
-0-
 
$ 62,934(8)
 
$ 295,344
 
ness Development
     
 
                         
                                   
David Glassman
 
2010
 
$ 219,536
(15)
-0-
   
-0-
   
-0-
 
$ 55,783(9)
 
$ 275,319
 
Senior VP -
 
2009
 
$ 232,410
 
-0-
   
-0-
   
-0-
 
$ 55,722(10)
 
$ 288,132
 
Marketing
                                 

(1)
Includes $17,452 for medical and other insurance; $12,000 for automobile allowance; $5,000 for dues allowance and $21,308 for retirement savings and 401(k) match.
 
(2)
Includes $16,826 for medical and other insurance; $12,000 for automobile allowance; $5,000 for dues allowance and $21,595 for retirement savings and 401(k) match.
 
(3)
Includes $24,660 for medical and other insurance; $12,000 for automobile allowance; $5,000 for dues allowance and $18,000 for retirement savings.
 
(4)
Includes $24,591 for medical and other insurance; $12,000 for automobile allowance; $5,000 for dues allowance and $18,000 for retirement savings.
 
(5)
Includes $23,718 for medical and other insurance; $12,000 for automobile allowance; $5,000 for dues allowance and $20,883 for retirement savings and 401(k) match.

 
45

 
 
(6)
Includes $24,591 for medical and other insurance; $12,000 for automobile allowance; $5,000 for dues allowance and $21,051 for retirement savings and 401(k) match.
 
(7)
Includes $23,718 for medical and other insurance; $12,000 for automobile allowance; $5,000 for dues allowance and $20,834 for retirement savings and 401(k) match.
 
(8)
Includes $24,591 for medical and other insurance; $12,000 for automobile allowance; $5,000 for dues allowance and $21,343 for retirement savings and 401(k) match.
 
(9)
Includes $16,552 for medical and other insurance; $12,000 for automobile allowance; $5,000 for dues allowance and $22,231 for retirement savings and 401(k) match.
 
(10)
Includes $16,826 for medical and other insurance; $12,000 for automobile allowance; $5,000 for dues allowance and $21,896 for retirement savings and 401(k) match.
 
(11)
On August 11, 2009, our Compensation Committee granted 133,334 fully vested five-year Plan Options (66,667 each) to Messrs. Selman and Saperstein in exchange for the cancellation of an equivalent number of fully vested Non Plan Options held by them and expiring in September 2009, with no change in the $15.00 exercise price, which was in excess of the market value of an ONSM share as of August 11, 2009. Furthermore, the quoted market value of an ONSM share was $2.46 per share as of September 30, 2009. As a result of this cancellation and the corresponding issuance, we recognized non-cash compensation expense of approximately $110,198 ($55,099 each) for the year ended September 30, 2009, which represented the full valuation of the related options using the Black-Scholes model.
 
On August 11, 2009, our Compensation Committee granted 60,084 fully vested five-year Plan Options (30,042 each) to Messrs. Selman and Saperstein in exchange for the cancellation of an equivalent number of fully vested Non Plan Options held by them and expiring in December 2009, with no change in the $9.42 exercise price, which was in excess of the market value of an ONSM share as of August 11, 2009. Furthermore, the quoted market value of an ONSM share was $2.46 per share as of September 30, 2009. As a result of this cancellation and the corresponding issuance, we recognized non-cash compensation expense of approximately $57,420 ($28,710 each) for the year ended September 30, 2009, which represented the full valuation of the related options using the Black-Scholes model.
 
(12)
On December 17, 2009, our Compensation Committee granted 89,916 fully vested five-year Plan Options (44,958 each) to Messrs. Selman and Saperstein in exchange for the cancellation of an equivalent number of fully vested Non Plan Options held by them and expiring in December 2009, with no change in the $9.42 exercise price, which was in excess of the market value of an ONSM share as of the grant date. Furthermore, the quoted market value of an ONSM share was $1.04 per share as of September 30, 2010. As a result of this cancellation and the corresponding issuance, we recognized non-cash compensation expense of approximately $91,472 ($45,736 each) for the year ended September 30, 2010, which represented the full valuation of the related options using the Black-Scholes model.
 
(13)
On August 11, 2009, our Compensation Committee granted 25,000 fully vested five-year Plan Options to Mr. Tomlinson as a replacement of an equivalent number of fully vested Plan Options held by him and expiring in July 2009, with no change in the $7.26 exercise price, which was in excess of the market value of an ONSM share as of August 11, 2009. Furthermore, the quoted market value of an ONSM share was $2.46 per share as of September 30, 2009. As a result of this issuance, we recognized non-cash compensation expense of approximately $28,162 for the year ended September 30, 2009, which represented the full valuation of the related options using the Black-Scholes model.
 
(14)
The Named Executive Officers did not receive non-equity incentive plan compensation or compensation from changes in pension value and nonqualified deferred compensation earnings during the periods covered by the above table.

 
46

 
 
(15)
Effective October 1, 2009, a significant portion of our workforce, including the Named Executive Officers, took a 10% payroll reduction, which we expect will be maintained until increased revenue levels result in positive cash flow (sufficient to cover capital expenditures and debt service). However, even though this 10% was deducted from the amounts paid to the Named Executive Officers, no adjustment was made to the provisions of their related employment agreements, as set forth below. With respect to the Named Executive Officers, this 10% reduction represented approximately $132,000 in aggregate compensation reduction as of and for the year ended September 30, 2010. This unpaid amount is not reflected as compensation in the table above nor was it accrued on our books as of or for the year ended September 30, 2010. We believe that the eventual resolution of this matter will not result in a material adverse effect on our financial position or results of operations.
 
(16)
Below is a table that presents the cash and non-cash elements of compensation for the years ended September 30, 2010 and 2009:
 
For the year ended September 30, 2010:
 
   
Cash Compensation
   
Non-Cash Compensation
 
Randy S. Selman
  $ 327,511     $ 45,736  
Alan Saperstein
  $ 306,707     $ 45,736  
Robert Tomlinson
  $ 292,268     $ -  
Clifford Friedland
  $ 281,088     $ -  
David Glassman
  $ 275,319     $ -  
 
For the year ended September 30, 2009:
 
   
Cash Compensation
   
Non-Cash Compensation
 
Randy S. Selman
  $ 343,108     $ 83,809  
Alan Saperstein
  $ 321,125     $ 83,809  
Robert Tomlinson
  $ 306,836     $ 28,162  
Clifford Friedland
  $ 295,344     $ -  
David Glassman
  $ 288,132     $ -  

Employment Agreements

On September 27, 2007, our Compensation Committee and Board of Directors approved three-year employment agreements with Messrs. Randy Selman (President and CEO), Alan Saperstein (COO and Treasurer), Robert Tomlinson (Chief Financial Officer), Clifford Friedland (Senior Vice President Business Development) and David Glassman (Senior Vice President Marketing), collectively referred to as “the Executives”. On May 15, 2008 and August 11, 2009 our Compensation Committee and Board approved certain corrections and modifications to those agreements, which are reflected in the discussion of the terms of those agreements below. The agreements provide that the initial term shall automatically be extended for successive one (1) year terms thereafter unless (a) the parties mutually agree in writing to alter the terms of the agreement; or (b) one or both of the parties exercises their right, pursuant to various provisions of the agreement, to terminate the employment relationship.

The agreements provide initial annual base salaries of $253,000 for Mr. Selman, $230,000 for Mr. Saperstein, $207,230 for Mr. Tomlinson and $197,230 for Messrs. Friedland and Glassman, and allow for 10% annual increases through December 27, 2008 and 5% per year thereafter. In addition, each of the Executives receives an auto allowance payment of $1,000 per month, a “retirement savings” payment of $1,500 per month and an annual reimbursement of dues or charitable donations up to $5,000.  We also pay insurance premiums for the Executives, including medical, life and disability coverage. These employment agreements contain certain non-disclosure and non-competition provisions and we have agreed to indemnify the Executives in certain circumstances.

 
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As part of the above employment agreements, and in accordance with the terms of the “2007 Equity Incentive Plan” approved by our  shareholders in their September 18, 2007 annual meeting, our Compensation Committee and Board of Directors granted Plan Options to each of the Executives to purchase an aggregate of 66,667 shares of ONSM common stock at an exercise price of $10.38 per share, the fair market value at the date of the grant, which shall be exercisable for a period of four (4) years from the date of vesting. The options vest in installments of 16,667 per year, starting on September 27, 2008, and they automatically vest upon the happening of the following events: (i) change of control (ii) constructive termination, and (iii) termination other than for cause, each as defined in the employment agreements. Unvested options automatically terminate upon (i) termination for cause or (ii) voluntary termination.  In the event the agreement is not renewed or the Executive is terminated other than for cause, the Executives shall be entitled to require us to register the vested options.

As part of the above employment agreements, the Executives were eligible for a performance bonus, based on meeting revenue and cash flow objectives. In connection with this bonus program, our Compensation Committee and Board of Directors granted Plan Options to each of the Executives to purchase an aggregate of 36,667 shares of ONSM common stock at an exercise price of $10.38 per share, the fair market value at the date of the grant, exercisable for a period of four (4) years from the date of vesting.

The performance objectives were met for the quarter ended December 31, 2007 but they were not met for the remaining three quarters of fiscal 2008 nor were they met for the fiscal year ended September 30, 2008. The performance objectives were met for the quarter ended June 30, 2009 but they were not met for the remaining three quarters of fiscal 2009 nor were they met for the fiscal year ended September 30, 2009. Therefore, an aggregate of 4,583 options out of a potential 36,667 performance options vested for each Executive during fiscal year 2008 and 2009, with the remainder expiring. In the event the agreement is not renewed or the Executive is terminated other than for cause, the Executive shall be entitled to require us to register the vested options.

On August 11, 2009, our Compensation Committee agreed to a new performance bonus program for the Executives under the following terms: Up to one-half of the shares will be eligible for vesting on a quarterly basis and the rest annually, with the total grant allocable over a two-year period ending September 30, 2011. Vesting of the quarterly portion will be subject to achievement of increased revenues over the prior quarter as well as positive and increased net cash flow per share (defined as cash provided by operating activities per our statement of cash flow, measured before changes in working capital components and not including investing or financing activities) for that quarter. We will negotiate with the Executives in good faith as to how revenue increases from specific acquisitions are measured. Vesting of the annual portion will be subject to meeting the above cash flow requirements on a year-over-year basis, plus a revenue growth rate of at least 20% for the fiscal year over the prior year. In the event of quarter to quarter decreases in revenues and cash flow, the options will not vest for that quarter but the unvested quarterly options will be added to the available options for the year, vested subject to achievement of the applicable annual goal. One-half of the applicable quarterly or annual bonus options will be earned/vested if the cash flow target is met but the revenue target is not met. In the event options did not vest based on the quarterly or annual goals, they will immediately expire. In the event the agreement is not renewed or the Executive is terminated other than for cause, the Executive shall be entitled to require us to register the vested options. The Compensation Committee has also agreed that a performance bonus program will continue after this two-year period, with the specific bonus parameters to be negotiated in good faith between the parties at least ninety (90) days before the expiration of the program then in place.

This program was subject only to the approval by our shareholders of a sufficient increase in the number of authorized 2007 Plan options, which occurred in the March 25, 2010 shareholder meeting. However, the granting and pricing of the above performance bonus options by the Board is still pending, subject to further discussions between the Board and the Executives. Furthermore, although the performance objectives were met for the third quarter of fiscal 2010, we have not recognized any related compensation expense on our financial statements as of September 30, 2010 since the amount is not yet determinable. However, we do not expect this compensation amount, once determined, to be material to our financial results.

 
48

 
 
Under the terms of the above employment agreements, upon a termination subsequent to a change of control, termination without cause or constructive termination, each as defined in the agreements, we would be obligated to pay each of the Executives an amount equal to three times the Executive’s base salary plus full benefits for a period of the lesser of (i) three years from the date of termination or (ii) the date of termination until a date one year after the end of the initial employment contract term. We may defer the payment of all or part of this obligation for up to six months, to the extent required by Internal Revenue Code Section 409A. In addition, if the five day average closing price of the common stock is greater than or equal to $6.00 per share on the date of any termination or change in control, all options previously granted the Executive(s) will be cancelled, with all underlying shares (vested or unvested) issued to the executive, and we will pay all related taxes for the Executive(s).  If the five-day average closing price of the common stock is less than $6.00 per share on the date of any termination or change in control, the options will remain exercisable under the original terms.

Under the terms of the above employment agreements, we may terminate an Executive’s employment upon his death or disability or with or without cause. To the extent that an Executive is terminated for cause, no severance benefits are due him. If an employment agreement is terminated as a result of the Executive’s death, his estate will receive one year base salary plus any bonus or other compensation amount or benefit then payable or that would have been otherwise considered vested or earned under the agreement during the one-year period subsequent to the time of his death. If an employment agreement is terminated as a result of the Executive’s disability, as defined in the agreement, he is entitled to compensation in accordance with our disability compensation for senior executives to include compensation for at least 180 days, plus any bonus or other compensation amount or benefit then payable or that would have been otherwise considered vested or earned under the agreement during the one-year period subsequent to the time of his disability.

As part of the above employment agreements, our Compensation Committee and Board of Directors agreed that in the event we are sold for a Company Sale Price that represents at least $6.00 per share (adjusted for recapitalization including but not limited to splits and reverse splits), the Executives will receive, as a group, cash compensation of twelve percent (12.0%) of the Company Sale Price, payable in immediately available funds at the time of closing such transaction. The Company Sale Price is defined as the number of Equivalent Common Shares outstanding at the time we are sold multiplied by the price per share paid in such Company Sale transaction. The Equivalent Common Shares are defined as the sum of (i) the number of common shares issued and outstanding, (ii) the common stock equivalent shares related to paid for but not converted preferred shares or other convertible securities and (iii) the number of common shares underlying “in-the-money” warrants and options, such sum multiplied by the market price per share and then reduced by the proceeds payable upon exercise of the “in-the-money” warrants and options, all determined as of the date of the above employment agreements but the market price per share used for this purpose to be no less than $6.00. The 12.0% is allocated in the employment agreements as two and one-half percent (2.5%) each to Messrs. Selman, Saperstein, Friedland and Glassman and two percent (2.0%) to Mr. Tomlinson.

The above description is qualified in its entirety by the terms and conditions of the employment agreements.
 
 
49

 
 
Outstanding Equity Awards at Fiscal Year-End Table

The following table sets forth certain information regarding stock options held as of September 30, 2010 by the Named Executive Officers. There were no outstanding stock awards held by them as of that date:

               
EQUITY
         
               
INCENTIVE
         
               
PLAN
         
               
AWARDS:
         
               
NUMBER OF
         
               
SECURITIES
         
   
NUMBER OF SECURITIES
   
UNDERLYING
         
   
UNDERLYING UNEXERCISED
   
UNEXERCISED
 
OPTION
     
   
OPTIONS (#)
   
UNEARNED
 
EXERCISE
 
OPTION EXPIRATION
 
NAME
 
EXERCISABLE
   
UNEXERCISABLE
   
OPTIONS (#)
 
PRICE ($)
 
DATE
 
                           
Randy Selman (5)
    16,666          
 
  $ 4.26  
9/29/2011
 
      44,958 (3)             $ 9.42  
12/17/2014
 
      30,042 (3)             $ 9.42  
8/11/2014
 
      66,667 (3)             $ 15.00  
8/11/2014
 
      50,000 (1)     16,667 (1)       $ 10.38  
9/28/2012– 9/28/2015
 
      27,500 (2)               $ 10.38  
12/31/2011–6/30/2013
 
Alan Saperstein (5)
    16,666                 $ 4.26  
9/29/2011
 
      44,958 (3)               $ 9.42  
12/17/2014
 
      30,042 (3)               $ 9.42  
8/11/2014
 
      66,667 (3)               $ 15.00  
8/11/2014
 
      50,000 (1)     16,667 (1)       $ 10.38  
9/28/2012– 9/28/2015
 
      27,500 (2)               $ 10.38  
12/31/2011–6/30/2013
 
Cliff Friedland (5)
    16,667                 $ 4.26  
9/29/2011
 
      14,810                 $ 20.26  
7/1/2012
 
      50,000 (1)     16,667 (1)       $ 10.38  
9/28/2012– 9/28/2015
 
      27,500 (2)               $ 10.38  
12/31/2011–6/30/2013
 
David Glassman (5)
    16,667                 $ 4.26  
9/29/2011
 
      14,810                 $ 20.26  
7/1/2012
 
      50,000 (1)     16,667 (1)       $ 10.38  
9/28/2012– 9/28/2015
 
      27,500 (2)               $ 10.38  
12/31/2011–6/30/2013
 
Robert Tomlinson (5)
    16,667                 $ 4.26  
9/29/2011
 
      25,000 (4)               $ 7.26  
8/11/2014
 
      50,000 (1)     16,667 (1)       $ 10.38  
9/28/2012– 9/28/2015
 
      27,500 (2)               $ 10.38  
12/31/2011–6/30/2013
 
 
(1)
Vesting of these Plan options is based on years of service. These vesting conditions are discussed in detail under “Employment Agreements” above.
(2)
Vesting of these Plan options was based on achieving certain financial objectives. These vesting conditions are discussed in detail under “Employment Agreements” above.
(3)
These Plan options were issued in exchange for cancellation of an equivalent number of expiring Non-Plan options – see discussion in footnotes to Summary Compensation table above.
(4)
These Plan options were issued in exchange for an equivalent number of expiring Plan options – see discussion in footnotes to Summary Compensation table above.
(5)
The executive’s employment agreement provides that under certain circumstances, all options previously granted the executive will be cancelled, with all underlying shares (vested or unvested) issued to the executive, and we will pay all taxes for the executive. These conditions are discussed in detail under “Employment Agreements” above.

 
50

 
 
1996 Stock Option Plan and 2007 Equity Incentive Plan

On February 9, 1997, our Board of Directors and a majority of our shareholders adopted our 1996 Stock Option Plan (the "1996 Plan").  Pursuant to an amendment to the 1996 Plan ratified by our shareholders on September 13, 2005, we reserved an aggregate of 750,000 shares of common stock for issuance pursuant to options granted under the 1996 Plan ("Plan Options") and 333,333 shares for restricted stock grants (“Stock Grants”) made under the 1996 Plan.  At September 30, 2010, there were unexercised options to purchase 229,500 shares of our common stock outstanding under the 1996 Plan.  Such options were issued to our directors, employees and consultants at exercise prices ranging from $4.26 to $15.00 per share. Since the provisions of the 1996 Plan call for its termination 10 years from the date of its adoption, we may no longer issue additional options or stock grants under the 1996 Plan. However, the termination of the 1996 Plan on February 9, 2007 did not affect the validity of any Plan Options previously granted thereunder.

On September 18, 2007, our Board of Directors and a majority of our shareholders adopted the 2007 Equity Incentive Plan (the “2007 Plan”), which authorized the issuance of up to 1,000,000 shares of ONSM common stock pursuant to stock options, stock purchase rights, stock appreciation rights and/or stock awards for employees, directors and consultants. The options and stock grants authorized for issuance under the 2007 Plan were in addition to those already issued under the 1996 Plan, although as discussed above we may no longer issue additional options or stock grants under the 1996 Plan. On March 25, 2010, our Board of Directors and a majority of our shareholders approved a 1,000,000 increase in the number of shares authorized for issuance under the 2007 Plan, for total authorization of 2,000,000 shares. At September 30, 2010, there were unexercised options to purchase 941,343 shares of our common stock outstanding under the 2007 Plan.  Such options were issued to our directors, employees and consultants at exercise prices ranging from $3.00 to $20.26 per share.
The stated purpose of the 1996 Plan and the 2007 Plan (“the Plans”) is to increase our employees', advisors', consultants' and non-employee directors' proprietary interest in our company, and to align more closely their interests with the interests of our shareholders, as well as to enable us to attract and retain the services of experienced and highly qualified employees and non-employee directors. The Plans are administered by the Compensation Committee of our Board of Directors (“the Committee"). The Committee determines, from time to time, those of our officers, directors, employees and consultants to whom Stock Grants and Plan Options will be granted, the terms and provisions of the respective Grants and Plan Options, the dates such Plan Options will become exercisable, the number of shares subject to each Plan Option, the purchase price of such shares and the form of payment of such purchase price. Stock Grants may be issued by the Committee at up to a 10% discount to market at the time of grant. All other questions relating to the administration of the Plans, and the interpretation of the provisions thereof, are to be resolved at the sole discretion of our Board of Directors or the Committee.

Plan Options granted under the Plans may either be options qualifying as incentive stock options ("Incentive Options") under Section 422 of the Internal Revenue Code of 1986, as amended (the "Code"), or options that do not so qualify ("Non-Qualified Options").  In addition, the 1996 Plan also allowed for the inclusion of a reload option provision ("Reload Option"), which permits an eligible person to pay the exercise price of the Plan Option with shares of common stock owned by the eligible person and to receive a new Plan Option to purchase shares of common stock equal in number to the tendered shares.  Any Incentive Option granted under the 1996 Plan must provide for an exercise price of not less than 100% of the fair market value of the underlying shares on the date of such grant, but the exercise price of any Incentive Option granted to an eligible employee owning more than 10% of our common stock must be at least 110% of such fair market value as determined on the date of the grant.

 
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The term of each Plan Option and the manner in which it may be exercised is determined by our Board of Directors or the Committee, provided that no Plan Option may be exercisable more than 10 years after the date of its grant and, in the case of an Incentive Option granted to an eligible employee owning more than 10% of our common stock, no more than five years after the date of the grant.  In any case, the exercise price of any stock option granted under the Plans will not be less than 85% of the fair market value of the common stock on the date of grant.  The exercise price of Non-Qualified Options is determined by the Committee.

The per share purchase price of shares subject to Plan Options granted under the Plans may be adjusted in the event of certain changes in our capitalization, but any such adjustment shall not change the total purchase price payable upon the exercise in full of Plan Options granted under the Plans.  Officers, directors and employees of and consultants to us and our subsidiaries are eligible to receive Non-Qualified Options under the Plans.  Only such individuals who are employed by us or by any of our subsidiaries thereof are eligible to receive Incentive Options.

All Plan Options are nonassignable and nontransferable, except by will or by the laws of descent and distribution and, during the lifetime of the optionee, may be exercised only by such optionee.  If an optionee's employment is terminated for any reason, other than his death or disability or termination for cause, or if an optionee is not our employee but is a member of our Board of Directors and his service as a Director is terminated for any reason, other than death or disability, the Plan Option granted may be exercised on the earlier of the expiration date or 90 days following the date of termination.  If the optionee dies during the term of his employment, the Plan Option granted to him shall lapse to the extent unexercised on the earlier of the expiration date of the Plan Option or the date one year following the date of the optionee's death.  If the optionee is permanently and totally disabled within the meaning of Section 22(c)(3) of the Code, the Plan Option granted to him lapses to the extent unexercised on the earlier of the expiration date of the option or one year following the date of such disability.

The Board of Directors may amend, suspend or terminate the Plans at any time, except that no amendment shall be made which (i) increases the total number of shares subject to the Plans or changes the minimum purchase price therefore (except in either case in the event of adjustments due to changes in our capitalization) without the consent of our shareholders, (ii) affects outstanding Plan Options or any exercise right thereunder, (iii) extends the term of any Plan Option beyond ten years, or (iv) extends the termination dates of the Plans.

Unless the 2007 Plan has been earlier suspended or terminated by the Board of Directors, the 2007 Plan shall terminate 10 years from the date of the 2007 Plan’s adoption.  Any such termination of the 2007 Plan shall not affect the validity of any Plan Options previously granted thereunder.

The potential benefit to be received from a Plan Option is dependent on increases in the market price of the common stock. The ultimate dollar value of the Plan Options that have been or may be granted under the Plans are therefore not ascertainable. On December 23, 2010, the closing price of our common stock as reported on The NASDAQ Capital Market was $0.76 per share.

ITEM 12.
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

The following table contains information regarding beneficial ownership of our common stock as of December 10, 2010 held by:
 
 
·
persons who own beneficially more than 5% of our outstanding common stock,
 
·
our directors,
 
·
named executive officers, and
 
·
all of our directors and officers as a group.
 
 
52

 

Unless otherwise indicated, the address of each of the listed beneficial owners identified is c/o Onstream Media Corporation, 1291 Southwest 29th Avenue, Pompano Beach, Florida 33069. Unless otherwise noted, we believe that all persons named in the table have sole voting and investment power with respect to all shares of our common stock beneficially owned by them.  A person is deemed to be the beneficial owner of securities that can be acquired by such a person within 60 days from December 10, 2010 upon exercise of options, warrants, convertible securities or other rights to receive our common shares. Each beneficial owner's percentage of ownership is determined by assuming that options, warrants, convertible securities or other rights to receive our common shares that are held by such a person (but not those held by any other person) and are exercisable within 60 days from the date hereof (unless otherwise indicated below) have been exercised. All information is based upon a record list of stockholders received from our transfer agent as of December 10, 2010. At that date, approximately 83% of our outstanding shares were held by CEDE & Co., which is accounted for as a single shareholder of record for multiple beneficial owners. CEDE & Co. is a nominee of the Depository Trust Company (DTC), with respect to securities deposited by participants with DTC, e.g., mutual funds, brokerage firms, banks, and other financial organizations.  Shares held by Cede & Co. are not reflected in the following table.

   
Shares of Common Stock Beneficially Owned
 
Name and Address of Beneficial Owner
 
Number
   
Percentage
 
             
Randy S. Selman (1)
    237,492       2.6 %
Alan M. Saperstein (2)
    237,806       2.6 %
Clifford Friedland (3)
    232,883       2.6 %
David Glassman (4)
    232,855       2.6 %
Robert E. Tomlinson (5)
    119,167       1.3 %
Charles C. Johnston (6)
    103,973       1.2 %
Carl L. Silva
    -       0.0 %
Leon Nowalsky (7)
    8,333       0.1 %
All directors and officers as a group (eight persons) (8)
    1,172,509       12.0 %
Austin Lewis (9)
    949,133       10.7 %

(1)           Includes 1,659 shares of our common stock presently outstanding, options to acquire 16,666 common shares at $4.26 per share, options to acquire 75,000 common shares at $9.42 per share, options to acquire 77,500 common shares at $10.38 per share and options to acquire 66,667 common shares at $15.00 per share.
 
(2)           Includes 1,973 shares of our common stock presently outstanding, options to acquire 16,666 common shares at $4.26 per share, options to acquire 75,000 common shares at $9.42 per share, options to acquire 77,500 common shares at $10.38 per share and options to acquire 66,667 common shares at $15.00 per share.
 
(3)           Includes 74,538 shares of our common stock presently outstanding, 24,684 shares of our common stock held by Titan Trust, 24,684 shares of our common stock held by Dorado Trust, options to acquire 16,667 common shares at $4.26 per share, options to acquire 77,500 common shares at $10.38 per share and options to acquire 14,810 common shares at $20.26 per share. Mr. Friedland is the control person and beneficial owner of both Titan Trust and Dorado Trust and exercises sole voting and dispositive powers over these shares.
 
(4)           Includes 74,510 shares of our common stock presently outstanding, 24,684 shares of our common stock held by Titan Trust, 24,684 shares of our common stock held by Dorado Trust, options to acquire 16,667 common shares at $4.26 per share, options to acquire 77,500 common shares at $10.38 per share and options to acquire 14,810 common shares at $20.26 per share. Mr. Glassman is the control person and beneficial owner of both JMI Trust and Europa Trust and exercises sole voting and dispositive powers over these shares.
 
(5)           Includes options to acquire 16,667 common shares at $4.26 per share, options to acquire 25,000 common shares at $7.26 per share and options to acquire 77,500 common shares at $10.38 per share.