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EX-31 - EXHIBIT 31.1 - Onstream Media CORPexhibit31z1.htm
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EX-10 - EXHIBIT 10.2 - Onstream Media CORPexhibit102-amendedandrestate.htm
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EX-4 - EXHIBIT 4.1 - Onstream Media CORPexhibit41-amendedandrestated.htm
 

 

UNITED STATES

 

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

(Mark One)

   

(x)

 

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

For the quarterly period ended December 31, 2011

OR

 

( )

 

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

 

 

For the transition period from _________ to _________

 

Commission file number 000-22849

 

Onstream Media Corporation

(Exact name of registrant as specified in its charter)

 

65-0420146

(IRS Employer Identification No.)

 

Florida

(State or other jurisdiction of incorporation or organization)

 

1291 SW 29 Avenue, Pompano Beach, Florida 33069

(Address of principal executive offices)

 

954-917-6655

(Registrant's telephone number)

 

(Former name, former address and former fiscal year, if changed since last report)

 

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

 

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 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).                                                            Yes (X)   No (  )

 

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”, “non-accelerated filer” and “smaller reporting company” defined 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 Exchange Act)    Yes (  )   No (X)

 

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date.   As of February 15, 2012 the registrant had issued and outstanding 12,093,165 shares of common stock.

 

1

 


 

 

 

 

 

 

TABLE OF CONTENTS

 

PART I – FINANCIAL INFORMATION

 

PAGE

Item 1 - Financial Statements

 

 

 

    Unaudited Consolidated Balance Sheet at December 31, 2011

          and Consolidated Balance Sheet at September 30, 2011

 

4

 

 

Unaudited Consolidated Statements of Operations for the Three

     Months Ended December 31, 2011 and 2010

 

5

 

 

    Unaudited Consolidated Statement of Stockholders’ Equity for the Three

         Months Ended December 31, 2011

 

6

 

 

    Unaudited Consolidated Statements of Cash Flows for the Three Months

         Ended December 31, 2011 and 2010

 

7 –8

 

 

    Notes to Unaudited Consolidated Financial Statements

9 – 52

 

 

    Item 2 - Management’s Discussion and Analysis of Financial Condition

 

         and Results of Operations

53 – 68

 

 

    Item 4 - Controls and Procedures

68

 

 

PART II – OTHER INFORMATION

 

    Item 1 – Legal Proceedings

69

 

 

    Item 2 – Unregistered Sales of Equity Securities and Use of Proceeds

69

 

 

    Item 3 – Defaults upon Senior Securities

69

 

 

    Item 4 – Removed and Reserved

69

 

 

    Item 5 – Other Information

69

 

 

    Item 6 - Exhibits

70

 

 

    Signatures

70

 

 

2

 


 
 

 

 

CERTAIN CAUTIONARY STATEMENTS REGARDING FORWARD-LOOKING INFORMATION

 

 Certain statements in this quarterly report on Form 10-Q 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 MP365 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 December 31, 2011, unless otherwise stated. You should carefully review this Form 10-Q in its entirety, including but not limited to our financial statements and the notes thereto, as well as our most recently filed 10-K. 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.

 

3

 


 
 

 

PART I – FINANCIAL INFORMATION

Item 1 - Financial Statements

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

 

   

December 31,

   

September 30,

 

2011

   

2011

 

 

(unaudited)

   

 

ASSETS

         

CURRENT ASSETS:

         

     Cash and cash equivalents

$

408,547 

 

$

290,865 

     Accounts receivable, net of allowance for doubtful accounts

         

          of $323,339 and $330,604, respectively

 

2,375,288 

   

2,453,390 

     Prepaid expenses

 

491,449 

   

580,185 

     Inventories and other current assets

 

137,901 

 

 

139,099 

Total current assets

 

3,413,185 

   

3,463,539 

PROPERTY AND EQUIPMENT, net

 

2,721,714 

   

2,714,676 

INTANGIBLE ASSETS, net

 

662,811 

   

785,927 

GOODWILL, net

 

10,696,948 

   

10,696,948 

OTHER NON-CURRENT ASSETS

 

104,263 

 

 

104,274 

Total assets

$

17,598,921 

 

$

17,765,364 

LIABILITIES AND STOCKHOLDERS’ EQUITY

         

CURRENT LIABILITIES:

         

     Accounts payable

$

1,771,776 

 

$

1,573,703 

     Accrued liabilities

 

1,203,234 

   

1,193,473 

     Amounts due to directors and officers

 

472,171 

   

396,392 

     Deferred revenue

 

82,886 

   

96,437 

     Notes and leases payable – current portion, net of discount

 

1,614,694 

   

1,533,966 

     Convertible debentures, net of discount

 

729,890 

 

 

407,790 

Total current liabilities

 

5,874,651 

   

5,201,761 

Notes and leases payable, net of current portion and discount

 

9,787 

   

11,962 

Convertible debentures, net of discount

 

666,379 

   

1,031,870 

Detachable warrants, associated with sale of common shares

 

   

     and Series A-14 Preferred

 

165,160 

 

 

188,211 

Total liabilities

 

6,715,977 

 

 

6,433,804 

COMMITMENTS AND CONTINGENCIES

         

STOCKHOLDERS' EQUITY:

         

Series A-13 Convertible Preferred stock, par value $.0001 per share,

 

   

     authorized 170,000 shares, 35,000 issued and outstanding, respectively

 

   

Series A-14 Convertible Preferred stock, par value $.0001 per share,

 

   

 

     authorized 420,000 shares, 420,000 issued and outstanding, respectively

 

42 

   

42 

Common stock, par value $.0001 per share; authorized 75,000,000 shares,

     11,889,665 and 11,779,521 issued and outstanding, respectively

 

  1,188 

   

  1,177 

Additional paid-in capital

 

140,497,369 

   

140,291,514 

Unamortized discount

 

(109,179)

   

(146,418)

Accumulated deficit

 

(129,506,479)

 

 

(128,814,758)

Total stockholders’ equity

 

10,882,944 

 

 

11,331,560 

Total liabilities and stockholders’ equity

$

17,598,921 

 

$

17,765,364 


The accompanying notes are an integral part of these consolidated financial statements.

 

 

4

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS

(unaudited)

 

 
 

Three Months Ended

December 31,

 

2011

 

2010

REVENUE:

 

     Audio and web conferencing

$

2,011,701 

$

1,809,460 

     Webcasting

1,499,954 

1,454,837 

     DMSP and hosting

472,957 

488,809 

     Network usage

479,445 

465,120 

     Other

 

50,060 

 

19,027 

Total revenue

 

4,514,117 

 

4,237,253 

 

 

 

COSTS OF REVENUE:

 

 

     Audio and web conferencing

645,511 

600,107 

     Webcasting

431,997 

359,277 

     DMSP and hosting

239,794 

221,505 

     Network usage

216,345 

208,706 

     Other

  

13,441 

 

21,639 

Total costs of revenue

 

1,547,088 

 

1,411,234 

 

 

 

GROSS MARGIN

 

2,967,029 

 

2,826,019 

 

 

 

OPERATING EXPENSES:

 

 

     General and administrative:

 

 

          Compensation

1,995,876 

2,110,509 

          Professional fees

606,235 

541,925 

          Other

521,735 

530,814 

     Depreciation and amortization

 

356,508 

 

386,197 

Total operating expenses

 

3,480,354 

 

3,569,445 

 

 

Loss from operations

 

(513,325)

 

(743,426)

 

OTHER EXPENSE, NET:

 

 

     Interest expense

(182,848)

(300,340)

     Gain for adjustment of derivative liability to fair value

23,051 

138,661 

     Other income

 

20,284 

 

7,412 

 

 

 

Total other expense, net

 

(139,513)

 

(154,267)

 

 

 

Net loss

$

(652,838)

$

(897,693)

 

 

 

Loss per share – basic and diluted:

 

 

 

 

 

Net loss per share

$

(0.06)

$

(0.10)

 

 

 

Weighted average shares of common stock outstanding – basic and diluted

 

11,852,414 

 

8,742,092 

 

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 
 

5

 


 
 

 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY

THREE MONTHS ENDED DECEMBER 31, 2011

(unaudited)

 

 

 

Series A- 13

 

Series A- 14

 

Common Stock

   

Additional Paid-in

         

 

Preferred Stock

 

Preferred Stock

 

 

 

 

 

 

 

Capital

 

 

Accumulated

     
 

Shares

 

 

Amount

 

Shares

   

Amount

 

Shares

   

Amount

   

Gross

   

Discount

   

Deficit

   

Total

                                                     

Balance, September 30, 2011

35,000

 

$

3

 

420,000

 

$

42

 

11,779,521

 

$

1,177

 

$

140,291,514

 

$

(146,418)

 

$

(128,814,758)

 

$

11,331,560

Issuance of options for employee services

-

   

-

 

-

   

-

 

-

   

-

   

121,908

   

-

   

-

   

121,908 

Issuance of common shares for consultant services

-

   

-

 

-

   

-

 

55,113

   

6

   

43,660

   

-

   

-

   

43,666 

Issuance of common shares for interest

-

   

-

 

-

   

-

 

51,531

   

5

   

38,643

   

-

   

-

   

38,648 

Dividends on Series A-13

-

   

-

 

-

   

-

 

3,500

   

-

   

1,644

   

-

   

(1,644)

   

-

Dividends on Series A-14 – amortization of discount

-

   

-

 

-

   

-

 

-

   

-

   

-

   

37,239 

   

(37,239)

   

-

Net loss

-

 

 

-

 

-

 

 

-

 

-

 

 

-

 

 

-

 

 

-

 

 

(652,838)

 

 

(652,838)

                                                     

Balance, December 31, 2011

35,000

 

$

3

 

420,000

 

$

42

 

11,889,665

 

$

1,188

 

$

140,497,369

 

$

(109,179)

 

$

(129,506,479)

 

$

10,882,944 

 

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

 

6

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS

(unaudited)

 

 

 

Three Months Ended

December 31,

 

2011

 

2010

 

 

 

CASH FLOWS FROM OPERATING ACTIVITIES:

 

 

     Net loss

$

 (652,838)

$

 (897,693)

     Adjustments to reconcile net loss to net cash provided by

          ( used in) operating activities:

 

 

          Depreciation and amortization

356,508 

386,197 

          Professional fee expenses paid with equity, including amortization of

               deferred expenses for prior period issuances

 

226,607 

  

140,656 

          Compensation expenses paid with options and other equity

168,808 

226,134 

          Amortization of discount on convertible debentures

54,456 

58,120 

          Amortization of discount on notes payable

9,909 

61,906 

          Interest expense paid in common shares and options

-

40,902 

          Gain for adjustment of derivative liability to fair value

(23,051)

(138,661)

          Bad debt expense and other

 

(30,140)

 

(4,233)

          Net cash provided by (used in) operating activities, before changes

               in current assets and liabilities

 

110,259 

 

(126,672)

          Changes in current assets and liabilities:

 

 

          Decrease in accounts receivable

85,367 

322,752 

          (Increase) in prepaid expenses

(68,816)

(94,522)

          Decrease in inventories and other current assets

1,177 

2,648 

          Increase (Decrease) in accounts payable, accrued liabilities and

               amounts due to directors and officers

 

272,877 

 

(184,315)

          (Decrease) Increase in deferred revenue

   

(13,551)

   

840 

Net cash provided by ( used in) operating activities

 

387,313 

 

(79,269)

 

 

 

CASH FLOWS FROM INVESTING ACTIVITIES:

 

 

     Acquisition of property and equipment

 

(240,429)

 

(233,299)

Net cash used in investing activities

 

(240,429)

 

(233,299)

  

 

   (Continued)

 

 

7

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(unaudited)

 

(continued)

 

Three Months Ended
December 31,

  2011 2010

CASH FLOWS FROM FINANCING ACTIVITIES:

 

 

     Proceeds from notes payable, net of expenses

$

 311,584 

$

112,484 

     Proceeds from sale of common shares, net of expenses     

-

268,045 

     Repayment of notes and leases payable

(242,939)

(318,906)

     Repayment of convertible debentures

 

(97,847)

 

(436,755)

Net cash used in financing activities

 

(29,202)

 

(375,132)

 

 

 

NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS

117,682 

(687,700)

 

 

 

CASH AND CASH EQUIVALENTS, beginning of period

 

290,865 

 

825,408 

 

 

 

CASH AND CASH EQUIVALENTS, end of period

$

 408,547 

$

137,708 

 

 

 

SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:

 

 

          Cash payments for interest

$

135,924 

$

139,412 

 

 

 

 

 

SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:

 

 

 

 

          Issuance of common shares for consultant services

$

43,666 

$

71,549 

          Issuance of options for employee services

$

 121,908 

$

176,612 

          Issuance of common shares for interest

$

 38,648 

$

71,395 

          Declaration of dividends payable on A-13 preferred shares

$

7,000 

$

 -

          Issuance of common shares for dividends payable on A-13 preferred
               shares

$

1,644 

$

-

          Elimination of obligation for previously accrued or declared dividends
               payable on A-13 preferred shares

$

5,356 

 

$

-

          Issuance of common shares upon debt conversion

$

 -

$

110,321 

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

 

8

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES

 

Nature of Business

 

Onstream Media Corporation (“we” or "Onstream" or "ONSM"), organized in 1993, is a leading online service provider of live and on-demand corporate audio and web communications, virtual event technology and social media marketing, provided primarily to corporate (including large as well as small to medium sized businesses), education and government customers.

 

The Digital Media Services Group consists primarily of our Webcasting division, our DMSP (“Digital Media Services Platform”) division and our MP365 (“MarketPlace365”) division. The DMSP division includes the related UGC (“User Generated Content”) and Smart Encoding divisions.

 

The Webcasting division, which operates primarily from Pompano Beach, Florida and has a sales and support 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. The Webcasting division generates revenue primarily through production and distribution fees.

 

The 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. The DMSP division generates revenues primarily from monthly subscription fees, plus charges for hosting, storage and professional services. Our UGC division, which also operates as Auction Video (see note 2) 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. The Smart Encoding division, which operates primarily from San Francisco, California, provides both automated and manual encoding and editorial services for processing digital media. This division also provides hosting, storage and streaming services for digital media, which are provided via the DMSP.

 

The MP365 division, which operates primarily from Pompano Beach, Florida with additional operations in San Francisco, California, enables publishers, associations, tradeshow promoters and entrepreneurs to self-deploy their own online virtual marketplaces using the MarketPlace365® platform. The MP365 division generates revenues primarily from monthly booth fees charged to MP365 promoters.

 

The Audio and Web Conferencing Services Group consists of our Infinite Conferencing (“Infinite”) division and our EDNet division. Our Infinite division, which operates primarily from the New York City area, generates revenues from usage charges and fees for other services provided in connection with “reservationless” and operator-assisted audio and web conferencing services – see note 2.

 

The EDNet division, which operates primarily from San Francisco, California, provides connectivity (in the form of high quality audio, compressed video and multimedia data communications) within the entertainment and advertising industries through its managed network, which encompasses production and post-production companies, advertisers, producers, directors, and talent. EDNet generates revenues primarily from network access and usage fees as well as sale, rental and installation of equipment.

 

 

9

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)

 

Liquidity

 

Our consolidated financial statements have been presented on the basis that we are an ongoing concern, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. We have incurred losses since our inception, and have an accumulated deficit of approximately $129.5 million as of December 31, 2011. Our operations have been financed primarily through the issuance of equity and debt. For the year ended September 30, 2011, we had a net loss of approximately $5.2 million, although cash provided by operating activities for that period was approximately $35,000. For the three months ended December 31, 2011, we had a net loss of approximately $653,000, although cash provided by operating activities for that period was approximately $387,000. Although we had cash of approximately $409,000 at December 31, 2011, our working capital was a deficit of approximately $2.5 million at that date.

 

During March and April 2011, we took actions which reduced our compensation and other expenses by approximately $75,000 for the third quarter of fiscal 2011 and by another approximately $25,000 for the fourth quarter of fiscal 2011, with such savings continuing thereafter, although subsequent increases in certain compensation and other expenses have partially offset some of these savings. During October and November 2011, we took actions which reduced our compensation, cost of sales and other expenses by approximately $140,000 for the first quarter of fiscal 2012 and which we expect will reduce them by another approximately $35,000 for the second quarter of fiscal 2012, with such savings continuing thereafter. Based on our results for the year ended September 30, 2011, the three months ended December 31, 2011 and these expected expense reductions, we estimate that future revenues at existing levels would adequately fund all but approximately $515,000 of our anticipated ongoing cash expenditures through September 30, 2012.

 

If we achieve future revenue in excess of the levels experienced in fiscal 2011 and the first quarter of fiscal 2012, or if any of the holders of the Equipment Notes or the Rockridge Note elect to convert a portion of the existing debt to equity as allowed for under the terms, the cash shortfall could be less than this $515,000. However, if we do not maintain the current revenue level, or if our ongoing cash expenditures are higher than anticipated, the cash shortfall could be greater than this $515,000.

 

We have implemented and continue to implement specific actions geared towards achieving revenue in excess of the levels experienced in fiscal 2011 and the first quarter of fiscal 2012. The costs associated with these actions were contemplated in the above calculations.  However, in the event we are unable to achieve 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 through September 30, 2012. We will closely monitor our revenue and other business activity to determine if and when further cost reductions, the raising of additional capital, or other activity is considered necessary.

 

 

10

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)

 

Liquidity (continued)

 

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. On September 17, 2010, we entered into a Purchase Agreement (the “Purchase Agreement”) with Lincoln Park Capital Fund, LLC (“LPC”), whereby LPC agreed to purchase our common and preferred shares, and 1.6 million common shares (including those issuable upon conversion of the preferred shares we sold to them) were included in a prospectus supplement filed by us with the SEC in connection with a takedown under the Shelf Registration. The Purchase Agreement was amended in April 2011 to increase the number of common shares that LPC agreed to purchase (at our option) and an additional 2.5 million common shares were included in a second prospectus supplement filed by us with the SEC in connection with a takedown under the Shelf Registration.

 

On September 24, 2010, we received approximately $824,000 net proceeds (after deducting fees and out-of-pocket costs incurred by us) related to our issuance under that Purchase Agreement of the equivalent of 770,000 common shares (including those issuable upon conversion of preferred shares). During the year ended September 30, 2011, we sold LPC an additional 1,530,000 shares of our common stock under that Purchase Agreement for net proceeds of approximately $1.4 million.  LPC remains committed to purchase, at our sole discretion, up to an additional 1.8 million 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, including but not limited to a minimum market price of $0.75 per share. Our most recent sale of shares to LPC under the Purchase Agreement was on August 30, 2011 – see note 9 with respect to a February 2012 sale of shares to LPC unrelated to the Purchase Agreement. The closing market price of our common stock has been less than $0.75 per share for a large majority of the trading days since December 31, 2011 and the closing market price was $0.68 per share on February 10, 2012. Accordingly, we are not currently able to sell additional common shares to LPC under that Purchase Agreement.

 

There is no assurance that we will sell additional shares to LPC under the Purchase Agreement or that we will sell additional shares to any other party 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, which in the case of LPC has been obtained but would need to be requested with respect to any other purchaser.

 

 

11

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)

 

Liquidity (continued)

 

On January 10, 2012, we received a funding commitment letter (the “Funding Letter”) from J&C Resources, Inc. (“J&C”), agreeing to provide us, within twenty (20) days after our notice given on or before December 31, 2012, aggregate cash funding of up to $550,000, 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 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 to accept such funding on these terms and is not expected by us to be exercised. 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, 2013 and (b) our issuance of 2.3 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.

 

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. The financial statements do not include any adjustments to reflect future effects on the recoverability and classification of assets or amounts and classification of liabilities that may result if we are unsuccessful.

 

Basis of Consolidation

 

The accompanying consolidated financial statements include the accounts of Onstream Media Corporation and its subsidiaries - Infinite Conferencing, Inc., Entertainment Digital Network, Inc., OSM Acquisition, Inc., AV Acquisition, Inc., Auction Video Japan, Inc., HotelView Corporation and Media On Demand, Inc. All significant intra-entity accounts and transactions have been eliminated in consolidation. 

 

Cash and cash equivalents

 

Cash and cash equivalents consists of all highly liquid investments with original maturities of three months or less.

 

Concentration of Credit Risk

 

We at times have cash in banks in excess of FDIC insurance limits and place our temporary cash investments with high credit quality financial institutions. We perform ongoing credit evaluations of our customers' financial condition and do not require collateral from them. Reserves for credit losses are maintained at levels considered adequate by our management.

 

 

12

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)

 

Bad Debt Reserves

 

Where we are aware of circumstances that may impair a specific customer's ability to meet its financial obligations, we record a specific allowance against amounts due from it, and thereby reduce the receivable to an amount we reasonably believe will be collected. For all other customers, we recognize allowances for doubtful accounts based on the length of time the receivables are past due, the current business environment and historical experience.

 

Inventories


Inventories are stated at the lower of cost (first-in, first-out method) or market by analyzing market conditions, current sales prices, inventory costs, and inventory balances.  We evaluate inventory balances for excess quantities and obsolescence on a regular basis by analyzing backlog, estimated demand, inventory on hand, sales levels and other information. Based on that analysis, our management estimates the amount of provisions made for obsolete or slow moving inventory.

 

Fair Value Measurements

 

The carrying amounts of cash and cash equivalents, accounts receivable, accounts payable, accrued liabilities and amounts due to directors and officers approximate fair value due to the short maturity of the instruments. The carrying amounts of the current portion of notes, debentures and leases payable approximate fair value due to the short maturity of the instruments, as well as the market value interest rates they carry.

 

We have determined that the Rockridge Note, the CCJ Note and the Equipment Notes, discussed in note 4, meet the definition of a financial instrument as contained in the Financial Instruments topic of the Accounting Standards Codification (“ASC”), as this definition includes a contract that imposes a contractual obligation on us to exchange other financial instruments with the other party to the contract on potentially unfavorable terms. Accordingly, these items are (or were) financial liabilities subject to the accounting and disclosure requirements of the Fair Values Measurements and Disclosures topic of the ASC, whereby such liabilities are presented at fair value, which is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. Valuation techniques used to measure fair value should maximize the use of observable inputs and minimize the use of unobservable inputs.  

 

 

  

13

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)

 

Fair Value Measurements (continued)

 

The accounting standards describe a fair value hierarchy based on three levels of inputs, of which the first two are considered observable and the last unobservable, that may be used to measure fair value:

 

Level 1 - Quoted prices in active markets for identical assets or liabilities.

 

Level 2 - Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted   prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

 

Level 3 - Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.

 

We have determined that there are no Level 1 inputs for determining the fair value of the Rockridge Note, the CCJ Note or the Equipment Notes. However, we have determined that the fair value of the Rockridge Note, the CCJ Note and the Equipment Notes may be determined using Level 2 inputs, as follows: the fair market value interest rate paid by us under our line of credit arrangement (the “Line”) as discussed in note 4 and the value of conversion rights contained in those arrangements, based on the relevant aspects of the same Black Scholes valuation model used by us to value our options and warrants. We have also determined that the fair value of the Rockridge Note, the CCJ Note and the Equipment Notes may be determined using Level 3 inputs, as follows: third party studies arriving at recommended discount factors for valuing payments made in unregistered restricted stock instead of cash.

 

Based on the use of the inputs described above, we have determined that there was no material difference between the carrying value and the fair value of the Rockridge Note, the CCJ Note and the Equipment Notes as of December 31 or September 30, 2011 or as of December 31 or September 30, 2010 and therefore no adjustment with respect to fair value was made to our financial statements as of those dates or for the three months ended December 31, 2011 and 2010, respectively.

 

In accordance with the Financial Instruments topic of the ASC, we may elect to report most financial instruments and certain other items at fair value on an instrument-by-instrument basis with changes in fair value reported in earnings. After the initial adoption, the election is made at the acquisition of an eligible financial asset, financial liability, or firm commitment or when certain specified reconsideration events occur. The fair value election may not be revoked once an election is made. We have elected not to measure eligible financial assets and liabilities at fair value.

 

 

14

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)

 

Property and Equipment

 

Property and equipment are recorded at cost, less accumulated depreciation.  Property and equipment under capital leases are stated at the lower of the present value of the minimum lease payments at the beginning of the lease term or the fair value at the inception of the lease. Depreciation is computed using the straight-line method over the estimated useful lives of the related assets. Amortization expense on assets acquired under capital leases is included in depreciation expense. The costs of leasehold improvements are amortized over the lesser of the lease term or the life of the improvement.

 

Software

 

Included in property and equipment is computer software developed for internal use, including the Digital Media Services Platform (“DMSP”), the iEncode webcasting software and the MarketPlace365 (“MP365”) platform – see notes 2 and 3.  Such amounts have been accounted for in accordance with the Intangibles – Goodwill and Other topic of the ASC and are amortized on a straight-line basis over three to five years, commencing when the related asset (or major upgrade release thereof) has been substantially placed in service.

 

Goodwill and other intangible assets

 

In accordance with the Intangibles – Goodwill and Other topic of the ASC, goodwill is reviewed annually (or more frequently if impairment indicators arise) for impairment. 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.

 

During our fourth fiscal quarter ended September 30, 2011, we elected early adoption of the provisions of a recent ASC update to the above accounting standards that allow us to forego the two step impairment process based on certain qualitative evaluation – see discussion in Effects of Recent Accounting Pronouncements below. Also see note 2 – Goodwill and other Acquisition-Related Intangible Assets.

 

Other intangible assets, such as customer lists, are amortized to expense over their estimated useful lives, although they are still subject to review and adjustment for impairment.

 

We review our long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. We assess the recoverability of such assets by comparing the estimated undiscounted cash flows associated with the related asset or group of assets against their respective carrying amounts. The impairment amount, if any, is calculated based on the excess of the carrying amount over the fair value of those assets.

 

 

15

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)

 

Revenue Recognition

 

Revenues from sales of goods and services are recognized when (i) persuasive evidence of an arrangement between us and the customer exists, (ii) the goods 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.

 

The Webcasting division of the Digital Media Services Group recognizes revenue from live and on-demand webcasts at the time an event is accessible for streaming over the Internet.  Webcasting services are provided to customers using our proprietary streaming media software, tools and processes. Customer billings are typically based on (i) the volume of data streamed at rates agreed upon in the customer contract or (ii) a set monthly fee. Since the primary deliverable for the webcasting group is a webcast, returns are inapplicable.  If we have difficulty in producing the webcast, we may reduce the fee charged to the customer.  Historically these reductions have been immaterial, and are recorded in the month the event occurs.

 

Services for live webcast events are usually sold for a single price that includes on-demand webcasting services in which we host an archive of the webcast event for future access on an on-demand basis for periods ranging from one month to one year. However, on-demand webcasting services are sometimes sold separately without the live event component and we have referred to these separately billed transactions as verifiable and objective evidence of the amount of our revenues related to on-demand services.  In addition, we have determined that the material portion of all views of archived webcasts take place within the first ten days after the live webcast.

 

Based on our review of the above data, we have determined that the material portion of our revenues for on-demand webcasting services are recognized during the period in which those services are provided, which complies with the provisions of the Revenue Recognition topic of the ASC. Furthermore, we have determined that the maximum potentially deferrable revenue from on-demand webcasting services charged for but not provided as of December 31, 2011 and as of September 30, 2011 was immaterial in relation to our recorded liabilities at those dates.

 

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.

 

The DMSP, UGC and Smart Encoding divisions of the Digital Media Services Group recognize revenues from the acquisition, editing, transcoding, indexing, storage and distribution of their customers’ digital media. Charges to customers by these divisions generally include a monthly subscription or hosting fee. Additional charges based on the activity or volumes of media processed, streamed or stored by us, expressed in megabytes or similar terms, are recognized at the time the service is performed. Fees charged for customized applications or set-up are recognized as revenue at the time the application or set-up is completed.

 

 

16

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)

 

Revenue Recognition (continued)

 

The Infinite division of the Audio and Web Conferencing Services Group generates revenues from audio conferencing and web conferencing services, plus recording and other ancillary services.  Infinite owns telephone switches used for audio conference calls by its customers, which are generally charged for those calls based on a per-minute usage rate. Infinite provides online webconferencing services to its customers, charging either a per-minute rate or 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 of the Audio and Web Conferencing Services Group generates revenues from customer usage of digital telephone connections controlled by EDNet, as well as bridging services and the sale and rental of equipment.  EDNet purchases digital phone lines from telephone companies (and resellers) 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 use of those services.

 

EDNet sells various audio codecs and video transport systems, equipment which enables its customers to collaborate with other companies or with other locations.  As such, revenue is recognized for the sale of equipment when the equipment is installed or upon signing of a contract after the equipment is installed and successfully operating.  All sales are final and there are no refund rights or rights of return. EDNet leases some equipment to customers under terms that are accounted for as operating leases.  Rental revenue from leases is recognized ratably over the life of the lease and the related equipment is depreciated over its estimated useful life.  All leases of the related equipment contain fixed terms.

 

Deferred revenue represents amounts billed to customers for webcasting, EDNet, smart encoding or DMSP services to be provided in future accounting periods.  As projects or events are completed and/or the services provided, the revenue is recognized.

 

We add to our customer billings for certain services an amount to recover USF contributions which we have determined that we will be obligated to pay to the FCC, related to those particular services. This additional billing to our customers is not reflected as revenue by us, but rather is recorded as a liability on our books, which liability is relieved upon our remittance of USF contributions as they are billed to us by USAC, an administrative and collection agency of the FCC.

 

Valuation of Derivatives

 

In accordance with ASC Topic 415, Derivatives and Hedging, we follow a two-step approach to evaluate an instrument’s contingent exercise provisions, if any, and to evaluate the instrument’s settlement provisions when determining whether an equity-linked financial instrument (or embedded feature) is indexed to our  own stock, which would in turn determine whether the instrument was treated as a liability to be recorded on our balance sheet at fair value and then adjusted to market in subsequent accounting periods. We have determined that this treatment did apply to a warrant issued by us in September 2010 – see note 8.

 

 

17

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)

 

Income Taxes

 

As part of the process of preparing our consolidated financial statements, we are required to estimate our income taxes in each of the jurisdictions in which we operate. This process involves estimating current tax exposure together with assessing temporary differences resulting from differing treatment of items for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included within our consolidated balance sheet. We then assess the likelihood that the deferred tax assets will be recovered from future taxable income and to the extent we believe that recovery is not likely, we establish a valuation allowance. To the extent we establish a valuation allowance or change this allowance in a period, we include an expense or a benefit within the tax provision in our statement of operations.

 

We have approximately $92 million in Federal net operating loss carryforwards as of December 31, 2011, approximately $6 million which expire in fiscal 2012 and approximately $86 million which expire in fiscal years 2018 through 2031.  Our utilization of approximately $20 million of the net operating loss carryforwards, acquired from the 2001 acquisition of EDNet and the 2002 acquisition of MOD and included in this $92 million total, against future taxable income may be limited as a result of ownership changes and other limitations.

 

Significant judgment is required in determining our provision for income taxes, our deferred tax assets and liabilities and any valuation allowance recorded against those deferred tax assets. We had a deferred tax asset of approximately $34.7 million as of December 31, 2011, primarily resulting from net operating loss carryforwards. A full valuation allowance has been recorded related to the deferred tax asset due to the uncertainty of realizing the benefits of certain net operating loss carryforwards before they expire. Our management will continue to assess the likelihood that the deferred tax asset will be realizable and the valuation allowance will be adjusted accordingly.

 

Accordingly, no income tax benefit was recorded in our consolidated statement of operations as a result of the net tax losses for the three months ended December 31, 2011 and 2010.  The primary differences between the net loss for book and the net loss for tax purposes are the following items expensed for book purposes but not deductible for tax purposes – amortization of certain loan discounts, amortization and/or impairment adjustments of certain acquired intangible assets, and expenses for stock options and shares issued in payment for consultant and employee services but not exercised by the recipients, or in the case of shares, not registered for or eligible for resale.

 

The Income Taxes topic of the ASC prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. However, as of December 31, 2011 and as of September 30, 2011 we have not taken, nor recognized the financial statement impact of, any material tax positions, as defined above. Our policy is to recognize, as non-operating expense, interest or penalties related to income tax matters at the time such payments become probable, although we had not recognized any such material items in our statement of operations for the three months ended December 31, 2011 and 2010. The tax years ending September 30, 2007 and thereafter remain subject to examination by Federal and various state tax jurisdictions.

 

 

18

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)

 

Net Loss per Share

 

For the three months ended December 31, 2011 and 2010, net loss per share is based on the net loss divided by the weighted average number of shares of common stock outstanding. Since the effect of common stock equivalents was anti-dilutive, all such equivalents were excluded from the calculation of weighted average shares outstanding. The total outstanding options and warrants, which have been excluded from the calculation of weighted average shares outstanding, were 3,368,687 and 2,172,439 at December 31, 2011 and 2010, respectively.

 

In addition, the potential dilutive effects of the following convertible securities outstanding at December 31, 2011 have been excluded from the calculation of weighted average shares outstanding: (i) 35,000 shares of Series A-13 Convertible Preferred Stock (“Series A-13”) which could have potentially converted into 175,000 shares of ONSM common stock (and which would be 203,488 shares based on a reduction in the conversion price agreed to by us in January 2012 – see note 6), (ii) 420,000 shares of Series A-14 Convertible Preferred Stock (“Series A-14”) which could potentially convert into 420,000 shares of ONSM common stock, (iii) the $1,157,223 outstanding balance of the Rockridge Note, which could have potentially converted into up to 482,176 shares of our common stock (iv) the right of Rockridge to receive 366,667 restricted shares of our common stock for an origination fee in connection with the Rockridge Note, issuable upon not less than sixty-one (61) days written notice to us, (v) $350,000 of convertible notes which in aggregate could potentially convert into up to 500,000 shares of our common stock, excluding interest, (vi) $35,000 of convertible notes which in aggregate could have potentially converted into up to 7,292 shares of our common stock and (vii) the $100,000 CCJ Note, which could potentially convert into up to 50,000 shares of our common stock.

 

The potential dilutive effects of the following convertible securities outstanding at December 31, 2010 have been excluded from the calculation of weighted average shares outstanding: (i) 35,000 shares of Series A-13 which could have potentially converted into 116,667 shares of ONSM common stock, (ii) 420,000 shares of Series A-14 which could potentially convert into 420,000 shares of ONSM common stock, (iii) $1,000,000 of convertible notes which in aggregate could have potentially converted into up to 208,333 shares of our common stock (excluding interest), (iv) the $996,334 convertible portion of the outstanding balance of the Rockridge Note, which could have potentially converted into up to 415,139 shares of our common stock, (v) the right of Rockridge to receive 366,667 restricted shares of our common stock for an origination fee in connection with the Rockridge Note, issuable upon not less than sixty-one (61) days written notice to us, (vi) the $200,000 CCJ Note, which could have potentially converted into up to 66,667 shares of our common stock and (vii) the $172,000 outstanding balance of the Lehmann Note, which could have potentially converted into up to 84,314 shares of our common stock.

 

Compensation and related expenses

 

Compensation costs for employees considered to be direct labor are included as part of webcasting and smart encoding costs of revenue. Certain compensation costs for employees involved in development of software for internal use, as discussed under Software above, are capitalized. Accrued liabilities and amounts due to directors and officers includes, in aggregate, approximately $854,000 and $794,000 as of December 31 and September 30, 2011, respectively, related to salaries, commissions, taxes, vacation and other benefits earned but not paid as of those dates.

 

 

19

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)

 

Equity Compensation to Employees and Consultants

 

We have a stock based compensation plan (the “Plan”) for our employees, directors and consultants. The Compensation – Stock Compensation topic of the ASC requires all companies to measure compensation cost for all share-based payments, including employee stock options, at fair value, which we adopted as of October 1, 2006 (the required date) and first applied during the year ended September 30, 2007, using the modified-prospective-transition method. Under this method, compensation cost recognized for the three months ended December 31, 2011 and 2010 includes compensation cost for all share-based payments granted subsequent to September 30, 2006, calculated using the Black-Scholes model, based on the estimated grant-date fair value and allocated over the applicable vesting and/or service period. As of October 1, 2006, there were no outstanding share-based payments granted prior to that date, but not yet vested. For Plan options that were granted (or extended) and thus valued under the Black-Scholes model during the three months ended December 31, 2011, the expected volatility rate was 105%, the risk-free interest rate was 1.0% and the expected term was 5 years. There were no Plan options granted during the three months ended December 30, 2010.

 

We have granted Non-Plan Options to consultants and other third parties. These options have been accounted for under the Equity topic (Equity-Based Payments to Non-Employees subtopic) of the ASC, under which the fair value of the options at the time of their issuance, calculated using the Black-Scholes model, is reflected as a prepaid expense in our consolidated balance sheet at that time and expensed as professional fees during the time the services contemplated by the options are provided to us. There were no Non-Plan options granted during the three months ended December 31, 2011 or December 31, 2010.

 

In all valuations above, expected dividends were $0 and the expected term was the full term of the related options (or in the case of extended options, the incremental increase in the option term as compared to the remaining term at the time of the extension). See Note 8 for additional information related to all stock option issuances.

 

Advertising and marketing

 

Advertising and marketing costs, which are charged to operations as incurred and classified in our financial statements under Professional Fees or under Other General and Administrative Operating Expenses, were approximately $176,000 and $202,000 for the three months ended December 31, 2011 and 2010, respectively. These amounts include third party marketing consultant fees and third party sales commissions, but do not include commissions or other compensation to our employee sales staff.

 

Comprehensive Income or Loss

 

We have recognized no transactions generating comprehensive income or loss that are not included in our net loss, and accordingly, net loss equals comprehensive loss for all periods presented.

 

 

20

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)

 

Accounting Estimates

 

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires our management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Estimates are used when accounting for allowances for doubtful accounts, revenue reserves, inventory reserves, depreciation and amortization lives and methods, income taxes and related reserves, contingencies and goodwill and other impairment allowances. Such estimates are reviewed on an on-going basis and actual results could be materially affected by those estimates.

 

Interim Financial Data

 

In the opinion of our management, the accompanying unaudited interim financial statements have been prepared by us pursuant to the rules and regulations of the Securities and Exchange Commission. These interim financial statements do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements and should be read in conjunction with our annual financial statements as of September 30, 2011. These interim financial statements have not been audited. However, our management believes the accompanying unaudited interim financial statements contain all adjustments, consisting of only normal recurring adjustments, necessary to present fairly our consolidated financial position as of December 31, 2011 and the results of our operations and cash flows for the three months ended December 31, 2011 and 2010. The results of operations and cash flows for the interim period are not necessarily indicative of the results of operations or cash flows that can be expected for the year ending September 30, 2012.

 

Effects of Recent Accounting Pronouncements

 

In October 2009, the Financial Accounting Standards Board (“FASB”) issued ASC update number 2009-14 -Software (Topic 985): Certain Revenue Arrangements That Include Software Elements (“Update 2009-14”) and ASC update number 2009-13 - Revenue Recognition (Topic 605): Multiple-Deliverable Revenue Arrangements (“Update 2009-13”). Per Update 2009-14, ASC Topic 985 has been amended to remove from the scope of industry specific revenue accounting guidance for software and software related transactions, tangible products containing software components and non-software components that function together to deliver the product’s essential functionality. Per Update 2009-13, ASC Topic 605 has been amended (i) to provide updated guidance on whether multiple deliverables exist, how the deliverables in an arrangement should be separated, and the consideration allocated; (ii) to require an entity to allocate revenue in an arrangement using estimated selling prices of deliverables if a vendor does not have vendor-specific objective evidence (“VSOE”) or third-party evidence of selling price; and (iii) to eliminate the use of the residual method and require an entity to allocate revenue using the relative selling price method. These requirements were effective for our fiscal year ended September 30, 2011, were adopted by us on a prospective basis and did not have a material impact on our financial position or results of operations.

 

 

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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)

 

Effects of Recent Accounting Pronouncements (continued)

 

In May 2011, the FASB issued updated accounting guidance related to fair value measurements and disclosures, which includes amendments that clarify the intent about the application of existing fair value measurements and disclosures, while other amendments change a principle or requirement for fair value measurements or disclosures.  This guidance is effective for our fiscal year ending September 30, 2013, is to be adopted prospectively and early adoption is not permitted.  We do not believe the adoption of this guidance will have a material impact on our consolidated financial statements.

 

In June 2011, the FASB issued authoritative guidance related to the presentation of comprehensive income.  The guidance requires that all non-owner changes in stockholders’ equity be presented in a single continuous statement of comprehensive income or in two separate but consecutive statements.  The guidance does not change the items that must be reported in other comprehensive income or when an item of other comprehensive income must be reclassified to net income.  This guidance is effective for our fiscal year ending September 30, 2013, is to be applied retrospectively and early adoption is permitted.  We do not believe adoption of this guidance will have a material impact on our consolidated financial statements.

 

In September 2011, the FASB issued ASC update number 2011-08 - Software (Topic 350): Testing Goodwill for Impairment (“Update 2011-08”), which provides guidance setting forth the circumstances under which an entity may assess qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount and to use such qualitative assessment as a basis of determining whether it would be necessary to perform the two-step goodwill impairment test described in Topic 350. Although the terms of Update 2011-08 did not require implementation before our fiscal year ending September 30, 2012, early adoption was permitted, which we elected in order to apply this guidance to our fiscal year ended September 30, 2011 and the related annual impairment tests – see note 2. We do not believe the adoption of this guidance had a material impact on our consolidated financial statements.

 

 

22

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 2: GOODWILL AND OTHER ACQUISITION-RELATED INTANGIBLE ASSETS

 

Information regarding the Company’s goodwill and other acquisition-related intangible assets is as follows:

 

 
 

 

December 31, 2011

 

 

September 30, 2011

   

Gross

Carrying

Amount

               

Gross

Carrying

Amount

           
       

Accumulated

Amortization

   

Net Book

Value

       

Accumulated

Amortization

   

Net Book

Value

 

 

 

 

 

 

 

 

 

 

 

 

Goodwill:

                                 

     Infinite Conferencing

$

8,600,887

 

$     

 -

 

$

8,600,887

 

$

8,600,887

 

$     

-

 

$

8,600,887

     EDNet

 

1,271,444

   

-

   

1,271,444

   

1,271,444

   

-

   

1,271,444

     Acquired Onstream

 

821,401

   

-

   

821,401

   

821,401

   

-

   

821,401

     Auction Video

 

3,216

 

 

-

 

 

3,216

 

 

3,216

 

 

-

 

 

3,216

Total goodwill

 

10,696,948

 

 

-

 

 

10,696,948

 

 

10,696,948

 

 

-

 

 

10,696,948

                                   

Acquisition-related intangible assets (items listed are those remaining on our books as of December 31, 2011):

           

Infinite Conferencing -

                                 

     customer lists, trademarks

                                 

     and URLs

 

3,181,197

 

(

2,584,856)

   

596,341

   

3,181,197

 

(

2,472,149)

   

709,048

Auction Video - patent

                                 

     pending

 

345,956

 

(

279,486)

 

 

66,470

 

 

339,463

 

(

262,584)

 

 

76,879

Total intangible assets

 

3,527,153

 

(

2,864,342)

 

 

662,811

 

 

3,520,660

 

(

2,734,733)

 

 

785,927

                                   

Total goodwill and

                                 

other acquisition-related

                                 

intangible assets

$

14,224,101

 

$   (

2,864,342)

 

$

11,359,759

 

$

14,217,608

 

$   (

2,734,733)

 

$

11,482,875

 

 

Infinite Conferencing – April 27, 2007

 

On April 27, 2007 we completed the acquisition of Infinite Conferencing LLC (“Infinite”), a Georgia limited liability company. The transaction, by which we acquired 100% of the membership interests of Infinite, was structured as a merger by and between Infinite and our wholly-owned subsidiary, Infinite Conferencing, Inc. (the “Infinite Merger”). The primary assets acquired, in addition to Infinite’s ongoing audio and web conferencing operations, were accounts receivable, equipment, internally developed software, customer lists, trademarks, URLs (internet domain names), favorable supplier terms and employment and non-compete agreements. The consideration for the Infinite Merger was a combination of $14 million in cash and restricted shares of our common stock valued at approximately $4.0 million, for an aggregate purchase price of approximately $18.2 million, including transaction costs.

 

 

23

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 2: GOODWILL AND OTHER ACQUISITION-RELATED INTANGIBLE ASSETS (Continued)

 

Infinite Conferencing – April 27, 2007 (continued)

 

The fair value of certain intangible assets (internally developed software, customer lists, trademarks, URLs (internet domain names), favorable contractual terms and employment and non-compete agreements) acquired as part of the Infinite Merger was determined by our management at the time of the merger. This fair value was primarily based on the discounted projected cash flows related to these assets for the three to six years immediately following the merger on a stand-alone basis without regard to the Infinite Merger, as projected by our management and Infinite’s management. The discount rate utilized considered equity risk factors (including small stock risk) as well as risks associated with profitability and working capital, competition, and intellectual property. The projections were adjusted for charges related to fixed assets, working capital and workforce retraining. We have been and are amortizing these assets over useful lives ranging from 3 to 6 years - as of September 30, 2010 the assets with a useful life of three years (favorable contractual terms and employment and non-compete agreements) had been fully amortized and removed from our balance sheet.

 

The approximately $18.2 million purchase price exceeded the fair values we assigned to Infinite’s tangible and intangible assets (net of liabilities at fair value) by approximately $12.0 million, which we recorded as goodwill as of the purchase date. As of December 31, 2008, this initially recorded goodwill was determined to be impaired and a $900,000 adjustment was made to reduce its carrying value to approximately $11.1 million.  A similar adjustment of $200,000 was made as of that date to reduce the carrying value of certain intangible assets acquired as part of the Infinite Merger. As of December 31, 2009, the Infinite goodwill was determined to be further impaired and a $2.5 million adjustment was made to reduce the carrying value of that goodwill to approximately $8.6 million. A similar adjustment of $600,000 was made as of that date to reduce the carrying value of certain intangible assets acquired as part of the Infinite Merger.

 

Auction Video – March 27, 2007

 

On March 27, 2007 we completed the acquisition of the assets, technology and patents pending of privately owned Auction Video, Inc., a Utah corporation, and Auction Video Japan, Inc., a Tokyo-Japan corporation (collectively, “Auction Video”). The acquisitions were made with a combination of restricted shares of our common stock valued at approximately $1.5 million issued to the stockholders of Auction Video Japan, Inc. and $500,000 cash paid to certain stockholders and creditors of Auction Video, Inc., for an aggregate purchase price of approximately $2.0 million, including transaction costs. On December 5, 2008 we entered into an agreement whereby one of the former owners of Auction Video Japan, Inc. agreed to shut down the Japan office of Auction Video as well as assume all of our outstanding assets and liabilities connected with that operation, in exchange for non-exclusive rights to sell our products in Japan and be compensated on a commission-only basis. It is the opinion of our management that any further developments with respect to this shut down or the above agreement will not have a material adverse effect on our financial position or results of operations.

 

 

24

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 2: GOODWILL AND OTHER ACQUISITION-RELATED INTANGIBLE ASSETS (Continued)

 

Auction Video – March 27, 2007 (continued)

 

We allocated the Auction Video purchase price to the identifiable tangible and intangible assets acquired, based on a determination of their reasonable fair value as of the date of the acquisition. The technology and patent pending related to the video ingestion and flash transcoder, the Auction Video customer lists, future cost savings for Auction Video services and the consulting and non-compete agreements entered into with the former executives and owners of Auction Video were valued in aggregate at $1,400,000 and have been and are being amortized over various lives between two to five years commencing April 2007 -  as of September 30, 2010 the assets with a useful life of two or three years (customer lists, future cost savings and the consulting and non-compete agreements) had been fully amortized and removed from our balance sheet. $600,000 was assigned as the value of the video ingestion and flash transcoder and added to the DMSP’s carrying cost for financial statement purposes – see note 3.

 

Subsequent to the Auction Video acquisition, we began pursuing the final approval of the patent pending 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, were 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 we filed an appeal brief with the USPO on February 9, 2011. The USPO filed an Examiner's Answer to the Appeal Brief on May 10, 2011, which repeated many of the previous reasons for rejection, and we filed a response to this filing on July 8, 2011. A decision will be made as to our appeal by a three member panel based on these filings, plus oral argument at a hearing which has been requested by us but a time not yet set. The expected timing of this decision is uncertain at this time, but generally would be expected to occur during the timeframe from late 2012 to mid 2013. 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.

 

In December 2011, we learned that the USPO had issued a non-final rejection in June 2011 with regard to the second of the two applications, although we had not received any notice of that action. On December 7, 2011, we filed a request for an extension of time to respond to that non-final rejection, which request the USPO rejected on December 22, 2011 but gave leave for us to provide supplemental information. We provided that supplemental information and as a result the USPO cancelled the June 2011 non-final rejection and reissued it on January 25, 2012. We anticipate filing a response to this reissued non-final rejection on or before the April 25, 2012 deadline. 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.

 

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.

 

 

25

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 2: GOODWILL AND OTHER ACQUISITION-RELATED INTANGIBLE ASSETS (Continued)

 

Acquired Onstream – December 23, 2004

 

On December 23, 2004, privately held Onstream Media Corporation (“Acquired Onstream”) was merged with and into our wholly owned subsidiary OSM Acquisition, Inc. (the “Onstream Merger”). At that time, all outstanding shares of Acquired Onstream capital stock and options not already owned by us (representing 74% ownership interest) were converted into restricted shares of our common stock plus options and warrants to purchase our common stock. We also issued common stock options to directors and management as additional compensation at the time of and for the Onstream Merger, accounted for at the time in accordance with Accounting Principles Board Opinion 25 (which accounting pronouncement has since been superseded by the ASC).

 

Acquired Onstream was a development stage company founded in 2001 that began working on a feature rich digital asset management service offered on an application service provider (“ASP”) basis, to allow corporations to better manage their digital rich media without the major capital expense for the hardware, software and additional staff necessary to build their own digital asset management solution. This service was intended to be offered via the Digital Media Services Platform (“DMSP”), which was initially designed and managed by Science Applications International Corporation (“SAIC”), one of the country's foremost IT security firms, providing services to all branches of the federal government as well as leading corporations.

 

The primary asset acquired in the Onstream Merger was the partially completed DMSP, recorded at fair value as of the December 23, 2004 closing, in accordance with the Business Combinations topic of the ASC. The fair value was primarily based on the discounted projected cash flows related to this asset for the five years immediately following the acquisition on a stand-alone basis without regard to the Onstream Merger, as projected at the time of the acquisition by our management and Acquired Onstream’s management. The discount rate utilized considered equity risk factors (including small stock risk and bridge/IPO stage risk) plus risks associated with profitability/working capital, competition, and intellectual property. The projections were adjusted for charges related to fixed assets, working capital and workforce retraining.

 

The approximately $10.0 million purchase price we paid for 100% of Acquired Onstream exceeded the fair values we assigned to Acquired Onstream’s tangible and intangible assets (net of liabilities at fair value) by approximately $8.4 million, which we recorded as goodwill as of the purchase date. As of December 31, 2008, this initially recorded goodwill was determined to be impaired and a $4.3 million adjustment was made to reduce the carrying value of that goodwill to approximately $4.1 million. As of September 30, 2010, the Acquired Onstream goodwill was determined to be further impaired and a $1.6 million adjustment was made to reduce the carrying value of that goodwill to approximately $2.5 million. As of September 30, 2011, the Acquired Onstream goodwill was determined to be further impaired and a $1.7 million adjustment was made to reduce the carrying value of that goodwill to approximately $821,000.

 

 

26

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 2: GOODWILL AND OTHER ACQUISITION-RELATED INTANGIBLE ASSETS (Continued)

 

Testing for Impairment  

 

During our fourth fiscal quarter ended September 30, 2011, and with respect to our annual impairment review of our goodwill and other acquisition-related intangible assets, we elected early adoption of the provisions of ASU 2011-08, a recent ASC update to the above accounting standards that allow us to forego the two step impairment process based on certain qualitative evaluation. See note 1 - Effects of Recent Accounting Pronouncements.

 

This qualitative evaluation included our assessment of relevant events and circumstances as listed in ASU 2011-08, some of which relate to the Onstream Media corporate entity (“ONSM”) as a whole, which includes reporting units with acquired goodwill and other intangible assets as well as other operations engaged in by ONSM, and some of which pertain to the individual reporting units. These relevant events and circumstances included certain macroeconomic conditions, including access to capital, which we believe to be affected by an entity-level condition - the recent decrease in the ONSM share price. Although this might result in decreased access to capital, we concluded that this would not affect the valuation of our individual reporting units, since (a) the decline in share price is related to factors which do not stem from the reporting units and (b) all of our significant reporting units would be able to obtain sufficient capital for their operations on an independent basis, based on their particular operating results.

 

In order to address whether any further consideration of ONSM’s share price was needed with respect to impairment testing, we performed an analysis to compare our book value to our market capitalization as of September 30, 2011, including adjustments for (i) paid-for but not issued common shares, such as those from non-redeemable preferred stock and (ii) an appropriate control premium. We also took into account the impact of the decline in our share price after September 30, 2011. Based on this analysis, we concluded that there was no shortfall in our adjusted market value as compared to our book value (after the impairment adjustment for Acquired Onstream/DMSP) as of September 30, 2011 and thus on that basis we would be eligible to employ qualitative evaluation with respect to our reporting units.

 

With respect to the Infinite and EDNet reporting units, we compared the results for the year ended September 30, 2011 to the projections on which the September 30, 2010 goodwill impairment analysis was primarily based. Based on this comparison and the related analysis, as well as our understanding of generally favorable expectations for business activity in the audio and web conferencing industry in general as well as our business activity in specific, we concluded that the Infinite and EDNet reporting unit projections for 2012-2015, on which the September 30, 2010 goodwill impairment analysis was based, continued to be reasonably achievable and indicative of our minimum expectations.

 

Based on this qualitative evaluation, we determined that it was more likely than not that the fair values of the Infinite and EDNet reporting units were more than their respective carrying amounts and accordingly it would not be necessary to perform the two-step goodwill impairment test with respect to those reporting units as of September 30, 2011. However, we were unable to arrive at the same conclusion as a result of our qualitative evaluation of the Acquired Onstream business unit. Accordingly, we performed impairment tests on Acquired Onstream as of September 30, 2011, using the two-step process described above and we determined that Acquired Onstream’s goodwill was impaired as of that date. Based on that condition, a $1.7 million adjustment was made to reduce the carrying value of goodwill as of that date.

 

An annual impairment review of our goodwill and other acquisition-related intangible assets will be performed as part of preparing our September 30, 2012 financial statements. Until that time, we will review certain factors to determine whether a triggering event has occurred that would require an interim impairment review Those factors include, but are not limited to, our management’s estimates of future sales and operating income, which in turn take into account specific company, product and customer factors, as well as general economic conditions and the market price of our common stock.

 

NOTE 3:  PROPERTY AND EQUIPMENT

 

Property and equipment, including equipment acquired under capital leases, consists of:

 

 

December 31, 2011

September 30, 2011

 

 

Historical Cost

Accumulated Depreciation and Amortization

Net Book Value

Historical Cost

Accumulated Depreciation and Amortization

Net Book Value

Useful Lives

(Yrs)

Equipment and software

$

10,322,487

 

$   (     9,900,667)

$

421,820

$

10,284,342

 

$  (       9,815,233)

$

469,109

1-5

DMSP

5,781,438

(     5,207,444)

573,994

5,749,164

(       5,165,995)

583,169

3-5

Other capitalized internal use

software

2,643,682

(        965,062)

1,678,620

2,482,440

(          869,267)

 

1,613,173

3-5

Travel video library

1,368,112

(     1,368,112)

-

1,368,112

(       1,368,112)

-

N/A

Furniture, fixtures and leasehold

improvements

 

547,744

(        500,464)

 

47,280

 

545,470

  (          496,245)

 

49,225

 

2-7

Totals

$

20,663,463

 

$   (   17,941,749)

$

2,721,714

$

20,429,528

 

$  (    17,714,852)

$

2,714,676

 

 

As part of the Onstream Merger (see note 2), we became obligated under a contract with SAIC, under which SAIC would build a platform that eventually, albeit after further extensive design and re-engineering by us, led to the DMSP. This platform was the primary asset included in our purchase of Acquired Onstream, and was recorded at an initial amount of approximately $2.7 million. Subsequent to the Onstream Merger, we continued to make payments under the SAIC contract and to other vendors, which were recorded as an increase in the DMSP’s carrying cost. The SAIC contract terminated by mutual agreement of the parties on June 30, 2008. Although cancellation of the contract released SAIC to offer what was identified as the “Onstream Media Solution” directly or indirectly to third parties, we do not expect this right to result in a material adverse impact on future DMSP sales.

 

 
 

  NOTE 3:  PROPERTY AND EQUIPMENT (Continued)

The DMSP is comprised of four separate “products”- transcoding, storage, search/retrieval and distribution. A limited version of the DMSP, with three of the four products, was first placed in service in November 2005. “Store and Stream” was the first version of the DMSP sold to the general public, starting in October 2006.

On March 27, 2007 we completed the acquisition of Auction Video – see note 2. The assets acquired included a video ingestion and flash transcoder, which was already integrated into the DMSP as of that date. Based on our determination of the fair value of the transcoder at that date, $600,000 was added to the DMSP’s carrying cost, which additional cost was depreciated over a three-year life commencing April 2007.

On March 31, 2008 we agreed to pay $300,000 for a perpetual license for certain digital asset management software, in addition to a limited term license we purchased in 2007 for $281,250. At the time of the 2008 purchase, in addition to our previous use of this software to provide our automatic meta-tagging services in our Smart Encoding division, we expanded its use to the provision of our core DMSP services. Therefore, we recorded a portion of the 2008 purchase, plus a portion of the remaining unamortized 2007 purchase amount, as an aggregate $243,750 increase in the DMSP’s carrying cost, such additional cost being depreciated over five years commencing April 2008. As a result of a litigation settlement reached in June 2011 with the provider of this software, whereby we gave up all rights to the above licenses in exchange for a reduced payment, effective June 30, 2011 we reduced the DMSP’s carrying cost by this $243,750, which had a remaining unamortized portion of $85,312 as of that date. We also reduced the carrying cost of other equipment and software by $337,500, which had a remaining unamortized portion of $85,313 as of that date. The June 2011 settlement resulted in a $204,895 reduction of the accounts payable previously reflected on our financial statements in connection with these licenses. This accounts payable reduction, offset by the aggregate $170,625 write-off of the unamortized cost of these software licenses, resulted in a net amount of $34,270 reflected as other income for the year ended September 30, 2011.

In connection with development of “Streaming Publisher”, a second version of the DMSP with additional functionality, we have capitalized as part of the DMSP approximately $904,000 of employee compensation, payments to contract programmers and related costs as of December 31, 2011. As of December 31, 2011, approximately $781,000 of these Streaming Publisher costs had been placed in service and are being depreciated over five years. The remainder of the costs not in service relate primarily to new releases of the DMSP under development. Streaming Publisher is a stand-alone product based on a different architecture than Store and Stream and is a primary building block of the MP365 platform, discussed below.

Other capitalized internal use software as of December 31, 2011 includes:

(i) approximately $1,172,000 of employee compensation and payments to contract programmers for development of the MP365 platform, which enables the creation of on-line virtual marketplaces and trade shows utilizing many of our other technologies such as DMSP, webcasting, UGC and conferencing. $297,000 of these costs, for phase one of MP365, were placed in service on August 1, 2010 and another $675,000 of these costs, for phase two of MP365, were placed in service on July 1, 2011. All costs placed in service are being depreciated over five years. The remaining costs, not placed in service, relate primarily to the next phase of MP365 under development. MP365 development costs exclude costs for development of Streaming Publisher, discussed separately above; and

 

28

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

 

NOTE 3:  PROPERTY AND EQUIPMENT (Continued)

 

(ii) approximately $892,000 of employee compensation and other costs for the development of webcasting applications, primarily iEncode software, which runs on a self-administered, webcasting appliance used to produce a live video webcast. As of December 31, 2011, $784,000 of these costs had been placed in service and are being depreciated over five years. The remainder of the costs have not been placed in service and relate primarily to new releases of iEncode under development.

 

The capitalized software development costs discussed above are summarized as follows:

 

Period

DMSP

MP365

Webcasting

Totals

 

 

 

 

 

Three months ended December 31, 2011

$

 31,000

$

100,000

$

 61,000

$

 192,000

Year ended September 30, 2011

99,000

489,000

150,000

738,000

Year ended September 30, 2010

314,000

435,000

180,000

929,000

Year ended September 30, 2009

274,000

148,000

288,000

710,000

Year ended September 30, 2008

 

186,000

  

-

 

213,000

 

399,000

 

 

 

 

 

Totals through December 31, 2011

$

 904,000

$

1,172,000

$

 892,000

$

 2,968,000

 

Depreciation and amortization expense for property and equipment was approximately $227,000 and $257,000 for the three months ended December 31, 2011 and 2010, respectively.

 

NOTE 4: DEBT

 

Debt includes convertible debentures, notes payable and capitalized lease obligations.

 

Convertible Debentures

 

Convertible debentures consist of the following:

 
 

December 31, 2011

 

September 30, 2011

Rockridge Note

$

1,157,223 

$

 1,245,069 

Equipment Notes

 

385,000 

385,000 

CCJ Note

 

100,000 

 

110,000 

Total convertible debentures

 

1,642,223 

1,740,069 

Less: discount on convertible debentures

 (

245,954)

 (

300,409)

Convertible debentures, net of discount

 

1,396,269 

1,439,660 

Less: current portion, net of discount

 (

 729,890)

(

407,790)

Convertible debentures, net of current portion

$

666,379 

$

 1,031,870 

 

 

 


 
 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 4: DEBT (Continued)

 

Convertible Debentures (continued)

 

Rockridge Note

 

In April and June 2009 we borrowed an aggregate $1.0 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 (the “Rockridge Agreement”) between Rockridge and us. On September 14, 2009, we entered into Amendment Number 1 to the Agreement (the “Amendment”), as well as an Allonge to the Note (the “Allonge”), under which we borrowed an additional aggregate $1.0 million, resulting in cumulative borrowings by us under the Rockridge Agreement, as amended, of $2.0 million.

 

In connection with this transaction, we issued a Note (the “Rockridge Note”), which is collateralized 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 had an outstanding principal balance of $1,157,223 and $1,245,069 at December 31 and September 30, 2011, respectively. Interest is charged at 12% per annum on the outstanding balance. The note is repayable in equal monthly principal and interest installments of $41,409 extending through August 14, 2013, in addition to an approximately $500,000 balloon payment (plus approximately $5,000 interest) due on September 14, 2013 (the “Maturity Date”).

 

Upon notice from Rockridge at any time and from time to time prior to the Maturity Date the outstanding principal balance may be converted into a number of restricted shares of our common stock. These 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 our common stock for the twenty (20) days of trading on The NASDAQ Capital Market (or such other exchange or market on which our common shares are trading) prior to such Rockridge notice, but such conversion price will not be less than $2.40 per share.  We will not effect any conversion of the Rockridge Note, to the extent Rockridge and Frederick Deluca, after giving effect to such conversion, would beneficially own in excess of 9.9% of our outstanding common stock (the “Beneficial Ownership Limitation”).  The Beneficial Ownership Limitation may be waived by Rockridge upon not less than sixty-one (61) days prior written notice to us unless such waiver would result in a violation of the NASDAQ shareholder approval rules.

 

Furthermore, in the event of any conversions of principal to ONSM shares by Rockridge (i) they will first be applied to reduce the approximately $500,000 balloon payment and thereafter to reduce monthly payments starting with the latest and (ii) the interest portion of the monthly payments under the Rockridge Note for the remaining months after any such conversion will be adjusted to reflect the outstanding principal being immediately reduced for amount of the conversion. We may prepay the Rockridge Note at any time. The outstanding principal is due on demand in the event a payment default is uncured ten (10) business days after Rockridge’s written notice to us.

 

 

30

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 4: DEBT (Continued)

 

Convertible Debentures (continued)

 

Rockridge Note (continued)

 

The Rockridge Agreement, as amended, provided that Rockridge may receive an origination fee upon not less than sixty-one (61) days written notice to us, payable by our issuance of 366,667 restricted shares of our common stock (the “Shares”). The Rockridge Agreement, as amended, provides that on the Maturity Date we shall pay Rockridge up to a maximum of $75,000 (the “Shortfall Payment”), based on the sum of (i) the cash difference between the per share value of $1.20 (the “Minimum Per Share Value”) and the average sale price for all previously sold Shares (whether such number is positive or negative) multiplied by the number of sold Shares and (ii) for the Shares which were not previously sold by Rockridge, the cash difference between the Minimum Per Share Value and the market value of the Shares at the Maturity Date (whether such number is positive or negative) multiplied by the number of unsold Shares, up to a maximum shortfall amount of $75,000 in the aggregate for items (i) and (ii). We have recorded no accrual for this matter on our financial statements through December 31, 2011, since we believe that the variables affecting any eventual liability cannot be reasonably estimated at this time. However, if the closing ONSM share price of $0.68 per share on February 10, 2012 was used as a basis of calculation, the required payment would be approximately $75,000.

 

The 366,667 origination fee Shares discussed above are considered earned by Rockridge and had a fair market value of approximately $626,000 at the date of the Rockridge Agreement or the Amendment, as applicable. The value of these Shares, plus legal fees of $55,337 were paid by us in connection with the Rockridge Agreement, were reflected as a $681,337 discount against the Rockridge Note (as well as a corresponding increase in additional paid-in capital for the value of the Shares), which is being amortized as interest expense over the term of the Rockridge Note. The unamortized portion of this discount was $207,992 and $251,059 as of December 31 and September 30, 2011, respectively.

 

The effective interest rate of the Rockridge Note was approximately 44.3% per annum, until the September 2009 amendment, when it was reduced to approximately 28.0% per annum. These rates do not give effect to any difference between the sum of the value of the Shares at the time of issuance plus any Shortfall Payment, as compared to the assigned value of the Shares on our books, nor do they give effect to the discount from market prices that might be applicable if any portion of the principal is satisfied in common shares instead of cash.

 

Equipment Notes

 

In June and July 2008 we received an aggregate of $1.0 million from seven accredited individuals and other entities (the “Investors”), under a software and equipment financing arrangement. This included $50,000 received from CCJ Trust (“CCJ”). CCJ is a trust for the adult children of Mr. Charles Johnston, one of our directors, and he disclaims any beneficial ownership interest in CCJ. We issued notes to those Investors (the “Equipment Notes”), which had an original maturity date of June 3, 2011.

  

 

31

 


 
 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 4: DEBT (Continued)

 

Convertible Debentures (continued)

 

Equipment Notes (continued)

 

In various transactions from April 4, 2011 through July 20, 2011 certain of the Equipment Notes, including the note held by CCJ, were amended to allow the conversion of an aggregate $550,000 of the original note amount into common shares, using conversion prices from $0.90 to $1.20 per share. As a result, we issued an aggregate of 513,889 unregistered common shares. The aggregate market value of these 513,889 shares at the times of their respective issuances exceeded the carrying value of the related Equipment Notes by $218,361, which excess was recognized as non-cash interest expense for the year ended September 30, 2011. $50,000 of the remaining principal outstanding under the Equipment Notes was repaid by us with cash in July 2011 and another $15,000 was repaid with cash in September 2011.

 

After the principal repayments in cash and conversions of principal to common shares, as discussed above, the outstanding principal balance under the Equipment Notes was $385,000 as of December 31 and September 30, 2011. $350,000 (including $25,000 remaining due under the note held by CCJ) of this $385,000 was amended in July 2011 to provide for a September 3, 2011 maturity date and a $0.90 per common share conversion rate (at the Investors’ option). Effective October 1, 2011 these Equipment Notes in the aggregate amount of $350,000 were further amended to provide for an October 15, 2012 maturity date and a $0.70 per common share conversion rate (at the Investors’ option). In addition, the payment terms were amended so that 50% of the principal would be paid in eleven equal monthly installments commencing November 15, 2011 and 50% of the principal would be payable on the Maturity Date. These Equipment Notes were assigned by the applicable Investors to three accredited entities in October 2011 and that time it was agreed that the first six monthly payments would be deferred and added to the final balloon payment.

 

The remaining $35,000 outstanding under the Equipment Notes was not amended to provide for a maturity date other than the original date of June 3, 2011 and remained unpaid as of December 31, 2011, pending the conclusion of certain administrative matters with the holder. We repaid approximately $27,000 of this balance in February 2012 and intend to repay the approximately $8,000 remaining balance on or before March 31, 2012. Until repaid, this remaining balance would be convertible to our common shares using 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.

 

The Equipment Notes are collateralized by specifically designated software and equipment owned by us with a cost basis of approximately $1.2 million, plus 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. The outstanding principal is due on demand in the event a payment default is uncured ten (10) business days after written notice. Investors holding in excess of 50% of the outstanding principal amount of the Equipment Notes may declare a default and may take steps to amend or otherwise modify the terms of the Equipment Notes and related security agreement.

 

 

32

 


 
 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 4: DEBT (Continued)

 

Convertible Debentures (continued)

 

Equipment Notes (continued)

 

The Investors initially received 1,667 restricted ONSM common shares for each $100,000 lent to us, and also received interest at 12% per annum. Interest was 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. In some cases, the April through August 2011 amendments to the Equipment Notes set a minimum conversion rate of $1.20 per common share for subsequent interest payments. In lieu of cash payments for interest previously due on these Equipment Notes, we elected to issue the following unregistered common shares to the Investors, which were recorded based on the fair value of those shares on the issuance date.

 

 

Share issuance date

Number of unregistered common shares

 

Interest period

Interest if paid in cash

Fair value of shares at issuance

November 11, 2008

26,333

June - October 2008

$48,740

$69,520

May 21, 2009

49,098

Nov 2008 - April 2009

$60,000

$67,756

November 11, 2009

34,920

May - October 2009

$60,493

$67,040

April 30, 2010

44,369

Nov 2009 - April 2010

$59,507

$92,288

December 2, 2010

76,769

May - October 2010

$60,493

$71,395

April 28, 2011

28,810

Nov 2010 – March 2011

$24,986

$50,129

July 21, 2011

5,233

Nov 2010 – June 2011

$ 6,279

$ 5,076

October 11, 2011

51,531

Nov 2010 – Sept 2011

$48,883

$38,648

 

The April 28, July 11 and October 11, 2011 issuances in aggregate represent all interest from November 1, 2010 through September 30, 2011 on the Equipment Notes. In accordance with the October 1, 2011 amendments to the Equipment Notes, interest, at 12% per annum, is payable in semi-annual installments on April 15, 2012 and October 15, 2012 and is payable 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.

 

Fees were paid to placement agents and finders for their services in connection with the Equipment Notes in aggregate of 16,875 restricted ONSM common shares and $31,500 paid in cash. These 16,875 shares, plus the 16,667 shares issued to the Investors (as discussed above) had a fair market value of approximately $186,513. The value of these 33,542 shares, plus the $31,500 cash fees and $9,160 paid for legal fees and other issuance costs related to the Equipment Notes, were reflected as a $227,173 discount against the Equipment Notes and was amortized as interest expense over the original three year term of the Equipment Notes. The effective interest rate of the Equipment Notes through September 30, 2011 was approximately 19.5% per annum, excluding (i) the effect of the net premium arising from our payment of interest in common shares instead of cash, based on the market prices of our common shares at the time of issuance and (ii) the excess of the market value of common shares, issued with respect to the conversion of certain Equipment Notes, over the carrying value of those Equipment Notes, as discussed above. As of October 1, 2011, the effective interest rate of the Equipment Notes is 12% per annum, excluding the effect of any premium or discount arising from our payment of principal or interest in common shares instead of cash, based on the market prices of our common shares at the time of issuance.  
 

33

 


 

 
   

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 4: DEBT (Continued)

 

Convertible Debentures (continued)

 

CCJ Note

 

On December 29, 2009, we entered into an agreement with CCJ converting a previously received $200,000 advance to an unsecured subordinated note (the “CCJ Note”) bearing 8% interest per annum and payable in equal monthly installments of principal and interest for 48 months plus a $100,000 principal balloon at maturity, 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 2012, respectively. In connection with this amendment, we paid $16,263 in cash for the previously accrued interest. On July 22, 2011, in order to reduce our near-term cash requirements, we agreed to convert $90,000 of the $100,000 December 31, 2011 principal payment to 100,000 restricted common shares. Although the market value of these shares at the time of the agreement exceeded the related principal amount by $38,000, we did not make the shares physically available to CCJ until two weeks later, by which time the market price had reduced to a level equal to the related principal amount. Accordingly, we have determined that there was not an effective conversion premium over market and therefore there was no recognition of additional non-cash interest expense other than the write-off of debt discount as discussed below. Although the remaining $10,000 principal, plus the interest due on the $90,000 from April 1, 2011 and the interest due on the $10,000 from July 22, 2011, was paid in January 2012, that obligation was reflected by us in accounts payable as of December 31, 2011. The remaining $100,000 principal balance of the CCJ Note may be converted at any time by CCJ 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 29, 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 29,167 ONSM common shares at $3.00 per share. In conjunction with and in consideration of the January 2011 note amendment, certain terms of the 35,000 shares of Series A-13 held by CCJ at that date were modified. See note 6.

 

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 of $32,518 plus the $108,500 value of the increased number of common shares underlying the Series A-13 shares versus the Series A-12 shares, which total of $141,018 we recorded as a debt discount. 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, reflecting the $46,084 value of the increased number of common shares underlying the Series A-13 shares as a result of the modified terms, which we recorded as a debt discount,  the increase in the periodic cash interest rate from 8% to 10% per annum and 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.

NOTE 4: DEBT (Continued)

 

Convertible Debentures (continued)

 

CCJ Note (continued)

 

The unamortized portion of the debt discount was $37,962 and $49,350 at December 31 and September 30, 2011, respectively. Through December 31, 2010, the discount was being amortized as interest expense over the original four-year term of the CCJ Note. Effective January 1, 2011, the remaining unamortized discount, plus additional discount arising from the modified terms, is being amortized as interest expense over the modified two-year term of the CCJ Note. Approximately $29,000 of the unamortized discount was written off to interest expense in July 2011 in connection with the conversion of $90,000 debt principal to common shares, as discussed above.

 

Notes and Leases Payable

 

Notes and leases payable consist of the following:

 

 

 

December 31,
2011

 

September  30,
2011

Line of Credit Arrangement

$

1,606,333 

$

1,525,825 

Capitalized equipment leases

 

18,163 

 

20,103 

Total notes and leases payable

1,624,496 

1,545,928 

Less: discount on notes payable

 

(15)

 

-

Notes and leases payable, net of discount

1,624,481 

1,545,928 

Less: current portion, net of discount

(

 1,614,694)

(

 1,533,966)

Long term notes and leases payable, net of current portion

$

9,787 

$

11,962 

 

Line of Credit Arrangement

 

In December 2007, we entered into a line of credit arrangement (the “Line”) with a financial institution (the “Lender”) under which we may presently borrow up to an aggregate of $2.0 million for working capital, collateralized by our accounts receivable and certain other related assets. Mr. Leon Nowalsky, a member of our Board of Directors, is also a founder and board member of the Lender.

 

The outstanding balance bears interest at 13.5% per annum (reduced to 12.0% effective December 27, 2011), adjustable based on changes in prime after December 28, 2009, payable monthly in arrears. We also incur a weekly monitoring fee of one twentieth of a percent (0.05%) of the borrowing limit, payable monthly in arrears.

 

Commitment fees and other fees and expenses paid to the Lender are recorded by us as debt discount and amortized as interest expense over the remaining term of the Line. These amounts paid were approximately $4,400 and $23,500 for the three months ended December 31, 2011 and 2010, respectively. The unamortized portion of the debt discount was $15 and zero as of December 31 and September 30, 2011, respectively. A commitment fee of $40,000, calculated as one percent (1%) per year of the maximum allowable borrowing amount, was incurred for the two-year renewal of the Line effective December 28, 2011, and such fee is payable in two installments in February 2012 and December 2012.

 

35

 


 
 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 4: DEBT (Continued)

 

Notes and Leases Payable (continued)

 

Line of Credit Arrangement (continued)

 

The outstanding principal balance due under the Line may be repaid by us at any time, and the term may be extended by us past the current December 27, 2013 expiration date for an extra year, subject to compliance with all loan terms, including no material adverse change, as well as concurrence of the Lender. The outstanding principal is due on demand in the event a payment default is uncured one (1) day after written notice.

 

The Line is also subject to us maintaining an adequate level of receivables, based on certain formulas, as well as our compliance with a quarterly debt service coverage covenant (the “Covenant”), effective with the September 30, 2010 quarter. The Covenant, as defined in the applicable loan documents for quarterly periods through December 31, 2011, requires that our net income or loss, adjusted to remove all non-cash expenses as well as cash interest expense, be equal to or greater than that same cash interest expense. We were in compliance with this Covenant for the September 30, 2010 quarter. The Lender waived the Covenant requirement for the December 31, 2010 quarter, but charged us additional interest of 3% per annum from the March 16, 2011 waiver date through May 16, 2011, when we demonstrated that we were in compliance with the Covenant for the March 31, 2011 quarter. We were also in compliance with this Covenant for the June 30, September 30 and December 31, 2011 quarters. The Covenant, as defined in the applicable loan documents for quarterly periods after December 31, 2011, requires that the sum of (i) our net income or loss, adjusted to remove all non-cash expenses as well as cash interest expense and (ii) contributions to capital (less cash distributions and/or cash dividends paid during such period) and proceeds from subordinated unsecured debt, be equal to or greater than the sum of cash payments for interest and debt principal payments.

 

Effective February 2012, the modified terms of the Line require that all funds remitted by our customers in payment of our receivables be deposited directly to a bank account owned by the Lender. Once those deposited funds become available, the Lender is then required to immediately remit them to our bank account, provided that we are not in default under the Line and to the extent those funds exceed any past due principal, interest or other payments due under the Line, which the Lender may offset before remitting the balance.

 

The Lender must approve any additional debt incurred by us, other than debt incurred in the ordinary course of business (which includes equipment financing). Accordingly the Lender has approved the $1.0 million Equipment Notes we issued in June and July 2008, the Rockridge Note we issued for $1.0 million in April 2009 and amended to $2.0 million in September 2009, the $200,000 CCJ Note we issued in December 2009, all as discussed above, as well as the $250,000 Greenberg Note we issued in January 2010, the $500,000 Wilmington Notes we issued in February 2010 and the $250,000 Lehmann Note we issued in May 2010.

 

Capitalized Equipment Leases

 

We are obligated under a capital lease for telephone equipment, with an outstanding principal balance of $18,163 and $20,103 as of December 31 and September 30, 2011, respectively. The balance is payable in monthly payments of $828 through January 2014, which includes interest at approximately 11% per annum.

 

 

36

 


 
 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 5:  COMMITMENTS AND CONTINGENCIES

 

NASDAQ listing issues

 

On October 21, 2011, we received a letter from NASDAQ stating that we have 180 calendar days, or until April 18, 2012, 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 thirty consecutive business days preceding that letter. 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 April 18, 2012 deadline. If we are not considered compliant by April 18, 2012, 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 $0.68 per share on February 10, 2012.

 

We have incurred losses since our inception, and our operations have been financed primarily through the issuance of equity (publicly traded shares and convertible equivalents) and debt. Our access to funding under the LPC Purchase Agreement requires, among other things, that our common stock be traded on NASDAQ or a similar national exchange.

 

 In addition, the terms of the 8% Senior Convertible Debentures and the 8% Subordinated Convertible Debentures (and the related warrants), which we issued from December 2004 through April 2006, as well as common shares we issued during March and April 2007, contain penalty clauses if our common stock is not traded on NASDAQ or a similar national exchange. However, we believe that (i) it is likely that a material portion of those securities would have changed hands by now and thus the penalty provisions would no longer apply and (ii) regardless of whether the securities were still held by the original purchasers, the applicability of those penalty provisions would be limited by equity and/or by statute to a certain timeframe after the original security purchase.

  

Employment contracts and severance

 

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. 

 

 

37

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 5:  COMMITMENTS AND CONTINGENCIES

 

Employment contracts and severance (continued)

 

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, plus 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 agreements contain certain non-disclosure and non-competition provisions and we have agreed to indemnify the Executives in certain circumstances.

 

Effective October 1, 2009, a significant portion of our workforce, including the Executives, 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 Executives and the contractually scheduled September 28, 2010 and September 28, 2011 raises were not given effect, no adjustment was made to the terms of their related employment agreements, as set forth above, to reflect these matters. Based on approval by our Compensation Committee effective September 29, 2011, 41,073 restricted common Plan shares and four-year Plan options to purchase 266,074 common shares for $0.97 per share (greater than fair market value on the date of issuance) were issued to the Executives as partial consideration for this withheld compensation. The common shares are restricted from trading unless Board approval is given and the options are as of now unvested. A portion of the accrued liability under the caption “Amounts due to executives and officers” on our December 31, 2011 balance sheet pertains to the unresolved contractual obligations, to the extent not addressed by the issuance of restricted shares and options discussed above. We do not expect that the ultimate resolution of this matter will have a materially adverse effect on our financial position or results of operations.

 

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.

 

 

38

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 5:  COMMITMENTS AND CONTINGENCIES (Continued)

 

Employment contracts and severance (continued)

 

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.

 

The above employment agreements also provide 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.

 

On January 14, 2011 our Compensation Committee agreed that it would approve amendments to the executive employment agreements, as well as amending the same terms as applicable to the Board members (see below), allowing for all or part of such compensation to be paid in shares at the recipient’s option, at any time if our stock is trading above $6.00 per share, without requiring that we be sold. The issuance of such shares would be to the extent permitted by applicable law and subject to shareholder and/or any other required regulatory approvals.

 

 

39

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 5:  COMMITMENTS AND CONTINGENCIES (Continued)

 

Other compensation

 

In addition to the 12% allocation of the Company Sale Price to the Executives, as discussed above, on August 11, 2009 our Compensation Committee determined that an additional three percent (3.0%) of the Company Sale Price would be allocated, on the same terms, with two percent (2.0%) allocated to the then four outside Directors (0.5% each), as a supplement to provide appropriate compensation for ongoing services as a director and as a termination fee, one-half percent (0.5%) allocated to one additional executive-level employee and the remaining one-half percent (0.5%) to be allocated by the Board and our management at a later date, which will be primarily to compensate other executives not having employment contracts, but may also include additional allocation to some or all of these five senior Executives. On June 5, 2010, one of the four outside Directors passed away and on April 18, 2011 Mr. Robert D. ("RD") Whitney was appointed to fill that outside director seat. The status of this item, both with respect to the deceased outside director and/or the new outside director, has not been further addressed by the Compensation Committee to date.

 

Consulting contracts

 

We entered into a consulting contract, effective June 1, 2009, with an individual for executive management services. This contract calls for base compensation of $200,000 per year plus a monthly travel allowance of $5,000. The contract also allows a $15,000 moving expenses reimbursement. Although the two-year contract term ended on June 1, 2011, and there has been no official renewal, we have continued to pay this individual under the same terms since that date. Termination without cause after the contract term requires six months notice (which includes a three month severance period) from the terminating party, although termination with cause requires no notice.

 

Lease commitments

 

We are obligated under operating leases for our five offices (one each in Pompano Beach, Florida, San Francisco, California and Colorado Springs, Colorado and two in the New York City area), which call for monthly payments totaling approximately $58,000. The leases have expiration dates ranging from 2011 to 2013 (after considering our rights of termination) and in most cases provide for renewal options. Most of the leases have annual rent escalation provisions. The future minimum lease payments required under the non-cancelable leases, plus the capital lease included in Notes Payable and more fully discussed in note 4, are approximately $820,000. Total rental expense (including executory costs) for all operating leases was approximately $171,000 and $208,000 for the three months ended December 31, 2011 and 2010, respectively.

 

The three-year operating lease for our principal executive offices in Pompano Beach, Florida expires September 15, 2013. The monthly base rental is currently approximately $21,400 (including our share of property taxes, insurance and other operating expenses incurred under the lease but excluding operating expenses such as electricity paid by us directly). The lease provides for two percent (2%) annual increases, as well as one two-year renewal option, with a three percent (3%) rent increase in year one.

 

 

40

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 5:  COMMITMENTS AND CONTINGENCIES (Continued)

 

Lease commitments (continued)

 

The five-year operating lease for our office space in San Francisco expires July 31, 2015.  The monthly base rental (including month-to-month parking) is approximately $9,300 with annual increases up to 5.1%. The lease provides 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 (6) months notice and a payment of no more than approximately $25,000.

 

The three-year operating lease for our Infinite Conferencing location in New Jersey expires October 31, 2012. The monthly base rental is approximately $15,700 with five percent (5%) annual increases. The lease provides one two-year renewal option, with no rent increase.

 

The three-year operating lease for office space in New York City expires January 31, 2013, although both we and the landlord have the right to terminate the lease without penalty upon nine (9) months notice. The monthly base rental is approximately $10,700, with no increases.

 

In addition to the commitments listed above and which are not included in the above table, we also lease 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 under varying terms. An aggregate approximately $8,000 per month related to these facilities is classified by us as rental expense with the balance of our payments to these facilities classified as cost of revenues – see discussion of bandwidth and co-location facilities purchase commitment discussion below.

 

Purchase commitments

 

We have entered into various agreements for our purchase of bandwidth and use of co-location facilities, for an aggregate minimum purchase commitment of approximately $184,000, such agreements expiring at various times through August 2013.

 

We are a party to an agreement for services in connection with our internal corporate phone system, requiring monthly payments of approximately $2,600 per month for a three year period ending August 2013.

 

Legal and regulatory proceedings

 

We are involved in 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 financial position or results of operations.

 

 

41

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 5:  COMMITMENTS AND CONTINGENCIES (Continued)

 

Legal and regulatory proceedings (continued)

 

Our audio and video networking services are conducted primarily over telephone lines, which are heavily regulated by 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) issued an order in 2008 that requires conference calling companies to remit Universal Service Fund (USF) contribution payments on customer usage associated with conference calls. In addition, the FCC has recently announced its position that the 2008 order extended to audio bridging services provided using internet protocol (IP) technology. While we believe that we have registered our operations appropriately with the FCC, including the filing of both quarterly and annual reports regarding the revenues derived from conference calling, it is possible that our determination of the extent to which our operations are subject to USF could be challenged. However, we do not believe that the ultimate outcome of any such challenge would have a material adverse effect on our financial position or results of operations.

 

NOTE 6:  CAPITAL STOCK

 

Common Stock

 

During the three months ended December 31, 2011 we issued 55,113 common shares for financial consulting and advisory services, comprised of (i) 30,000 unregistered common shares valued at approximately $29,000 and (ii) 25,113 unregistered common Plan shares valued at approximately $15,000. These shares will be recognized as professional fees expense and as other general and administrative expense over various service periods of up to 6 months. None of these shares or options were issued to our directors or officers.

 

Professional fee expenses arising from these and prior issuances of shares and options for financial consulting and advisory services were approximately $227,000 and $141,000 for the three months ended December 31, 2011 and 2010, respectively. As a result of previously issued shares and options for financial consulting and advisory services, we have recorded approximately $253,000 in deferred equity compensation expense at December 31, 2011, to be amortized over the remaining periods of service of up to 6 months. The deferred equity compensation expense is included in the balance sheet caption prepaid expenses.

 

As of December 31, 2011, 165,000 shares issued for financial consulting and advisory services and recorded in fiscal 2011 have not yet been earned and would be recoverable by us in the event of our termination of the related contract on or before February 28, 2012.

 

During the three months ended December 31, 2011, we issued 51,531 unregistered common shares valued at approximately $39,000 for interest on the Equipment Notes- see note 4.

 

During the three months ended December 31, 2011 we issued 3,500 unregistered common shares for Series A-13 dividends for the third calendar quarter of 2011, as discussed in more detail below.

 

 

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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 6:  CAPITAL STOCK (Continued)

 

Common Stock (continued)

 

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 a warrant 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 $824,045 net proceeds (after deducting fees and legal, accounting and other out-of-pocket costs incurred by us) related to our issuance under that Purchase Agreement of the equivalent of 770,000 common shares (including those issuable upon conversion of the preferred shares). See notes 6 and 8 for further details with respect to the Series A-14 and the warrant.

 

During the year ended September 30, 2011, we sold LPC an additional 1,530,000 shares of our common stock under that Purchase Agreement for net proceeds of $1,408,192. LPC remains committed to purchase, at our sole discretion, up to an additional 1.8 million (which quantity is after giving effect to the terms of an April 28, 2011 amendment to the Purchase Agreement) 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) consecut ive 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. Our most recent sale of shares to LPC under the Purchase Agreement was on August 30, 2011 – see note 9 with respect to a February 2012 sale of shares to LPC unrelated to the Purchase Agreement. The closing market price of our common stock has been less than $0.75 per share for a large majority of the trading days since December 31, 2011 and the closing market price was $0.68 per share on February 10, 2012. Accordingly, we are not currently able to sell additional common shares to LPC under that Purchase Agreement.

 

The Purchase Agreement has a term of 36 months (which is after giving effect to the terms of an April 28, 2011 amendment) 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.

 

 

43

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 6:  CAPITAL STOCK (Continued)

 

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 prospectus supplements filed by us on September 24, 2010 and on July 1, 2011 with the Securities and Exchange Commission in connection with a takedown of an aggregate of 4.1 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. Since there are no specified damages payable by us in the event of a default under the Registration Rights Agreement, we have determined that this is not a registration payment arrangement, as that term is defined in the Derivatives and Hedging topic (Contracts in Entity’s own Equity subtopic) of the ASC.

 

Preferred Stock

 

Series A-13 Convertible Preferred Stock

 

Effective December 17, 2009, our Board of Directors authorized the sale and issuance of up to 170,000 shares of Series A-13 Convertible Preferred Stock (“Series A-13”). On December 23, 2009, we filed a Certificate of Designation, Preferences and Rights for the Series A-13 with the Florida Secretary of State. On March 2, 2011, we filed a Certificate of Designation, Preferences and Rights for the Series A-13 with the Florida Secretary of State, reflecting certain changes arising from a January 2011 agreement with CCJ Trust, as discussed below. On January 20, 2012, we filed a Certificate of Designation, Preferences and Rights for the Series A-13 with the Florida Secretary of State, reflecting certain changes arising from a January 2012 agreement with J&C Resources, as discussed below. The Series A-13 has a coupon of 8% per annum, an assigned value of $10.00 per preferred share and a conversion rate of $1.72 per common share (after the January 20, 2012 modification). Series A-13 dividends are cumulative and must be fully paid by us prior to the payment of any dividend on our common shares. Series A-13 dividends are payable quarterly, as well as at the time of any conversion of A-13, in cash or at our option in the form of our common shares, using the greater of (i) $2.00 per share or (ii) the average closing bid price of a common share for the five trading days immediately preceding the conversion.

 

In lieu of cash payments for dividends due on Series A-13, we elected to issue the following unregistered common shares to the holder, using the minimum conversion rate of $2.00 per share, which shares were recorded based on the fair value of those shares on the issuance date.

 

 

Share issuance date

Number of unregistered common shares

 

Dividend period

Dividends if paid in cash

Fair value of shares at issuance

March 3, 2011

14,000

Jan - December 2010

$28,000

$15,820

May 24, 2011

 3,500

Jan 2011 – March 2011

$  7,000

$  4,129

August 24, 2011

 3,500

April 2011 – June 2011

$  7,000

$  2,868

November 21, 2011

 3,500

July 2011 – Sept 2011

$  7,000

$  1,644

February 10, 2012

 3,500

Oct 2011–December 2011

$  7,000

$  2,345

 

As of December 31, 2011, accrued but unpaid Series A-13 dividends of $7,000 for the fourth calendar quarter of 2011 were reflected as a current liability on our balance sheet.

 

 

44

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 6:  CAPITAL STOCK (Continued)

 

Preferred Stock (continued)

 

Series A-13 Convertible Preferred Stock (continued)

 

Any shares of Series A-13 that are still outstanding as of December 31, 2012 will automatically convert into our common shares. Series A-13 may also be converted before that date at our option, provided that the closing bid price of our common shares has been at least $9.00 per share, on each of the twenty (20) trading days ending on the third business day prior to the date on which the notice of conversion is given. Series A-13 is senior to all other preferred share classes that may be issued by us. Except as explicitly required by applicable law, the holders of Series A-13 shall not be entitled to vote on any matters as to which holders of our common shares are entitled to vote. Holders of Series A-13 are not entitled to registration rights.

 

35,000 shares of Series A-13 were outstanding as of December 31 and September 30, 2011. We incurred $6,747 of legal fees and other expenses in connection with the issuance of these shares, which was recorded on our balance sheet as a discount and was amortized as a dividend over the first year of the term of the Series A-13. The unamortized portion of the discount was zero at December 31 and September 30, 2011.

 

In conjunction with and in consideration of a January 2011 note transaction entered into by us with CCJ Trust (see note 4), it was agreed that certain terms of the 35,000 shares of Series A-13 held by CCJ Trust at that date would be modified as follows - the conversion rate to common shares, as well as the minimum conversion rate for payment of dividends in common shares, was adjusted from $3.00 to $2.00 per share, the maturity date was adjusted from December 31, 2011 to December 31, 2012 and dividends will be paid quarterly instead of just upon conversion.

 

In January 2012, as part of a transaction under which J&C Resources issued us a Funding Letter (see note 1), we agreed to reimburse CCJ in cash the shortfall, as compared to minimum guaranteed net proceeds of $139,000, from their resale of 101,744 shares CCJ will receive upon their conversion of 17,500 shares of Series A-13 and after effecting our agreement as part of the same transaction to reduce the conversion rate on all Series A-13 shares from $2.00 per common share to $1.72 per common share. We currently estimate this shortfall to be $84,000, which we have agreed to pay in monthly installments over a one year period commencing January 31, 2012.

 

We have agreed that if the Funding Letter is extended for a second year, which extension is subject to negotiation between the parties, we will reimburse the shortfall from the sale of common shares received by CCJ upon conversion of the second tranche of 17,500 shares of Series A-13 now held by CCJ, on the same terms agreed to with respect to the first tranche of 17,500 shares. We have also agreed that in the event that Mr. Johnston is unable to serve as audit committee chairman for fiscal 2013 as a result of his disability or death, and to the extent that there is a shortfall between the proceeds from the resale of the common shares versus the assigned value of the second tranche of 17,500 shares of Series A-13, that the lesser of $36,000 or the shortfall will be paid to him or his estate.

 

 

45

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 6:  CAPITAL STOCK (Continued)

 

Preferred Stock (continued)

 

Series A-14 Convertible Preferred Stock

 

Effective September 17, 2010, our Board of Directors authorized the sale and issuance of up to 420,000 shares of Series A-14 Preferred Stock (“Series A-14”). On September 22, 2010, we filed a Certificate of Designations for the Series A-14 with the Florida Secretary of State. Series A-14 has a stated value of $1.25 per preferred share and a fixed conversion rate of $1.25 per common share.  Series A-14 had a onetime 5% dividend payable in cash on the first anniversary of the original issue date, which was satisfied by our $26,250 cash payment on September 20, 2011.

 

The holders of Series A-14 may convert, at the option of the holder and subject to certain limitations, each share of Series A-14 into one fully-paid, non-assessable share of our common stock.  Any shares of Series A-14 that are still outstanding as of second annual anniversary of the original issue date shall automatically be converted into our common shares, using the same ratio.  Series A-14 is senior to our common stock but subordinate to Series A-13 and the holders of Series A-14 shall not be entitled to vote on any matters as to which holders of our common shares are entitled to vote. Series A-14 is redeemable at our option for $1.56 per share plus accrued but unpaid dividends, provided that the holder has the right to convert to common during a ten day notice period prior to such redemption.

 

As discussed above, on September 17, 2010, we entered into a Purchase Agreement whereby LPC agreed to an initial purchase of common stock plus shares of Series A-14. We issued 420,000 shares of Series A-14 to LPC on September 24, 2010. The shares issuable upon conversion of Series A-14 were registered for resale subject to the LPC Registration Rights Agreement.

 

The fair value of the warrants issued in connection with the Purchase Agreement was calculated to be approximately $386,000 using the Black-Scholes model (with the assumptions including expected volatility of 105% and a risk free interest rate of 1.08%). The common shares issued as a one-time commitment fee in connection with the Purchase Agreement were valued at approximately $55,000, based on the quoted market value on the date of issuance. The aggregate of these two items, plus the cash out-of-pocket costs incurred by us in connection with the Purchase Agreement, was allocated on a pro-rata basis between the number of common shares sold and the common shares underlying the Series A-14. The amount allocated to the Series A-14, $298,639, was recorded on our balance sheet as a discount and is being amortized as a dividend over the term of the Series A-14. The unamortized portion of the discount was $109,179 and $146,418 at December 31 and September 30, 2011, respectively. See Note 8 with respect to the recording of the warrants as a liability on our December 31 and September 30, 2011 balance sheets.

 

The number of shares of ONSM common stock that can be issued upon the conversion of Series A-14 is limited to the extent necessary to ensure that following the conversion the total number of shares of ONSM common stock beneficially owned by the holder does not exceed 4.999% of our issued and outstanding common stock, although this percentage may be changed at the holder’s option upon not less than 61 days advance notice to us and provided the changed limitation does not exceed 9.99%.

 

 

46

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 7:  SEGMENT INFORMATION

 

Our operations are comprised within two groups, Digital Media Services and Audio and Web Conferencing Services. The primary operating activities of the Webcasting and MP365 divisions of the Digital Media Services Group, as well as our corporate headquarters, are in Pompano Beach, Florida. The Webcasting division has its main sales facility in New York City. The primary operating activities of the Smart Encoding division of the Digital Media Services Group and the EDNet division of the Audio and Web Conferencing Services Group are in San Francisco, California. The primary operating activities of the DMSP and UGC divisions of the Digital Media Services Group are in Colorado Springs, Colorado. The primary operating activities of the Infinite division of the Audio and Web Conferencing Services Group are in the New York City area. All material sales, as well as property and equipment, are within the United States. Detailed below are the results of operations by segment for the three months ended December 31, 2011 and 2010, and total assets by segment as of December 31 and September 30, 2011.

 

 

For the three months ended December 31,

 

2011

2010

Segment revenue:

 

 

Digital Media Services Group

$          2,010,914 

$            1,949,633 

Audio and Web Conferencing Services Group

           2,503,203  

              2,287,620  

Total consolidated revenue

$         4,514,117  

$           4,237,253  

 

 

 

Segment operating income:

 

 

Digital Media Services Group

525,384 

396,820 

Audio and Web Conferencing Services Group

               724,188 

                 589,700  

Total segment operating income

1,249,572 

986,520 

 

 

 

Depreciation and amortization

(       356,508)

(        386,197)

Corporate and unallocated shared expenses

(    1,406,389)

(     1,343,749)

Other expense, net

       (       139,513)

        (        154,267)

Net loss

$    (       652,838)

$     (        897,693)

 

 

 

 

December 31,

 2011

September 30, 2011

Assets:

 

 

Digital Media Services Group

$        4,495,920

$        4,490,057

Audio and Web Conferencing Services Group

      12,221,805

      12,486,260

Corporate and unallocated

              881,196

              789,047

Total assets

 $     17,598,921

 $     17,765,364

 

 

Depreciation and amortization, as well as corporate and unallocated shared expenses and other expense, net, are not utilized by our primary decision makers for making decisions with regard to resource allocation or performance evaluation of the segments.

 

 

 

47

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 8:  STOCK OPTIONS AND WARRANTS

 

As of December 31, 2011, we had issued options and warrants still outstanding to purchase up to 3,368,687 ONSM common shares, including 2,191,900 shares under Plan Options; 41,962 shares under Non-Plan Options to employees and directors; 483,531 shares under Plan and Non-Plan Options to financial and other consultants; and 651,294 shares under warrants issued in connection with various financings and other transactions.

 

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. We may no longer issue additional options or stock grants under the 1996 Plan, which expired on February 9, 2007. On September 18, 2007, our Board of Directors and a majority of our shareholders adopted the 2007 Equity Incentive Plan (the “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 Plan, for total authorization of 2,000,000 shares and on June 13, 2011 they authorized a further increase in authorized Plan shares by 2,500,000 to 4,500,000.

 

Detail of Plan Option activity under the 1996 Plan and the 2007 Plan for the three months ended December 31, 2011 is as follows:

 

Number of Shares

Weighted Average Exercise Price

Balance, beginning of period

2,214,358 

$

 4.72

Granted during the period

-

-

Expired or forfeited during the period

(22,458)

$

 1.34

Balance, end of the period

2,191,900 

$

 4.69

Exercisable at end of the period

909,792 

$

 9.57

 

We recognized compensation expense of approximately $169,000 and $226,000 for the three months ended December 31, 2011 and 2010, respectively, related to Plan Options granted to employees and consultants and vesting during those periods. The unvested portion of Plan Options outstanding as of December 31 2011 (and granted on or after our October 1, 2006 adoption of the requirements of the Compensation - Stock Compensation topic of the ASC) represents approximately $426,000 of potential future compensation expense, which excludes approximately $416,000 related to the ratable portion of those unvested options allocable to past service periods and recognized as compensation expense through December 31, 2011.

 

 

 

 

 

 

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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 8:  STOCK OPTIONS AND WARRANTS (Continued)

 

The outstanding Plan Options for the purchase of 2,191,900 common shares all have exercise prices equal to or greater than the fair market value at the date of grant, the exercisable portion has a weighted-average remaining life of approximately 1.6 years and are further described below.

 

Grant date

Description

Total number of underlying common shares

Vested portion of underlying common shares

Exercise price per share

Expiration

date

Dec 2004

Senior management

25,000

25,000

$7.26

Aug 2014

April 2007

Infinite Merger – see note 2

25,000

25,000

$15.00

April 2012

Sept 2007

Senior management

344,792

344,792

$10.38

Sept 2012 –

Sept 2016

April 2008

Employees excluding senior management

2,500

2,500

$6.00

April 2012

May 2008

Consultant

16,667

16,667

$6.00

May 2013

Aug 2008

Employees excluding senior management

62,500

62,500

$6.00

Aug 2012

May 2009

Consultant

66,667

33,333

$3.00

Jun 2014 –

Jun 2018

May 2009

Employees excluding senior management

50,000

50,000

$3.00

May 2013 –

Jul 2015

Aug 2009

Directors and senior management

133,334

133,334

$15.00

Aug 2014

Aug 2009

Directors and senior management

76,773

76,773

$9.42

Aug 2014

Dec 2009

Directors and senior management

114,893

114,893

$9.42

Dec 2014

Jan 2011

Directors and senior management

525,000

-

$1.23

Jan 2015

Jan 2011

Employees excluding senior management

407,700

-

$1.23

Jan 2015

Jan 2011

Consultant

50,000

-

$1.23

Jan 2015

Jun 2011

RD Whitney – new director

25,000

25,000

$1.00

Jun 2015

Sept 2011

Senior management

266,074

-

$0.97

Sept 2015

Total common shares underlying Plan Options as of December 31, 2011

2,191,900

909,792

 

 

On January 14, 2011 our Compensation Committee awarded 983,700 four-year options under the provisions of the 2007 Plan. These options were issued to our directors, employees and consultants, vest over two years and are exercisable at $1.23 per share, fair market value on the date of the grant. The Black-Scholes valuation of this grant is approximately $803,000, which is being recognized as non-cash compensation expense over the two year service period starting in January 2011. In January 2011, our Compensation Committee approved (subject to our shareholders’ approval in the annual shareholder meeting on June 13, 2011 of sufficient additional authorized Plan shares, which approval was received) augmenting the above grant by an equal number of options issued to the same recipients, using the same strike price as the above grant, to the extent permitted by applicable law and subject to shareholder and/or any other required regulatory approvals. The Compensation Committee is in the process of finalizing this grant.

 

As of December 31, 2011, there were outstanding Non-Plan Options issued to employees and directors for the purchase of 41,962 common shares, which were issued during fiscal 2005 in conjunction with the Onstream Merger (see note 2). These options are immediately exercisable at $20.26 per share and expire at various times from July 2012 to May 2013.

 

 

49

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 8:  STOCK OPTIONS AND WARRANTS (Continued)

 

As of December 31, 2011, there were outstanding and fully vested Plan and Non-Plan Options issued to financial and other consultants for the purchase of 483,531 common shares, as follows:

 

Issuance period

Number of common shares

Exercise price per share

Type

Expiration

Date

November 2011

30,000

$0.92 

Plan

Nov 2016

Three months ended December 31, 2011

30,000

March 2011

300,000

$1.50 

Non-Plan

March 2015

Year ended September 30, 2011

300,000

October 2009

75,000

$3.00 

Non-Plan

Oct 2013

July 2010

50,000

$6.00 

Non-Plan

July 2014

Year ended September 30, 2010

125,000

August 2009

16,667

$3.00 

Plan

Aug 2013

September 2009

8,333

$3.00 

Non-Plan

Sept 2013

Year ended September 30, 2009

25,000

March 2007

3,531

$14.88

Non-Plan

March 2012

Year ended September 30, 2007

3,531

Total common shares underlying consultant options as of December 31, 2011

483,531

                                                                                                

 

As of December 31, 2011, there were outstanding vested warrants, issued in connection with various financings, to purchase an aggregate of 651,294 shares of common stock, as follows:

 

Number of

common

Exercise price

Expiration

Description of transaction

 shares

per share

Date

LPC Purchase Agreement – September 2010 –   

   see note 6

565,090   

$1.92

September 2015

CCJ Note – December 2009 – see note 4

29,167   

$3.00

December 2013

Placement fees – common share offering –

March and April

   March and April 2007

57,037   

$16.20

2012

Total common shares underlying warrants

   as of December 31, 2011

651,294   

 

50

 


 
 

 

ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

 

 

NOTE 8:  STOCK OPTIONS AND WARRANTS (Continued)

 

With respect to the warrant issued in connection with the LPC Purchase Agreement (the “LPC Warrant”), both the exercise price and the number of underlying shares are subject to adjustment in accordance with certain anti-dilution provisions. As a result of the effective conversion price of our common shares issued to retire certain debt through December 31, 2011, including a portion of the Equipment Notes (see note 4), the exercise price of the LPC Warrant has been adjusted from the original exercise price of $2.00 to approximately $1.91, and the number of underlying shares increased from the original of 540,000 shares to approximately 565,090 shares. Equipment Notes with a remaining outstanding balance of $350,000 may be converted to 500,000 common shares using a rate of $0.70 per share - in the event of such conversion the exercise price of the LPC Warrant would be adjusted from approximately $1.91 to approximately $1.86 per share and the number of underlying shares would be increased from approximately 565,090 to approximately 580,562. In January 2012, we modified the rate for converting Series A-13 Preferred shares to common shares from $2.00 to $1.72 per share. At the time of any such conversion, the exercise price of the LPC Warrant will be adjusted from approximately $1.91 to $1.72 per share and the number of underlying shares will be increased from approximately 565,090 to 627,907.

 

Due to the price-based anti-dilution protection provisions of the LPC Warrant (also known as “down round” provisions) and in accordance with ASC Topic 815, “Contracts in Entity’s Own Equity”, we are required to recognize the LPC Warrant as a liability at its fair value on each reporting date. The LPC Warrant was reflected as a non-current liability of $165,160 and $188,211 on our consolidated balance sheets as of December 31 and September 30, 2011, respectively. The $23,051 decrease in the fair value of this liability from September 30, 2011 to December 31, 2011 was reflected as other income in our consolidated statement of operations for the three months ended December 31, 2011. Subsequent changes in the fair value of this liability will be recognized in our consolidated statement of operations as other income or expense. See note 1 – Effects of Recent Accounting Pronouncements.

 

The LPC Warrant contains certain cashless exercise rights. The number of shares of ONSM common stock that can be issued upon the exercise of the LPC Warrant is limited to the extent necessary to ensure that following the exercise the total number of shares of ONSM common stock beneficially owned by the holder does not exceed 4.99% of our issued and outstanding common stock, although this percentage may be changed at the holder’s option upon not less than 61 days advance notice to us and provided the changed limitation does not exceed 9.99%.

 

The exercise prices of all of the above warrants are subject to adjustment for various factors, including in the event of stock splits, stock dividends, pro rata distributions of equity securities, evidences of indebtedness, rights or warrants to purchase common stock or cash or any other asset or mergers or consolidations. Such adjustment of the exercise price would in most cases result in a corresponding adjustment in the number of shares underlying the warrant.

 

NOTE 9:  SUBSEQUENT EVENTS

 

Notes 1 (Liquidity – expense reductions, share price decline impact on LPC Purchase Agreement, Funding Letter), 2 (Auction Video – patent appeal developments), 4 (Equipment Notes – principal repayments; Line of Credit Arrangement – renewal and modified terms), 6 (Preferred Stock - common shares issued for A-13 dividends, adjustment of A-13 conversion price and agreement to reimburse shortfall)  and 8 (Anti-dilution adjustments to LPC Warrant) contain disclosure with respect to transactions occurring after December 31, 2011.

 

 

51

 


 
 

 
 

 

ITEM 2.   MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION

 

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 corporate audio and web communications, virtual event technology and social media marketing, provided primarily to corporate (including large as well as small to medium sized businesses), education and government customers.  We had approximately 94 full time employees as of February 10, 2012, with operations organized in two main operating groups:

 

·                      Digital Media Services Group

·                      Audio and Web Conferencing Services Group

 

Our Digital Media Services Group consists primarily of our Webcasting division, our DMSP (“Digital Media Services Platform”) division and our MP365 (“MarketPlace365”) division. The DMSP division includes the related UGC (“User Generated Content”) and Smart Encoding divisions.

 

Our Webcasting division, which operates primarily from Pompano Beach, Florida and has a sales and support 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. This division also provides hosting, storage and streaming services for digital media, which are provided via the DMSP.

 

Our MP365 division, which operates primarily from Pompano Beach, Florida with additional operations in San Francisco, California, enables publishers, associations, tradeshow promoters and entrepreneurs to self-deploy their own online virtual marketplaces using the MarketPlace365 ® platform.

 

Our Audio and Web Conferencing Services Group consists of our Infinite Conferencing (“Infinite”) division and our EDNet division. Our Infinite division operates primarily from the New York City area and provides “reservationless” and operator-assisted audio and web conferencing services. Our EDNet division, which operates primarily from San Francisco, California, provides connectivity (in the form of high quality audio, compressed video and multimedia data communications) 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.

 

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Recent Developments

 

Our securities are listed on The NASDAQ Capital Market. On October 21, 2011 we received a letter from NASDAQ stating that we have 180 calendar days, or until April 18, 2012, 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 thirty consecutive business days preceding that letter. 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 April 18, 2012 deadline. If we are not considered compliant by April 18, 2012, 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 $0.68 per share on February 10, 2012. We have incurred losses since our inception, and our operations have been financed primarily through the issuance of equity (publicly traded shares and convertible equivalents) and debt. Our access to funding under the LPC Purchase Agreement requires, among other things, that our common stock to be traded on NASDAQ or a similar national exchange.

 

As of September 30, 2010 we were obligated for an aggregate of $1.0 million that we had borrowed in 2008 from seven accredited individuals and other entities (the “Investors”), under a software and equipment financing arrangement. The related notes that we had issued to those Investors (the “Equipment Notes”) had an original maturity date of June 3, 2011. At various times from April 4, 2011 to July 20, 2011, $550,000 of the outstanding balance of those notes was converted to our common shares, using conversion prices from $0.90 to $1.20 per share. As a result of those conversions, as well as cash repayments aggregating $65,000, the remaining outstanding principal balance under the Equipment Notes was $385,000 as of September 30, 2011. Effective October 1, 2011, $350,000 of those Equipment Notes were amended to provide for an October 15, 2012 maturity date and a $0.70 per common share conversion rate (at the Investors’ option). In addition, the payment terms were amended so that 50% of the principal would be paid in eleven equal monthly installments commencing November 15, 2011 and 50% of the principal would be payable on the revised maturity date. These Equipment Notes were assigned by the applicable Investors to three accredited entities in October 2011 and that time it was agreed that the first six monthly payments would be deferred and added to the final balloon payment. Of t he remaining $35,000 of the balance outstanding under the Equipment Notes as of September 30, 2011, approximately $27,000 was repaid in February 2012 and the balance is expected to be paid on or before March 31, 2012.

 

In January 2012, as part of a transaction under which J&C Resources issued a Funding Letter whereby they would lend us $550,000 under certain conditions through December 31, 2012, we agreed to reimburse CCJ in cash the shortfall from their resale of shares received upon their conversion, after effecting a reduction of the conversion price agreed to by us, of 17,500 shares of Series A-13. Based on the estimated shortfall plus (i) the increased value of the underlying common stock related to a second tranche of 17,500 shares of Series A-13 owned by CCJ and (ii) the Black-Scholes value of adjustments to warrants held by Lincoln Park Capital arising from certain anti-dilution provisions, we estimate that the total cost of this Funding Letter will be approximately $118,000, which we will recognize as expense over a one year period. See Liquidity and Capital Resources.

 

On February 15, 2012, in exchange for $140,000 cash proceeds, we issued LPC 200,000 unregistered common shares and a five-year warrant to purchase 100,000 unregistered common shares at an exercise price of $1.00 per share. This transaction was unrelated to the LPC Purchase Agreement dated September 17, 2010 and subsequently amended.

 

 

54

 


 
 

Revenue Recognition

 

Revenues from recurring service are recognized when (i) persuasive evidence of an arrangement exists between us and the customer, (ii) the goods 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.

 

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.

 

We add to our customer billings for certain services an amount to recover USF contributions which we have determined that we will be obligated to pay to the FCC, related to those particular services. This additional billing to our customers is not reflected as revenue by us, but rather is recorded as a liability on our books, which liability is relieved upon our remittance of USF contributions as they are billed to us by USAC, an administrative and collection agency of the FCC.

 

Results of Operations

 

Our consolidated net loss for the three months ended December 31, 2011 was approximately $653,000 ($0.06 loss per share) as compared to a loss of approximately $898,000 ($0.10 loss per share) for the corresponding period of the prior fiscal year, a decrease in our loss of approximately $245,000 (27.3%). The decreased net loss was primarily due to increased gross margin for the three months ended December 31, 2011, which was approximately $141,000, or 5.0%, greater than in the corresponding period of the prior fiscal year, and corresponded to an approximately 6.5% increase in our revenues for that same period. Also, operating expenses for the three months ended December 31, 2011 decreased by approximately $89,000, or 2.5%, as compared to the corresponding period of the prior fiscal year. This decrease in operating expenses was primarily due to an approximately $115,000, or 5.4%, decrease in compensation expense as compared to the corresponding period of the prior fiscal year.

 

 

55

 


 
 

 

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

 

 

 

Three months ended December 31,

 
 

2011

   

2010

 

Revenue:

         
           

     Audio and web conferencing

44.6 

%

42.7 

%  

     Webcasting

33.2 

   

34.3 

 

     DMSP and hosting

10.5 

   

11.5 

     Network usage

10.6 

   

11.0 

 

     Other

1.1 

   

0.5 

 

Total revenue

100.0 

%

100.0 

%

           

Costs of revenue:

         
           

     Audio and web conferencing

14.3 

%

14.2 

%  

     Webcasting

9.6 

   

8.5 

 

     DMSP and hosting

5.3 

   

5.2 

     Network usage

4.8 

   

4.9 

 

     Other

0.3 

   

0.5 

 

Total costs of revenue

34.3 

%

33.3 

%

           

Gross margin

65.7 

%

66.7 

%

           

Operating expenses:

         

     Compensation

44.2 

%

49.8 

%

     Professional fees

13.4 

   

12.8 

 

     Other general and administrative

11.6 

   

12.5 

 

Depreciation and amortization

7.9 

   

9.1 

 

Total operating expenses

77.1 

%

84.2 

%

         

Loss from operations

(11.4)

%

(17.5)

%

           

Other expense, net:

         

     Interest expense

(4.1)

%

(7.2)

%

     Gain from adjustment of derivative liability to

   

 

          fair value

0.5 

   

3.3 

 

     Other income

0.5 

   

0.2 

 

Total other expense, net

(3.1)

%

(3.7)

%

           

Net loss

(14.5)

%

(21.2)

%

 

 

56

 


 
 

 

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 three months ended

December 31,

Increase (Decrease)

2011

2010

Amount

Percent 

Total revenue

$

4,514,117 

$

4,237,253 

$

276,864 

6.5 

%

Total costs of revenue

 

1,547,088 

1,411,234 

 

135,854 

9.6 

Gross margin

 

2,967,029 

2,826,019 

 

141,010 

5.0 

%

General and administrative expenses

3,123,846 

3,183,248 

(59,402)

(1.9)

%

Depreciation and amortization

 

356,508 

 

386,197 

 

(29,689)

(7.7)

Total operating expenses

 

3,480,354 

 

3,569,445 

  

(89,091)

(2.5)

%

Loss from operations

(513,325)

(743, 426)

(230,101)

(31.0)

%

Other expense, net

 

(139,513)

   

(154,267)

   

(14,754)

(9.6)

Net loss

$

(652,838)

$

(897,693)

$

(244,855)

(27.3)

%

 

 

Revenues and Gross Margin

 

Consolidated operating revenue was approximately $4.5 million for the three months ended December 31, 2011, an increase of approximately $277,000 (6.5%) from the corresponding period of the prior fiscal year, primarily due to increased revenues of the Audio and Web Conferencing Services Group.

 

Audio and Web Conferencing Services Group revenues were approximately $2.5 million for the three months ended December 31, 2011, an increase of approximately $216,000 (9.4%) from the corresponding period of the prior fiscal year. This increase was primarily a result of increased audio conferencing revenues in the Infinite division.

 

Infinite division revenues increased by approximately $202,000 (11.2%) for the three months ended December 31, 2011 as compared to the corresponding period of the prior fiscal year. The number of minutes billed by the Infinite division was approximately 28.0 million for the three months ended December 31, 2011, as compared to approximately 24.3 million minutes billed for the corresponding period of the prior fiscal year. However, the average revenue per minute was approximately 7.3 cents for the three months ended December 31, 2011, as compared to approximately 7.5 cents for the corresponding period of 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. The average revenue per minute also includes conferencing revenue rebilled to our third party customers by another Onstream division and thus included in that other division’s reported revenues.

 

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 a reseller agreement with Copper Conferencing, a leading, carrier-class conferencing services provider for small and medium-sized businesses and 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 we expect a lead time of a year or longer before they are reflected in actual recorded sales. We believe that the current levels of Infinite division revenues are a reflection of these and other sales initiatives.  


 
 

We expect the above trend to continue and accordingly we expect the fiscal 2012 revenues of the Audio and Web Conferencing Services Group, as well as of its Infinite division, to exceed the respective fiscal 2011 amounts for the year as a whole, although this cannot be assured.

 

Digital Media Services Group revenues were approximately $2.0 million for the three months ended December 31, 2011, an increase of approximately $61,000 (3.1%) from the corresponding period of the prior fiscal year, primarily due to an increase in webcasting division revenues.

 

Webcasting revenues increased by approximately $45,000 (3.1%) for the three months ended December 31, 2011 as compared to the corresponding period of the prior fiscal year. The average revenue per webcast event of approximately $1,217 for the three months ended December 31, 2011 was approximately $443, or 51.8%, higher than the corresponding period of the prior fiscal year. However, we produced approximately 1,300 webcasts during the three months ended December 31, 2011, a decrease of approximately 640 webcasts as compared to the corresponding period of 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. The average revenue per webcast also includes webcasting revenue rebilled to our third party customers by another Onstream division and thus included in that other division’s reported revenues.

 

We expect the above trend to continue and accordingly we expect the fiscal 2012 revenues of the Digital Media Services Group, as well as of its Webcasting division, to exceed the respective fiscal 2011 amounts for the year as a whole, although this cannot be assured.

 

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 a goal of generating business leads for our customers, the MP365 site promoters. As a key element of our sales and marketing program, we have entered into several MP365 agent agreements, including a December 2009 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 and a February 2010 agreement with the Trade Show Exhibitors Association (“TSEA”) for them to market MP365 to TSEA’s members, vendors and sponsors. We also signed an April 2010 agent agreement with AMC Institute, a May 2010 agent agreement with Conventions.net, a March 2011 agent agreement with Smart Source, a May 2011 agent agreement with WebiMax and several others.

 

The first MP365 site was launched in July 2010. There are currently eleven active MP365 promoter sites and we have signed MP365 promoter contracts for another 21 marketplaces (which does not include promoter contracts signed but then later cancelled by us for non-performance). Although we expect several of these 21 marketplaces to eventually launch and become active, some of these promoters have done little or no site development activity to date and thus may not ultimately launch an active marketplace. In general, the promoter of an active marketplace is expected to pay us 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. However, special pricing and payment terms have been granted to MP365 promoters during the current initial stage of introducing the MP365 platform, and may continue to be granted. The attainment of any revenue from a MP365 marketplace or promoter contract is 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. We expect to eventually recognize additional revenue beyond exhibitor and advertising fees since MP365 will integrate with and utilize almost all of our other technologies including DMSP, webcasting, UGC and conferencing.

 

 


 
 

 

 

Consolidated gross margin was approximately $3.0 million for the three months ended December 31, 2011, an increase of approximately $141,000 (5.0%) from the corresponding period of the prior fiscal year. This increase was due to approximately $157,000 additional gross margin from the Infinite division of the Audio and Web Conferencing Services Group, corresponding to an approximately $202,000 increase in Infinite division revenues.

 

Our consolidated gross margin percentage was 65.7% for the three months ended December 31, 2011, versus 66.7% for the corresponding period of the prior fiscal year.

 

Consistent with our expectations that the fiscal 2012 revenues of both the Audio and Web Conferencing Services Group and the Digital Media Services Group will exceed the respective corresponding fiscal 2011 amounts for the year as a whole, as discussed above, we expect consolidated gross margin (in dollars) for fiscal year 2012 to exceed the corresponding fiscal 2011 amount, although this cannot be assured.

 

Operating Expenses

 

Consolidated operating expenses were approximately $3.5 million for the three months ended December 31, 2011, a decrease of approximately $89,000 (2.5%) from the corresponding period of the prior fiscal year, primarily due to an approximately $115,000, or 5.4%, decrease in compensation expense as compared to the corresponding period of the prior fiscal year. During March and April 2011, we took actions which reduced our compensation and other expenses by approximately $75,000 for the third quarter of fiscal 2011 and by another approximately $25,000 for the fourth quarter of fiscal 2011, with such savings continuing thereafter, although subsequent increases in certain compensation and other expenses have partially offset some of these savings. Furthermore, during October and November 2011, we took actions which reduced our compensation, cost of sales and other expenses by approximately $140,000 for the first quarter of fiscal 2012 and which we expect will reduce them by another approximately $35,000 for the second quarter of fiscal 2012, with such savings continuing thereafter.

 

Excluding the impact, if any, arising from any fiscal 2012 goodwill impairment charges as compared to those costs in fiscal 2011, as well as increased general and administrative expenses related to any increased revenues, we expect our consolidated operating expenses for fiscal year 2012 to be less than the corresponding fiscal 2011 amount for the year as a whole, although this cannot be assured.

 

Other Expense

 

Other expense of approximately $140,000 for the three months ended December 31, 2011 represented an approximately $15,000 (9.6%) decrease as compared to the corresponding period of the prior fiscal year. This decrease arose from an approximately $117,000 decrease in interest expense, partially offset by an approximately $116,000 reduction in the gain from the adjustment of a derivative liability to fair value.

 

The approximately $117,000 decrease in interest expense for the three months ended December 31, 2011, as compared to the corresponding period of the prior fiscal year, was primarily attributable to (i) approximately $63,000 greater interest expense during the three months ended December 31, 2010 related to the Equipment Notes, resulting from the amortization of discount on those notes ending on the original June 2011 maturity date as well as the outstanding balance of $1.0 million during the three months ended December 31, 2010 as compared to $350,000 (interest-bearing portion) during the three months ended December 31, 2011 and (ii) approximately $43,000 greater interest expense during the three months ended December 31, 2010 related to borrowings aggregating $1.0 million during fiscal 2010 ($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). Those borrowings had effective interest rates ranging from 50.7% to 83.9% per annum, with a weighted average rate of 73.9% per annum and although a substantial portion was fully repaid on October 1, 2010, the balance was not repaid until January 2011.

 

 


 
 

 

Due to the price-based anti-dilution protection provisions (also known as “down round” provisions)  included in a warrant issued by us in September 2010 in connection with the LPC Purchase Agreement (the “LPC Warrant”) and in accordance with ASC Topic 815, “Contracts in Entity’s Own Equity”, we are required to recognize the LPC Warrant as a liability at its fair value on each reporting date. The LPC Warrant was initially reflected as a non-current liability of approximately $386,000 on our September 30, 2010 consolidated balance sheet. However, since the fair value of this liability was approximately $248,000 as of December 31, 2010, an adjustment for the approximately $138,000 decrease in that liability’s carrying value on our balance sheet was reflected as other income in our consolidated statement of operations for the three months ended December 31, 2010. Although a similar adjustment was made for the three months ended December 31, 2011, the decrease in that liability’s carrying value on our balance sheet from September 30, 2011 to December 31, 2011 was only approximately $23,000. Subsequent changes in the fair value of this liability will be recognized in our consolidated statement of operations as other income or expense.

 

In January 2012, as part of a transaction under which J&C Resources issued a Funding Letter whereby they would lend us $550,000 under certain conditions through December 31, 2012, we agreed to reimburse CCJ in cash the shortfall, as compared to minimum guaranteed net proceeds of $139,000, from their resale of 101,744 shares CCJ will receive upon their conversion of 17,500 shares of Series A-13 and after effecting our agreement as part of the same transaction to reduce the conversion rate on all Series A-13 shares from $2.00 per common share to $1.72 per common share. Based on the estimated shortfall plus (i) the increased value, resulting from this decreased conversion rate, of the underlying common stock related to a second tranche of 17,500 shares of Series A-13 owned by CCJ and (ii) the Black-Scholes value of the issuance of additional warrants and a lower conversion price on all warrants held by Lincoln Park Capital arising from anti-dilution provisions in those warrants, we estimate that the total cost of this Funding Letter was approximately $118,000, which we will recognize as expense over a one year period commencing January 2012.

 

Liquidity and Capital Resources

 

Our financial statements for the year ended September 30, 2011 reflect a net loss of approximately $5.2 million and cash provided by operating activities for that period of approximately $35,000. For the three months ended December 31, 2011, we had a net loss of approximately $653,000, although cash provided by operating activities for that period was approximately $387,000. Although we had cash of approximately $409,000 at December 31, 2011, our working capital was a deficit of approximately $2.5 million at that date.

 

We are obligated under a Note (the “Rockridge Note”) issued to Rockridge Capital Holdings, LLC (“Rockridge”), an entity controlled by one of our largest shareholders, which had an outstanding principal balance of approximately $1.2 million at December 31, 2011. The Rockridge Note 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 is repayable in equal monthly principal and interest installments of $41,409 extending through August 14, 2013, in addition to an approximately $500,000 balloon payment (plus approximately $5,000 interest) due on September 14, 2013 (the “Maturity Date”). Interest is charged at 12% per annum on the outstanding balance. Upon notice from Rockridge at any time and from time to time prior to the Maturity Date, all or part of the outstanding principal amount of the Rockridge Note may be converted into a number of restricted shares of ONSM common stock. These 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 “Shortfall Payment”) We have recorded no accrual for this matter on our financial statements through December 31, 2011, since we believe that the variables affecting any eventual liability cannot be reasonably estimated at this time. However, if the closing ONSM share price of $0.68 per share on February 10, 2012 was used as a basis of calculation, the required payment would be approximately $75,000.

 

The effective interest rate of the Rockridge Note is approximately 28.0% per annum. This rate does not give effect to any difference between the sum of the value of the Shares at the time of issuance plus any Shortfall Payment, as compared to the assigned value of the Shares on our books, nor do they give effect to the discount from market prices that might be applicable if any portion of the principal is satisfied in common shares instead of cash.

 

I n December 2007, we entered into a line of credit arrangement (the “Line”) with a financial institution (the “Lender”) under which we may presently borrow up to an aggregate of $2.0 million for working capital, collateralized by our accounts receivable and certain other related assets. Borrowings under the Line are subject to certain formulas with respect to the amount and aging of the underlying receivables. The outstanding balance (approximately $1.5 million as of February 10, 2012) bears interest at 13.5% per annum (reduced to 12.0% effective December 27, 2011), 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, and the term may be extended by us past the current December 27, 2013 expiration date for an extra year, subject to compliance with all loan terms, including no material adverse change, as well as concurrence of the Lender. The outstanding principal is due on demand in the event a payment default is uncured one (1) day after written notice.

 

The Line is also subject to our compliance with a quarterly debt service coverage covenant (the “Covenant”). The Covenant, as defined in the applicable loan documents for quarterly periods through December 31, 2011, requires that our net income or loss, adjusted to remove all non-cash expenses as well as cash interest expense, be equal to or greater than that same cash interest expense. We were in compliance with this Covenant for the September 30, 2010 quarter. The Lender waived the Covenant requirement for the December 31, 2010 quarter, but charged us additional interest of 3% per annum from the March 16, 2011 waiver date through May 16, 2011, when we demonstrated that we were in compliance with the Covenant for the March 31, 2011 quarter. We were also in compliance with this Covenant for the June 30, September 30 and December 31, 2011 quarters. The Covenant, as defined in the applicable loan documents for quarterly periods after December 31, 2011, requires that the sum of (i) our net income or loss, adjusted to remove all non-cash expenses as well as cash interest expense and (ii) contributions to capital (less cash distributions and/or cash dividends paid during such period) and proceeds from subordinated unsecured debt, be equal to or greater than the sum of cash payments for interest and debt principal payments.

 

Effective February 2012, the modified terms of the Line require that all funds remitted by our customers in payment of our receivables be deposited directly to a bank account owned by the Lender. Once those deposited funds become available, the Lender is then required to immediately remit them to our bank account, provided that we are not in default under the Line and to the extent those funds exceed any past due principal, interest or other payments due under the Line, which the Lender may offset before remitting the balance.

 

 

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As of December 31, 2011, we were obligated under convertible Equipment Notes with a current outstanding principal balance of $385,000. These Equipment Notes are collateralized by specifically designated software and equipment owned by us, 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. Effective October 1, 2011 a portion of these Equipment Notes in the aggregate amount of $350,000 were amended to provide for an October 15, 2012 maturity date and a $0.70 per common share conversion rate (at the holders’ option). In addition, the payment terms were amended so that 50% of the principal would be paid in eleven equal monthly installments commencing November 15, 2011 and 50% of the principal would be payable on the new maturity date. These Equipment Notes were assigned by the previous holders to three accredited entities in October 2011 and that time it was agreed that the first six monthly payments would be deferred and added to the final balloon payment.

 

The remaining $35,000 outstanding under the Equipment Notes was not amended to provide for a maturity date other than the original date of June 3, 2011 and remained unpaid as of December 31, 2011, pending the conclusion of certain administrative matters with the holder. We repaid approximately $27,000 of this balance in February 2012 and intend to repay the approximately $8,000 remaining balance on or before March 31, 2012.

 

All outstanding interest through September 30, 2011 on the Equipment Notes was paid by the issuance of 51,531 common shares on October 11, 2011. The fair value of the shares at the time of issuance was $38,648, in settlement of an interest obligation of $48,883. In accordance with the October 1, 2011 amendments to the Equipment Notes, interest, at 12% per annum, is payable in semi-annual installments on April 15, 2012 and October 15, 2012 and is payable 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.

 

We are obligated under an unsecured subordinated note payable note (the “CCJ Note”) issued to CCJ Trust (“CCJ”), with an outstanding balance of $100,000. The CCJ Note, with an initial balance of $200,000, originally bore interest at 8% per annum and was payable 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 made by us. To resolve this payment default, the CCJ Note was am