Attached files
UNITED
STATES
SECURITIES AND EXCHANGE
COMMISSION
Washington, D.C. 20549
Form 10-K
(Mark
One)
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☑
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ANNUAL
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
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For
the fiscal year ended December 31, 2016
Or
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☐
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TRANSITION
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
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Commission file number:
000-50621
DOLPHIN DIGITAL MEDIA, INC.
(Exact name of
registrant as specified in its charter)
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Florida
(State or other
jurisdiction of
incorporation or
organization)
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86-0787790
(I.R.S.
Employer
Identification
No.)
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2151 LeJeune Road,
Suite 150-Mezzanine, Coral Gables, FL
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33134
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(Address of
principal executive offices)
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(Zip
Code)
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Registrant’s
telephone number (305) 774-0407
Securities
registered pursuant to Section 12(b) of the Act:
None
Securities
registered pursuant to Section 12(g) of the Act:
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Title of each
class
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Name of each
exchange on which registered
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Common Stock,
$0.015 par value per share
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None
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Indicate by a check
mark if the registrant is a well-known seasoned issuer, as defined
in Rule 405 of the Securities Act. ☐ Yes ☑
No
Indicate by a check
mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Act. ☐ Yes
☑ No
Indicate by a check
mark if 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 ☐ 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 during the preceding 12 months (or for such shorter
period that the registrant was required to submit and post such
files). ☑ Yes ☐
No
Indicate by a check
mark if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K is not contained herein, and will not be contained,
to the best of registrant’s knowledge, in definitive proxy or
information statements incorporated by reference in Part III of
this Form 10-K or any amendment to this Form 10-K.
☐
Indicate by a check
mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, a smaller reporting
company, or an emerging growth company. See the definitions of
“large accelerated filer,” “accelerated
filer,” “smaller reporting company,” and
"emerging growth company" in Rule 12b-2 of the Exchange Act. (Check
one):
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Large accelerated
filer ☐
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Accelerated filer
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Non-accelerated
filer ☐
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Smaller reporting
company ☑
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Emerging Growth
Company ☐
If an
emerging growth company, indicate by check mark if the registrant
has elected not to use the extended transition period for complying
with any new or revised financial accounting standards provided
pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check
mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Act.) ☐ Yes ☑ No
The aggregate
market value of the voting and non-voting common equity held by
non-affiliates computed by reference to the price at which the
common equity was last sold, as of the last business day of the
registrant’s most recently completed second fiscal quarter:
$33,243,780
Indicate the number
of shares outstanding of the registrant’s common stock as of
April 17, 2017: 18,755,865
DOCUMENTS
INCORPORATED BY REFERENCE
Portions of the
Registrant’s definitive proxy statement for its 2017 annual
meeting of shareholders, which proxy statement will be filed no
later than 120 days after the close of the Registrant’s
fiscal year ended December 31, 2016, are hereby incorporated by
reference in Part III of this Annual Report on Form
10-K
TABLE
OF CONTENTS
FORM
10-K
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Page
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PART I
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Item 1.
BUSINESS
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2
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Item 1A. RISK
FACTORS
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8
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Item 1B.
UNRESOLVED STAFF COMMENTS
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18
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Item 2.
PROPERTIES
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18
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Item 3. LEGAL
PROCEEDINGS
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19
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Item 4. MINE
SAFETY DISCLOSURES
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19
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PART II
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Item 5. MARKET FOR
REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND
ISSUER PURCHASES OF EQUITY SECURITIES
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19
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Item 6. SELECTED
FINANCIAL DATA
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20
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Item 7.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
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20
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Item
7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
MARKET RISK
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35
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Item 8. FINANCIAL
STATEMENTS AND SUPPLEMENTARY DATA
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36
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Item 9. CHANGES IN
AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE
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36
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Item 9A. CONTROLS
AND PROCEDURES
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36
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Item 9B. OTHER
INFORMATION
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38
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PART III
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Item 10.
DIRECTORS, EXECUTIVE OFFICERS, AND CORPORATE
GOVERNANCE
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39
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Item 11. EXECUTIVE
COMPENSATION
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39
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Item 12. SECURITY
OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED
STOCKHOLDER MATTERS
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39
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Item 13. CERTAIN
RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR
INDEPENDENCE
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39
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Item 14. PRINCIPAL
ACCOUNTING FEES AND SERVICES
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39
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PART IV
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Item 15. EXHIBITS,
FINANCIAL STATEMENT SCHEDULES
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40
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| Item 16. FORM 10-K SUMMARY |
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42
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SIGNATURES
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1
PART
I
Overview
Dolphin
Digital Media, Inc. (“We”,“Dolphin” or the
“Company”) is dedicated to the production of
high-quality digital and motion picture content. Dolphin
Digital Studios, a division of ours, is a producer of original,
high quality digital programming for online consumption and is
committed to delivering premium, best-in-class entertainment and
securing premiere distribution partners to maximize audience reach
and commercial advertising potential. We also seek to
develop online kids clubs.
On March 7, 2016, we
acquired Dolphin Films, Inc., a Florida corporation (“Dolphin
Films”), and a content producer of motion pictures, from
Dolphin Entertainment, Inc. (“Dolphin Entertainment”),
an entity wholly owned by our President, Chairman and Chief
Executive Officer (“CEO”), Mr. O’Dowd. See Note 4
for additional information regarding the merger whereby we acquired
Dolphin Films (the “Dolphin Films
Acquisition”).
On May 9, 2016, we filed
Articles of Amendment to our Amended Articles of Incorporation to
effectuate a 1-to-20 reverse stock split, as approved by our Board
of Directors and a majority of our shareholders. The reverse stock
split became effective on May 10, 2016.
On March 30, 2017, we
completed the acquisition of 42West, LLC, a Delaware limited
liability company, (“42West”), and an entertainment
public relations agency offering talent publicity, strategic
communications and entertainment content marketing (the
“42West Acquisition”). As consideration in the 42West
Acquisition, we paid approximately $18.7 million in shares of
common stock of the Company, par value $0.015 (the “Common
Stock”), based on the Company’s 30-trading-day average
stock price prior to the closing date of $4.61 per share (less
certain working capital and closing adjustments, transaction
expenses, and payments of indebtedness), plus the potential to earn
up to an additional $9.3 million in shares of Common Stock. As a
result, we (i) issued 1,230,280 shares of Common Stock on the
closing date, (ii) will issue (a) 344,550 shares of Common Stock to
certain employees within 30 days of the closing date, (b) 118,655
shares of Common Stock as bonuses during 2017 and (c) approximately
1,961,821 shares of Common Stock on January 2, 2018 and (iii) may
issue approximately 1,963,126 shares of Common Stock based on the
achievement of specified financial performance targets over a
three-year period as set forth in the Membership Purchase Agreement
(the “Consideration”). Because the 42West Acquisition
was completed during 2017, the financial condition and results of
operations presented herein are those of Dolphin and its
subsidiaries prior to the completion of the acquisition, and do not
include the financial conditions and results of operations of
42West.
Leslee
Dart, Amanda Lundberg and Allan Mayer, each a former owner of
42West (the “Principal Sellers”), have each entered
into employment agreements with the Company and will continue as
employees of the Company for a three-year term after the closing
date of the 42West Acquisition. The non-executive employees of
42West are expected to be retained as well. In connection with the
42West Acquisition, on March 30, 2017, the Company entered into put
agreements (the “Put Agreements”) with each of the
sellers. Pursuant to the terms and subject to the conditions set
forth in the Put Agreements, the Company has granted the sellers
the right, but not obligation, to cause the Company to purchase up
to an aggregate of 2,374,187 of their shares of Common Stock
received as Consideration for a purchase price equal to $4.61 per
share during certain specified exercise periods set forth in the
Put Agreements up until December 2020.
Dolphin Digital
Studios
Dolphin
Digital Studios is our digital entertainment division which creates
original content to premiere online, in the form of “web
series”. Dolphin Digital Studios is instrumental
in producing and distributing our web series and sourcing financing
for our digital media projects.
Premium online video is the
largest growth sector for online advertising, with market leaders
such as Yahoo!, Hulu, Netflix, YouTube and AOL making major
initiatives around original programming.
We
target three distinct demographics for our “web series”
activities:
2
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Tweens (roughly
9-14 years old);
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Teens and young
adults (roughly 14-24 years old); and
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General market
(roughly 14-49 years old).
We
expect to serve each of these demographics with different content,
and we may have different distribution partners for each
demographic.
Dolphin Films
Dolphin Films is a content
producer of motion pictures. In 2016, we released our
motion picture, Max
Steel. We also own the rights to several scripts
that we intend to produce at a future date.
Production
Our
in-house development team is continuously reviewing scripts for
digital projects that are directed at one of our target
demographics and that we believe we can produce within our normal
planned budget range of $3.0 to $5.0 million. Our budget
typically includes costs associated with purchase of the script,
production of the project and marketing of the
project. Occasionally, we also hire writers to develop a
script for an idea that we have internally. From
the selection provided by our development team, our management
reviews the scripts and evaluates them based on expected appeal to
advertisers, talent we think we can attract, available budget for
the production and available financing. We normally
purchase a variety of scripts which we hold for future
use. Not all scripts purchased will be
produced. Some scripts revert back to the writer if they
are not produced during a contractually agreed upon
timeframe.
Once we have a stable of
scripts, we present a variety of projects, based on these scripts,
to online platforms such as Hulu, AOL, and Yahoo!. The
online platform will typically evaluate the project based on its
estimation of potential demand, considering the genre or
demographic to which they are looking to appeal. Once a
project is selected by the online platform, we enter into a
distribution agreement with the online platform that outlines,
among other things, our revenue share percentages (typically
between 30% and 45%) and the length of time that the show will air
on that online platform. Based on agreements with the
online platforms and advertisers, our management then makes the
decision to “greenlight” or to approve, a project for
production.
Our goal is also to produce
young adult and family films and our in-house development team
reviews scripts for motion pictures in this genre that can be
produced within a budget range of $6.0 to $9.0
million. Our budget includes the cost of acquiring the
script and producing the motion picture. We finance our
motion pictures with funds from investors and the financing from
international licensing agreements for the motion
picture.
The production of digital
projects and motion pictures is very similar. Once
management greenlights a project, the pre-production phase
including the hiring of a director, talent, various crew and
securing locations to film begins. We may become
signatories to certain guilds such as Screen Actors Guild,
Directors Guild of America and Writers Guild of America in order to
allow us to hire directors and talent for our productions. We
typically hire crew members directly, engage a production service
company to provide us with, among other things, the crew, equipment
and a production office or use a combination of the two
alternatives. Directors and talent are typically
compensated a base amount for their work. In addition,
directors and talent who are members of various guilds may receive
remuneration from “residuals” that we pay to the
various guilds based on the performance of our productions in
ancillary markets. To better manage our upfront production costs,
we sometimes structure our agreements with talent to allow them to
participate in the proceeds of the digital project or motion
picture in exchange for reduced upfront fixed payments, regardless
of the project’s success.
The decision of where to
produce the project is oftentimes based on incentive tax programs
implemented by many states and foreign countries to attract film
production in their jurisdictions as a means of economic
development. These incentives normally take the form of
sales tax refunds, transferable tax credits, refundable tax credits
or cash rebates that are calculated based on a percentage spent in
the jurisdiction offering the incentive. The
pre-production phase may take several months and is critical to the
success of the project.
3
The length of time
needed to film varies by project but is typically between three and
six weeks. Once the filming is completed, the project
will enter the post-production phase, which includes film and sound
editing, and development of special effects, as
needed. Depending on the complexity of the work to
be done, post-production may take from two to six months to
complete.
In the last five years, we
produced and distributed Cybergeddon in partnership with Anthony
Zuiker, creator of CSI, Hiding, and South Beach- Fever, and were hired to provide
production services for Aim
High produced by a related party in conjunction with Warner
Brothers. These productions earned various awards
including two Streamy Awards. Dolphin Films
produced the motion picture, Max
Steel, that was released in 2016.
In 2016, we entered into a
co-production agreement for a new digital project showcasing
favorite restaurants of NFL players throughout the
country. Pursuant to the agreement, we were responsible
for financing 50% of the project’s budget and are entitled to
50% of the profits. In addition, we were responsible for (a)
producing; (b) negotiating and contracting the talent; (c) securing
locations; (d) preparing the production and delivery schedules; (e)
identifying and securing digital distribution; (f) soliciting and
negotiating advertising and sponsorships; (g) legal and business
affairs and (h) managing and maintaining the production
account. The web series is still in production and we
anticipate that it will be produced and available for distribution
in the third quarter of 2017.
Distribution
Our digital productions for
advertiser supported video-on-demand (“AVOD”) platforms
have premiered on online platforms such as Hulu and
Yahoo!. Distribution agreements with online platforms
are for a limited period, typically six months. Once the
contract expires, we have the ability to distribute our productions
in ancillary markets such as through home entertainment,
subscription video-on-demand (“SVOD”) (e.g. Netflix),
pay television, broadcast television, foreign and other
markets. Our ability to distribute these productions in
ancillary markets is typically based on the popularity of the
project during its initial online distribution.
Similar to
distribution of digital productions described above, the economic
life of motion pictures is comprised of different
phases. The motion picture is initially distributed in
theaters. A successful motion picture may remain in
theaters for several months, after which we have the ability to
distribute the motion picture in ancillary markets such as home
entertainment, pay-per-view (“PPV”), video-on-demand
(“VOD”), electronic-sell-through (“EST”),
SVOD, AVOD, digital rentals, pay television, broadcast television,
foreign and other markets. Concurrent with their release
in the U.S., motion pictures are generally released in Canada and
may also be released in one or more other foreign
markets.
Theatrical
distribution refers to the marketing and commercial or retail
exploitation of motion pictures. Typically, we enter into an
agreement with a distributor to place our films in theatres for a
distribution fee. Pursuant to the agreement, the distribution fee
varies depending on whether we provide our own Prints and
Advertising ("P&A") financing or whether the distributor
finances the P&A.
In 2016, we
obtained the P&A financing necessary for the distribution and
marketing costs associated with our motion picture, Max Steel, and the film was released
domestically on October 14, 2016. The motion picture did
not perform as well as expected domestically, however, we secured
approximately $8.2 million in international distribution
agreements. As part of our domestic distribution
arrangement, we still have the ability to derive revenues from the
ancillary markets described above, although the amount of revenue
derived from such channels is typically commensurate with the
performance of the film in the domestic box office.
Financing
We have financed our acquisition
of the rights to certain digital projects and motion picture
productions through a variety of financing structures including
equity finance agreements, subscription agreements and loan and
security agreements.
We financed our production of
Max Steel using funds from
investors and loans partially collateralized by licensing
agreements for the exploitation of the motion picture in certain
international territories. Our distribution and
marketing costs were financed through financing obtained from a
lender.
4
Online Kids Clubs
Through our online kids clubs we
seek to partner with various organizations to provide an online
destination for entertainment and information for
kids. Through online kids club memberships, established
“brands” in the children’s space seek to expand
their existing online audience through the promotion of original
content supplied and/or sourced by Dolphin Digital
Studios. We expect that premium entertainment offerings
such as original web series, will serve to both increase audiences
through positive word of mouth and to increase engagement, or
length of time on site. Furthermore, we expect that the
online kids clubs will serve as a platform for sponsorship and
other marketing opportunities, such as contests and sweepstakes and
as strong marketing vehicles for the respective brands. We expect
this will keep the brands “top of mind” for the
youngest generation, and in a space (the online world) where they
increasingly go.
We believe that
online kids clubs will provide us the opportunity to capitalize on
the combination of the following two consumer trends:
●
a greater number of
children under the age of 18 have access to the internet (and most
“own” their own devices – e.g. laptop computers,
tablets and smartphones)
●
those children who
have access to the internet spend an increasing amount of time
online.
Simply put, the
internet has become the next generation’s “go to”
destination for both entertainment and information.
Brands that are
“offline” (those without a marketing presence over the
internet) need to engage with their participants
“online” (or marketed over the internet) or risk losing
them altogether. To build successful engagement with
children and teenagers in the “real world” and offer
them nothing (let alone an equivalent engagement opportunity) in
the digital world is a tremendous lost opportunity. For
example, Little Leagues may exist for the enjoyment of children,
but their websites are overwhelmingly only used by
parents. Similarly, non-profits may exist to provide
enrichment and cultural opportunities for children, but their
websites are seldom visited by the children they
serve.
Additionally, our
online kids clubs encourage literacy in elementary school age
children. According to various studies, high school
drop-out rates have a direct, proportional correlation to 3rd grade
reading proficiency. If a child is already behind in their reading
proficiency after 3rd grade, they are over 4x more likely to drop
out of high school (a rate which increases to 10x for minority
children). In the U.S., nearly 60% of fourth graders are not
reading at their grade level. Our online kids clubs offer reading
activities, articles and games. It also promotes parent engagement
by emailing parents and continuously messaging the importance of
reading and parent involvement to achieve reading
proficiency.
We have partnered
with Scholastic Books to provide to schools sponsored by a donor, a
location in the school that is transformed into a reading room (the
“Reading Oasis”). Donors may sponsor a
school for $10,000 which entitles each child in the school to
receive an annual online kids club membership and entitles the
school to receive a Reading Oasis. The Reading Oasis provides the
school with hundreds of books (K-3), colorful bean bag chairs, a
reading themed carpet, book cases, a listening library, and a
stereo listening center with four headphones.
In September 2016,
we terminated, by mutual accord our 2013 agreement with United Way
Worldwide pursuant to which we created an online kids club to
promote the organization’s philanthropic philosophy and
encourage literacy in elementary school age children. We have
retained the trademark to the online kids club and will continue to
operate the site. In February 2017, we also terminated
our 2012 agreement with US Youth Soccer Association, Inc. pursuant
to which we created, designed and hosted the US Youth Soccer
Clubhouse website.
We operate our online kids club
activities through our wholly-owned subsidiary, Dolphin Kids Club
LLC (“Dolphin Kids Club”). Until December
2016, 25% of Dolphin Kids Club was owned by KCF Investments, LLC
(“KCF”). Our agreement with KCF encompassed
kids clubs created between January 1, 2012 and December 31, 2016
and was a “gross revenue agreement” in which we were
responsible for paying all associated operating expenses. On
December 29, 2016, we purchased KCF’s 25% membership interest
in Dolphin Kids Club and, as a result, we are the sole member of
that entity.
5
42West
42West
is an entertainment public relations agency offering talent
publicity, strategic communications and entertainment content
marketing. In addition, it provides brand marketing and digital
marketing services. Prior to its acquisition, 42West was the
largest independently-owned public relations firm in the
entertainment industry. Among other benefits, we anticipate that
the 42West acquisition will strengthen and complement our current
digital and motion picture business, while expanding and
diversifying our operations. We expect that having marketing
expertise in-house will allow Dolphin to review a prospective
project’s marketing potential prior to making a production
commitment. Furthermore, for each project greenlit for production,
a comprehensive marketing plan can potentially be created prior to
the start of principal photography, allowing for relevant marketing
assets to be created while filming. Therefore, we believe the
marketing of Dolphin projects can begin much sooner than the
delivery of a finished film or series.
42West’s public
relations and marketing professionals develop and execute marketing
and publicity strategies for hundreds of movies and television
shows as well as for individual actors, filmmakers, recording
artists, and authors. Specifically, 42West provides
services in the following areas:
Talent
42West focuses on creating
and implementing strategic communication campaigns for performers
and entertainers, including television and film stars, recording
artists, authors, models, athletes, and theater actors.
42West’s talent roster includes Oscar- and Emmy-winning
actors and Grammy-winning singers and musicians and New York Times
best-selling authors. Its services in this area include
ongoing strategic counsel, media relations, studio, network,
charity, corporate liaison and event and tour support.
Entertainment
Marketing
42West provides marketing
direction, public relations counsel and media strategy for
productions (including theatrical films, DVD and VOD releases,
television programs, and online series) as well as content
producers ranging from individual filmmakers and creative artists
to production companies, film financiers, DVD distributors, and
other entities. Its capabilities include worldwide studio releases,
independent films, television programming and web
productions. In addition, 42West provides entertainment
marketing services in connection with film festivals, awards
campaigns, event publicity and red carpet management.
Targeted Marketing
42West also
provides marketing and publicity services that are tailored to
reach diverse audiences. Their clients include major studios and
independent producers for whom they create strategic multicultural
marketing campaigns and provide strategic guidance aimed at
reaching diverse audiences.
Strategic
Communications
42West’s strategic
communications team advises high-profile individuals and companies
faced with sensitive situations or looking to raise, reposition, or
rehabilitate their public profiles. It also helps
studios and filmmakers deal with controversial movies.
Much of the team’s
activities involve orchestrating high-stakes communications
campaigns in response to sensitive, complex situations. 42West also
helps companies define objectives, develop messaging, create brand
identities, and construct long-term strategies to achieve specific
goals, as well as manage functions such as media relations or
internal communications on a day-to-day basis. The strategic
communications team focuses on strategic communications counsel,
corporate positioning, brand enhancement, media relations,
reputation and issues management, litigation support and crisis
management and communications. Its clients include major
studios and production companies, record labels, sports franchises,
media conglomerates, technology companies, philanthropic
organizations, talent guilds, and trade associations as well as a
wide variety of high-profile individuals, ranging from major movie
and pop stars to top executives and entrepreneurs.
6
Intellectual Property
We
seek to protect our intellectual property through trademarks and
copyright. We currently hold three trademarks for
Cybergeddon and two
copyrights for each of Cybergeddon, Hiding, South Beach and Max Steel and one for Jack of all Tastes.
Competition
The business in
which we engage is highly competitive. We face
competition from companies within the entertainment business and
from alternative forms of leisure entertainment, such as travel,
sporting events, video games and computer-related
activities. Our primary business operations are subject
to competition from other digital media and motion production
companies as well as from large, well established companies within
the entertainment industry that have significantly greater
development, production, and distribution and capital resources
than us. We compete for the acquisition of literary
properties and for the services of producers, directors, actors and
other artists as well as creative and technical personnel and
production financing, all of which are essential to the success of
our business. In addition, our productions compete for audience
acceptance and advertising dollars.
Given this highly
competitive business, our business model is focused on providing
high-quality entertainment at a lower production
budget. We intend to achieve this by relying on
innovative financial structures, partnering with well established
brands for production content and lowering overhead cost
structure.
Our newly acquired
business, 42West operates in a highly competitive marketing
industry. It competes against other public relations and marketing
communications companies as well as numerous independent and niche
agencies to win new clients and maintain existing client
relationships. 42West is widely regarded as one of the
nation’s leading entertainment public relations and marketing
communications agency, representing many of the world’s best
loved and most acclaimed entertainment personalities and
brands.
Employees
As of April 17,
2017, we have 97 full-time employees in our operations, including
81 employees from our newly acquired business,
42West. We believe our relationship with our employees
is good. We also utilize consultants in the ordinary course of our
business and hire additional employees on a project-by-project
basis in connection with the production of digital media projects
or motion pictures.
Regulatory Matters
Our online kids
clubs programs which are aimed at elementary school age children
are subject to laws and regulations relating to privacy and child
protection. Through our online kids clubs we may monitor and
collect certain information about the child users of these forums.
A variety of laws and regulations have been adopted in recent years
aimed at protecting children using the internet such as the
Children's Online Privacy and Protection Act of 1998
(“COPPA”). COPPA sets forth, among other things, a
number of restrictions on what website operators can present to
children under the age of 13 and what information can be collected
from them. There are also a variety of laws and regulations
governing individual privacy and the protection and use of
information collected from such individuals, particularly in
relation to an individual's personally identifiable information
(e.g., credit card numbers).
We are also subject
to state and federal work and safety laws and disclosure
obligations, under the jurisdiction of the U.S. Occupational Safety
and Health Administration and similar state
organizations.
Corporate Offices
Our corporate
headquarters is located at 2151 Le Jeune Road, Suite 150-Mezzanine,
Coral Gables, Florida 33134. Our telephone number is (305)
774-0407. We also have an office located at 10866
Wilshire Boulevard, Suite 800, Los Angeles, California, 90024.
42West has offices located at 600 3rd Avenue,
23rd
Floor, New York, New York, 10016 and 1840 Century Park East, Suite
700, Los Angeles, California 90067.
7
Availability of Reports and Other Information
Dolphin Digital
Media, Inc. was first incorporated in the State of Nevada on March
7, 1995 and was domesticated into the State of Florida on December
3, 2014. Our principal executive offices are
located at 2151 Le Jeune Road, Suite 150-Mezzanine, Coral Gables,
Florida 33134. Our corporate website is
www.dolphindigitalmedia.com. We make available, free of charge,
access to our Annual Report on Form 10-K, Quarterly Reports on Form
10-Q, Current Reports on Form 8-K, Proxy Statement on Schedule 14A
and amendments to those materials filed or furnished pursuant to
Section 13(a) or 15(d) of the Securities and Exchange Act of 1934,
as amended (the “Exchange Act”), on our website under
“Investor Relations – SEC Filings,” as soon as
reasonably practicable after we file electronically such material
with, or furnish it to, the SEC.
You may also read and copy any
materials filed by us with the SEC at the SEC’s Public
Reference Room at 100 F Street, N.E., Washington, D.C. 20549, and
you may obtain information on the operation of the Public Reference
Room by calling the SEC in the United States at 1-800-SEC-0330. In
addition, the SEC maintains an Internet website, www.sec.gov, that
contains reports, proxy and information statements and other
information that we file electronically with the SEC.
ITEM 1A. RISK
FACTORS.
Risks Related to our Business and Financial
Condition
Our independent auditors have expressed substantial doubt about our
ability to continue as a going concern.
For each of the
years ended December 31, 2016 and 2015, our independent auditors
issued an explanatory paragraph in their audit report expressing
substantial doubt about our ability to continue as a going concern
based upon our net loss and negative cash flows from operations for
the years ended December 31, 2016 and 2015 and our levels of
working capital as of December 31, 2016 and 2015. The financial
statements do not include any adjustments that might result from
the outcome of these uncertainties. Management is
planning to raise any necessary additional funds to fund our
operating expenses through loans and additional sales of our Common
Stock, securities convertible into our Common Stock, debt
securities or a combination of such financing alternatives;
however, there can be no assurance that we will be successful in
raising any necessary additional capital. If we are not
successful in raising additional capital, we may not have enough
financial resources to support our business and operations and, as
a result, may not be able to continue as a going concern and could
be forced to liquidate.
We have a history of net losses and may continue to incur net
losses.
We have
a history of net losses and may be unable to generate sufficient
revenue to achieve profitability in the future. For the fiscal year
ended December 31, 2016, our net losses were $37,189,679. Our
accumulated deficit was $99,812,204 at December 31, 2016. Our
ability to generate net profit in the future will depend on our
ability to successfully produce and commercialize multiple web
series and films, as no single project is likely to generate
sufficient revenue to cover our operating expenses. If we are
unable to generate net profit at some point, we will not be able to
meet our debt service requirements or our working capital
requirements. As a result we may need to (i) issue additional
equity, which could dilute the value of your share holdings, (ii)
sell a portion or all of our assets, including any project rights
which might have otherwise generated revenue, or (iii) cease
operations.
Our business requires a substantial investment of capital and
failure to access sufficient capital while awaiting delayed
revenues will have a material adverse effect on our results of
operation.
The production,
acquisition and distribution of film or digital media content
require a significant amount of capital. The budget for the
projects we plan to produce will require between $6 and $8 million
to produce. In addition, if our distributor does not provide the
funds for the distribution and marketing of our film, we will
require additional capital to distribute and market the film. We
estimate distribution and marketing fees to be approximately
$10,000 per theatrical screen. A significant amount of time
may elapse between our expenditure of funds and the receipt of
revenues from our productions. We do not have a
traditional credit facility with a financial institution on which
to depend for our liquidity needs and a time lapse may require us
to fund a significant portion of our capital requirements through
related party transactions with our CEO or other financing
sources. There can be no assurance that any additional
financing resources will be available to us as and when required,
or on terms that will be acceptable to us. Our inability to raise
capital necessary to sustain our operations while awaiting delayed
revenues would have a material adverse effect on our liquidity and
results of operations.
8
Our success is primarily dependent on audience acceptance of our
films and digital media productions, which is extremely difficult
to predict and, therefore, inherently risky.
We cannot predict
the economic success of any of our films because the revenue
derived from the distribution of a film (which does not necessarily
directly correlate with the production or distribution costs
incurred) depends primarily upon its acceptance by the public,
which cannot be accurately predicted. The economic success of a
film also depends upon the public’s acceptance of competing
films, the availability of alternative forms of entertainment and
leisure-time activities, general economic conditions and other
tangible and intangible factors, all of which can change and cannot
be predicted with certainty.
The economic
success of a film is largely determined by our ability to produce
content and develop stories and characters that appeal to a broad
audience and by the effective marketing of the film. The theatrical
performance of a film is a key factor in predicting revenue from
post-theatrical markets. If we are unable to accurately judge
audience acceptance of our film content or to have the film
effectively marketed, the commercial success of the film will be in
doubt, which could result in costs not being recouped or
anticipated profits not being realized. Moreover, we cannot assure
you that any particular feature film will generate enough revenue
to offset its distribution, fulfillment services and marketing
costs, in which case we would not receive any revenues for such
film from our distributors.
In addition,
changing consumer tastes affect our ability to predict which
digital media productions will be popular with web audiences. As we
invest in various digital projects, stars and directors, it is
highly likely that at least some of the digital projects in which
we invest will not appeal to our target audiences. If we are unable
to produce web content that appeals to our target audiences the
costs of such digital media productions could exceed revenues
generated and anticipated profits may not be realized. Our failure
to realize anticipated profits could have a material adverse effect
on our results of operations.
We may incur significant write-offs if our feature films and other
projects do not perform well enough to recoup production,
marketing, distribution and other costs.
We are required to amortize
capitalized production costs over the expected revenue streams as
we recognize revenue from our films or other projects. The amount
of production costs that will be amortized each quarter depends on,
among other things, how much future revenue we expect to receive
from each project. Unamortized production costs are evaluated for
impairment each reporting period on a project-by-project basis. If
estimated remaining revenue is not sufficient to recover the
unamortized production costs, the unamortized production costs will
be written down to fair value. In any given quarter, if we lower
our previous forecast with respect to total anticipated revenue
from any individual feature film or other project, we may be
required to accelerate amortization or record impairment charges
with respect to the unamortized costs, even if we have previously
recorded impairment charges for such film or other project. For
example, in the year ended December 31, 2016, we recorded a $2
million impairment of the capitalized production costs for our
feature film, Max
Steel. Such impairment charges have had and in
the future could have, a material adverse impact on our business,
operating results and financial condition.
In the past, we
purchased several scripts and project ideas for our digital media
productions totaling approximately $0.6 million that failed to
generate interest among distributors or advertisers. As
a result of the write off of the costs incurred in purchasing such
scripts and project ideas, our operating results were negatively
impacted.
Our business is currently substantially dependent upon the success
of a limited number of film releases and digital media productions
each year and the unexpected delay or commercial failure of any one
of them could have a material adverse effect on our financial
results and cash flows.
We generally expect
to release one to two feature films and one digital production in
the next year. The unexpected delay in release or commercial
failure of just one of these films or digital media productions
could have a significant adverse impact on our results of
operations and cash flows in both the year of release and in the
future. Historically, feature films that are successful in the
domestic theatrical market are generally also successful in the
international theatrical and ancillary markets, although each film
is different and there is no way to guarantee such results. If our
films fail to achieve domestic box office success, their success in
the international box office and ancillary markets and our
business, results of operations and financial condition could be
adversely affected. Further, we can make no assurances that the
historical correlation between results in the domestic box office
and results in the international box office and ancillary markets
will continue in the future. If our feature films do not perform
well in the domestic or international theatrical markets and
ancillary markets, or our digital media productions do not perform
as anticipated, the failure of any one of these could a material
adverse effect on our financial results and cash
flows.
9
Delays, cost overruns, cancellation or abandonment of the
completion or release of our web series or films may have an
adverse effect on our business.
There are
substantial financial risks relating to production, completion and
release of web series and films. Actual costs may exceed
their budgets due to factors such as labor
disputes, unavailability of a star performer, equipment shortages,
disputes with production teams or adverse weather conditions, any
of which may cause cost overruns and delay or hamper film
completion. We are typically responsible for paying all production
costs in accordance with a budget and receive a fixed
producer’s fee for our services plus a portion of any project
income. However to the extent that delays or cost overruns result
in us not completing the web series or film within budget, there
may not be enough funds left to pay us our producer’s fee, to
generate any project income or complete the project at all. If this
were to occur, it would significantly and adversely affect our
revenue and results of operations.
Our management has determined that our disclosure controls and
procedures are not effective and we have identified material
weaknesses in our internal controls over financial
reporting.
In
connection with the preparation of our financial statements for the
years ended December 31, 2016 and 2015, our management concluded
that our disclosure controls and procedures are not effective and
we identified several material weaknesses in our internal controls
over financial reporting. A material weakness is a deficiency, or
a combination of deficiencies, in internal control over financial
reporting such that there is a reasonable possibility that a
material misstatement of our annual or interim financial statements
will not be prevented or detected on a timely basis. As of December
31, 2016, we concluded that our disclosure control and procedures
and internal controls over financial reporting were not effective
due to the following material weaknesses:
●
Design deficiencies
related to the entity level control environment, including risk
assessment, information and communication and monitoring
controls:
o
There is no
documented fraud risk assessment or risk management oversight
function.
o
There are no
documented procedures related to financial reporting matters (both
internal and external) to the appropriate
parties.
o
There is no budget
prepared and therefore monitoring controls are not designed
effectively as current results cannot be compared to
expectations.
o
There is no
documented process to monitor and remediate deficiencies in
internal controls.
●
Inadequate
documented review and approval of certain aspects of the accounting
process including the documented review of accounting
reconciliations and journal entries that they considered to be a
material weakness in internal control.
Specifically:
o
There is no
documented period end closing procedures, specifically the
individuals that are responsible for preparation, review and
approval of period end close functions
o
Reconciliations are
performed on all balance sheet accounts, including noncontrolling
interest on at least a quarterly basis; however there is no
documented review and approval by a member of management that is
segregated from the period end financial reporting
process.
o
There is no review
and approval for the posting of journal
entries.
●
Inadequate
segregation of duties within the accounting process, including the
following:
o
One individual has
the ability to add vendors to the master vendor
file. This individual also has access to the Company
checkbook that is maintained in a secured
location.
o
One individual has
sole access to our information technology system to initiate,
process and record financial information. We have not
developed any internal controls related to information technology
systems including change management, physical security, access or
program development.
Each of the
material weaknesses described above could result in a misstatement
of our accounts or disclosures that would result in a material
misstatement of our annual or interim consolidated financial
statements that would not be prevented or detected. We cannot
assure you that the measures we have taken to date, or any measures
we may take in the future, will be sufficient to remediate the
material weaknesses described above or avoid potential future
material weaknesses. If we are unable to report financial
information timely and accurately or to maintain effective
disclosure controls and procedures, our stock price could be
negatively impacted and we could be subject to, among other things,
regulatory or enforcement actions by the SEC.
10
We rely on third party distributors to distribute our films and
their failure to perform or promote our films could negatively
impact our ability to generate revenues and have a material adverse
effect on our operating results.
Our films are
primarily distributed and marketed by third party
distributors. If any of these third party distributors
fails to perform under their respective arrangements, such failure
could negatively impact the success of our films and have a
material adverse effect on our business reputation and ability to
generate revenues.
We generally do not
control the timing and manner in which our distributors distribute
our films; their decisions regarding the timing of release and
promotional support are important in determining success. Any
decision by those distributors not to distribute or promote one of
our films or to promote our competitors’ films or related
products to a greater extent than they promote ours could have a
material adverse effect on our business, cash flows and operating
results.
We rely on third party relationships with online digital platforms
for our advertising revenue and we may be unable to secure such
relationships.
We anticipate
entering into distribution agreements containing revenue share
provisions with online digital platforms to distribute our digital
media productions. Pursuant to these revenue share
provisions, we will earn a portion of advertising revenues once our
digital media productions are distributed online. If we
fail to secure such relationships with online digital platforms, we
will not be able to earn advertising revenues from our digital
projects, which could have a material adverse effect on our
liquidity and results of operations. In addition, some
of our distributors have moved from an advertisement-based model to
a subscription-based model which makes it more difficult for us to
use our funding and distribution methods.
We may be unable to attract or retain advertisers, which could
negatively impact our results of operation.
Typically, online
digital platforms are responsible for securing advertisers and, as
such, our ability to earn advertising revenues would depend on
their success in doing so. However, at times we have,
and may continue to, proactively secure advertising commitments
against anticipated web series. Our ability to retain
advertisers is contingent on our ability to successfully complete
and deliver online projects which are commercially successful,
which we may fail to do. Advertising revenues could also
be adversely impacted by factors outside our control such as
failure of our digital media productions to attract our target
viewer audiences, lack of future demand for our digital media
productions, the inability of third party online digital platforms
to deliver ads in an effective manner, competition for advertising
revenue from existing competitors or new digital media companies,
declines in advertising rates, adverse legal developments relating
to online advertising, including legislative and regulatory
developments and developments in litigation. The
existence of any of these factors could result in a decrease of our
anticipated advertising revenues.
Our success depends on the services of our CEO.
Our success
greatly depends on the skills, experience and efforts of our CEO,
Mr. O’Dowd. We have entered into an employment
agreement with Mr. O’Dowd, however, this agreement
cannot assure us of his continued services. If Mr. O’Dowd
resigns or becomes unable to continue in his present role and is
not adequately replaced, the loss of his services could have a
material adverse effect on our business, operating results or
financial condition.
Our kids clubs depend on sponsorship donations to generate
revenue.
We generate
revenues from our online kids clubs through a portion of the sale
of memberships to various donors. Donors typically
sponsor a school for $10,000 which entitles each child in the
school to receive an annual online kids club membership and
entitles the school to receive a Reading Oasis. Receipt of
sponsorship donations are unpredictable and depend on a number of
factors such as our ability to successfully brand, market and
implement the online kids clubs as well as local and international
business and economic conditions.
11
Risks Related to the Industry
The popularity and commercial success of our digital media
productions and films are subject to numerous factors, over which
we may have limited or no control.
The popularity and
commercial success of our digital media productions and films
depends on many factors including, but not limited to, the key
talent involved, the timing of release, the promotion and marketing
of the digital media production or film, the quality and acceptance
of other competing productions released into the marketplace at or
near the same time, the availability of alternative forms of
entertainment, general economic conditions, the genre and specific
subject matter of the digital media production or film, its
critical acclaim and the breadth, timing and format of its initial
release. We cannot predict the impact of such factors on any
digital media production or film, and many are factors that are
beyond our control. As a result of these factors and many others,
our digital media productions and films may not be as successful as
we anticipate, and as a result, our results of operations may
suffer.
The creation of content for the entertainment industry is highly
competitive and we will be competing with companies with much
greater resources than we have.
The business in
which we engage is highly competitive. Our primary business
operations are subject to competition from companies which, in many
instances, have greater development, production and distribution
and capital resources than us. We compete for the services of
writers, producers, directors, actors and other artists to produce
our digital media and motion picture content, as well as for
advertisement dollars. Larger companies have a broader
and more diverse selection of scripts than we do, which translates
to a greater probability that they will be able to more closely fit
the demands and interests of advertisers than we can.
As a small
independent producer we compete with major U.S. and international
studios. Most of the major U.S. studios are part of
large diversified corporate groups with a variety of other
operations that can provide both the means of distributing their
products and stable sources of earnings that may allow them better
to offset fluctuations in the financial performance of their film
and other operations. In addition, the major studios
have more resources with which to compete for ideas, storylines and
scripts created by third parties, as well as for actors, directors
and other personnel required for production. Such
competition for the industry’s talent and resources may
negatively affect our ability to acquire, develop, produce,
advertise and distribute digital media and motion picture
content.
We must successfully respond to rapid technological changes and
alternative forms of delivery or storage to remain
competitive.
The entertainment
industry continues to undergo significant developments as advances
in technologies and new methods of product delivery and storage,
and certain changes in consumer behavior driven by these
developments emerge. New technologies affect the demand for our
content, the manner in which our content is distributed to
consumers, the sources and nature of competing content offerings
and the time and manner in which consumers acquire and view our
content. We and our distributors must adapt our businesses to
shifting patterns of content consumption and changing consumer
behavior and preferences through the adoption and exploitation of
new technologies. If we cannot successfully exploit these and other
emerging technologies, it could have a material adverse effect on
our business, financial condition, operating results, liquidity and
prospects.
We have and may in the future be adversely affected by union
activity.
We retain the
services of actors who are covered by collective bargaining
agreements with Screen Actors Guild – American Federation of
Television and Radio Artists (“SAG-AFTRA”) and we may
also become signatories to certain guilds such as Directors Guild
of America and Writers Guild of America in order to allow us to
hire directors and talent for our
productions. Collective bargaining agreements are
industry-wide agreements, and we lack practical control over the
negotiations and terms of these agreements. In addition, our
digital projects fall within SAG-AFTRA’s definition of
“new media”, which is an emerging category covered by
its New Media and Interactive Media Agreements for
actors. As such, our ability to retain actors is subject
to uncertainties that arise from SAG-AFTRA’s administration
of this relatively new category of collective bargaining
agreements. Such uncertainties have resulted and may
continue to result in delays in production of our digital
projects.
12
In addition, if
negotiations to renew expiring collective bargaining agreements are
not successful or become unproductive, the union could take actions
such as strikes, work slowdowns or work stoppages. Strikes, work
slowdowns or work stoppages or the possibility of such actions
could result in delays in production of our digital projects. We
could also incur higher costs from such actions, new collective
bargaining agreements or the renewal of collective bargaining
agreements on less favorable terms. Depending on their
duration, union activity or labor disputes could have an adverse
effect on our results of operations.
Others may assert intellectual property infringement claims or
liability claims for digital media or film content against us which
may force us to incur substantial legal expenses.
There is a
possibility that others may claim that our productions and
production techniques, or those of Dolphin Films, misappropriate or
infringe the intellectual property rights of third parties with
respect to their previously developed web series, stories,
characters, other entertainment or intellectual
property. In addition, as distributors of digital
media and film content, we may face potential liability for such
claims as defamation, invasion of privacy, negligence, copyright or
trademark infringement or other claims based on the nature and
content of the materials distributed. If successfully
asserted, our insurance may not be adequate to cover any of the
foregoing claims. Irrespective of the validity or the
successful assertion of such claims, we could incur significant
costs and diversion of resources in defending against them, which
could have a material adverse effect on our operating
results.
If we fail to protect our intellectual property and proprietary
rights adequately, our business could be adversely
affected.
Our ability to
compete depends, in part, upon successful protection of our
intellectual property. We attempt to protect proprietary and
intellectual property rights to our productions through available
copyright and trademark laws and distribution arrangements with
companies for limited durations. Unauthorized parties may attempt
to copy aspects of our intellectual property or to obtain and use
property that we regard as proprietary. We cannot assure you that
our means of protecting our proprietary rights will be adequate. In
addition, the laws of some foreign countries do not protect our
proprietary rights to as great an extent as the laws of the United
States. Intellectual property protections may also be unavailable,
limited or difficult to enforce in some countries, which could make
it easier for competitors to steal our intellectual property. Our
failure to protect adequately our intellectual property and
proprietary rights could adversely affect our business and results
of operations.
Our online activities are subject to a variety of laws and
regulations relating to privacy and child protection, which, if
violated, could subject us to an increased risk of litigation and
regulatory actions.
In addition to our
company websites and applications, we use third-party applications,
websites, and social media platforms to promote our digital media
productions and engage consumers, as well as monitor and collect
certain information about users of our online forums. A variety of
laws and regulations have been adopted in recent years aimed at
protecting children using the internet such as the Children’s
Online Privacy and Protection Act of 1998 (“COPPA”).
COPPA sets forth, among other things, a number of restrictions on
what website operators can present to children under the age of 13
and what information can be collected from them. There are also a
variety of laws and regulations governing individual privacy and
the protection and use of information collected from such
individuals, particularly in relation to an individual’s
personally identifiable information (e.g., credit card numbers).
Many foreign countries have adopted similar laws governing
individual privacy, including safeguards which relate to the
interaction with children. If our online activities were to violate
any applicable current or future laws and regulations, we could be
subject to litigation and regulatory actions, including fines and
other penalties.
Risks Related to our Common Stock and Preferred
Stock
We have recently issued, and may in the future issue, a significant
amount of equity securities and, as a result, your ownership
interest in the Company has been, and may in the future be,
substantially diluted and your investment in our Common Stock could
suffer a material decline in value.
From January 1,
2016 to April 17, 2017, the number of shares of our Common Stock
issued and outstanding has increased from 4,094,618 (adjusted for a
20:1 reverse stock split on May 10, 2016) to 18,755,865 shares. Of
this amount, approximately 5,665,760 shares of Common Stock have
been issued in private placements as payment to certain holders of
the Company’s debt pursuant to debt exchange agreements.
Consequently, we have not received any cash proceeds in connection
with such issuances of Common Stock. In addition,
1,525,000 shares of Common Stock were issued in private placements
pursuant to subscription agreements. Generally, these subscription
agreements and debt exchange agreements provide for past or future
purchases of, or exchanges of debt for, our Common Stock at a price
of $5.00 per share which, upon each exercise or exchange thus far,
has been below the market price of our Common Stock. In
addition, during 2016, the Company issued Warrants G, H, I, J and
K. Warrants G, H and I are exercisable for an aggregate of
2,500,000 shares of Common Stock at exercise prices ranging from
$5.00 to $7.00 per share. Warrants J and K were issued in
exchange for debt and to purchase the remaining membership
interests in Dolphin Kids Club and were exercised for an aggregate
of 2,340,000 shares of Common Stock at an exercise price of $0.15
per share. Furthermore, as consideration for our recent 42West
Acquisition, we (i) issued 1,230,280 shares of Common Stock on the
closing date, (ii) will issue (a) 344,550 shares of Common Stock to
certain employees within 30 days of the closing date, (b) 118,655
shares of Common Stock as bonuses during 2017 and (c) approximately
1,961,821 shares of Common Stock on January 2, 2018 and (iii) may
issue approximately 1,963,126 shares of Common Stock based on the
achievement of specified financial performance targets over a
three-year period. As a result of these issuances, your ownership
interest in the Company has been, and may in the future be,
substantially diluted. The market price for our Common
Stock has been volatile in the past, and these issuances could
cause the price of our Common Stock to fluctuate substantially in
the future. In addition, we have historically experienced
significantly low trading volumes. Once restricted stock issued in
the private placements and in the 42West Acquisition becomes freely
tradable, these current or future shareholders may decide to trade
their shares of Common Stock and, if our stock is thinly traded,
this could have a material adverse effect on its market
price.
13
In the near term,
we will need to raise additional capital and may seek to do so by
conducting one or more private placements of equity securities,
securities convertible into equity securities or debt securities,
selling additional securities in a registered public offering, or
through a combination of one or more of such financing
alternatives. Such issuances of additional securities would further
dilute the equity interests of our existing shareholders, perhaps
substantially, and may further exacerbate any or all of the above
risks.
The Series C Convertible Preferred Stock has anti-dilution
protections and super voting rights that may adversely affect our
shareholders.
For a period of
five years from March 7, 2016, the date of issuance, the Series C
Convertible Preferred Stock will have certain anti-dilution
protections. Upon triggers specified in its Certificate
of Designation, the number of shares of Common Stock into which
Series C Convertible Preferred Stock held by Mr. O’Dowd
(or any entity directly or indirectly controlled by Mr.
O’Dowd) can be converted will be increased, such
that the total number of shares of Common Stock held by Mr.
O’Dowd (or any entity directly or indirectly controlled by
Mr. O’Dowd) (based on the number of shares of Common Stock
held as of the date of issuance) will be preserved at the same
percentage of shares of Common Stock outstanding currently held by
such persons, which was approximately 53% of the shares of Common
Stock outstanding. As a result, your ownership interests
may be further diluted.
In addition, as a
holder of Series C Convertible Preferred Stock, Mr. O’Dowd
also has super voting rights of three votes per preferred
share. Holders of Series C Convertible Preferred Stock
are entitled to vote together as a single class on all matters upon
which Common Stock holders are entitled to vote. Your
voting rights will be diluted as a result of these super voting
rights. In addition, anti-dilution protections,
described below, may result in an increase in the number of shares
of Common Stock into which Series C Convertible Preferred Stock
held by Mr. O’Dowd and certain eligible persons can be
converted, which could further dilute your percentage of voting
rights.
As long as we are an issuer of “penny stock,” we are
subject to penny stock regulations and the protection provided by
the federal securities laws relating to forward-looking statements
does not apply to us, which could subject us to potentially costly
legal action.
Broker-dealer
practices in connection with transactions in penny stocks are
regulated by certain penny stock rules adopted by the SEC. Penny
stocks generally are equity securities with a price of less than
$5.00 (other than securities registered on certain national
securities exchanges or quoted on the NASDAQ system). The penny
stock rules require a broker-dealer, prior to a transaction in a
penny stock not otherwise exempt from the rules, to deliver a
standardized risk disclosure document that provides information
about penny stocks and the nature and level of risks in the penny
stock market. The broker-dealer also must provide the customer with
current bid and offer quotations for the penny stock, the
compensation of the broker-dealer and its salesperson in the
transaction, and, if the broker-dealer is the sole market-maker,
the broker-dealer must disclose this fact and the
broker-dealer’s presumed control over the market and monthly
account statements showing the market value of each penny stock
held in the customer’s account. In addition, broker-dealers
who sell these securities to persons other than established
customers and accredited investors (generally, those persons with
assets in excess of $1,000,000 or annual income exceeding $200,000
to $300,000 together with their spouse), must make a special
written determination that the penny stock is a suitable investment
for the purchaser and receive the purchaser’s written
agreement to the transaction. Consequently, these requirements may
have the effect of reducing the level of trading activity, if any,
in the secondary market for a security that is or becomes subject
to the penny stock rules. To the extent our stock price falls below
$5.00 per share, we are subject to the penny stock rules, and
consequently, our shareholders will find it more difficult to sell
their shares. Consequently, the penny stock regulations could have
a material adverse effect on our business prospects, financial
condition and results of operation. In addition, although federal
securities laws provide a safe harbor for forward-looking
statements made by a public company that files reports under the
federal securities laws, this safe harbor is not available to
issuers of penny stocks. As a result, for as long as we are a penny
stock, we will not have the benefit of this safe harbor protection
in the event of any legal action based upon a claim that the
material provided by us contained a material misstatement of fact
or was misleading in any material respect because of our failure to
include any statements necessary to make the statements not
misleading.
Our Common Stock is quoted only on the OTC Market Pink Sheets,
which may have an unfavorable impact on our stock price and
liquidity.
Our Common Stock is
quoted on the OTC Market Pink Sheets. The OTC Market Pink Sheets is
a significantly more limited market than the New York Stock
Exchange or NASDAQ system. The quotation of our shares on the OTC
Market may result in an illiquid market available for existing and
potential shareholders to trade shares of our Common Stock and
depress the trading price of our Common Stock, and may have a
long-term adverse impact on our ability to raise capital in the
future.
14
Risks Related to Acquisitions
We are subject to risks associated with acquisitions and we may not
realize the anticipated benefits of such acquisitions.
We have in the past
completed acquisitions, and may in the future engage in discussions
and activities with respect to possible acquisitions, intended to
complement or expand our business, some of which may be significant
transactions for us. For example, in March 2016, we
acquired Dolphin Films, a content producer of motion pictures, and
on March 30, 2017 we acquired 42West, a full-service entertainment
marketing agency. Identifying suitable acquisition
candidates can be difficult, time-consuming and costly, and we may
not be able to identify suitable candidates or complete
acquisitions in a timely manner, on a cost-effective basis or at
all.
Even if we complete an
acquisition, we may not realize the anticipated benefits of such
transaction. Our recent acquisitions have required, and any similar
future transactions may also require, significant efforts and
expenditures, including with respect to integrating the acquired
business with our historical business. We may encounter unexpected
difficulties, or incur unexpected costs, in connection with
acquisition activities and integration efforts, which
include:
●
diversion of
management attention from managing our historical core
business;
●
potential
disruption of our historical core business or of the acquired
business;
●
the strain on, and
need to continue to expand, our existing operational, technical,
financial and administrative infrastructure;
●
inability to
achieve synergies as planned;
●
challenges in
controlling additional costs and expenses in connection with and as
a result of the acquisition;
●
dilution to
existing shareholders from the issuance of equity
securities;
●
becoming subject to
adverse tax consequences or substantial
depreciation;
●
difficulties in
assimilating employees and corporate cultures or in integrating
systems and controls;
●
difficulties in
anticipating and responding to actions that may be taken by
competitors;
●
difficulties in
realizing the anticipated benefits of the
transaction;
●
inability to
generate sufficient revenue from acquisitions to offset the
associated acquisition costs;
●
potential loss of
key employees, key clients or other partners of the acquired
business as a result of the change of ownership;
and
●
the assumption of
and exposure to unknown or contingent liabilities of the acquired
businesses.
If any of our acquisitions
do not perform as anticipated for any of the reasons noted above or
otherwise, there could be a negative impact on our results of
operations and financial condition.
Any due diligence by us in connection with potential future
acquisition may not reveal all relevant considerations or
liabilities of the target business, which could have a material
adverse effect on our financial condition or results of
operations.
We intend to conduct such
due diligence as we deem reasonably practicable and appropriate
based on the facts and circumstances applicable to any potential
acquisition. The objective of the due diligence process will be to
identify material issues which may affect the decision to proceed
with any one particular acquisition target or the consideration
payable for an acquisition. We also intend to use information
revealed during the due diligence process to formulate our business
and operational planning for, and our valuation of, any target
company or business. While conducting due diligence and assessing a
potential acquisition, we may rely on publicly available
information, if any, information provided by the relevant target
company to the extent such company is willing or able to provide
such information and, in some circumstances, third party
investigations.
There can be no assurance
that the due diligence undertaken with respect to an acquisition,
including the Dolphin Films Acquisition or the 42West Acquisition,
will reveal all relevant facts that may be necessary to evaluate
such acquisition including the determination of the price we may
pay for an acquisition target or to formulate a business strategy.
Furthermore, the information provided during due diligence may be
incomplete, inadequate or inaccurate. As part of the due diligence
process, we will also make subjective judgments regarding the
results of operations, financial condition and prospects of a
potential target. For example, the due diligence we conducted in
connection with the Dolphin Films Acquisition and the 42West
Acquisition may not have been complete, adequate or accurate and
may not have uncovered all material issues and liabilities to which
we are now subject. If the due diligence investigation
fails to correctly identify material issues and liabilities that
may be present in a target company or business, or if we consider
such material risks to be commercially acceptable relative to the
opportunity, and we proceed with an acquisition, we may
subsequently incur substantial impairment charges or other
losses.
15
In addition, following an
acquisition, including the Dolphin Films Acquisition and the 42West
Acquisition, we may be subject to significant, previously
undisclosed liabilities of the acquired business that were not
identified during due diligence and which could contribute to poor
operational performance, undermine any attempt to restructure the
acquired company or business in line with our business plan and
have a material adverse effect on our financial condition and
results of operations.
Claims against us relating
to any acquisition may necessitate our seeking claims against the
seller for which the seller may not indemnify us or that may exceed
the seller’s indemnification obligations.
As discussed above,
there may be liabilities assumed in any acquisition that we did not
discover or that we underestimated in the course of performing our
due diligence. Although a seller generally will have
indemnification obligations to us under an acquisition or merger
agreement, these obligations usually will be subject to financial
limitations, such as general deductibles and maximum recovery
amounts, as well as time limitations, as was the case in the 42West
Acquisition. We cannot assure you that our right to
indemnification from any seller will be enforceable, collectible or
sufficient in amount, scope or duration to fully offset the amount
of any undiscovered or underestimated liabilities that we may
incur. Any such liabilities, individually or in the aggregate,
could have a material adverse effect on our business, financial
condition and operating results.
Risks Related to the 42West Business
Our business could be adversely affected if we fail to retain the
Principal Sellers ,other key employees and the clients they
represent
The
success of the 42West business substantially depends on our ability
to retain the services of the Principal Sellers.. If we lose the
services of one or more of these individuals, our ability to
successfully implement our business plan with respect to the newly
acquired business and the value of our common stock could be
materially adversely affected. Although we entered into three-year
employment agreements with each of the Principal Sellers in
connection with the 42West Acquisition, there can be no assurance
that they will serve the term of their employment agreements or
choose to remain with us following the expiration of such terms. In
addition, the employees of 42West, and their skills and
relationships with clients, are among 42West’s most valuable
assets. An important aspect of the business’ competitiveness
is its ability to retain these key employees. If 42West fails to
hire and retain a sufficient number of these key employees, it may
have a material adverse effect on our overall business and results
of operations.
42West’s
talent roster currently includes some of the best known and most
highly respected members of the entertainment community in addition
to major studios and networks, corporations and well-known consumer
brands. These clients often form highly loyal relationships with
certain public relations and marketing professionals rather than
with a particular firm. The employment agreements with the
Principal Sellers currently contain non-competition provisions that
will prevent the Principal Sellers from continuing to provide
services to such clients should they leave the Company , however,
clients are free to engage other public relations and marketing
professionals and there can be no assurance that they will choose
to remain with our Company. The success of the 42West Acquisition,
therefore, depends on our ability to continue to successfully
maintain such client relationships should the Principal Sellers or
other key employees leave our Company. If we are unable to retain
the current 42West clients or attract new clients, we may lose all
of the benefits of the acquisition which would materially adversely
affect our business and results of operations.
42West operates in a highly competitive industry.
The entertainment marketing
business is highly competitive. 42West must compete with other
agencies, and with other providers of entertainment marketing
services, in order to maintain existing client relationships and to
win new clients. The client’s perception of the quality of an
agency’s creative work and the agency’s reputation are
critical factors in determining its competitive
position.
16
The success of the 42West
business depends on its ability to consistently and effectively
deliver marketing and public relations services to its
clients.
42West’s success
depends on its ability to effectively and consistently staff and
execute client engagements to achieve the clients’ unique
personal or professional goals. 42West works to design
customized communications or publicity campaigns tailored to the
particular needs and objectives of particular projects. In
some of its engagements, 42West relies on other third parties to
provide some of the services to its clients, and we cannot
guarantee that these third parties will effectively deliver their
services or that we will have adequate recourse against these third
parties in the event they fail to effectively deliver their
services. Other contingencies and events outside of our
control may also impact 42West’s ability to provide its
services. 42West’s failure to effectively and timely
staff, coordinate and execute its client engagements may adversely
impact existing client relationships, the amount or timing of
payments from clients, its reputation in the marketplace and
ability to secure additional business and our resulting financial
performance. In addition, our contractual arrangements with
our clients may not provide us with sufficient protections against
claims for lost profits or other claims for damages.
If we are unable to adapt to changing client demands, social and
cultural trends or emerging technologies, we may not remain
competitive and our business, revenues and operating results could
suffer.
We operate in an industry
characterized by rapidly changing client expectations, marketing
technologies, and social mores and cultural trends that impact our
target audiences. The entertainment industry continues
to undergo significant developments as advances in technologies and
new methods of message delivery and consumption
emerge. These developments drive changes in our target
audiences’ behavior to which we
must adapt in order to reach our target audiences. In
addition, our success depends on our ability to anticipate and
respond to changing social mores and cultural trends that impact
the entertainment industry and our target audiences. We
must adapt our business to these trends, as well as shifting
patterns of content consumption and changing behaviors and
preferences of our target audiences, through the adoption and
exploitation of new technologies. If we cannot successfully exploit
emerging technologies or if the marketing strategies we choose
misinterpret cultural or social trends and prove to be incorrect or
ineffective, any of these could have a material
adverse effect on our business, financial condition, operating
results, liquidity and prospects.
A significant labor dispute in our clients’ industries could
have a material adverse effect on our business.
An industry-wide strike or
other job action by or affecting the Writers Guild, Screen Actors
Guild or other major entertainment industry union could reduce the
supply of original entertainment content, which would in turn
reduce the demand for our talent and entertainment marketing
services. An extensive work stoppage would affect feature film
production as well as television and commercial production and
could have a material adverse effect on our clients and the motion
picture production industry in general. For example, on
November 5, 2007, the Writers Guild declared a strike affecting the
script writing for television shows and films. The strike, which
lasted until February 12, 2008, significantly affected the
entertainment industry which consequently, had a material adverse
impact on revenue generated by public relations and entertainment
marketing agencies. Contracts between entertainment
industry unions and the Alliance of Motion Picture and Television
Producers (“AMPTP”) expire from time to
time. The failure to finalize and ratify a new agreement
with the AMPTP or the failure to enter into new commercial
contracts upon expiration of the current contracts could lead to a
strike or other job action. Any such severe or prolonged work
stoppage could have an adverse effect on the television and/or
motion picture production industries and could severely impair our
clients’ prospects. Any resulting decrease in demand for our
talent and entertainment marketing and other public relations
services would have a material adverse effect on our cash flows and
results of operations.
Clients may terminate or reduce their relationships with us on
short notice.
42West’s
entertainment clients may choose to reduce their relationships with
us, on a relatively short time frame and for any reason and can
terminate their contracts with us with 30 days’
notice. If a significant number of the 42West clients
were to terminate their relationships with us, this could have a
material adverse effect upon our business and results of
operations.
17
42West’s ability to generate new business from new and
existing clients may be limited.
To increase its revenues,
42West needs to obtain additional clients or generate demand for
additional services from existing clients. 42West’s ability
to generate initial demand for its services from new clients and
additional demand from existing clients is subject to such
clients’ and potential clients’ requirements, trends in
the entertainment industry, financial conditions, strategic plans
and internal resources of corporate clients, as well as the quality
of 42West’s employees, services and reputation. To the extent
42West cannot generate new business from new and existing clients
due to these limitations, the ability of 42West to grow its
business, and of the Company to increase its revenues, will be
limited.
42West’s revenues are susceptible to declines as a result of
unfavorable economic conditions.
Economic downturns often
severely affect the marketing services industry. Some of our
corporate clients may respond to weak economic performance by
reducing their marketing budgets, which are generally discretionary
in nature and easier to reduce in the short-term than other
expenses related to operations. In addition, economic downturns
could lead to reduced public demand for varying forms of
entertainment for which we are engaged to provide public relations
and media strategy and promotional services. Such reduced demand
for our services could have a material adverse effect on our
revenues and results of operations.
42West relies on information technology systems and could face
cybersecurity risks.
42West relies on
information technologies and infrastructure to manage its business,
including digital storage of marketing strategies and client
information and delivery of digital marketing services. The
incidence of malicious technology-related events, such as
cyberattacks, computer hacking, computer viruses, worms or other
destructive or disruptive software, denial of service attacks or
other malicious activities is on the rise worldwide. Power outages,
equipment failure, natural disasters (including extreme weather),
terrorist activities or human error may also affect our systems and
result in disruption of our services or loss or improper disclosure
of personal data, business information or other confidential
information.
Likewise, data privacy
breaches, as well as improper use of social media, by employees and
others may pose a risk that sensitive data, such as personally
identifiable information, strategic plans and trade secrets, could
be exposed to third parties or to the general public. 42West also
utilizes third parties, including third-party “cloud”
computing services, to store, transfer or process data, and system
failures or network disruptions or breaches in the systems of such
third parties could adversely affect its reputation or business.
Any such breaches or breakdowns could expose us to legal liability,
be expensive to remedy, result in a loss of clients or
clients’ proprietary information and damage our reputation.
Efforts to develop, implement and maintain security measures are
costly, may not be successful in preventing these events from
occurring and require ongoing monitoring and updating as
technologies change and efforts to overcome security measures
become more sophisticated.
ITEM 1B. UNRESOLVED STAFF
COMMENTS.
None.
As of the date of
this report, we do not own any real property. We lease
3,332 square feet of office space located at 2151 Le Jeune Road,
Suite 150-Mezzanine, Coral Gables, Florida 33134, at a monthly rate
of $5,388 with annual increases. In 2012, we opened an additional
office located at 10866 Wilshire Boulevard, Suite 800, Los Angeles,
California 90024 and currently lease 4,582 square feet of office
space at a monthly rate of $13,746 with annual increases of 3% for
years 1to 3 and 3.5% for the remainder of the lease.
Our newly acquired
subsidiary, 42West leases 12,505 square feet of office space
located at 600 Third Avenue, 23rd Floor, New York,
NY 10016, at a monthly rate of $67,735 with increases every three
years. In addition, 42West leases 12,139 square feet of
office space at 1840 Century Park East, Suite 700, Los Angeles, CA
90067 at a base rate of $36,417 (commencing on 2/1/14), with annual
increases of 3% per year. We believe our current facilities are
adequate for our operations for the foreseeable
future.
18
ITEM 3. LEGAL
PROCEEDINGS.
We are involved in
various legal proceedings relating to claims arising in the
ordinary course of business. We do not believe that the ultimate
resolution of these matters will have a material adverse effect on
our business, financial condition, results of operations or
liquidity.
ITEM
4. MINE SAFETY
DISCLOSURES.
Not
applicable.
ITEM 5.
MARKET
FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS
AND ISSUER PURCHASES OF EQUITY SECURITIES.
Market for Our Common Stock
Our Common Stock
currently trades on the over-the-counter market and is quoted on
the OTC Markets Pink Sheets under the symbol “DPDM”.
The high and low bid information for each quarter since January 1,
2015, as quoted on the OTC, is as follows:
|
Quarter
|
High
Bid
|
Low
Bid
|
|
|
|
|
|
Fourth Quarter
2016
|
$6.75
|
$3.20
|
|
Third Quarter
2016
|
$7.25
|
$4.00
|
|
Second Quarter
2016
|
$8.27
|
$5.40
|
|
First Quarter
2016
|
$7.60
|
$1.60
|
|
|
|
|
|
Fourth Quarter
2015
|
$5.00
|
$0.60
|
|
Third Quarter
2015
|
$1.00
|
$0.60
|
|
Second Quarter
2015
|
$1.20
|
$0.80
|
|
First Quarter
2015
|
$1.00
|
$0.80
|
The
over-the-counter quotations above reflect inter-dealer prices,
without retail mark-up, markdown or commissions and may not reflect
actual transactions. Such quotes are not necessarily
representative of actual transactions or of the value of our
securities, and are, in all likelihood, not based upon any
recognized criteria of securities valuation as used in the
investment banking community.
The trading volume
for our common stock is relatively limited. There is no assurance
that an active trading market will continue to provide adequate
liquidity for our existing shareholders or for persons who may
acquire our Common Stock in the future.
Holders of our Common Stock
As of April 17,
2017, an aggregate of 18,755,865 shares of our Common Stock were
issued and outstanding and were owned by approximately 300
stockholders of record, based on information provided by our
transfer agent.
Dividends
We have never paid
dividends on our Common Stock and do not anticipate that we will do
so in the near future.
Equity Compensation Plan Information
On
September 13, 2012, our Board of Directors approved an Incentive
Compensation Plan (the “Plan”), which was approved by
the majority of our shareholders on September 19, 2012. The Plan
was adopted as a means of attracting and retaining exceptional
employees and consultants by enabling them to share in the long
term growth and financial success of the Company. The Plan is
administered by the Board of Directors or a committee designated by
the Board of Directors. The Board of Directors has designated
10,000,000 shares of Common Stock for this plan. No awards have
been issued under the plan since its adoption.
19
Not required for
smaller reporting companies.
ITEM 7. MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS.
The following discussion of our financial condition and results of
operations should be read in conjunction with our audited
historical consolidated financial statements and the notes thereto,
which are included elsewhere in this Form 10-K. The
following discussion includes forward-looking statements that
involve certain risks and uncertainties, including, but not limited
to, those described in Item 1A. Risk Factors. Our actual results
may differ materially from those discussed below. See
“Special Note Regarding Forward-Looking Statements” and
Item 1A. Risk Factors.
OVERVIEW
Dolphin
Digital Media, Inc. specializes in the production and distribution
of online digital content. We also seek to develop online kids
clubs. On March 7, 2016, we acquired Dolphin Films, a content
producer of motion pictures, from Dolphin Entertainment, an entity
wholly owned by our President, Chairman and CEO, Mr. O’Dowd.
See Note 4 for additional information regarding the Dolphin Films
Acquisition. The following management discussion is based on
financial information that has been retrospectively adjusted as if
the merger had occurred from the first date of financial
information presented. All financial information has been
retrospectively adjusted at the historical values of Dolphin Films,
as the merger was between entities under common
control.
On May
9, 2016, we filed Articles of Amendment to our Articles of
Incorporation with the Secretary of State of the State of Florida
to effectuate a 1-to-20 reverse stock split. The reverse stock
split was effective as of May 10, 2016. The reverse stock split was
approved by our Board of Directors and a majority of our
shareholders. Shares of Common Stock have been retrospectively
adjusted to reflect the reverse stock split in the following
management discussion.
On
March 30, 2017, we acquired 42West, an entertainment public
relations agency offering talent publicity, strategic
communications and entertainment, content marketing. As
consideration for the 42West Acquisition, we paid approximately
$18.7 million in shares of Common Stock, based on the
Company’s 30-trading-day average stock price prior to the
closing date of $4.61 per share (less certain working capital and
closing adjustments, transaction expenses and payments of
indebtedness), plus the potential to earn up to an additional $9.3
million in shares of Common Stock. As a result, we (i) issued
1,230,280 shares of Common Stock on the closing date and (ii) will
issue (a) 344,550 shares of Common Stock to certain employees
within 30 days of the closing date, (b) 118,655 shares of Common
Stock as bonuses during 2017 and (c) approximately 1,961,821 shares
of Common Stock on January 2, 2018. In addition, we may issue up to
1,963,126 shares of Common Stock based on the achievement of
specified financial performance targets over a three-year period.
Prior to its acquisition, 42West was the largest
independently-owned public relations firm in the entertainment
industry. Among other benefits, we anticipate that the 42West
Acquisition will strengthen and complement our current digital and
motion picture business, while expanding and diversifying our
operations. Having marketing expertise in-house will allow Dolphin
to review any prospective project’s marketing potential prior
to making a production commitment.
The
Principal Sellers have each entered into employment agreements with
us and will continue as employees of the Company for a three-year
term after the closing date of the 42West Acquisition. The
nonexecutive employees of 42West are expected to be retained as
well. In connection with the 42West Acquisition, we granted the
sellers the right, but not the obligation, to cause the Company to
purchase up to an aggregate of 2,374,187 of their shares of Common
Stock received as Consideration for a purchase price equal to $4.61
per share during certain specified exercise periods up until
December 2020.
Going Concern
Our
independent auditors issued an explanatory paragraph expressing
substantial doubt about our ability to continue as a going concern
based upon our net loss for the years ended December 31, 2016 and
2015, our accumulated deficit as of December 31, 2016 and 2015 and
our level of working capital. The financial statements do not
include any adjustments that might result from the outcome of these
uncertainties. Management is planning to raise any necessary
additional funds through loans and additional sales of our Common
Stock, securities convertible into our Common Stock, debt
securities or a combination of such financing alternatives;
however, there can be no assurance that we will be successful in
raising any necessary additional loans or capital. Such issuances
of additional securities would further dilute the equity interests
of our existing shareholders, perhaps
substantially.
20
Revenues
During 2016, our
primary source of revenue was from the release of our motion
picture, Max Steel. During
2015, we derived revenue through (1) the online distribution rights
of our web series South-Beach
– Fever and international distribution rights to our
motion picture Believe and
(2) a portion of fees obtained from the sale of memberships to
online kids clubs. The table below sets forth the components of
revenue for the years ended December 31, 2016 and
2015:
|
|
For the year
ended December 31,
|
|
|
Revenues:
|
2016
|
2015
|
|
Production and
distribution
|
99.7%
|
98.0%
|
|
Membership
|
0.3%
|
2.0%
|
|
Total
revenue
|
100.0%
|
100.0%
|
Dolphin Digital Studios
During 2016, we
entered into a co-production agreement to produce Jack of all Tastes, a digital project
that showcases favorite restaurants of NFL players. The show was
produced during 2016 throughout several cities in the US and we
anticipate that it will be available for distribution during the
third quarter of 2017. We are currently sourcing distribution
platforms in which to release projects currently in production and
those for which we have the rights and which we intend to produce.
We earn production and online distribution revenue solely through
the following:
●
Producer’s
Fees: We earn fees for producing each web series,
as included in the production budget for each
project. We either recognize producer’s fees on a
percentage of completion or a completed contract basis depending on
the terms of the producer agreements, which we negotiate on a
project by project basis. During 2016, we began production of our
new web series but it had not been completed as of December 31,
2016. In addition, we concentrated our efforts in identifying
potential distribution partners.
●
Initial
Distribution/Advertising
Revenue: We earn revenues from the distribution
of online content on AVOD platforms. Distribution
agreements contain revenue sharing provisions which permit the
producer to retain a percentage of all domestic and international
advertising revenue generated from the online distribution of a
particular web series. Typically, these rates range from
30% to 45% of such revenue. We have previously
distributed our productions on various online platforms including
Yahoo! and Facebook and Hulu, where we distributed our web series,
South Beach - Fever during
the third and fourth quarters of 2015.
●
Secondary Distribution
Revenue: Once our contractual obligation with the
initial online distribution platform expires, we have the ability
to derive revenues from distributions of the web series in
ancillary markets such as DVD, television and SVOD. No
revenues from this source have been derived during the years ended
December 31, 2016 and 2015. We intend to source
potential secondary distribution partners for our web series,
South Beach - Fever once
our agreement with the initial distributor
expires.
Dolphin Films
During the year
ended December 31, 2016 and 2015, we derived revenues from Dolphin
Films primarily through the domestic and international
distribution of our motion picture Max Steel and international
distribution of the motion picture titled Believe.
21
The production of
the motion picture Max
Steel was completed during 2015 and released in the United
States on October 14, 2016. The motion picture did not
perform as well as expected domestically but we have secured
approximately $8.2 million in international distribution
agreements. Unamortized film costs are to be tested for
impairment whenever events or changes in circumstances indicate
that the fair value of the film may be less than its unamortized
costs. We determined that Max Steel’s domestic
performance was an indicator that the capitalized
production costs may need to be impaired. We used a discounted cash
flow model to help determine the fair value of the capitalized
production costs and determined that the carrying value of
the capitalized production costs was below the fair
value and recorded an impairment of $2 million.
Revenues from the
motion picture Max Steel,
were, and are expected to be generated from the following
sources:
●
Theatrical
– Theatrical revenues were
derived from the domestic theatrical release of motion pictures
licensed to a U.S. theatrical distributor that has existing
agreements with theatrical exhibitors. The financial terms
negotiated with its U.S. theatrical distributor provided that we
receive a percentage of the box office results, after related
distribution fees.
●
International
– International revenues were
and are expected to be derived through license agreements with
international distributors to distribute our motion pictures in an
agreed upon territory for an agreed upon time. Several of the
international distribution agreements were contingent on a domestic
wide release that occurred on October 14, 2016.
●
Other
– Dolphin Films’ U.S.
theatrical distributor has existing output arrangements for the
distribution of productions to home entertainment, VOD, PPV, EST,
SVOD and free and pay television markets. The revenues expected to
be derived from these channels are based on the performance of the
motion picture in the domestic box office. We anticipate the
revenues from these channels will be received in 2017 or
thereafter.
Project Development and Related Services
We have a
development team that dedicates a portion of its time and resources
to sourcing scripts for future developments. The scripts can be for
either digital or motion picture productions. During 2015, we
acquired the rights to a script for a motion picture that we intend
to produce in the fourth quarter of 2017. We also identified and
acquired two other scripts that we believe would appeal to one of
our target demographics. We have not yet determined if these
projects would be produced for digital or theatrical
distribution.
Online Kids Clubs
We
partnered with US Youth Soccer, in 2012, and United Way Worldwide,
in 2013, to create online kids clubs. Our online kids clubs derive
revenue from the sale of memberships in the online kids clubs to
various individuals and organizations. We shared in a portion of
the membership fees as outlined in our agreements with the
respective entities. During the year ended December 31, 2016, we
terminated, by mutual accord the agreement with United Way
Worldwide. We have retained the trademark to the online kids club
and will continue to operate the site. During the year ended
December 31, 2016, pursuant to the terms of the agreement, we
notified US Youth Soccer that we did not intend to renew our
agreement with them that terminated on February 1, 2017. For the
years ended December 31, 2016 and 2015, we did not record
significant revenues from the online kids clubs. We operate our
online kids club activities through our subsidiary, Dolphin Kids
Clubs, LLC (“Dolphin Kids Clubs”). On December 29,
2016, we entered into a purchase agreement to acquire the remaining
25% membership interest in Dolphin Kids Clubs and as a result,
Dolphin Kids Clubs became our wholly owned subsidiary. As
consideration for the purchase of the 25% membership interest, we
issued Warrant J that can be exercised to acquire shares of our
Common Stock at a purchase price of $0.015 per share. (See note 10
of the financial statements for further discussion on the
warrants)
22
Expenses
Our expenses
consist primarily of (1) direct costs, (2) distribution and
marketing (3) selling, general and administrative expenses (4)
payroll expenses and (5) legal and professional fees.
Direct costs
include amortization of deferred production costs, impairment of
deferred production costs, residuals and other costs associated
with production. Residuals represent amounts payable to various
unions or “guilds” such as the Screen Actors Guild,
Directors Guild of America, and Writers Guild of America, based on
the performance of the digital production in certain ancillary
markets. Included within direct costs are immaterial impairments
for any of our projects. Capitalized production costs are recorded
at the lower of their cost, less accumulated amortization and tax
incentives, or fair value. If estimated remaining revenue is not
sufficient to recover the unamortized capitalized production costs
for that title, the unamortized capitalized production costs will
be written down to fair value. Material impairments would be
recorded as a separate item on our statement of
operations.
Distribution and
marketing expenses include the costs of theatrical, prints and
advertising ("P&A") and of DVD/Blu-ray duplication and
marketing. Theatrical P&A includes the costs of the theatrical
prints delivered to theatrical exhibitors and the advertising and
marketing cost associated with the theatrical release of the
picture. DVD/Blu-ray duplication represents the cost of the
DVD/Blu-ray product and the manufacturing costs associated with
creating the physical products. DVD/Blu-ray marketing costs
represent the cost of advertising the product at or near the time
of its release.
Selling, general
and administrative expenses include all overhead costs except for
payroll and legal and professional fees that are reported as a
separate expense item. Included within selling, general and
administrative expenses are the commissions that we pay our
advertising and distribution brokers, which can range up to 25% of
the distribution and advertising revenue that we
receive.
Legal and
professional fees include fees paid to our attorneys, fees for
public relations consultants, fees for general business consultants
and fees paid to our sales agent for back office
services.
Other Income and Expenses
Other income and
expenses consist primarily of (i) interest to Dolphin
Entertainment, an entity owned by our CEO, in connection with loans
made to the Company; (ii) interest payments related to the Loan and
Security Agreements entered into to finance the production of
certain digital content and motion pictures (iii) loss on
extinguishment of debt (iv) amortization of loan fees, (v) warrant
issuance expense and (vi) change in fair value of derivative
liability. During the year ended December 31, 2016, we
entered into agreements with certain debtholders, including Dolphin
Entertainment, to convert an aggregate of $25,164,798 principal and
interest into 5,032,960 shares of common stock at a price of $5.00
per share. The conversions occurred on days when the market price
of the stock was between $6.00 and $6.99 per share. As a result, we
recorded a loss on the extinguishment of the debt of approximately
$6.3 million. In addition, we entered into
(i) a Termination Agreement to terminate an Equity
Finance Agreement, (ii) a Purchase Agreement for the acquisition of
25% membership interest of Dolphin Kids Clubs and (iii) a Debt
Exchange Agreement to convert certain notes. As
consideration for the three agreements, we issued Warrant J and
Warrant K that entitle the warrant holder to purchase up to
2,340,000 shares of common stock at a price of $0.015 per
share. As a result of the issuance of the shares,
we recorded a loss on extinguishment of debt of approximately $3.3
million. In addition to Warrants J and K, we entered
into a Warrant Purchase Agreement whereby we agreed to issue
Warrants G, H and I in exchange for a $50,000 payment that was used
to reduce the exercise price of Warrant E. The Warrant
Purchase Agreement entitles the warrant holder to purchase shares
of Common Stock as
follows: (i) up to 1,500,000 shares of Common Stock prior to
January 31, 2018, at $5.00 per share (ii) up to 500,000 shares of
Common Stock at $6.00 per share prior to January, 31, 2019, and
(iii) up to 500,000 shares of Common Stock at $7.00 per share prior
to January 31, 2020. We determined that Warrants G, H,
I, J, and K, collectively, (the “New
Warrants”) should be accounted for as a derivative
for which a liability is recorded in the aggregate and measured
fair value in the consolidated balance sheets and changes in the
fair value from one reporting period to the next are reported as
income or expense. As a result of the issuance of the New Warrants,
we recorded a warrant issuance expense of approximately $7.4
million and income of approximately, $2.2 million from changes in
the fair value of the New Warrants from the dates of issuance
through December 31, 2016.
23
Results of Operations
Year ended December 31, 2016 as compared to year ended December 31,
2015
Revenues
For the year ended
December 31, 2016, we generated our revenue from (i) the domestic
theatrical release and international distribution rights of our
motion picture, Max Steel
and (ii) portion of fees obtained from the sale of memberships to
online kids clubs. By contrast, for the year ended December 31,
2015, we generated our revenue primarily from (i)
online distribution of our web series, South Beach –
Fever (ii) portion of fees obtained from the sale
of memberships to online kids clubs and (iii) international
distribution rights of our motion picture, Believe.
|
|
For the year
ended December 31,
|
|
|
Revenues:
|
2016
|
2015
|
|
Production and
distribution
|
$9,367,222
|
$3,031,073
|
|
Membership
|
28,403
|
69,761
|
|
Total
revenue
|
$9,395,625
|
$3,100,834
|
Revenues from
production and distribution increased by $6.3 million for the year
ended December 31, 2016 as compared to the year ended
December 31, 2015, primarily due to the release of our
motion picture Max Steel on
October 14, 2016 and the recognition of domestic box office
revenues and recognition of revenue from international licensing
agreements of the motion picture. During the same period
in 2015, we derived revenues from the online release of our web
series, South Beach –
Fever on Hulu.
Revenues from
membership fees decreased by $0.04 million, for the year ended
December 31, 2016 as compared to the year ended December 31,
2015 as a result of one individual that purchased
memberships to the online kids club for a group of
schools in Louisiana during the second quarter of
2015.
Expenses
For the years ended
December 31, 2016 and 2015, our operating expenses were direct
costs, distribution and marketing, selling, general and
administrative expenses, legal and professional fees and payroll
expenses.
|
|
For the year
ended December 31,
|
|
|
Expenses:
|
2016
|
2015
|
|
Direct
costs
|
$10,661,241
|
$2,587,257
|
|
Distribution and
marketing
|
11,322,616
|
213,300
|
|
Selling, general
and administrative
|
1,245,689
|
1,845,088
|
|
Legal and
professional
|
2,405,754
|
2,392,556
|
|
Payroll
|
1,462,589
|
1,435,765
|
|
Total
expenses
|
$27,097,889
|
$8,473,966
|
Direct costs
increased by approximately $8.1 million for the year ended December
31, 2016 as compared to the year ended December 31,
2015, mainly due to (i) amortization of capitalized production
costs related to the release of our motion picture, Max Steel, (ii) a $2 million impairment
of the capitalized production costs of Max Steel (iii) international sales
agent fees paid for the distribution of our motion picture in
international territories and (iv) the impairment of the cost of a
script that we decided not to produce. During the year
ended December 31, 2015, direct costs consisted primarily of (i)
amortization of capitalized production costs for our web series,
South Beach – Fever ,
(ii) a fee paid to our distributor in 2015 related to the release
date of our motion picture and (iii) impairment of the costs of
scripts that we do not intend to immediately produce.
24
Distribution and
marketing expenses increased by approximately $11.1 million for the
year ended December 31, 2016 as compared to the year ended December
31, 2015, mainly due to costs associated with the
distribution and marketing for the release of our motion picture,
Max Steel.
Selling, general
and administrative expenses decreased by approximately $0.6 million
for the year ended December 31, 2016 as compared to the year ended
December 31, 2015, mainly due to a contract for international
distribution back office services that ended on December 31, 2015
and was not renewed for 2016.
Legal and
professional fees remained relatively consistent between the year
ended December 31, 2016 and the year ended December 31,
2015. The majority of our professional fees are related
to consulting fees and legal fees that would be considered in the
normal course of business for our industry. During the
year ended December 31, 2016, we incurred approximately $0.5
million of legal and consulting fees directly related to the
release of our motion picture. By contrast during the
year ended December 31, 2015, we incurred $0.5 million
of fees for services rendered by our advertising and
distribution broker related to our web series.
Payroll expenses
increased by approximately $0.03 million the year ended December
31, 2016 as compared to the year ended December 31, 2015, mostly
due to certain payroll costs capitalized during the production of
our web series in 2015 and cost of living salary increases made at
the beginning of 2016.
Other
Income and expenses
|
|
For the year
ended December 31,
|
|
|
Other Income and expenses:
|
2016
|
2015
|
|
Other
income
|
$9,660
|
$96,302
|
|
Amortization
of loan fees
|
(476,250)
|
-
|
|
Change in fair
value of warrant liability
|
2,195,542
|
-
|
|
Warrant issuance
expense
|
(7,372,593)
|
-
|
|
Loss on
extinguishment of debt
|
(9,601,933)
|
-
|
|
Interest
expense
|
(4,241,841)
|
(3,559,532)
|
|
Total
|
$(19,487,415)
|
$(3,463,230)
|
Interest expense
increased by $0.7 million for the year ended December 31,
2016, as compared to the year ended December 31, 2015
and was directly related to , (i) interest related to the
conversion of certain notes payable to shares of our common stock,
and (ii) interest related to the production and distribution loans
of our motion picture.
During the year
ended December 31, 2016, we amortized approximately $0.5 million of
certain loan fees related to the financing obtained for the
distribution and marketing expenses for the release of Max Steel.
During the year
ended December 31, 2016, we entered into Subscription Agreements,
Termination Agreements and Debt Exchange Agreements,
collectively (the “Conversion
Agreements”) to convert debt into shares of our
Common Stock or to warrants to purchase shares of our Common
Stock. These Conversion Agreements resulted in a loss on
extinguishment of debt in the aggregate amount
of $9.6 million due to the difference in the price per
share in the Conversion Agreement and the market price per share on
the date of the conversion. The following details the various
agreements:
(a)
During the
year ended December 31, 2016, we entered into thirteen individual
agreements with parties to loan and security agreements under which
we issued promissory notes to each of the parties. Pursuant to the
terms of the debt exchange agreements, we converted an aggregate
$3.75 million of principal and approximately $0.4 million of
interest under the promissory notes into an aggregate of 840,910
shares of Common Stock at $5.00 per share as payment in full of
each of the promissory notes. The market price per share was
between $6.00 and $6.45 per share at the time of the conversions.
As a result, we recorded a loss on extinguishment of debt related
to these loan and security agreements of $0.9 million on our
consolidated statement of operations.
25
(b)
During the year
ended December 31, 2016, we entered into three debt exchange
agreements with parties to equity finance agreements. Pursuant to
the terms of the agreements, we converted an aggregate $0.3 million
of principal and interest into an aggregate of 66,200 shares of our
Common Stock at $5.00 per share as payment in full for each equity
finance agreement. The market price per share was between $6.25 and
$6.75 per share at the time of the conversions. As a result, we
recorded a loss on extinguishment of debt related to these equity
finance agreements of $0.1 million on our consolidated statements
of operations. During the year ended December 31, 2016, we also
entered into a settlement agreement with a separate party to an
equity finance agreement. Pursuant to the terms of the settlement
agreement, we agreed to pay $0.2 million and recorded a loss on
extinguishment of debt on our consolidated statement of operations
of approximately $0.1 million related to this settlement
agreement.
(c)
During the year
ended December 31, 2016, we entered into a debt exchange agreement
with a party to a kids club agreement. Pursuant to the terms of the
agreements, we converted $0.06 million on principal and interest
into 12,000 shares of our Common Stock at $5.00 per share as
payment in full of the kids club agreement. The market price per
share was $6.75 per share at the time o f the conversion. As a
result, we recorded $0.02 million of loss on extinguishment of debt
on our consolidated statements of operations, related to this kids
club agreement.
(d)
During the year
ended December 31, 2016, we entered into a subscription agreement
with Dolphin Entertainment. Pursuant to the terms of the
subscription agreement, we converted $3.0 million of principal and
interest outstanding on a revolving promissory note into 614,682
shares of our Common Stock at a price of $5.00 per share. At the
time of the conversion, market price per share of Common Stock was
$6.00. As a result, we recorded a loss on the extinguishment of
debt of $0.6 million on its condensed consolidated statement of
operations for the year ended December 31, 2016.
(e)
During the year
ended December 31, 2016, we entered into various individual debt
exchange agreements with parties to loan and security agreements
under which we issued promissory notes to each of the parties.
Pursuant to the debt exchange agreements, we agreed to convert an
aggregate $17.9 million in principal and interest under the
promissory notes into an aggregate of 3.6 million shares of Common
Stock at a price of $5.00 per share as payment in full of each of
the promissory notes. On the dates of conversion the market price
per share of Common Stock was between $6.08 and $6.99 and as a
result, we recorded a loss on the extinguishment of debt of $4.6
million our consolidated statements of operations.
(f)
During the year
ended December 31, 2016, we entered into a Termination Agreement
and a Debt Exchange Agreement whereby we issued Warrants J and K
that entitled the holder to purchase shares of our Common Stock at
a price of $0.015. In exchange the warrant holder agreed to convert
an aggregate of $6.5 million of debt. Warrant J entitles the
warrant holder to purchase up to 170,000 shares of our Common Stock
and Warrant K entitles the warrant holder to purchase up to
2,170,000 but also includes consideration for the purchase of a 25%
interest in Dolphin Kids Clubs. We recorded loss on extinguishment
of debt of $3.2 million related to these agreements.
In addition to the
Warrants J and K discussed above, as previously described, we
entered into a Warrant Purchase Agreement whereby we agreed to
issue Warrants G, H and I. We recorded $7.4 million of
warrant issuance expense with respect to Warrants G, H and
I. All of the warrants issued during 2016 were recorded
as a derivative liability. We recorded the warrants as
their fair value on the date of issuance and will record any
changes to fair value at each balance sheet date as a change in the
fair value of a derivative liability on our consolidated statements
of operation. For the year ended December 31, 2016, we
recorded $2.2 million of a change in the fair value of the
derivative liability.
Net
Loss
Net loss was
approximately $37.2 million or $(4.83) per Common Share, including
a preferred stock deemed dividend of approximately $5.2 million for
the year ended December 31, 2016 based on 8,778,193 weighted
average shares outstanding as of December 31, 2016 and
approximately $8.8 million or $(2.16) per share for the year ended
December 31, 2015 based on 4,094,618 weighted average shares
outstanding as of December 31, 2015. The increase in net
loss between the years ended December 31, 2016 and 2015 was related
to the factors discussed above.
Liquidity
and Capital Resources
Cash Flows
Cash
flows used in operating activities increased by approximately $7.9
million from approximately $(7.0) million used during the year
ended December 31, 2015 to approximately $(14.9) million used
during the year ended December 31, 2016. This increase was
primarily due to the use of cash flows related to the release of
our motion picture, Max
Steel as follows: (i) distribution and marketing fees of
approximately $11.3 million, (ii) $0.9 million of deposits used to
pay certain distribution fees related to the release, and (iv) $1.4
million of accounts payable paid. These are offset by cash received
for sales of the motion picture in the amount of $4.8 million, and
tax incentives in the amount of $0.7 million. We also received
$0.05 million from the sale of warrants.
26
Cash flows from
investing activities decreased by approximately $1.2 million. This
decrease was due to a provision in the Max Steel loan and security agreement
that required us to keep as collateral, an account at the financial
institution that provided the loan.
Cash
flows from financing activities increased by approximately $5.4
million from approximately $9.1 million for year ended December 31,
2015 to approximately $13.2 million for year ended December 31,
2016. The increase is primarily due to financing for the
distribution and marketing costs for the release of our motion
picture and repayment of the production loan from proceeds received
from the motion picture. In addition, during the year ended
December 31, 2016, we entered into various subscription agreements
for the sale of our Common Stock for a total of $7.5 million. In
comparison, during the same period in prior year, we received $3.2
million from a convertible note payable and received $2.4 million
more of advances from our CEO.
As of
December 31, 2016 and 2015, we had cash available for working
capital of approximately $0.6 million and approximately $2.4
million, respectively, and a working capital deficit of
approximately $31.4 million and approximately $43.3 million,
respectively.
As
previously discussed, in connection with the 42West Acquisition, we
may be required to purchase from the sellers up to an aggregate of
2,374,187 shares of Common Stock at a price of $4.61per share up
until December 2020. Of that amount, we may be required to purchase
up to 455,531 shares in 2017, for an aggregate of up to $2.1
million.
These
factors, along with an accumulated deficit of $99.8 million, raise
substantial doubt about our ability to continue as a going concern.
The consolidated financial statements do not include any
adjustments that might result from the outcome of these
uncertainties. In this regard, management is planning to raise any
necessary additional funds through loans and additional issuances
of our Common Stock, securities convertible into our Common Stock,
debt securities or a combination of such financing alternatives.
There is no assurance that we will be successful in raising
additional capital. Such issuances of additional securities would
further dilute the equity interests of our existing shareholders,
perhaps substantially. We currently have the rights to several
scripts that we intend to obtain financing to produce and release
during 2017 and 2018. We will potentially earn a producer and
overhead fee for each of these productions. There can be no
assurances that such productions will be released or fees will be
realized in future periods. We expect to begin to generate cash
flows from our other sources of revenue, including the distribution
of at least one web series that, as discussed earlier has gone into
production and from our newly acquired subsidiary,
42West.
Financing Arrangements
Kids Club Agreements
During February
2011, we entered into two agreements with individual parties (each
a “Kids Club Agreement”) for the development of a child
fan club for the promotion of a local university and its collegiate
athletic program (the “Group Kids Club”). Under each
Kids Club Agreement, each party paid us $50,000 in return for the
participation of future revenue generated by the Group Kids Club.
Pursuant to the terms of each of the Kids Club Agreements, the
amount invested by the individual investor was to be repaid by the
Group Kids Club, with a specified percentage of the Group Kids
Club’s net receipts, until the total investment was recouped.
Each individual party was to recoup its investment with a
percentage of net revenue based upon a fraction, the numerator of
which was the amount invested ($50,000), and the denominator of
which was $500,000 (the “Investment Ratio”).
Thereafter, each individual party would share in a percentage of
the net revenue of the Group Kids Club, in an amount equal to one
half of the Investment Ratio. During 2015 and 2016, we made
aggregate payments of $45,000 under one of the two Kids Clubs
Agreements. On July 1, 2016, we agreed to terminate such Kids Club
Agreement for (i) $10,000, plus (ii) the balance of the original
investment ($5,000). We paid such individual party $15,000 on July
18, 2016 in full settlement of its obligations under such Kids Club
Agreement, and the Kids Club Agreement for such party was
terminated. On October 3, 2016, we entered into a debt
exchange agreement and issued 12,000 shares of our Common Stock at
an exchange price of $5.00 per share to terminate the remaining
Kids Club Agreement for (i) $10,000 plus (ii) the original
investment of $50,000. On the date of the exchange
agreement, the market price of our Common Stock was $6.75 and we
recorded a loss on extinguishment of debt in the amount of $21,000
on our consolidated statement of operations.
27
Equity Finance Agreements
During the years
ended December 31, 2012 and 2011, we entered into Equity Finance
Agreements (the “Equity Finance Agreements”) for the
future production of web series and the option to participate in
the production of future web series. The investors contributed a
total equity investment of $1,000,000 and had the ability to share
in the future revenues of the relevant web series, on a prorata
basis, until the total equity investment was recouped and then
would have shared at a lower percentage of the additional revenues.
The Equity Finance Agreements stated that prior to December 31,
2012, we could utilize all, or any portion, of the total equity
investment to fund any chosen production. Per the Equity Finance
Agreements, we were entitled to a producer’s fee, not to
exceed $250,000, for each web series that it produced before
calculating the share of revenues owed to the investors. We
invested these funds in eleven projects. On January 1, 2013, the
production “cycle” ceased and the investors were
entitled to share in the future revenues of any productions for
which the funds invested were used. Based on the gross
producer’s revenues for the productions to date and the
amount of investor funds used to date, we were not required to pay
the investors any amount in excess of the existing liability
already recorded as of December 31, 2015. Two of the productions
were completed and there was no producer gross revenue as defined
in the Equity Finance Agreements. The remaining projects were
impaired and there are no future projects planned with funds from
the Equity Finance Agreements.
On June 23, 2016,
we entered into a settlement agreement (the
“Settlement”) with one of the investors that had
originally contributed $0.1 million. Pursuant to the terms of the
Settlement, we made a payment of $0.2 million to the investor on
June 24, 2016. On October 3, 2016, October 13, 2016 and October 27,
2016 we entered into debt exchange agreements with three investors
to issue an aggregate amount of 66,200 shares of our
Common Stock at an exchange price of $5.00 per share to terminate
each of their Equity Finance Agreements for a cumulative original
investment amount of $0.3 million. The market price of
our Common Stock on the date of the debt exchange agreement was
between $6.25 and $6.75 and, as such, we recorded a loss on
extinguishment of debt on our consolidated statement of operations
in the amount of $0.1 million.
On December 29,
2016, we entered into a Termination Agreement with the remaining
investor of the Equity Finance Agreements, whereby we mutually
agreed to terminate the Equity Finance Agreement in exchange for
the issuance of Warrant K. Warrant K entitles the holder
to purchase up to 170,000 shares of our Common Stock at
a price of $0.015 prior to December 29,
2020. We recorded a loss on extinguishment of debt in
the amount of $0.5 million on our consolidated statement of
operations for the difference between the outstanding amount of the
Equity Finance Agreement and the fair value of Warrant
K.
Loan and Security Agreements
First Group Film Funding
During the years
ended December 31, 2013 and 2014, we entered into various loan and
security agreements with individual noteholders (the “First
Loan and Security Noteholders”) for an aggregate principal
amount of notes of $11,945,219 to finance future motion picture
projects (the “First Loan and Security Agreements”).
During the year ended December 31, 2015, one of the First Loan and
Security Noteholders increased its funding under its respective
First Loan and Security Agreement for an additional $500,000
investment and we used the proceeds to repay $405,219 to another
First Loan and Security Noteholder. Pursuant to the terms of the
First Loan and Security Agreements, we issued notes that accrued
interest at rates ranging from 11.25% to 12% per annum, payable
monthly through June 30, 2015. During 2015, we exercised our option
under the First Loan and Security Agreements, to extend the
maturity date of these notes until December 31, 2016. In
consideration of our exercise of the option to extend the maturity
date, we were required to pay a higher interest rate, increasing
1.25% to a range between 12.50% and 13.25%. The First Loan and
Security Noteholders, as a group, will receive our entire share of
the proceeds from these projects, on a prorata basis, until the
principal investment is repaid. Thereafter, the First Loan and
Security Noteholders, as a group, would have the right to
participate in 15% of our future profits from these projects
(defined as our gross revenues of such projects less the aggregate
amount of principal and interest paid for the financing of such
projects) on a prorata basis based on each First Loan and Security
Noteholder's loan commitment as a percentage of the total loan
commitments received to fund specific motion picture
productions.
28
On May 31, 2016 and
June 30, 2016, we entered into various debt exchange agreements on
substantially similar terms with certain of the First Loan and
Security Noteholders to convert an aggregate of $11.3 million of
principal and $1.8 million of interest into shares of Common Stock.
Pursuant to the terms of such debt exchange agreements, we agreed
to convert the debt at $5.00 per share and issued 2,630,298 shares
of Common Stock. On May 31, 2016 the market price of a share of
Common Stock was $6.99 and on June 30, 2016 it was $6.08. As a
result, we recorded a loss on the extinguishment of debt on our
consolidated statement of operations of $3.3 million for the year
ended December 31, 2016.
Please see
“Warrants” below for discussion of the remaining First
Loan and Security Noteholder.
Web Series Funding
During the years
ended December 31, 2014 and 2015, we entered into various loan and
security agreements with individual noteholders (the “Web
Series Noteholders”) for an aggregate principal amount of
notes of $4.0 million which we used to finance production of our
2015 web series, South Beach -
Fever (the “Web Series Loan and Security
Agreements”). Under the Web Series Loan and Security
Agreements, we issued promissory notes that accrued interest at
rates ranging from 10% to 12% per annum payable monthly through
August 31, 2015, with the exception of one note that accrued
interest through February 29, 2016. During 2015, we exercised our
option under the Web Series Loan and Security Agreements to extend
the maturity date of these notes until August 31, 2016. In
consideration for our exercise of the option to extend the maturity
date, we were required to pay a higher interest rate, increasing
1.25% to a range between 11.25% and 13.25%. Pursuant to the terms
of the Web Series Loan and Security Agreements, the First Loan and
Security Noteholders, as a group, would have the right to
participate in 15% of our future profits generated by the series
(defined as our gross revenues of such series less the aggregate
amount of principal and interest paid for the financing of such
series) on a prorata basis based on each Web Series Noteholder's
loan commitment as a percentage of the total loan commitments
received to fund the series.
During the year
ended December 31, 2016, we entered into thirteen individual
agreements (the “Web Series Debt Exchange Agreements”)
on substantially similar terms with the Web Series Noteholders.
Pursuant to the terms of the Web Series Debt Exchange Agreements,
we and each Web Series Noteholder agreed to convert an aggregate of
$3.8 million of principal and $0.4 million of interest under the
Web Series Loan and Security Agreements into an aggregate of
840,910 shares of Common Stock at $5.00 per share as payment in
full of each of the notes issued under the Web Series Loan and
Security Agreements. On the dates of the exchange, the market price
of our Common Stock was between $6.00 and $6.45 per share. As a
result, we recorded a loss on the extinguishment of debt on our
consolidated statement of operations $0.9 million for the year
ended December 31, 2016, related to this transaction.
Please see
“Warrants” below for discussion of the remaining Web
Series Noteholder.
Second Group Film Funding
During the year
ended December 31, 2015, we entered into various loan and security
agreements with individual noteholders (the “Second Loan and
Security Noteholders”) for an aggregate principal amount of
notes of $9.3 million to fund a new group of film projects (the
“Second Loan and Security Agreements”). Of this amount,
notes with an aggregate principal value of $8.8 million were issued
in exchange for debt that had originally been incurred by Dolphin
Entertainment, Inc., primarily related to the production and
distribution of the motion picture, Believe. The remaining $0.5 million was
issued as a note in exchange for cash. Pursuant to the Second Loan
and Security Agreements, we issued notes that accrue interest at
rates ranging from 11.25% to 12% per annum, payable monthly through
December 31, 2016. We had the option to extend the maturity date of
these notes until July 31, 2018. If we chose to exercise our option
to extend the maturity date, we would be required to pay a higher
interest rate, increasing 1.25% to a range between 11.25% and
13.25%. The Second Loan and Security Noteholders, as a group, will
receive our entire share of the proceeds from these projects, on a
prorata basis, until the principal investment is repaid.
Thereafter, the Second Loan and Security Noteholders, as a group,
would have the right to participate in 15% of our future profits
from such projects (defined as our gross revenues of such projects
less the aggregate amount of principal and interest paid for the
financing of such projects) on a prorata basis based on each Second
Loan and Security Noteholder’s loan commitment as a
percentage of the total loan commitments received to fund specific
motion picture productions.
29
On May 31, 2016 and
June 30, 2016, we entered into various debt exchange agreements on
substantially similar terms with certain of the Second Loan and
Security Noteholders to convert an aggregate of $4.0 million of
principal and $0.3 million of interest into shares of the Common
Stock. Pursuant to such debt exchange agreements, we agreed to
convert the debt at $5.00 per share and issued 868,870 shares of
Common Stock. On May 31, 2016, the market price of a share of the
Common Stock was $6.99 and on June 30, 2016, it was $6.08. As a
result, we recorded a loss on the extinguishment of debt on our
consolidated statement of operations of $1.3 million for the year
ended December 31, 2016.
Please see
“Warrants” below for discussion of the remaining Second
Loan and Security Noteholder.
Production Service Agreement
During 2014, we
entered into a financing deal in the amount of $10.4 million to
produce Max Steel. The loan
is partially secured by international distribution agreements made
prior to the commencement of principal photography and tax
incentives. The agreement contains repayment milestones to be made
during the year ended December 31, 2015, that if not met, accrue
interest at a default rate of 8.5% per annum above the published
base rate of HSBC. Pursuant to the terms of the agreement and due
to delays in the release of the film, we have accrued $1.1million
of interest. The film was released October 14, 2016 and delivery to
the international distributors has begun. During the
year ended December 31, 2016, an aggregate of $4.2 million was
received from the international distributors and as tax incentives
from the jurisdiction in which a portion of the film was
produced. As of December 31, 2016, we had a balance on
our consolidated balance sheet of $6.2 million related to this
production service agreement.
Prints and Advertising Loan
On August 12, 2016,
Dolphin Max Steel Holding, LLC, a wholly owned subsidiary of
Dolphin Films, entered into a loan and security agreement (the
?P&A Loan?) providing for a $14.5 million non-revolving credit
facility that matures on August 25, 2017. The proceeds of the
credit facility were used to pay a portion of the print and
advertising expenses of the domestic distribution of our feature
film, Max Steel. To secure
Max Steel Holding’s obligations under the Loan and Security
Agreement, we granted to the lender a security interest in bank
account funds totaling $1,250,000 pledged as collateral. The loan
is partially secured by a $4.5 million corporate guaranty from a
party associated with the motion picture. The lender has
retained a reserve of $1.5 million for loan fees and interest (the
“Reserve”). Amounts borrowed under the
credit facility accrue interest at either (i) a fluctuating per
annum rate equal to the 5.5% plus a base rate or (ii) a per annum
rate equal to 6.5% plus the LIBOR determined for the applicable
interest period. As of December 31, 2016, we recorded $12.5
million, including the Reserve, related to this
agreement. Approximately $11.0 million was recorded as
distribution and marketing costs on our consolidated statement of
operations for the year ended December 31, 2016, related
to the release of the motion picture.
Production Service Agreement
During 2014, we entered into a financing deal in
the amount of $10.4 million to produce Max Steel. The loan is partially secured by international
distribution agreements made prior to the commencement of principal
photography and tax incentives. The agreement contains repayment
milestones to be made during the year ended December 31, 2015, that
if not met, accrue interest at a default rate of 8.5% per annum
above the published base rate of HSBC. Pursuant to the terms of the
agreement and due to delays in the release of the film, we have
accrued $1.1million of interest. The film was released October 14,
2016 and delivery to the international distributors has begun.
During the year ended December 31, 2016, an aggregate of $4.2
million was received from the international distributors and as tax
incentives from the jurisdiction in which a portion of the film was
produced. As of December 31, 2016, we had a balance on our
consolidated balance sheet of $6.2 million related to this
production service agreement.
Subscription Agreements
Convertible Note Agreement
On December 7, 2015
we entered into a subscription agreement with an investor to sell
up to $7 million in convertible promissory notes of the Company.
Under the subscription agreement, we issued a convertible
promissory note to the investor in the amount of $3,164,000 at a
conversion price of $5.00 per share. The convertible promissory
note was to bear interest on the unpaid balance at a rate of 10%
per annum and became due and payable on December 7, 2016. The
outstanding principal amount and all accrued interest were
mandatorily and automatically convertible into common stock, at the
conversion price, upon the average market price of the common stock
being greater than or equal to the conversion price for twenty
trading days. On February 5, 2016, this triggering event occurred
pursuant to the convertible note agreement. As such 632,800 shares
of Common Stock were issued in satisfaction of the convertible note
payable.
30
April 2016 Subscription Agreements
On April 1, 2016,
we entered into substantially identical subscription agreements
(the “April 2016 Subscription Agreements”) with certain
private investors, pursuant to which we issued and sold to the
investors in a private placement (the “Placement”) an
aggregate of 1,075,000 shares (the “Initial Subscribed
Shares”) of Common Stock at a purchase price of $5.00 per
share (the “Purchase Price”). The Placement provided us
with $5,375,000 of aggregate gross proceeds. On March 31, 2016, we
received $1,500,000, in advance for one of these agreements. The
amount was recorded as noncurrent debt on our condensed
consolidated balance sheet. Under the terms of the April 2016
Subscription Agreements, each investor has the option to purchase
additional shares of Common Stock at the Purchase Price, not to
exceed the number of such investor’s Initial Subscribed
Shares, during each of the second, third and fourth quarters of
2016 (each, a “Quarterly Subscription”). Pursuant to
its April 2016 Subscription Agreement, one investor delivered
notice of its election to exercise the Quarterly Subscription to
purchase (i) 100,000 shares for an aggregate purchase price of $.5
million with shares issued on June 28, 2016 and (ii) 120,000 shares
for an aggregate purchase price of $.6 million with shares issued
on November 17, 2016.
June 2016 Subscription Agreements
On June 22, 2016
and June 30, 2016, we entered into two additional subscription
agreements with two investors. Pursuant to the terms of the
subscription agreements, we sold an aggregate of 70,000 shares of
our Common Stock at a purchase price of $5.00 per
share.
November 2016 Subscription Agreements
On November 15,
November 16 and November 22, 2016, we entered into eight additional
subscription agreements with four investors. Pursuant to the terms
of the subscription agreements, we sold an aggregate of 135,000
shares of our Common Stock at a purchase price of $5.00 per
share.
Warrants
On December 29,
2016, we entered into a debt exchange agreement (the
“Exchange Agreement”) with an investor that is a First
Loan and Security Noteholder, a Web Series Noteholder and Second
Loan and Security Agreement Noteholder, collectively (the
“Investor”). At the time of the Exchange
Agreement, the Investor was the holder of the following promissory
notes:
|
Notes:
|
Outstanding
Balance of Notes
|
|
First Loan and
Security Note
|
$1,160,000
|
|
Web Series
Note
|
340,000
|
|
Second Loan and
Security Note
|
4,970,990
|
|
|
$6,470,990
|
In addition to the
Exchange Agreement, we entered into a purchase agreement with the
same Investor to acquire 25% of the membership interest of Dolphin
Kids Clubs to own 100% of the membership
interest. Pursuant to the Exchange Agreement and the
Purchase Agreement, we issued Warrant J that entitles the warrant
holder to purchase shares up to 2,170,000 shares of our Common
Stock at a price of $0.015 through December 29, 2020, its
expiration date. We recorded a loss on extinguishment of
debt $2.7 million on our consolidated statement of operations for
the year ended December 31, 2016. The loss on
extinguishment was calculated as the difference between the fair
value of Warrant J and the outstanding debt under the notes
described above.
42West
Line of Credit
In
2008, 42West entered into a revolving line of credit with City
National Bank, (the “Line of Credit). The purpose of the Line
of Credit was to provide 42West with working capital as needed from
time to time. The maximum amount that can be drawn on the Line of
Credit is $1,500,000. The Line of Credit bears interest computed as
the greater of (a) three and one half percent per year or (b) the
prime rate of City National Bank less one quarter of one percent.,
provided that the rate per annum never exceed 16%. As of March 31,
2017. 42West has a balance of $0.5 million on the Line of Credit.
The Line of Credit expires on April 30, 2017.
Critical Accounting Policies, Judgments and
Estimates
Our discussion and
analysis of our financial condition and results of operations is
based upon our consolidated financial statements, which have been
prepared in accordance with U.S. Generally Accepted Accounting
Principles (“GAAP”). The preparation of these
consolidated financial statements requires us to make estimates,
judgments and assumptions that affect the reported amounts of
assets, liabilities, revenues and expenses, and the related
disclosure of contingent assets and liabilities. We base our
estimates on historical experience and on various other assumptions
that we believe are reasonable under the circumstances, the results
of which form the basis for making judgments about the carrying
values of assets and liabilities that are not readily apparent from
other sources. Actual results may differ from these
estimates.
31
An accounting
policy is considered to be critical if it requires an accounting
estimate to be made based on assumptions about matters that are
highly uncertain at the time the estimate is made, and if different
estimates that reasonably could have been used, or changes in the
accounting estimate that are reasonably likely to occur, could
materially impact the consolidated financial statements. We believe
that the following critical accounting policies reflect the more
significant estimates and assumptions used in the preparation of
the consolidated financial statements.
Capitalized Production
Costs
Capitalized
production costs represent the costs incurred to develop and
produce a web series or feature films. These costs primarily
consist of salaries, equipment and overhead costs, as well as the
cost to acquire rights to scripts. Capitalized production costs are
stated at the lower of cost, less accumulated amortization and tax
credits, if applicable, or fair value. These costs are capitalized
in accordance with Financial Accounting Standards Board
(“FASB”), Accounting Standards Codification
(“ASC”) Topic 926-20-50-2 “Other Assets –
Film Costs”. Unamortized capitalized
production costs are evaluated for impairment each reporting period
on a title-by-title basis. If estimated remaining
revenue is not sufficient to recover the unamortized capitalized
production costs for that title, the unamortized capitalized
production costs will be written down to fair value. Any
project that is not greenlit for production within three years is
written off.
We are responsible
for certain contingent compensation, known as participations, paid
to certain creative participants such as writers, directors and
actors. Generally, these payments are dependent on the
performance of the web series and are based on factors such as
total revenue as defined per each of the participation
agreements. We are also responsible for residuals, which
are payments based on revenue generated from secondary markets and
are generally paid to third parties pursuant to a collective
bargaining, union or guild agreement. These costs
are accrued to direct operating expenses as the revenues, as
defined in the participation agreements, are achieved and as sales
to the secondary markets are made triggering the residual
payment.
Due to the inherent
uncertainties involved in making such estimates of ultimate
revenues and expenses, these estimates are likely to differ to some
extent in the future from actual results. Our management
regularly reviews and revises when necessary its ultimate revenue
and cost estimates, which may result in a change in the rate of
amortization of film costs and participations and residuals and/or
write-down of all or a portion of the unamortized deferred
production costs to its estimated fair value. Our management
estimates the ultimate revenue based on existing contract
negotiations with domestic distributors and international buyers as
well as management’s experience with similar productions in
the past.
An increase in the
estimate of ultimate revenue will generally result in a lower
amortization rate and, therefore, less amortization expense of
deferred productions costs, while a decrease in the estimate of
ultimate revenue will generally result in a higher amortization
rate and, therefore, higher amortization expense of capitalized
production costs. Our management evaluates unamortized production
costs for impairment whenever there is an event that may signal
that the fair value of the unamortized production costs are below
their carrying value. One example that may trigger this type
of analysis is the under-performance in the domestic box office of
a feature film. For digital productions this analysis may
occur if we are unable to secure sufficient advertising revenue for
our web series. We typically perform an impairment analysis
using a discounted cash flow method. Any write-down resulting from
an impairment analysis is included in direct costs within our
consolidated statements of operations. For the year
ended December 31, 2016 and 2015, we impaired approximately $2.1
and $0.6 million, respectively of capitalized production
costs.
32
Revenue
Recognition
Revenue from web
series and feature films is recognized in accordance with guidance
of FASB ASC 926-60 “Revenue Recognition –
Entertainment-Films”. Revenue is recorded when a
contract with a buyer for the web series or feature film exists,
the web series or feature film is complete in accordance with the
terms of the contract, the customer can begin exhibiting or selling
the web series or feature film, the fee is determinable and
collection of the fee is reasonable. Revenues from licensing
agreements for distribution in foreign territories typically
includes a minimum guarantee with the possibility of sharing in
additional revenues depending on the performance of the web series
or feature film in that territory. Revenue for these types of
arrangements are recorded when the web series or motion
picture has been delivered and our obligations under the contract
have been satisified.
On occasion, we
may enter into agreements with third parties for the co-production
or distribution of a web series. We may also enter into agreements
for the sponsorship or integration of a product in a web series
productions. Revenue from these agreements will be recognized
when the web series is complete and ready to be exploited. In
addition, the advertising revenue is recognized at the time
advertisements are shown when a web series is aired. Cash received
and amounts billed in advance of meeting the criteria for revenue
recognition is classified as deferred
revenue.
Warrant Liabilities and Related Fair Value
Measurements
When we issue warrants, we evaluate the proper balance sheet
classification of the warrant to determine whether the warrant
should be classified as equity or as a derivative liability on the
consolidated balance sheets. In accordance with ASC 815-40,
Derivatives and Hedging-Contracts in the Entity’s Own Equity
(ASC 815-40), we classify a warrant as equity so long as it is
“indexed to the Company’s equity” and several
specific conditions for equity classification are met. A warrant is
not considered indexed to the Company’s equity, in general,
when it contains certain types of exercise contingencies or
contains certain provisions that may alter either the number of
shares issuable under the warrant or the exercise price of the
warrant, including, among other things, a provision that could
require a reduction to the then current exercise price each time we
subsequently issues equity or convertible instruments at a per
share price that is less than the current conversion price (also
known as a “full ratchet down round provision”). If a
warrant is not indexed to the Company’s equity, it is
classified as a derivative liability which is carried on the
consolidated balance sheets at fair value with any changes in its
fair value recognized currently in the statements of
operations.
We classified the “G”,
“H”, “I”, “J” and
“K” warrants issued during 2016 as derivative
liabilities, because they contain full-ratchet down round
provisions and report the warrants on our consolidated balance
sheets at fair value under the caption “warrant
liability” and report changes in the fair value of the
warrant liability on the consolidated statements of operations
under the caption “change in fair value of warrant
liability”.
Fair value is
defined as the price that would be received to sell an asset or
paid to transfer a liability in an orderly transaction between
market participants at the measurement date. Assets and liabilities
measured at fair value are categorized based on whether the inputs
are observable in the market and the degree that the inputs are
observable. Inputs refer broadly to the assumptions that market
participants would use in pricing the asset or liability, including
assumptions about risk. Observable inputs are based on market data
obtained from sources independent of the Company. Unobservable
inputs reflect the Company’s own assumptions based on the
best information available in the circumstances. The fair value
hierarchy prioritizes the inputs used to measure fair value into
three broad levels, defined as follows:
|
Level
1 —
|
Inputs are quoted
prices in active markets for identical assets or liabilities as of
the reporting date.
|
|
Level
2 —
|
Inputs other than
quoted prices included within Level 1, such as quoted prices for
similar assets and liabilities in active markets; quoted prices for
identical or similar assets and liabilities in markets that are not
active; or other inputs that are observable or can be corroborated
with observable market data.
|
|
Level
3 —
|
Unobservable inputs
that are supported by little or no market activity and that are
significant to the fair value of the assets and liabilities. This
includes certain pricing models, discounted cash flow
methodologies, and similar techniques that use significant
unobservable inputs. Unobservable inputs for the asset or liability
that reflect management’s own assumptions about the
assumptions that market participants would use in pricing the asset
or liability as of the reporting date.
|
We
measured the “G”, “H”, “I”,
“J” and “K” warrants we issued in 2016 at
fair value in the consolidated financial statements as of and for
the year ended December 31, 2016, using inputs classified as
“level 3” of the fair value hierarchy. We develop unobservable
“level 3” inputs using the best information available
in the circumstances, which might include our own data, or when we
believe inputs based on external data better reflect the data that
market participants would use, we base our inputs on comparison
with similar entities.
We select a valuation
technique to measure “level 3” fair values that we
believe is appropriate in the circumstances. In the case of
measuring the fair value of the “G”,
“H”, “I”, “J” and
“K”warrants at December
31, 2016 and for the year then ended, due to the existence
of the full ratchet down round provision, which creates a
path-dependent nature of the exercise prices of the warrants, we
decided a Monte Carlo Simulation model, which incorporates inputs
classified as “level 3” was appropriate.
Key
inputs used in the Monte Carlo Simulation model to determine the
fair value of the “G”, “H”,
“I”, “J” and “K” warrants at
December 31, 2016 are as follows:
|
|
As of December
31, 2016
|
||||
|
Inputs
|
Series
G
|
Series
H
|
Series
I
|
Series
J
|
Series
K
|
|
Volatility
(1)
|
63.6%
|
79.1%
|
70.8%
|
65.8%
|
65.8%
|
|
Expected term
(years)
|
1.08
|
2.08
|
3.08
|
4
|
4
|
|
Risk free interest
rate
|
.879%
|
1.223%
|
1.489%
|
1.699%
|
1.699%
|
|
Common stock
price
|
$6.00
|
$6.00
|
$6.00
|
$6.00
|
$6.00
|
|
Exercise
price
|
$5.00
|
$6.00
|
$7.00
|
$.02
|
$.02
|
(1)
“Level
3” input.
The
“level 3” stock volatility assumption represents the
range of the volatility curves used in the valuation analysis that
we determined market participants would use based on comparison
with similar entities. The risk-free interest rate is interpolated
where appropriate, and is based on treasury yields. The valuation
model also included a “level 3” assumption we developed
as to dates of potential future financings by us that may cause a
reset of the exercise price of the warrants.
Since
derivative financial instruments, such as the “G”,
“H”, “I”, “J” and
“K” warrants, are initially and subsequently carried at
fair values, the Company’s income or loss will reflect the
volatility in changes to these estimates and assumptions. The fair
value of the warrants is most sensitive to changes at each
valuation date in the Company’s common stock price, the
volatility rate assumption, and the exercise price, which could
change if the Company were to do a dilutive future
financing.
33
Income
Taxes
Deferred taxes are
recognized for the future tax effects of temporary differences
between the financial statement carrying amounts of existing assets
and liabilities and their respective tax bases using tax rates in
effect for the years in which the differences are expected to
reverse. The effects of changes in tax laws on deferred
tax balances are recognized in the period the new legislation is
enacted. Valuation allowances are recognized to reduce
deferred tax assets to the amount that is more likely than not to
be realized. In assessing the likelihood of realization,
management considers estimates of future taxable
income. We calculate our current and deferred tax
position based on estimates and assumptions that could differ from
the actual results reflected in income tax returns filed in
subsequent years. Adjustments based on filed returns are
recorded when identified.
Tax benefits from
an uncertain tax position are only recognized if it is more likely
than not that the tax position will be sustained on examination by
the taxing authorities, based on the technical merits of the
position. The tax benefits recognized in the financial statements
from such a position are measured based on the largest benefit that
has a greater than 50% likelihood of being realized upon ultimate
resolution. Interest and penalties related to unrecognized tax
benefits are recorded as incurred as a component of income tax
expense.
Recent Accounting
Pronouncements
For a discussion of
recent accounting pronouncements, see Note 3 to the audited
consolidated financial statements contained elsewhere in this
annual report on Form 10K.
Off-Balance Sheet
Arrangements
As of December 31,
2016 and 2015, we did not have any off-balance sheet
arrangements.
Special Note Regarding Forward-Looking
Statements
Certain statements
in this Form 10-K under “Management’s Discussion and
Analysis” constitute “forward-looking” statements
for purposes of federal and state securities laws. Such
forward-looking statements include but are not limited to the
following:
●
our expectations
regarding the potential benefits and synergies we can derive from
the 42West Acquisition;
●
our ability to
generate new revenue streams through our new subsidiary,
42West;
●
our expectations
concerning our ability to derive future cash flows and revenues
from the production, release and advertising of future
web series on online platforms, and the timing of receipt of such
cash flows and revenues;
●
our expectations
concerning the timing of production and distribution of a digital
project showcasing favorite restaurants of NFL players, as well as
future feature films and digital projects;
●
our intention to
source potential distribution partners for our web series,
South Beach – Fever,
and to enter into distribution agreements for future digital
productions;
●
our expectation
that we will receive revenues from our motion picture, Max Steel from (i) international
revenues expected to be derived through license agreements with
international distributors and (ii) other secondary distribution
revenues;
●
our intention to
use our purchased scripts for future motion picture and digital
productions;
●
our expectations to
raise funds through sales of our Common Stock;
●
our intention to
borrow funds from our CEO, private investors and other lenders to
produce our digital and motion picture
projects;
●
our expectations
regarding the marketing potential and other benefits of our online
kids clubs;
34
●
our intention to
implement improvements to address material weaknesses in internal
control over financial reporting; and
●
our expectations
concerning the impact of recent Accounting Standards Updates on our
financial position or results of operations.
These
forward-looking statements reflect our current views about future
events and are subject to risks, uncertainties and assumptions. We
wish to caution readers that certain important factors may have
affected and could in the future affect our actual results and
could cause actual results to differ significantly from those
expressed in any forward-looking statement. The most important
factors that could prevent us from achieving our goals, and cause
the assumptions underlying forward-looking statements and the
actual results to differ materially from those expressed in or
implied by those forward-looking statements include, but are not
limited to, the following:
●
our inability to
realize the anticipated benefits of the 42West Acquisition,
including synergies and increased revenues;
●
adverse trends and
changes in the entertainment industry that could negatively impact
42West’s operations and ability to generate
revenues;
●
unpredictability of
the commercial success of our current and future web series and
motion pictures;
●
economic factors
that adversely impact the entertainment industry, as well as
advertising, production and distribution revenue in the online and
motion picture industries;
●
our ability to
identify, produce and develop online digital entertainment and
motion pictures that meet industry and customer
demand;
●
competition for
talent and other resources within the industry and our ability to
enter into agreements with talent under favorable
terms;
●
our ability to
attract and retain the highly specialized services of the 42West
executives and employees;
●
availability of
financing from our CEO and other investors under favorable terms to
fund our digital and motion picture projects;
●
our ability to
adequately address material weaknesses in internal control over
financial reporting;
●
the ability of our
online kids clubs to serve as a platform for sponsorship and other
marketing opportunities thereby generating revenue;
and
●
our ability to
accurately predict the impact of recent Accounting Standards
Updates on our financial position or results of
operations.
The
foregoing list of important factors does not include all such
factors, nor necessarily present them in order of importance. In
addition, you should consult other disclosures made by the Company
(such as in our other filings with the SEC or in Company press
releases) for other factors that may cause actual results to differ
materially from those projected by the Company. Please refer to
Part I, Item 1A, Risk Factors of this 2016 Form 10-K for additional
information regarding factors that could affect the Company’s
results of operations, financial condition and liquidity.
Any forward-looking
statements, which we make in this Form 10-K, speak only as of the
date of such statement, and we undertake no obligation to update
such statements. Comparisons of results for current and any prior
periods are not intended to express any future trends or
indications of future performance, unless expressed as such, and
should only be viewed as historical data. The safe harbor
provisions of the Private Securities Litigation Reform Act of 1995
do not apply to our forward-looking statements as a result of being
a penny stock issuer.
ITEM
7A. QUANTITATIVE AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISK
Not required for
smaller reporting companies.
35
ITEM 8. FINANCIAL
STATEMENTS AND SUPPLEMENTARY DATA.
The financial
statements required by this Item 8 are included at the end of this
Report beginning on page F-1 as follows:
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Page
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Reports of
Independent Registered Public Accounting Firms
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F-1
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Consolidated
Balance Sheets as of December 31, 2016 and 2015
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F-2
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Consolidated
Statements of Operations for the years ended December 31, 2016 and
2015
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F-3
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Consolidated
Statements of Cash Flows for the years ended December 31, 2016 and
2015
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F-4
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Consolidated
Statements of Changes in Stockholder’s Deficit for the years
ended December 31, 2016 and 2015
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F-5
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Notes to
Consolidated Financial Statements
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F-6
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ITEM 9. CHANGES IN AND
DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE.
None.
Management’s Report on the Effectiveness of Disclosure
Controls and Procedures
Disclosure controls
and procedures are controls and other procedures that are designed
to ensure that information required to be disclosed in our reports
filed or submitted under the Exchange Act is recorded, processed,
summarized and reported, within the time periods specified in the
SEC’s rules and forms. Disclosure controls and procedures
include, without limitation, controls and procedures designed to
ensure that information required to be disclosed in our reports
filed under the Exchange Act is accumulated and communicated to
management, including our CEO, to allow timely decisions regarding
required disclosure.
We carried out an
evaluation of the effectiveness of the design and operation of our
disclosure controls and procedures (as defined in Exchange Act
Rules 13a-15(e) and 15d-15(e)) as of December 31, 2016. Based upon
that evaluation, our CEO and CFO concluded that our disclosure
controls and procedures were not effective due to material
weaknesses identified in our internal control over financial
reporting described below.
We are responsible
for establishing and maintaining adequate internal control over
financial reporting as such term is defined by Exchange Act Rule
13a-15(f). Our internal controls are designed to provide reasonable
assurance as to the reliability of our financial statements for
external purposes in accordance with accounting principles
generally accepted in the United States.
Internal control
over financial reporting has inherent limitations and may not
prevent or detect misstatements. Therefore, even those systems
determined to be effective can provide only reasonable, not
absolute, assurance with respect to financial statement preparation
and presentation. Further, because of changes in conditions, the
effectiveness of internal control over financial reporting may vary
over time.
A material weakness
is a deficiency, or a combination of deficiencies, in internal
control over financial reporting such that there is a reasonable
possibility that a material misstatement of our annual or interim
financial statements will not be prevented or detected on a timely
basis.
36
Under the
supervision and with the participation of our CEO and CFO, we have
evaluated the effectiveness of our internal control over financial
reporting as of December 31, 2016, as required by Exchange Act Rule
13a-15(c). In making our assessment, we have utilized the criteria
set forth by the Committee of Sponsoring Organizations
(“COSO”) of the Treadway Commission in the 1992
Internal Control —Integrated Framework. We concluded that
based on our evaluation, our internal control over financial
reporting was not effective as of December 31, 2016, due to the
following material weaknesses that were identified in previous
years:
●
In connection
with the audit of our consolidated financial statements for the
fiscal year ended December 31, 2016, our independent registered
accounting firm reported to our Board of Directors that they
determined the following design deficiencies related to the entity
level control environment, including risk assessment, information
and communication and monitoring controls.
o
There is no
documented fraud risk assessment or risk management oversight
function.
o
There are no
documented procedures related to financial reporting matters (both
internal and external) to the appropriate
parties.
o
There is no budget
prepared and therefore monitoring controls are not designed
effectively as current results cannot be compared to
expectations.
o
There is no
documented process to monitor and remediate deficiencies in
internal controls.
After a review of
our current entity level control environment, management concluded
that the above deficiencies represented a material
weakness.
●
In connection with
the audit of our consolidated financial statements for the fiscal
year ended December 31, 2016, our independent registered accounting
firm reported to our Board of Directors that they observed
inadequate documented review and approval of certain aspects of the
accounting process including the documented review of accounting
reconciliations and journal entries that they considered to be a
material weakness in internal control.
Specifically:
o
There is no
documented period end closing procedures, specifically the
individuals that are responsible for preparation, review and
approval of period end close functions.
o
Reconciliations are
performed on all balance sheet accounts, including noncontrolling
interest on at least a quarterly basis; however there is no
documented review and approval by a member of management that is
segregated from the period end financial reporting
process.
o
There is no review
and approval for the posting of journal
entries.
After a review of
our current review and approval of certain aspects of the
accounting process, management concluded that the inadequate
documented review and approval process represented a material
weakness.
●
In connection with
the audit of our consolidated financial statements for the fiscal
year ended December 31, 2016, our independent registered accounting
firm reported to our Board of Directors that they observed
inadequate segregation of duties within the accounting process
including the following:
o
One individual has
the ability to add vendors to the master vendor
file. This individual also has access to the Company
checkbook that is maintained in a secured
location.
o
One individual has
sole access to our information technology system to initiate,
process and record financial information. We have not developed any
internal controls related to information technology systems
including change management, physical security, access or program
development.
After a review of
our current accounting process and the individuals involved,
management concluded that the inadequate segregation of duties
represented a material weakness.
Remediation of Material Weaknesses in Internal Control over
Financial Reporting
In order to
remediate the material weaknesses in internal control over
financial reporting, we intend to implement improvements during
fiscal year 2017, under the direction of our Board of Directors, as
follows:
●
Our Board of
Directors intends to review the COSO “Internal Control over
Financial Reporting - Guidance for Smaller Public Companies”
that was published in 2006 including the control environment, risk
assessment, control activities, information and communication and
monitoring. Based on this framework, the Board of
Directors plans to implement controls as needed assuming a cost
benefit relationship. In addition, our Board of
Directors plans to evaluate the key concepts of the updated 2013
COSO “Internal Control – Integrated Framework” as
it provides a means to apply internal control to any type of
entity.
37
●
We plan to document
all significant accounting policies and ensure that the accounting
policies are in accordance with GAAP and that internal controls are
designed effectively to ensure that the financial information is
properly reported. Management will engage independent accounting
specialists to ensure that there is an independent verification of
the accounting positions taken.
●
We plan to
implement a higher standard for document retention and support for
all items related to revenue recognition. All revenue arrangements
that are entered into by us will be evaluated under the applicable
revenue guidance and Management should document its position based
on the facts and circumstances of each
agreement.
●
We plan to review
our current review and approval processes and implement changes to
ensure that all material agreements, accounting reconciliations and
journal entries are reviewed and approved on a timely basis and
that such review is documented by a member of Management separate
from the preparer. A documented quarter end close procedure will be
established whereby Management expects to review and approve
reconciliations and journal entries prepared by the outside
accountant. Management plans to formally approve new
vendors that are added to the master vendor
file.
●
We plan to hire at
least one additional person to ensure proper segregation of duties,
reconciliation reviews, and quarter end
reviews.
Limitations on Effectiveness of Controls and
Procedures
A control system,
no matter how well designed and operated, can provide only
reasonable, not absolute, assurance that the control system’s
objectives will be met. We do not expect that our disclosure
controls will prevent or detect all errors and all fraud. Further,
the design of a control system must reflect the fact that there are
resource constraints, and the benefits of controls must be
considered relative to their costs. Because of the inherent
limitations in all control systems, no evaluation of controls can
provide absolute assurance that all control issues and instances of
fraud, if any, within the Company have been detected. These
inherent limitations include the realities that judgments in
decision-making can be faulty, and that breakdowns can occur
because of simple error or mistake. Controls can also be
circumvented by the individual acts of some persons, by collusion
of two or more people, or by management override of the controls.
The design of any system of controls is based in part upon certain
assumptions about the likelihood of future events, and there can be
no assurance that any design will succeed in achieving its stated
goals under all potential future conditions. Over time, controls
may become inadequate because of changes in conditions or
deterioration in the degree of compliance with associated policies
or procedures. Because of the inherent limitations in a
cost-effective control system, misstatements due to error or fraud
may occur and not be detected.
Changes in Internal
Controls
During the quarter
ended December 31, 2016, there have been no changes in our internal
control over financial reporting that have materially affected or
are reasonably likely to materially affect our internal controls
over financial reporting.
We are neither an
accelerated filer nor a large accelerated filer, as defined in Rule
12b-2 under the Exchange Act, and is not otherwise including in
this Annual Report an attestation report of our registered public
accounting firm regarding internal control over financial
reporting. Management’s report was not required to be
attested by our registered public accounting firm pursuant to Item
308(b) of Regulation S-K.
None
38
PART III
The information
required by this Item is incorporated by reference to our Proxy
Statement for our 2017Annual General Meeting of Shareholders to be
filed with the SEC within 120 days after the end of the fiscal year
ended December 31, 2016 and is incorporated herein by
reference.
Dolphin has adopted
a Code of Ethics for our officers and directors that is located on
our internet website at www.dolphindigitalmedia.com under
“Investor Relations – Corporate Governance.” We
intend to provide disclosure of any amendments or waivers of our
Code of Ethics on our website within four business days following
the date of the amendment or waiver.
The information
required by this Item is incorporated by reference to our Proxy
Statement for our 2017 Annual General Meeting of Shareholders to be
filed with the SEC within 120 days after the end of the fiscal year
ended December 31, 2016 and is incorporated herein by
reference.
ITEM
12. SECURITY OWNERSHIP OF
CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER
MATTERS.
The information
required by this Item is incorporated by reference to our Proxy
Statement for our 2017 Annual General Meeting of Shareholders to be
filed with the SEC within 120 days after the end of the fiscal year
ended December 31, 2016 and is incorporated herein by
reference.
ITEM
13. CERTAIN RELATIONSHIPS
AND RELATED TRANSACTIONS, AND DIRECTOR
INDEPENDENCE
The information
required by this item is incorporated by reference to our Proxy
Statement for our 2017 Annual Meeting of Shareholders to be filed
with the SEC within 120 days after the end of the fiscal year ended
December 31, 2016 and is incorporated herein by
reference
ITEM
14. PRINCIPAL ACCOUNTING
FEES AND SERVICES.
The information
required by this Item is incorporated by reference to our Proxy
Statement for our 2017 Annual General Meeting of Shareholders to be
filed with the SEC within 120 days after the end of the fiscal year
ended December 31, 2016 and is incorporated herein by
reference.
39
PART IV
(a) Documents filed
as part of this report:
(1) Financial
Statements
See Item 8 for
Financial Statements included with this Annual Report on Form
10-K.
(2) Financial
Statement Schedules
None.
(3)
Exhibits
|
Exhibit
No.
|
|
Description
|
|
Incorporated by Reference
|
|
|
|
|
||
|
2.1
|
|
Agreement
and Plan of Merger by and among the Company, DDM Merger Sub, Inc.,
Dolphin Films, Inc. and Dolphin Entertainment, Inc. dated October
14, 2015.
|
|
Incorporated
herein by reference to Exhibit 2.2 to the Company’s Current
Report on Form 8-K, filed on October 19, 2015.
|
|
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2.2
|
|
Membership
Interest Purchase Agreement, dated as of March 30, 2017, by and
among the Company and Leslee Dart, Amanda Lundberg, Allan Mayer and
The Beatrice B. Trust.*
|
|
Filed
herewith.
|
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|
3.1(a)
|
|
Amended
Articles of Incorporation of Dolphin Digital Media, Inc. (conformed
copy incorporating all amendments through May 10,
2016).
|
|
Incorporated
herein by reference to Exhibit 3.1(a) to the Company’s
Quarterly Report on Form 10-Q for the quarter ended March 31,
2016.
|
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|
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||
|
3.2
|
|
Bylaws
of Dolphin Digital Media, Inc. dated December 3, 2014.
|
|
Incorporated
herein by reference to Exhibit 3.2 to the Company’s Current
Report on Form 8-K, filed on December 9, 2014.
|
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||
|
4.1
|
|
Registration
Rights Agreement, dated as of March 30, 2017 by and among the
Company and Leslee Dart, Amanda Lundberg, Allan Mayer and the
Beatrice B. Trust.
|
|
Filed
herewith.
|
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|
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|
4.2
|
|
Warrant
Purchase Agreement, dated November 4, 2016, between the Company and
T Squared Partners LP.
|
|
Incorporated
herein by reference to Exhibit 4.5 to the Company’s Current
Report on Form 8-K, filed on November 10, 2016.
|
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4.3
|
|
Form of
Common Stock Purchase Warrant.
|
|
Incorporated
herein by reference to Exhibit 4.6 to the Company’s Current
Report on Form 8-K, filed on January 5, 2017.
|
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40
|
10.1
|
|
Amendment
to Preferred Stock Purchase Agreement, dated December 30, 2010,
between the Company and T Squared Investment LLC.
|
|
Incorporated
herein by reference to Exhibit 10.1 to the Company’s Current
Report on Form 8-K, filed on January 5, 2011.
|
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10.2
|
|
Preferred
Stock Exchange Agreement, dated October 16, 2015, between the
Company and T Squared Partners LP.
|
|
Incorporated
herein by reference to Exhibit 10.7 to the Company’s Current
Report on Form 8-K, filed on October 19, 2015.
|
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10.3
|
|
Executive
Employment Agreement, dated September 13, 2012, between the Company
and William O’Dowd.†
|
|
Incorporated
herein by reference to Exhibit 10.1 to the Company’s Current
Report on Form 8-K, filed on November 19, 2012.
|
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10.4
|
|
Executive
Employment Agreement Letter of Extension, dated December 31,
2014.†
|
|
Incorporated
herein by reference to Exhibit 10.4 in the Company’s Annual
Report on Form 10-K for the year ended December 31,
2014.
|
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|
|
|
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|
10.5
|
|
Revolving
Promissory Note, dated December 31, 2011, in favor of William
O’Dowd.
|
|
Incorporated
herein by reference to Exhibit 10.2 to the Company’s Annual
Report on Form 10-K for the year ended December 31,
2014.
|
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|
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|
10.6
|
|
Form of
Loan and Security Agreement.
|
|
Incorporated
herein by reference to Exhibit 10.1 to the Company’s
Quarterly Report on Form 10-Q for the quarter ended September 30,
2014.
|
|
|
|
|
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10.7
|
|
Form of
Equity Purchase Agreement.
|
|
Incorporated
herein by reference to Exhibit 10.6 to the Company’s Annual
Report on Form 10-K for the year ended December 31,
2014.
|
|
|
|
|
|
|
|
10.8
|
|
Form of
Subscription Agreement.
|
|
Incorporated
herein by reference to Exhibit 10.8 to the Company’s Current
Report on Form 8-K, filed on December 15, 2015.
|
|
|
|
|
|
|
|
10.9
|
|
Form of
Convertible Note.
|
|
Incorporated
herein by reference to Exhibit 10.9 to the Company’s Current
Report on Form 8-K, filed on December 15, 2015.
|
|
|
|
|
|
|
|
10.10
|
|
Form of
Subscription Agreement.
|
|
Incorporated
herein by reference to Exhibit 10.11 to the Company’s Annual
Report on Form 10-K for the year ended December 31,
2015.
|
|
|
|
|
|
|
|
10.11
|
|
Subscription
Agreement dated March 4, 2016, between the Company and Dolphin
Entertainment, Inc.
|
|
Incorporated
herein by reference to Exhibit 10.10 to the Company’s Current
Report on Form 8-K, filed on March 11, 2016.
|
|
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|
|
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|
10.12
|
|
Form of
Subscription Agreement.
|
|
Incorporated
herein by reference to Exhibit 10.1 to the Company’s Current
Report on Form 8-K, filed on April 7, 2016.
|
|
|
|
|
|
|
|
10.13
|
|
Form of
Debt Exchange Agreement.
|
|
Incorporated
herein by reference to Exhibit 10.1 to the Company’s Current
Report on Form 8-K, filed on June 3, 2016.
|
|
|
|
|
|
|
|
10.14
|
|
Form of
Subscription Agreement.
|
|
Incorporated
herein by reference to Exhibit 10.13 to the Company’s Current
Report on Form 8-K, filed on June 28, 2016.
|
|
|
|
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|
41
|
10.15
|
|
2012
Omnibus Incentive Compensation Plan.†
|
|
Incorporated
herein by reference to Annex B to the Definitive Information
Statement on Schedule 14C filed with the SEC on September 28,
2012.
|
|
|
|
|
|
|
|
21.1
|
|
List of
Subsidiaries of the Company.
|
|
Filed
herewith.
|
|
|
|
|
|
|
|
31.1
|
|
Certification
of Chief Executive Officer of the Company pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
|
|
Filed
herewith.
|
|
|
|
|
|
|
|
31.2
|
|
Certification
of Chief Financial Officer of the Company pursuant to Section 302
of the Sarbanes-Oxley Act of 2002
|
|
Filed
herewith.
|
|
|
|
|
|
|
|
32.1
|
|
Certification
of Chief Executive Officer of the Company pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
|
|
Furnished
herewith.
|
|
|
|
|
|
|
|
32.2
|
|
Certification
of Chief Financial Officer of the Company pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
|
|
Furnished
herewith.
|
|
|
|
|
|
|
|
101.INS
|
|
XBRL
Instance Document.
|
|
Furnished
herewith.
|
|
|
|
|
|
|
|
101.SCH
|
|
XBRL
Taxonomy Extension Schema Document.
|
|
Furnished
herewith.
|
|
|
|
|
|
|
|
101.DEF
|
|
XBRL
Taxonomy Extension Definition Linkbase Document.
|
|
Furnished
herewith.
|
|
|
|
|
|
|
|
101.CAL
|
|
XBRL
Taxonomy Extension Calculation Linkbase Document.
|
|
Furnished
herewith.
|
|
|
|
|
|
|
|
101.LAB
|
|
XBRL
Taxonomy Extension Label Linkbase Document.
|
|
Furnished
herewith.
|
|
|
|
|
|
|
|
101.PRE
|
|
XBRL
Taxonomy Extension Presentation Linkbase Document.
|
|
Furnished
herewith.
|
†
Management contract or compensatory plan or
arrangement.
* Schedules (and
similar attachments) have been omitted pursuant to Item 601(b)(2)
of Regulation S-K. The Company agrees to furnish supplementally a
copy of any omitted schedule to the Securities and Exchange
Commission upon request.
|
ITEM
16
|
|
FORM
10-K SUMMARY
|
None.
42
In accordance with
Section 13 or 15(d) of the Exchange Act of 1934, the Registrant
caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
|
|
DOLPHIN DIGITAL
MEDIA, INC.
|
|
|
|
|
|
|
|
|
Dated: April 17,
2017
|
By:
|
/s/
William
O’Dowd IV
|
|
|
|
|
William
O’Dowd IV
|
|
|
|
|
Chief Executive
Officer
|
|
|
|
|
|
|
|
|
|
|
|
| Dated: April 17, 2017 |
By:
|
/s/
Mirta A
Negrini
|
|
|
|
|
Mirta A
Negrini
|
|
|
|
|
Chief Financial and
Operating Officer
|
|
Pursuant to the
requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates
indicated.
|
Dated: April 17,
2017
|
By:
|
/s/
William
O’Dowd IV
|
|
|
|
|
William
O’Dowd IV
|
|
|
|
|
Chief Executive
Officer
|
|
|
|
|
|
|
|
|
|
|
|
|
Dated: April 17,
2017
|
By:
|
/s/
Mirta A
Negrini
|
|
|
|
|
Mirta A
Negrini
|
|
|
|
|
Chief Financial and
Operating Officer
|
|
|
|
|
|
|
|
|
|
|
|
|
Dated: April 17,
2017
|
By:
|
/s/
Michael
Espensen
|
|
|
|
|
Michael
Espensen
|
|
|
|
|
Director |
|
|
|
|
|
|
|
|
|
|
|
|
Dated: April 17,
2017
|
By:
|
/s/
Nelson
Famadas
|
|
|
|
|
Nelson
Famadas
|
|
|
|
|
Director
|
|
|
|
|
|
|
|
|
|
|
|
|
Dated: April 17,
2017
|
By:
|
/s/
Nicholas
Stanham
|
|
|
|
|
Nicholas
Stanham
|
|
|
|
|
Director
|
|
43
Report of Independent Registered Public Accounting
Firm
Board of Directors and Stockholders
Dolphin
Digital Media, Inc. and subsidiaries
Coral
Gables, Florida
We have audited the accompanying consolidated balance sheets of
Dolphin Digital Media, Inc. and subsidiaries as of December 31,
2016 and 2015 and the related consolidated statements of
operations, stockholders’ deficit, and cash flows for each of
the years then ended. These financial statements are the
responsibility of the Company’s management. Our
responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with the standards of the
Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are
free of material misstatement. The Company is not required to have,
nor were we engaged to perform, an audit of its internal control
over financial reporting. Our audits included consideration of
internal control over financial reporting as a basis for designing
audit procedures that are appropriate in the circumstances, but not
for the purpose of expressing an opinion on the effectiveness of
the Company’s internal control over financial reporting.
Accordingly, we express no such opinion. An audit includes
examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting
principles used and significant estimates made by management, as
well as evaluating the overall financial statement presentation. We
believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the consolidated financial statements referred to
above present fairly, in all material respects, the financial
position of Dolphin Digital Media, Inc. and subsidiaries at
December 31, 2016 and 2015, and the results of its operations and
its cash flows for each of the years then ended, in conformity with accounting principles generally
accepted in the United States of America.
The
accompanying consolidated financial statements have been prepared
assuming that the Company will continue as a going concern. As
described in Note 2 to the consolidated financial statements, the
Company has suffered recurring losses from operations and has a net
capital deficiency that raise substantial doubt about its ability
to continue as a going concern. Management’s plans in regard
to these matters are also described in Note 2. The consolidated
financial statements do not include any adjustments that might
result from the outcome of this uncertainty.
/s/ BDO USA,
LLP Certified
Public Accountants
Miami,
Florida
April 17,
2017
F-1
|
DOLPHIN DIGITAL MEDIA, INC. AND SUBSIDIARIES
|
||
|
Consolidated Balance Sheets
|
||
|
As of December 31, 2016 and 2015
|
||
|
ASSETS
|
2016
|
2015(1)
|
|
Current
|
|
|
|
Cash
and cash equivalents
|
$662,546
|
$2,392,685
|
|
Restricted
cash
|
1,250,000
|
-
|
|
Prepaid
Expenses
|
-
|
72,518
|
|
Related
party receivable
|
-
|
453,529
|
|
Accounts
receivable
|
3,668,646
|
-
|
|
Other
current assets
|
2,665,781
|
2,827,131
|
|
Total
Current Assets
|
8,246,973
|
5,745,863
|
|
Capitalized
production costs
|
4,654,013
|
15,170,768
|
|
Property
and equipment
|
35,188
|
55,413
|
|
Deposits
|
1,261,067
|
397,069
|
|
Total
Assets
|
$14,197,241
|
$21,369,113
|
|
LIABILITIES
|
|
|
|
Current
|
|
|
|
Accounts
payable
|
$677,249
|
2,070,545
|
|
Other
current liabilities
|
2,958,523
|
2,984,320
|
|
Warrant
liability
|
14,011,254
|
-
|
|
Accrued
compensation
|
2,250,000
|
2,065,000
|
|
Debt
|
18,743,069
|
37,331,008
|
|
Loan
from related party
|
684,326
|
2,917,523
|
|
Deferred
revenue
|
46,681
|
1,418,368
|
|
Note
payable
|
300,000
|
300,000
|
|
Total
Current Liabilities
|
39,671,102
|
49,086,764
|
|
Noncurrent
|
|
|
|
Convertible
note
|
-
|
3,164,000
|
|
Warrant
liability
|
6,393,936
|
|
|
Loan
from related party
|
-
|
1,982,267
|
|
Total
Noncurrent Liabilities
|
6,639,936
|
5,146,267
|
|
Total
Liabilities
|
46,065,038
|
54,233,031
|
|
STOCKHOLDERS' DEFICIT
|
|
|
|
Common
stock, $0.015 par value, 400,000 shares authorized, 14,395,521 and
4,094,618 , respectively, issued and outstanding at December 31,
2016 and 2015
|
215,933
|
61,419
|
|
Preferred
Stock , 10,000,000 shares authorized, Preferred Stock, Series A
$0.001 par value, liquidation preference of 1,042,756, 1,043 share
authorized, issued and outstanding at December 31, 2015. None were
issued and outstanding at December 31, 2016
|
-
|
1,043
|
|
Preferred
Stock, Series B, $0.10 par value, 4,000,000 authorized, 2,300,000
issued and outstanding at December 31, 2015, none were issued and
outstanding at December 31, 2016
|
-
|
230,000
|
|
Preferred
Stock, Series C, $0.001 par value, 1,000,000 shares authorized,
1,000,000 shares issued and outstanding at December 31, 2016 and
2015
|
1,000
|
1,000
|
|
Additional
paid in capital
|
67,727,474
|
26,480,240
|
|
Accumulated
deficit
|
(99,812,204)
|
(62,615,428)
|
|
Total
Dolphin Digital Media, Inc. Deficit
|
(31,867,797)
|
(35,841,726)
|
|
Non-controlling
interest
|
-
|
2,977,808
|
|
Total
Stockholders' Deficit
|
(31,867,797)
|
(32,863,918)
|
|
Total
Liabilities and Stockholders' Deficit
|
$14,197,241
|
$21,369,113
|
|
The
accompanying notes are an integral part of these consolidated
financial statements.
|
||
|
(1) Financial information has
been retrospectively adjusted for the acquisition of Dolphin Films,
Inc. See Notes 1 and 4
|
|
|
F-2
|
DOLPHIN DIGITAL MEDIA, INC. AND SUBSIDIARIES
|
||
|
Consolidated Statements of Operations
|
||
|
For the years ended December 31, 2016 and 2015
|
||
|
|
|
|
|
|
|
|
|
|
2016
|
2015(1)
|
|
Revenues:
|
|
|
|
Production
and distribution
|
$9,367,222
|
$3,031,073
|
|
Membership
|
28,403
|
69,761
|
|
Total
Revenue:
|
9,395,625
|
3,100,834
|
|
|
|
|
|
Expenses:
|
|
|
|
Direct
costs
|
10,661,241
|
2,587,257
|
|
Distribution
and marketing
|
11,322,616
|
213,300
|
|
Selling,
general and administrative
|
1,245,689
|
1,845,088
|
|
Legal
and professional
|
2,405,754
|
2,392,556
|
|
Payroll
|
1,462,589
|
1,435,765
|
|
Loss
before other income (expense)
|
(17,702,264)
|
(5,373,132)
|
|
|
|
|
|
Other
Income(Expense)
|
|
|
|
Other
income
|
9,660
|
96,302
|
|
Amortization
of loan fees
|
(476,250)
|
-
|
|
Change
in fair value of warrant liability
|
2,195,542
|
-
|
|
Warrant
issuance expense
|
(7,372,593)
|
-
|
|
Loss
on extinguishment of debt
|
(9,601,933)
|
-
|
|
Interest
expense
|
(4,241,841)
|
(3,559,532)
|
|
Total
Other Income(Expense)
|
(19,487,415)
|
(3,463,230)
|
|
Net
Loss
|
$(37,189,679)
|
$(8,836,362)
|
|
|
|
|
|
Net
Income attributable to noncontrolling interest
|
-
|
17,440
|
|
Net
loss attributable to Dolphin Films, Inc.
|
-
|
(4,786,341)
|
|
Net
Loss attributable to Dolphin Digital Media, Inc.
|
(37,189,679)
|
(4,067,461)
|
|
|
$(37,189,679)
|
$(8,836,362)
|
|
|
|
|
|
Deemed dividend on preferred stock
|
5,247,227
|
-
|
|
|
|
|
|
Net loss attributable to common shareholders
|
$(42,436,906)
|
$(8,836,362)
|
|
|
|
|
|
Basic
and Diluted Loss per Share
|
$(4.83)
|
$(2.16)
|
|
|
|
|
|
Weighted
average number of shares used in share calculation
|
8,778,193
|
4,094,618
|
|
The
accompanying notes are an integral part of these consolidated
financial statements.
|
||
|
(1) Financial information has
been retrospectively adjusted for the acquisition of Dolphin Films,
Inc. See Notes 1 and 4
|
|
|
F-3
|
DOLPHIN
DIGITAL MEDIA INC. AND SUBSIDIARIES
|
||
|
Consolidated
Statements of Cash Flows
|
||
|
For
the years ended December 31, 2016 and 2015
|
||
|
|
2016
|
2015(1)
|
|
|
|
|
|
CASH FLOWS FROM
OPERATING ACTIVITIES:
|
|
|
|
Net
loss
|
$(37,189,679)
|
$(8,836,362)
|
|
Adjustments to
reconcile net loss to net cash used in operating
activities:
|
|
|
|
Depreciation
|
20,225
|
24,826
|
|
Amortization
of capitalized production costs
|
7,822,549
|
1,672,120
|
|
Impairment
of capitalized production costs
|
2,075,000
|
861,825
|
|
Loss
on extinguishment of debt
|
9,601,933
|
-
|
|
Warrant
issuance
|
7,394,850
|
-
|
|
Change
in fair value of derivative liability
|
(2,195,542)
|
-
|
|
Changes in
operating assets and liabilities:
|
|
|
|
|
|
|
|
Accounts
receivable
|
(3,668,646)
|
-
|
|
Other
current assets
|
161,250
|
(265,616)
|
|
Prepaid
expenses
|
72,518
|
(7,679)
|
|
Capitalized
production costs
|
619,206
|
(2,736,321)
|
|
Deposits
|
(863,998)
|
-
|
|
Deferred
revenue
|
(1,371,687)
|
-
|
|
Accrued
compensation
|
185,000
|
315,000
|
|
Accounts
payable
|
(1,393,296)
|
784,829
|
|
Other
current liabilities
|
3,757,873
|
1,121,876
|
|
Warrant
liability
|
50,000
|
-
|
|
Net Cash Used in
Operating Activities
|
(14,922,444)
|
(7,065,502)
|
|
CASH FLOWS FROM
INVESTING ACTIVITIES:
|
|
|
|
Restricted
cash
|
(1,250,000)
|
-
|
|
Purchase of
furniture and equipment
|
-
|
(2,549)
|
|
Net Cash Used In
Investing Activities
|
(1,250,000)
|
(2,549)
|
|
CASH FLOWS FROM
FINANCING ACTIVITIES:
|
|
|
|
Proceeds from Loan
and Security agreement
|
12,500,000
|
2,610,000
|
|
Repayment of Loan
and Security agreement
|
(410,000)
|
(405,219)
|
|
Proceeds from
production loan
|
-
|
440,130
|
|
Repayment of
production loan
|
(4,263,602)
|
-
|
|
Proceeds from
convertible note payable
|
-
|
3,164,000
|
|
Sale of common
stock
|
7,500,000
|
-
|
|
Advances from
related party
|
320,000
|
6,583,436
|
|
Repayment to
related party
|
(1,204,093)
|
(3,324,686)
|
|
Net Cash Provided
by Financing Activities
|
14,442,305
|
9,067,661
|
|
NET DECREASE IN
CASH AND CASH EQUIVALENTS
|
(1,730,139)
|
1,999,610
|
|
CASH AND CASH
EQUIVALENTS, BEGINNING OF PERIOD
|
2,392,685
|
393,075
|
|
CASH AND CASH
EQUIVALENTS, END OF PERIOD
|
$662,546
|
$2,392,685
|
|
|
|
|
|
SUPPLEMENTAL DISCLOSURES OF CASH FLOWS INFORMATION:
|
|
|
|
|
|
|
|
Interest
paid
|
$156,666
|
$1,635,814
|
|
|
|
|
|
SUPPLEMENTAL DISCLOSURES OF NON CASH FLOW INFORMATION:
|
|
|
|
Refinance
of related party debt to third party debt
|
$-
|
$8,774,337
|
|
Conversion of
related party debt and interest to shares of common
stock
|
$3,073,410
|
$-
|
|
Conversion of
convertible debt
|
$3,164,000
|
$-
|
|
Conversion of loan
and security agreements, including interest, into shares of common
stock
|
$22,091,388
|
$-
|
|
Conversion of loan
and security agreements converted to warrants to purchase shares of
common stock.
|
$7,034,990
|
$-
|
|
|
||
|
The
accompanying notes are an integral part of these consolidated
financial statements.
|
||
|
(1)
Financial information has been
retrospectively adjusted for the acquisition of Dolphin Films, Inc.
See Notes 1 and 4
|
||
F-4
|
Dolphin
Digital Media Inc. and Subsidiaries
|
||||||||
|
Consolidated
Statements of Changes in Stockholders' Deficit
|
||||||||
|
For
the year ended December 31, 2016
|
|
|
|
|
|
|
Additional
|
|
|
Total
|
|
|
Preferred
Stock
|
Common
Stock
|
Paid-in
|
Noncontrolling
|
Accumulated
|
Stockholders
|
||
|
|
Shares
|
Amount
|
Shares
|
Amount
|
Capital
|
interest
|
Deficit
|
Deficit
|
|
|
|
|
|
|
|
|
|
|
|
Balance December
31, 2014
|
4,343,000
|
$232,043
|
4,094,618
|
$61,419
|
$26,480,240
|
$2,995,249
|
$(53,761,626)
|
$(23,992,675)
|
|
Net loss for the year ended
December 31, 2015
|
-
|
-
|
-
|
-
|
-
|
-
|
(8,836,362)
|
(8,836,362)
|
|
Income attributable to the
noncontrolling interest
|
-
|
-
|
-
|
-
|
-
|
17,440
|
(17,440)
|
-
|
|
Return of
capital to noncontrolling member
|
-
|
-
|
-
|
-
|
-
|
(34,881)
|
-
|
(34,881)
|
|
Balance December
31, 2015
|
4,343,000
|
$232,043
|
4,094,618
|
$61,419
|
$26,480,240
|
$2,977,808
|
$(62,615,428)
|
$(32,863,918)
|
|
Net loss for the year ended
December 31, 2016
|
-
|
-
|
-
|
-
|
-
|
-
|
(37,189,679)
|
(37,189,679)
|
|
Income attributable to the
noncontrolling interest
|
-
|
-
|
-
|
-
|
-
|
7,097
|
(7,097)
|
-
|
|
Return of
capital to noncontrolling member
|
-
|
-
|
-
|
-
|
-
|
(14,200)
|
-
|
(14,200)
|
|
Acquisition of
25% interest in Dolphin Kids Clubs LLC
|
-
|
-
|
-
|
-
|
(921,122)
|
(2,970,705)
|
-
|
(3,891,827)
|
|
Issuance of
common stock during the year ended December 31,
2016
|
-
|
-
|
375,143
|
5,628
|
1,869,375
|
-
|
-
|
1,875,003
|
|
Extinguishment
of debt at a price of $5.00
|
-
|
-
|
6,157,960
|
92,369
|
37,190,455
|
-
|
-
|
37,282,824
|
|
Issuance of
common stock for convertible debt
|
|
|
632,800
|
9,492
|
3,154,508
|
|
|
3,164,000
|
|
Preferred
stock dividend related to exchange of Series A for Series B
Preferred Stock
|
1,000,000
|
100,000
|
-
|
-
|
(5,227,247)
|
-
|
-
|
(5,127,247)
|
|
Issuance and
conversion of Series B Preferred
|
(3,300,000)
|
(330,000)
|
3,135,000
|
47,025
|
6,223,222
|
-
|
-
|
5,940,247
|
|
Retirement of
Series A Preferred
|
(1,043,000)
|
(1,043)
|
-
|
-
|
(1,041,957)
|
-
|
-
|
(1,043,000)
|
|
Balance December 31,
2016
|
1,000,000
|
$1,000
|
14,395,521
|
$215,933
|
$67,727,474
|
$-
|
$(99,812,204)
|
$(31,867,797)
|
The
accompanying notes are an integral part of these consolidated
financial statements.
|
(1) Financial information has
been retrospectively adjusted for the acquisition of Dolphin Films,
Inc. See Notes 1 and 4
|
F-5
DOLPHIN
DIGITAL MEDIA, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER
31, 2016 AND 2015
NOTE
1 — BASIS OF PRESENTATION AND ORGANIZATION:
Dolphin Digital
Media, Inc. (the “Company”, "Dolphin"), initially known
as Rising Fortune Incorporated, was incorporated in the State of
Nevada on March 7, 1995. The Company had no operations between
inception and 2003. On November 19, 2003, the Company amended
its Articles of Incorporation to change its name to Maximum Awards
Inc. On July 3, 2007, the Company amended its Articles of
Incorporation again to change its name to Logica Holdings Inc. On
July 29, 2008, the Company amended its Articles of Incorporation
again to change its name to Dolphin Digital Media,
Inc.
The accompanying
consolidated financial statements include the accounts of Dolphin,
and all of its majority-owned and controlled subsidiaries,
including Dolphin Films, Inc., Hiding Digital Productions, LLC,
Dolphin Kids Clubs, LLC, Cybergeddon Productions, LLC, Dolphin SB
Productions LLC, Max Steel Productions, LLC, Dolphin Max Steel
Holdings LLC, Dolphin JB Believe Financing, LLC and Dolphin JOAT
Productions, LLC
Effective March 7,
2016, the Company acquired Dolphin Films, Inc.
(“Dolphin Films”) from Dolphin Entertainment, Inc.
(“Dolphin Entertainment”), a company wholly owned by
William O’Dowd, CEO, President and Chairman of the Board of
Directors of the Company. The acquisition from Dolphin
Entertainment was a transfer between entities under common control.
As such, the Company recorded the assets, liabilities and deficit
of Dolphin Films on its consolidated balance sheets at Dolphin
Entertainment’s historical basis instead of fair value.
Transfers of businesses between entities under common control
require prior periods to be retrospectively adjusted to furnish
comparative information. Accordingly, the accompanying financial
statements and related notes of the Company have been
retrospectively adjusted to include the historical balances of
Dolphin Films prior to the effective date of the acquisition. See
Note 4 for additional information regarding the Dolphin Films
acquisition.
On May 9, 2016, the
Company filed an amendment to its Articles of Incorporation with
the Secretary of State of the State of Florida to effectuate a
20-to-1 reverse stock split. The reverse stock split was approved
by the Board of Directors and a majority of the Company’s
shareholders and became effective May 10, 2016. The number of
shares of common stock of the Company, par value $0.015 (the
“Common Stock”) in the consolidated financial
statements and all related footnotes has been adjusted to
retrospectively reflect the reverse stock split.
The Company enters
into relationships or investments with other entities, and in
certain instances, the entity in which the Company has a
relationship or investment may qualify as a variable interest
entity (“VIE”). A VIE is consolidated in the financial
statements if the Company is deemed to be the primary beneficiary
of the VIE. The primary beneficiary is the party that has the power
to direct activities that most significantly impact the activities
of the VIE and has the obligation to absorb losses or the right to
benefits from the VIE that could potentially be significant to the
VIE. The Company has included Max Steel Productions, LLC formed on
July 8, 2013 in the State of Florida and JB Believe, LLC formed on
December 4, 2012 in the State of Florida in its combined financial
statements as VIE’s.
NOTE
2 — GOING CONCERN
The
accompanying consolidated financial statements have been prepared
in conformity with accounting principles generally accepted in the
United States of America which contemplate the continuation of the
Company as a going concern. The Company has incurred net losses of
$37,189,679 and $8,836,362, respectively for the years ended
December 31, 2016 and 2015. The Company has generated negative cash
flows from operations for the years ended December 31, 2016 and
2015 of $14,922,444 and $7,065,502 respectively. Further, the
Company has a working capital deficit for the years ended December
31, 2016 and 2015 of $31,424,129 and $43,340,901, respectively,
that is not sufficient to maintain or develop its operations, and
it is dependent upon funds from private investors and the support
of certain stockholders.
F-6
These
factors raise substantial doubt about the ability of the Company to
continue as a going concern. The consolidated financial statements
do not include any adjustments that might result from the outcome
of these uncertainties. In this regard, management is planning to
raise any necessary additional funds through loans and additional
issuance of its Common Stock. There is no assurance that the
Company will be successful in raising additional capital. If the
Company is unable to obtain additional funding from these sources
within the next twelve months, it could be forced to liquidate. On
February 16, 2017, the Company sold 100,000 shares of its Common
Stock for $5.00 per share. During 2017, it has also received
loans from its CEO in the amount of $420,000. On April 10, 2017,
the Company signed two promissory notes with one debtholder for an
aggregate amount of $300,000. The promissory notes bear
interest at 10.00% per annum and have a maturity date of October
10, 2017. The Company currently has the rights to several
scripts that it intends to obtain financing to produce and release
during 2017 and 2018. It expects to earn a producer and overhead
fee for each of these productions. There can be no assurances that
such productions will be released or fees will be realized in
future periods. The Company is currently working on producing a
variety of digital projects which it intends to fund through
private investors on a project basis and expects to derive
additional revenues from these productions in the third quarter of
2017. There can be no assurances that such income will be realized
in future periods.
On March 30, 2017, the Company acquired 42West
LLC, a limited liability company incorporated in the State of
Delaware. 42West is an entertainment public relations agency
offering talent publicity, strategic communications and
entertainment content marketing. The
Company expects to derive revenues from this wholly owned
subsidiary and will seek to identify additional revenue streams
from the combined companies. See Note 21 for further
discussion.
NOTE
3 — SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Use of Estimates
The preparation of
our consolidated financial statements in accordance with accounting
principles generally accepted in the United States of America,
requires management to make estimates and assumptions that affect
the amounts reported in the consolidated financial statements and
accompanying notes. These estimates are based on
management’s past experience and best knowledge of historical
trends, actions that we may take in the future, and other
information available when the consolidated financial statements
are prepared. Changes in estimates are recognized in
accordance with the accounting rules for the estimate, which is
typically in the period when new information becomes available. The
most significant estimates made by management in the preparation of
the financial statements relate to ultimate revenue and costs for
investment in digital and feature film projects; estimates of
allowances and provisions for doubtful accounts and impairment
assessments for investment in digital and feature film projects.
Actual results could differ from such estimates.
Statement of Comprehensive
Income
In accordance with
Financial Accounting Standards Board (“FASB”)
Accounting Standard Codification (“ASC”) Topic
220, Comprehensive
Income , a statement of comprehensive income has not
been included as the Company has no items of other comprehensive
income. Comprehensive loss is the same as net loss for
all periods presented.
Cash and cash
equivalents
Cash and cash
equivalents consist of cash deposits at financial
institutions. The Company considers all highly liquid
investments with a maturity of three months or less when purchased
to be cash equivalents.
Restricted Cash
Restricted cash
represents amounts held as collateral required under the
Company’s loan and security agreement. Proceeds
from this loan were used for the distribution and marketing costs
of the Company’s feature film. See Note 6 for
further discussion. As of December 31, 2016, the Company
maintained $1,250,000 in a separate bank account restricted for
this purpose. The funds were disbursed to the lender
subsequent to the year ended December 31, 2016.
F-7
Contracts in the Company’s
Equity
From time to time,
the Company issues contracts related to its own equity securities,
such as warrants and convertible notes. The Company evaluates
whether a standalone contract (such as a warrant), or an embedded
feature of a contract (such as the conversion feature of a
convertible note) should be classified in stockholder’s
deficit or as a liability in the Company’s consolidated
balance sheet. The determination is made in accordance with the
requirements of ASC Topic 480, Distinguishing Liabilities from Equity
(ASC 480), and ASC Topic 815, Derivatives and Hedging (ASC
815).
A warrant is
classified as equity so long as it is “indexed to the
Company’s equity” and several specific conditions for
equity classification are met. A warrant is not
considered indexed to the Company’s equity, in general, when
it contains certain types of exercise contingencies or contains
certain provisions that may alter either the number of shares
issuable under the warrant or the exercise price of the warrant,
including, among other things, a provision that could require a
reduction to the then current exercise price each time the Company
subsequently issues equity, warrants, and/or conversion options at
less than the current conversion price (also known as a full
ratchet down round provision). If a warrant is not indexed to the
Company’s equity, must be classified as a derivative
liability.
A convertible debt
instrument in its entirety must be classified as a liability under
ASC 480 and carried at fair value in the financial statements if it
has a mandatory conversion feature. A conversion feature
of a convertible debt instrument or certain convertible preferred
stock, is separated from the convertible instrument and classified
as a derivative liability if the conversion feature, were it a
standalone instrument, would meet certain characteristics in the
definitions in ASC 815 of both an embedded derivative and a
derivative, generally including, among other conditions, if the
conversion feature must be settled in cash or a financial
instrument that is readily convertible to cash.
When a warrant or a
separated conversion feature is classified as a derivative
liability, the liability is initially and subsequently reported on
the balance sheet at its fair value, and subsequent increases or
decreases in the fair value are recorded through the statement of
operations.
When a conversion
feature does not meet the definition of a derivative per ASC 815,
it must be assessed further to determine whether a beneficial
conversion feature exists, which exists when the effective exercise
price is lower than the fair value of the Company’s related
equity instrument on the date of issuance. If it contains a
beneficial conversion feature, the amount of the beneficial
conversion feature reduces the balance of the convertible debt
instrument, creating a debt discount which is amortized over the
term of the debt to interest expense in the consolidated statement
of operations.
The classification
of a warrant or conversion feature must be reassessed at each
financial reporting date, as a change in circumstances may
necessitate reclassification of the warrant or conversion feature.
The Company has classified certain warrants issued during 2016 as
derivative liabilities due to the existence of full-ratchet down
round provisions in the warrants (see Note 16).
Gross versus Net
Revenue
The Company’s
motion pictures are primarily distributed and marketed by third
party distributors. The Company evaluates its arrangements with
third parties to determine whether revenue should be reported under
each individual arrangement on a gross or net basis by determining
whether the Company acts as the principal or agent under the terms
of each arrangement. To the extent that the Company acts as the
principal in an arrangement, revenues are reported on a gross
basis, resulting in revenues and expenses being classified in their
respective financial statement line items. Conversely, to the
extent that the Company acts as the agent in an arrangement,
revenues are reported on a net basis, resulting in revenues being
presented net of any related expenses. Determining whether the
Company acts as principal or agent is based on an evaluation of
which party has substantial risks and rewards of ownership under
the terms of an arrangement. The most significant factors that the
Company considers include identification of the primary obligor, as
well as which party has general and physical inventory risk, credit
risk and discretion in the supplier selection. The Company’s
primary distribution arrangements, which are those for its
theatrical release, are recorded on a gross basis as a result of
the evaluation previously described.
F-8
Revenue
Recognition
Revenue from motion
pictures and web series are recognized in accordance with guidance
ASC 926-60 “Revenue
Recognition –
Entertainment-Films”. Revenue is recorded
when a distribution contract, domestic or international, exists,
the movie or web series is complete in accordance with the terms of
the contract, the customer can begin exhibiting or selling the
movie or web series, the fee is determinable and collection of the
fee is reasonable. On occasion, the Company may enter into
agreements with third parties for the co-production or distribution
of a movie or web series. Revenue from these agreements
will be recognized when the movie is complete and ready to be
exploited. Cash received and amounts billed in advance
of meeting the criteria for revenue recognition is classified as
deferred revenue.
Additionally,
because third parties are the principal distributors of the
Company’s movies, the amount of revenue that is recognized
from films in any given period is dependent on the timing, accuracy
and sufficiency of the information received from its distributors.
As is typical in the film industry, the Company's distributors may
make adjustments in future periods to information previously
provided to the Company that could have a material impact on the
Company’s operating results in later periods. Furthermore,
management may, in its judgment, make material adjustments to the
information reported by its distributors in future periods to
ensure that revenues are accurately reflected in the
Company’s financial statements. To date, the distributors
have not made, nor has the Company made, subsequent material
adjustments to information provided by the distributors and used in
the preparation of the Company’s historical financial
statements.
In general, the
Company records revenue when persuasive evidence of an arrangement
exists, products have been delivered or services have been
rendered, the selling price is fixed and determinable, and
collectability is reasonably assured. Advertising revenue is
recognized over the period the advertisement is
displayed.
Capitalized Production
Costs
Capitalized
production costs represent the costs incurred to develop and
produce a motion picture or a web series. These costs primarily
consist of salaries, equipment and overhead costs, capitalized
interest as well as the cost to acquire rights to
scripts. Production costs are stated at the lower of
cost, less accumulated amortization and tax credits, if applicable,
or fair value. These costs are capitalized in accordance with FASB
ASC Topic 926-20-50-2 “Other Assets – Film
Costs”. Unamortized capitalized production
costs are evaluated for impairment each reporting period on a
title-by-title basis. If estimated remaining revenue is
not sufficient to recover the unamortized capitalized production
costs for that title, the unamortized capitalized production costs
will be written down to fair value.
The Company is
responsible for certain contingent compensation, known as
participations, paid to certain creative participants such as
writers, directors and actors. Generally, these payments
are dependent on the performance of the motion picture or web
series and are based on factors such as total revenue as defined
per each of the participation agreements. The Company is
also responsible for residuals, which are payments based on revenue
generated from secondary markets and are generally paid to third
parties pursuant to a collective bargaining, union or guild
agreement. The Company has entered into a fifteen
year distribution agreement for its motion picture. As
prescribed in the agreement, the distributor has entered into a
distribution assumption agreement with the guilds to pay the
residuals from gross revenues. Upon expiration of the
term of the agreement, and nonrenewal, the Company will be
responsible for making the payments directly. These
costs are accrued to direct operating expenses as the revenues, as
defined in the participation agreements are achieved and as sales
to the secondary markets are made triggering the residual
payment.
Due to the inherent
uncertainties involved in making such estimates of ultimate
revenues and expenses, these estimates are likely to differ to some
extent in the future from actual results. Management
regularly reviews and revises when necessary its ultimate revenue
and cost estimates, which may result in a change in the rate of
amortization of film costs and participations and residuals and/or
write-down of all or a portion of the unamortized deferred
production costs to its estimated fair value. Management estimates
the ultimate revenue based on existing contract negotiations with
domestic distributors and international buyers as well as
management’s experience with similar productions in the past.
Amortization of film costs, participation and residuals and/or
write downs of all or a portion of the unamortized deferred
production costs to its estimated fair value is recorded in direct
costs.
An increase in the
estimate of ultimate revenue will generally result in a lower
amortization rate and, therefore, less amortization expense of
deferred productions costs, while a decrease in the estimate of
ultimate revenue will generally result in a higher amortization
rate and, therefore, higher amortization expense of deferred
production costs, and also periodically results in an impairment
requiring a write-down of the deferred production costs to fair
value. These write-downs are included in production expense within
the combined statements of operations. For the year ended December
31, 2015, the Company amortized $1,642,120 of capitalized
production costs related to South
Beach-Fever and recorded $648,525 for impairment of certain
capitalized production costs. During the year ended December 31,
2016, the Company amortized $7,822,549 of capitalized production
costs related to the revenues earned for its feature film and
impaired $2,075,000 of capitalized production costs that were below
the fair value.
F-9
Long-Lived Assets
The Company reviews
long-lived assets for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not
be recoverable. Recoverability is measured by comparison of the
carrying amount to the future net cash flows which the assets are
expected to generate. If such assets are considered to be impaired,
the impairment to be recognized equals the amount by which the
carrying value of the assets exceeds its fair value. Except for
those described above in Capitalized Production Costs, there were
no impairment charges for long lived assets during the years ended
December 31, 2016 and 2015.
Property and
Equipment
Property and
equipment is recorded at cost and depreciated over the estimated
useful lives of the assets using the straight-line method. The
Company recorded depreciation expense of $20,226 and $24,826,
respectively for the years ended December 31, 2016 and 2015. When
items are retired or otherwise disposed of, income is charged or
credited for the difference between net book value and proceeds
realized thereon. Ordinary maintenance and repairs are charged to
expense as incurred, and replacements and betterments are
capitalized. The range of estimated useful lives to be used to
calculate depreciation and amortization for principal items of
property and equipment are as follow:
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Depreciation/
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Amortization
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Asset
Category
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Period
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F Furniture and
fixtures
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5
Years
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Computer
equipment
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3
Years
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Leasehold
improvements
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5
Years
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Warrants
When the Company
issues warrants, it evaluates the proper balance sheet
classification of the warrant to determine whether the warrant
should be classified as equity or as a derivative liability on the
consolidated balance sheets. In accordance with ASC 815-40,
Derivatives and Hedging-Contracts in the Entity’s Own Equity
(ASC 815-40), the Company classifies a warrant as equity so long as
it is “indexed to the Company’s equity” and
several specific conditions for equity classification are met.
A warrant is not considered indexed to the Company’s
equity, in general, when it contains certain types of exercise
contingencies or contains certain provisions that may alter either
the number of shares issuable under the warrant or the exercise
price of the warrant, including, among other things, a provision
that could require a reduction to the then current exercise price
each time the Company subsequently issues equity or convertible
instruments at a per share price that is less than the current
conversion price (also known as a “full ratchet down round
provision”). If a warrant is not indexed to the
Company’s equity, it is classified as a derivative liability
which is carried on the consolidated balance sheet at fair value
with any changes in its fair value recognized currently in the
statement of operations.
The Company
classified certain warrants issued during 2016 as derivative
liabilities, because they contain full-ratchet down round
provisions (see Notes 10 and 16). The Company also had equity
classified warrants outstanding at December 31, 2016 and 2015 (see
Note 16).
Convertible Debt and Convertible
Preferred Stock
When the Company
issues convertible debt or convertible deferred stock, it evaluates
the balance sheet classification to determine whether the
instrument should be classified either as debt or equity, and
whether the conversion feature should be accounted for separately
from the host instrument. A conversion feature of a convertible
debt instrument or certain convertible preferred stock would be
separated from the convertible instrument and classified as a
derivative liability if the conversion feature, were it a
standalone instrument, meets the definition of an “embedded
derivative” in ASC 815, Derivatives and Hedging. Generally,
characteristics that require derivative treatment include, among
others, when the conversion feature is not indexed to the
Company’s equity, as defined in ASC 815-40, or when it must
be settled either in cash or by issuing stock that is readily
convertible to cash. When a conversion feature meets the definition
of an embedded derivative, it would be separated from the host
instrument and classified as a derivative liability carried on the
consolidated balance sheet at fair value, with any changes in its
fair value recognized currently in the consolidated statements of
operations.
F-10
If a conversion
feature does not meet the conditions to be accounted for as a
derivative liability, the Company then determines whether the
conversion feature is “beneficial”. A conversion
feature would be considered beneficial if the conversion feature is
“in the money” when the host instrument is issued or,
under certain circumstances, later. If convertible debt contains a
beneficial conversion feature (“BCF”), the amount of
the amount of the proceeds allocated to the BCF reduces the balance
of the convertible debt, creating a discount which is amortized
over the debt’s term to interest expense in the consolidated
statements of operations. When a convertible preferred stock
contains a BCF, after allocating the proceeds to the BCF, the
resulting discount is either amortized over the period beginning
when the convertible preferred stock is issued up to the earliest
date the conversion feature may be exercised, or if the convertible
preferred stock is immediately exercisable, the discount is fully
amortized at the date of issuance. The amortization is recorded
similar to a dividend.
The Company had no
outstanding convertible debt or convertible preferred stock which
contain conversion feature that is accounted for either as a
derivative or a beneficial conversion feature at either December
31, 2016 or 2015 or during the years then ended.
Fair Value
Measurements
Fair value is
defined as the price that would be received to sell an asset or
paid to transfer a liability in an orderly transaction between
market participants at the measurement date. Assets and liabilities
measured at fair value are categorized based on whether the inputs
are observable in the market and the degree that the inputs are
observable. Inputs refer broadly to the assumptions that market
participants would use in pricing the asset or liability, including
assumptions about risk. Observable inputs are based on market data
obtained from sources independent of the Company. Unobservable
inputs reflect the Company’s own assumptions based on the
best information available in the circumstances. The fair value
hierarchy prioritizes the inputs used to measure fair value into
three broad levels, defined as follows:
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Level
1 —
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Inputs are quoted
prices in active markets for identical assets or liabilities as of
the reporting date.
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Level
2 —
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Inputs other than
quoted prices included within Level 1, such as quoted prices for
similar assets and liabilities in active markets; quoted prices for
identical or similar assets and liabilities in markets that are not
active; or other inputs that are observable or can be corroborated
with observable market data.
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Level
3 —
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Unobservable inputs
that are supported by little or no market activity and that are
significant to the fair value of the assets and liabilities. This
includes certain pricing models, discounted cash flow
methodologies, and similar techniques that use significant
unobservable inputs. Unobservable inputs for the asset or liability
that reflect management’s own assumptions about the
assumptions that market participants would use in pricing the asset
or liability as of the reporting date.
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Certain warrants
issued in 2016 (see Note 16) are measured and carried at fair value
in the consolidated financial statements as of and for the year
ended December 31, 2016. As of December 31, 2015, and
for the year then ended, the Company had no assets or liabilities
measured at fair value, on a recurring or nonrecurring basis. See
Note 10 for additional fair value disclosures.
Income Taxes
Deferred taxes are
recognized for the future tax effects of temporary differences
between the financial statement carrying amounts of existing assets
and liabilities and their respective tax bases using tax rates in
effect for the years in which the differences are expected to
reverse. The effects of changes in tax laws on deferred
tax balances are recognized in the period the new legislation in
enacted. Valuation allowances are recognized to reduce
deferred tax assets to the amount that is more likely than not to
be realized. In assessing the likelihood of realization,
management considers estimates of future taxable
income. We calculate our current and deferred tax
position based on estimates and assumptions that could differ from
the actual results reflected in income tax returns filed in
subsequent years. Adjustments based on filed returns are
recorded when identified.
Tax benefits from
an uncertain tax position are only recognized if it is more likely
than not that the tax position will be sustained on examination by
the taxing authorities, based on the technical merits of the
position. The tax benefits recognized in the financial statements
from such a position are measured based on the largest benefit that
has a greater than fifty percent likelihood of being realized upon
ultimate resolution. Interest and penalties related to unrecognized
tax benefits are recorded as incurred as a component of income tax
expense.
F-11
Loss per share
Loss
per share of Common Stock is computed by dividing loss available to
common stock shareholders by the weighted average number of shares
of Common Stock outstanding during the period, including the
issuable shares related to the anti-dilution agreement. Stock
warrants were not included in the computation of loss per share for
the periods presented because their inclusion is anti-dilutive. The
total potential dilutive warrants outstanding were 5,890,000 and
1,050,000 at December 31, 2016 and 2015.
Going Concern
In accordance with
ASC Subtopic 205-40, Going Concern, management evaluates whether
relevant conditions and events that, when considered in the
aggregate, indicate that it is probable the Company will be unable
to meet its obligations as they become due within one year after
the date that the financial statements are issued. When
relevant conditions or events, considered in the aggregate,
initially indicate that it is probable that the Company
will be unable to meet its obligations as they become due within
one year after the date that the financial statements are
issued (and therefore they raise substantial doubt about
the Company’s ability to continue as a going concern),
management evaluates whether its plans that are intended to
mitigate those conditions and events, when implemented, will
alleviate substantial doubt about the Company’s ability to
continue as a going concern. Management’s plans are
considered only to the extent that 1) it is probable that the plans
will be effectively implemented and 2) it is probable that the
plans will mitigate the conditions or events that raise substantial
doubt about the Company’s ability to continue as a going
concern. See Note 2 related to going
concern.
Concentration of
Risk
The Company
maintains its cash and cash equivalents with financial institutions
and, at times, balances may exceed federally insured limits of
$250,000. Substantially all of the production revenue
during the years ended December 31, 2016 and 2015 was derived from
two productions.
Business Segments
The Company
operates the following business segments:
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1)
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Dolphin Digital
Media (USA): The Company created online kids clubs and derives
revenue from annual membership fees.
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2)
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Dolphin Digital
Studios: Dolphin Digital Studios creates original programming that
premieres online, with an initial focus on content geared toward
tweens and teens. The Company derived a majority of its revenues
from this segment during the year ended December 31,
2015.
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3)
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Dolphin Films:
Dolphin Films produces motion pictures, with an initial focus on
family content. The motion pictures are distributed,
through third parties, in the domestic and international
markets. The Company derived a majority of its revenues
from this segment during the year ended December 31,
2016.
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Based on an
analysis of the Company’s operating segments and the
provisions of ASC 280, Segment
Reporting, the Company believes it meets the criteria for
aggregating its operating segments into a single reporting segment
because they have similar economic characteristics, similar nature
of product sold, (content), similar production process (the Company
uses the same labor force, and content) and similar type of
customer (children, teens, tweens and family).
Recent Accounting
Pronouncements
In May 2014, the
FASB issued Accounting Standards Update (“ASU”) No.
2014-09 —Revenue from Contracts with Customers (Topic 606)
(“ASU 2014-09”), which provides guidance for revenue
recognition. This ASU will supersede the revenue recognition
requirements in ASC Topic 605, and most industry specific guidance,
and replace it with a new Accounting Standards Codification
(“ASC”) Topic 606. The FASB has also issued several
subsequent ASUs which amend ASU 2014-09. The amendments do not
change the core principle of the guidance in ASC 606.
F-12
The core principle
of ASC 606 is that revenue is recognized when promised goods or
services are transferred to customers in an amount that reflects
the consideration to which the entity expects to be entitled in
exchange for those goods or services. To achieve that core
principle, an entity should apply the following steps:
Step 1: Identify
the contract(s) with a customer
Step 2: Identify
the performance obligations in the contract.
Step 3: Determine
the transaction price.
Step 4: Allocate
the transaction price to the performance obligations in the
contract.
Step 5: Recognize
revenue when (or as) the entity satisfies a performance
obligation.
The guidance in ASU
2014-09 also specifies the accounting for some costs to obtain or
fulfill a contract with a customer.
ASC 606 will
require the Company to make significant judgments and estimates.
ASC 606 also requires more extensive disclosures regarding the
nature, amount, timing and uncertainty of revenue and cash flows
arising from contracts with customers.
Public business
entities are required to apply the guidance of ASC 606 to annual
reporting periods beginning after December 15, 2017 (2018 for the
Company), including interim reporting periods within that reporting
period. Accordingly, the Company will adopt ASU 606 in the first
quarter of 2018.
ASC 606 requires an
entity to apply ASC 606 using one of the following two transition
methods:
1.
Retrospective
approach: Retrospectively to each prior reporting period presented
and the entity may elect certain practical
expedients.
2.
Modified
retrospective approach: Retrospectively with the cumulative effect
of initially applying ASC 606 recognized at the date of initial
application. If an entity elects this transition method it also is
required to provide the additional disclosures in reporting periods
that include the date of initial application of (a) the amount by
which each financial statement line item is affected in the current
reporting period by the application ASU 606 as compared to the
guidance that was in effect before the change, and (b) an
explanation of the reasons for significant
changes.
The Company expects
that it will adopt ASC 606 following the modified retrospective
approach. The Company is currently evaluating the impact that the
adoption of this new guidance will have on our consolidated
financial statements.
In
November 2015, the FASB issued ASU 2015-17, Income
Taxes (Topic 740) regarding balance sheet classification of
deferred income taxes. ASU 2015-17 simplifies the presentation of
deferred taxes by requiring deferred tax assets and liabilities be
classified as noncurrent on the balance sheet. ASU
2015-17 is effective for public companies for annual reporting
periods beginning after December 15, 2016 (2017 for the
Company), and interim periods within those fiscal
years. The guidance may be adopted prospectively or
retrospectively and early adoption is permitted. The
Company does not believe that adoption of guidance in ASU 2015-17
will have a material impact on our financial position, or results
of operations or cash flows.
In February 2016
The FASB issued ASU 2016-02, Leases (Topic 642) intended to improve
financial reporting about leasing transactions. The ASU
affects all companies and other organizations that lease assets
such as real estate, airplanes, and manufacturing
equipment. The ASU will require organizations that lease
assets—referred to as “lessees”—to
recognize on the balance sheet the assets and liabilities for the
rights and obligations created by those leases. Under
the new guidance, a lease will be required to recognize assets and
liabilities for leases with lease terms of more than 12
months. Consistent with current Generally Accepted
Accounting Principles (GAAP), the recognition, measurement, and
presentation of expenses and cash flows arising from a lease by a
lessee primarily will depend on its classification as a finance or
operating lease. However, unlike current
GAAP—which requires only capital leases to be recognized on
the balance sheet –the new ASU will require both types of
leases to be recognized on the balance sheet. The ASU
also will require disclosures to help investors and other financial
statement users better understand the amount, timing, and
uncertainty of cash flows arising from leases. These
disclosures include qualitative and quantitative requirements,
providing additional information about the amounts recorded in the
financial statements.
ASU 2016-02 will
take effect for public companies for fiscal years, and interim
periods within those fiscal years, beginning after December 15,
2018 (2019 for the Company). For all other organizations
the ASU on leases will take effect for fiscal years beginning after
December 15, 2019, and for interim periods within fiscal years
beginning after December 15, 2020. Early application
will be permitted for all organizations. The company is currently
reviewing the impact that implementing this ASU will
have.
F-13
In August 2016, the
FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230):
Classification of Certain Cash Receipts and Cash Payments, which
addresses how certain cash receipts and cash payments are presented
and classified in the statement of cash flows. The ASU will be
effective on a retrospective or modified retrospective basis for
annual reporting periods beginning after December 15, 2017 (2018
for the Company), and interim periods within those years, with
early adoption permitted. The Company does not believe adoption of
this new guidance will have a material affect on our consolidated
financial statements.
In October 2016,
the FASB issued ASU 2016-17 —Consolidation (Topic 810):
Interests Held through Related Parties That Are under Common
Control, The update amends the consolidation guidance on how
VIE’s should treat indirect interest in the entity held
through related parties. The ASU will be effective on a
retrospective or modified retrospective basis for annual reporting
periods beginning after December 15, 2016 (2017 for the Company),
and interim periods within those years, with early adoption
permitted. The Company does not believe adoption of this new
guidance will have a material affect on our consolidated financial
statements.
NOTE
4 — ACQUISITION OF DOLPHIN FILMS, INC.
On March 7, 2016,
the Company, DDM Merger Sub, Inc., a Florida corporation and a
direct wholly-owned subsidiary of the Company (“Merger
Subsidiary”), Dolphin Entertainment and Dolphin Films
completed their previously announced merger contemplated by the
Agreement and Plan of Merger, dated October 14, 2015 (the
“Merger Agreement”). Pursuant to the terms of the
Merger Agreement, Merger Subsidiary merged with and into Dolphin
Films (the “Merger”) with Dolphin Films surviving the
Merger. As a result of the Merger, the Company acquired Dolphin
Films. At the effective time of the Merger, each share of Dolphin
Films’ common stock, par value $1.00 per share, issued and
outstanding, was converted into the right to receive the
consideration for the Merger (the “Merger
Consideration”). The Company issued 2,300,000 shares of
Series B Convertible Preferred Stock, par value $0.10 per share,
and 1,000,000 shares of Series C Convertible Preferred Stock, par
value $0.001 per share to Dolphin Entertainment as the Merger
Consideration.
William
O’Dowd is the President, Chairman and Chief Executive Officer
of the Company and, as of March 4, 2016, was the beneficial owner
of 52.5% of the outstanding Common Stock. In addition,
Mr. O’Dowd is the founder, president and sole shareholder of
Dolphin Entertainment, which was the sole shareholder of Dolphin
Films. The Merger Consideration was determined as a result of
negotiations between Dolphin Entertainment and a special committee
of independent directors of the Board of Directors of the Company
(the “Special Committee”), with the assistance of
separate financial and legal advisors selected and retained by the
Special Committee. The Special Committee unanimously determined
that the Merger Agreement and the transactions contemplated
thereby, including the Merger, were fair to and in the best
interests of the shareholders of the Company other than Mr.
O’Dowd, and that it was advisable for the Company to enter
into the Merger Agreement. The Merger was consummated following the
approval and adoption of the Merger Agreement by the
Company’s shareholders.
F-14
The Company
retrospectively adjusted the historical financial results for all
periods to include Dolphin Films as required for transactions
between entities under common control. The following table presents
the Company’s previously reported Consolidated Balance Sheet,
retrospectively adjusted for the acquisition of Dolphin
Films:
|
As of December 31, 2015 (unaudited)
|
||||
|
|
|
|
|
|
|
|
Dolphin Digital Media, Inc.*
|
Dolphin Films, Inc.
|
Acquisition Adjustments
|
Consolidated Balance Sheets as currently reported
|
|
ASSETS
|
|
|
|
|
|
Current
|
|
|
|
|
|
Cash
and cash equivalents
|
$2,259,504
|
$133,181
|
-
|
$2,392,685
|
|
Related
party receivable
|
-
|
453,529
|
-
|
453,529
|
|
Prepaid
Expenses
|
10,018
|
62,500
|
-
|
72,518
|
|
Receivables
and other current assets
|
560,112
|
2,267,019
|
-
|
2,827,131
|
|
Total
Current Assets
|
2,829,634
|
2,916,229
|
-
|
5,745,863
|
|
|
|
|
-
|
|
|
Capitalized
production costs
|
2,439
|
15,168,329
|
-
|
15,170,768
|
|
Property
and equipment
|
55,413
|
-
|
-
|
55,413
|
|
Deposits
|
41,291
|
355,778
|
-
|
397,069
|
|
Total
Assets
|
$2,928,777
|
$18,440,336
|
-
|
$21,369,113
|
|
|
|
|
|
|
|
LIABILITIES
|
|
|
|
|
|
Current
|
|
|
|
|
|
Accounts
payable
|
$479,799
|
$1,590,746
|
-
|
$2,070,545
|
|
Other
current liabilities
|
2,669,456
|
314,864
|
-
|
2,984,320
|
|
Accrued
compensation
|
2,065,000
|
-
|
-
|
2,065,000
|
|
Debt
|
5,145,000
|
32,186,008
|
-
|
37,331,008
|
|
Loan
from related party
|
-
|
2,917,523
|
-
|
2,917,523
|
|
Deferred
revenue
|
-
|
1,418,368
|
-
|
1,418,368
|
|
Notes
payable
|
300,000
|
-
|
-
|
300,000
|
|
Total
Current Liabilities
|
10,659,255
|
38,427,509
|
-
|
49,086,764
|
|
Noncurrent
|
|
|
|
|
|
Convertible
note payable
|
3,164,000
|
-
|
-
|
3,164,000
|
|
Loan
from related party
|
1,982,267
|
-
|
-
|
1,982,267
|
|
Total
Noncurrent Liabilities
|
5,146,267
|
-
|
-
|
5,146,267
|
|
|
|
|
-
|
|
|
Total
Liabilities
|
15,805,522
|
38,427,509
|
-
|
54,233,031
|
|
|
|
|
|
|
|
STOCKHOLDERS' DEFICIT
|
|
|
|
|
|
Common
stock, $0.015 par value, 400,000,000 shares authorized, 4,094,618
issued and outstanding at December 31, 2015.
|
61,419
|
100
|
(100)
|
61,419
|
|
|
|
|
|
|
|
Preferred
stock, Series A. $0.001 par value, 10,000,000 shares authorized,
1,042,753 shares issued and outstanding, liquidation preference of
$1,042,753 at December 31, 2015.
|
1,043
|
-
|
-
|
1,043
|
|
|
|
|
|
|
|
Preferred
stock, Series B. $0.10 par value, 4,000,000 shares authorized,
3,300,000 shares issued and outstanding at December 31,
2015.
|
-
|
-
|
230,000
|
230,000
|
|
|
|
|
|
|
|
Preferred
stock, Series C. $0.001 par value, 1,000,000 shares authorized,
1,000,000 shares issued and outstanding at December 31,
2015.
|
-
|
-
|
1,000
|
1,000
|
|
|
|
|
|
|
|
Additional
paid in capital
|
26,711,140
|
-
|
(230,900)
|
26,480,240
|
|
Accumulated
deficit
|
(42,628,155)
|
(19,987,273)
|
-
|
(62,615,428)
|
|
Total
Dolphin Digital Media, Inc. Deficit
|
$(15,854,553)
|
$(19,987,173)
|
-
|
$(35,841,726)
|
|
Non-controlling
interest
|
2,977,808
|
-
|
-
|
2,977,808
|
|
Total
Stockholders' Deficit
|
$(12,876,745)
|
$(19,987,173)
|
-
|
$(32,863,918)
|
|
Total
Liabilities and Stockholders' Deficit
|
$2,928,777
|
$18,440,336
|
-
|
$21,369,113
|
|
*Previously reported on Form 10-K filed with the SEC March 31,
2016
|
|
|
|
|
F-15
The following table
presents the Company’s previously reported Consolidated
Statement of Operations, retrospectively adjusted for the
acquisition of Dolphin Films:
|
For the year
ended December 31, 2015
|
||||
|
|
Dolphin Digital
Media, Inc.*
|
Dolphin Films,
Inc.
|
Pro Forma
Adjustments
|
Consolidated
Statement of Operations as currently reported
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues:
|
|
|
|
|
|
Production
|
$2,929,518
|
$101,555
|
|
$3,031,073
|
|
Membership
|
69,761
|
-
|
|
69,761
|
|
Total
Revenue:
|
2,999,279
|
101,555
|
|
$3,100,834
|
|
|
|
|
|
|
|
Expenses:
|
|
|
|
|
|
Direct
costs
|
2,290,645
|
296,612
|
|
2,587,257
|
|
Impairment of
deferred production costs
|
-
|
213,300
|
|
213.300
|
|
Selling, general
and administrative
|
2,478,794
|
341,772
|
(975,478)
|
1,845,088
|
|
Legal and
professional
|
-
|
1,417,078
|
975,478
|
2,392,556
|
|
Payroll
|
1,435,765
|
-
|
|
1,435,765
|
|
Loss before other
income (expense)
|
(3,205,925)
|
(2,167,207)
|
|
(5,373,132)
|
|
|
|
|
|
|
|
Other Income
(Expense):
|
|
|
|
|
|
Other
Income
|
96,302
|
-
|
|
96,302
|
|
Interest
expense
|
(940,398)
|
(2,619,134)
|
|
(3,559,532)
|
|
Net
Loss
|
(4,050,021)
|
(4,786,341)
|
|
(8,836,362)
|
|
|
|
|
|
|
|
Net income
attributable to noncontrolling interest
|
$17,440
|
$-
|
|
$17,440
|
|
Net loss
attributable to Dolphin Films, Inc.
|
-
|
(4,786,341)
|
|
(4,786,341)
|
|
Net loss
attributable to Dolphin Digital Media, Inc.
|
(4,067,461)
|
-
|
|
(4,067,461)
|
|
Net
loss
|
$(4,050,021)
|
$(4,786,341)
|
|
$(8,836,362)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic and Diluted
Loss per Share
|
$(0.99)
|
|
|
$(2.16)
|
|
|
|
|
|
|
|
Weighted average
number of shares used in share calculation
|
4,094,618
|
|
|
4,094,618
|
|
*Previously
reported on Form 10-K filed with the SEC March
31, 2016
|
|
|
|
|
F-16
The following table
presents Company’s previously reported Condensed Consolidated
Statement of Cash Flows, retrospectively adjusted for the
acquisition of Dolphin Films:
|
For
the year ended December 31, 2015
|
||||
|
|
Dolphin Digital Media, Inc.*
|
Dolphin Films, Inc.
|
Acquisition Adjustments
|
Consolidated Statement of Cash Flows (as currently
reported)
|
|
CASH
FLOWS FROM OPERATING ACTIVITIES:
|
|
|
|
|
|
Net
Loss
|
(4,050,021)
|
(4,786,341)
|
-
|
(8,836,362)
|
|
Adjustments to reconcile net loss to net cash used in operating
activities:
|
|
|
-
|
|
|
Depreciation
|
24,826
|
-
|
-
|
24,826
|
|
Amortization
of capitalized production costs
|
1,642,120
|
30,000
|
-
|
1,672,120
|
|
Impairment
of capitalized production costs
|
648,525
|
213,300
|
-
|
861,825
|
|
Changes
in operating assets and liabilities:
|
|
|
|
-
|
|
Prepaid
expenses
|
(7,679)
|
-
|
-
|
(7,679)
|
|
Receivables
and other current assets
|
(115,069)
|
(150,547)
|
-
|
(265,616)
|
|
Capitalized
production costs
|
(1,599,558)
|
(1,136,763)
|
-
|
(2,736,321)
|
|
Accounts
Payable
|
239,063
|
545,766
|
-
|
784,829
|
|
Accrued
compensation
|
315,000
|
-
|
-
|
315,000
|
|
Other
current liabilities
|
1,121,876
|
-
|
-
|
1,121,876
|
|
Net
Cash Used in Investing Activities
|
(1,780,917)
|
(5,284,585)
|
|
(7,065,502)
|
|
CASH
FLOWS FROM INVESTING ACTIVITES:
|
|
|
|
|
|
Purchase
of property and equipment
|
(2,549)
|
-
|
-
|
(2,549)
|
|
Net
Cash Used in Investing Activities
|
(2,549)
|
-
|
|
(2,549)
|
|
CASH
FLOWS FROM FINANCING ACTIVITIES:
|
|
|
|
|
|
Proceeds
from Loan and Security agreements
|
1,150,000
|
1,460,000
|
-
|
2,610,000
|
|
Repayment
of loan and security agreements
|
-
|
(405,219)
|
-
|
(405,219)
|
|
Proceeds
from production loan
|
-
|
440,130
|
-
|
440,130
|
|
Proceeds
from convertible note payable
|
3,164,000
|
-
|
-
|
3,164,000
|
|
Proceeds
from note payable with related party
|
2,797,500
|
3,785,936
|
-
|
6,583,436
|
|
Repayment
of note payable to related party
|
(3,267,000)
|
(57,686)
|
-
|
(3,324,686)
|
|
Net
Cash Provided By Financing Activities
|
3,844,500
|
5,223,161
|
-
|
9,067,661
|
|
NET
INCREASE (DECREASE) IN CASH
|
2,061,034
|
(61,424)
|
-
|
1,999,610
|
|
CASH,
BEGINNING OF PERIOD
|
198,470
|
194,605
|
-
|
393,075
|
|
CASH,
END OF PERIOD
|
2,259,504
|
133,181
|
-
|
2,392,685
|
|
SUPPLEMENTAL DISCLOSURES OF CASH FLOWS INFORMATION:
|
|
|
|
|
|
Interest
Paid
|
234,777
|
1,401,037
|
|
1,635,814
|
|
SUPPLEMENTAL DISCLOSURES OF NON CASH FLOW INFORMATION:
|
|
|
|
|
|
Refinance
of related party debt to third party debt
|
-
|
8,774,337
|
|
8,774,337
|
|
*Previously reported on Form 10-K filed with the SEC March 31,
2016
|
|
|
|
|
F-17
NOTE
5 — CAPITALIZED PRODUCTION COSTS AND OTHER CURRENT
ASSETS
Capitalized
Production Costs
Capitalized
production costs include the unamortized costs of completed motion
pictures and digital projects which have been produced by the
Company, costs of scripts for projects that have not been developed
or produced and costs for projects that are in production. These
costs include direct production costs and production overhead and
are amortized using the individual-film-forecast method, whereby
these costs are amortized and participations and residuals costs
are accrued in the proportion that current year’s revenue
bears to management’s estimate of ultimate revenue at the
beginning of the current year expected to be recognized from the
exploitation, exhibition or sale of the motion picture
or web series.
Motion Pictures
For year ended
December 31, 2016, revenues earned from motion pictures were
$9,367,222 mainly attributable to Max Steel, the motion picture
released on October 14, 2016 and international sales of Believe,
the motion picture released in December 2013. Revenues from
motion pictures for the year ended December 31, 2015 were $101,555
attributable to international sales of Believe. The
Company amortized capitalized production costs (included as direct
costs) in the consolidated statements of operations using the
individual film forecast computation method in the amount of
$7,822,550 and $30,000, respectively for the years ended
December 31, 2016 and 2015, related to these two motion
pictures. As of December 31, 2016 and 2015, the Company had a
balance of $4,189,930 and $14,893,329, respectively recorded as
capitalized production costs related to our motion
picture. As of December 31, 2016,the Company has amortized
all of the capitalized production costs related to Believe and 65% of the capitalized
production costs related to Max
Steel. The Company expects that approximately
85% of the capitalized production costs of Max Steel will be amortized over the
next two years.
ASC 926-20-35-12
states that “unamortized film costs shall be tested for
impairment whenever events or changes in circumstances indicate
that the fair value of the film may be less than its unamortized
costs”. Max
Steel did not perform as well as expected in the domestic
box office. Since the Company determined that
Max
Steel’s performance in the domestic box
office was an indicator that the capitalized production costs may
be impaired, it used a discounted cash flow model to help determine
the fair value of the capitalized production
costs. After careful analysis, the Company recorded an
impairment of $2,000,000 since it determined that the fair value of
the motion picture was lower than the balance of the capitalized
production costs.
The Company has
purchased scripts, including one from a related party, for other
motion picture productions and has deferred $215,000 and $275,000
in capitalized production costs as of December 31, 2016 and 2015
associated with these scripts. The Company intends to produce these
projects but they were not yet in production as of December 31,
2016.
On November 17,
2015, the Company entered into a quitclaim agreement with a
distributor for rights to a script owned by the
Company. As part of the agreement the Company will
receive $221,223 plus interest and a profit participation if the
distributor decides to produce the motion picture within 24 months
after the execution of the agreement. If the motion
picture is not produced within the 24 months, all rights revert
back to the Company. As per the terms of the agreement, the Company
is entitled to co-finance the motion picture and the distributor
will assist the Company in releasing its completed motion
picture. The Company recorded $213,300 in direct costs
and reduced the capitalized production costs by the same amount
during the year ended December 31, 2015 as there is no guarantee
the distributor will produce the motion picture.
Additionally, during the year ended December 31, 2016, the Company
decided that it would not extend its option to produce a script
that it had purchased. As a result, the Company recorded
$75,000 in direct costs and reduced the capitalized production
costs by the same amount during the year ended December 31,
2016. The Company did not have any other development
projects abandoned during the years ended December 31, 2016 and
2015.
As of December 31,
2016 and 2015, respectively, the Company has total capitalized
production costs of $4,654,013 and $15,168,329, net of accumulated
amortization, tax incentives and impairment charges, recorded on
its consolidated balance sheets related to motion
pictures.
Digital
During the year
ended December 31, 2016, the Company began production of a new
digital project showcasing favorite restaurants of NFL players
throughout the country. The Company entered into a co-production
agreement with an unrelated party and is responsible for financing
50% of the project’s budget. Per the terms of the agreement,
the Company is entitled to 50% of the profits of the project, net
of any distribution fees. The project is still in
production, and as such, for the year ended December 31, 2016,
revenues earned from digital projects were
immaterial. For the year ended December 31, 2015, the
Company earned $2,929,518 from the release of the digital web
series, South
Beach-Fever.. The Company amortized capitalized
production costs (included as direct costs) in the consolidated
statements of operations using the individual film forecast
computation method in the amount of $2,439 and $1,642,120 for the
years ended December 31, 2016 and 2015.
F-18
In previous years,
the Company entered into agreements to hire writers to develop
scripts for other digital web series
productions. Management evaluated the scripts and based
on guidance in ASC 926-20-40-1 impaired $648,525 of capitalized
production costs during the year ended December 31, 2015, as the
scripts were more than three years old and the Company had not
begun production on the projects.
As of December 31, 2016 and 2015,
respectively, the Company has total capitalized production costs of
$249,083 and $2,439, net of accumulated amortization, tax
incentives and impairment charges, recorded on its consolidated
balance sheet related to web series.
The
Company has assessed events and changes in circumstances that would
indicate that the Company should assess whether the fair value of
the productions are less than the unamortized costs capitalized and
did not identify indicators of impairment, other than those noted
above.
Accounts Receivables
The
Company entered into various agreements with foreign distributors
for the licensing rights of its motion picture, Max Steel, in certain international
territories. The motion picture was delivered to the distributors
and other stipulations, as required by the contracts were met, and
the Company had a balance of $3,668,646 in accounts receivable
related to these contracts.
Other Current Assets
The
Company had a balance of $2,665,781 and $2,827,131 in other current
assets on its consolidated balance sheets as of December 31, 2016
and 2015, respectively. As of December 31, 2016, these amounts were
primarily comprised of tax incentive receivables and prepaid loan
interest. For the year ended December 31, 2015, the amount was
primarily comprised of tax incentive receivables, loan receivable,
prepaid expenses and advertising revenue.
Tax Incentives -The Company has
access to government programs that are designed to promote film
production in the jurisdiction. As of December 31, 2016 and 2015,
the Company recorded $2,060,883 and $1,854,066 from these tax
incentives. Tax incentives earned with respect to expenditures on
qualifying film productions are included as an offset to
capitalized production costs when the qualifying expenditures have
been incurred provided that there is reasonable assurance that the
credits will be realized. During the year ended December 31, 2015,
the Company received $131, 807, net of discount and financing fees,
related to these incentives. The remaining tax incentives were
collected subsequent to December 31, 2016.
Prepaid Interest – The
Company entered into a loan and security agreement to finance the
distribution and marketing costs of a motion picture and prepaid
interest related to the agreement. As of December 31, 2016, there
was $602,697 of prepaid interest recorded.
Loan Receivable – During
the year ended December 31, 2015, Dolphin Films entered into a Loan
and Security agreement, with an existing investor, for $500,000
that was paid, net of interest, in January of 2016.
Prepaid Expenses – As of
December 31, 2015, the Company prepaid $62,500 for consulting fees
for the first quarter of 2016.
Advertising Revenue Receivable
- During the year ended December 31, 2015, the Company
released a web series on Hulu. As of December 31, 2015,
it recorded $569,772 of advertising receivables related to this
project. The receivable was collected in
2016.
F-19
NOTE
6 — DEBT
Kids Club Agreements
During February
2011, the Company entered into two agreements with individual
parties (each a “Kids Club Agreement”) for the
development of a child fan club for the promotion of a local
university and its collegiate athletic program (the “Group
Kids Club”). Under each Kids Club Agreement, each party paid
the Company $50,000 in return for the participation of future
revenue generated by the Group Kids Club. Pursuant to the terms of
each of the Kids Club Agreements, the amount invested by the
individual investor was to be repaid by the Group Kids Club, with a
specified percentage of the Group Kids Club’s net receipts,
until the total investment was recouped. Each individual party was
to recoup its investment with a percentage of net revenue based
upon a fraction, the numerator of which was the amount invested
($50,000), and the denominator of which was $500,000 (the
“Investment Ratio”). Thereafter, each individual party
was to share in a percentage of the net revenue of the Group Kids
Club, in an amount equal to one half of the Investment Ratio. The
Company had made aggregate payments of $45,000 under one of the two
Kids Clubs Agreements. During the year ended December 31, 2016, the
Company agreed to terminate such Kids Club Agreement with one of
the parties for (i) $10,000, plus (ii) the balance of the original
investment ($5,000). The Company paid such individual party $15,000
on July 18, 2016 in full settlement of the Company’s
obligations under such Kids Club Agreement, and the Kids Club
Agreement for such party was terminated. On October 3, 2016, the
Company entered into a debt exchange agreement with the remaining
party whereby The Company agreed to issue 12,000 shares of Common
Stock at an exchange price of $5.00 per share to in exchange
for (i) $10,000 plus (ii) the remaining party’s
original investment of $50,000 to terminate the Kids Club
Agreement.
For the years ended
December 31, 2016 and 2015, there were no significant
revenues generated or costs incurred related to the Group Kids
Club. The Company balance of debt related to the Kids
Club Agreements as of December 31, 2016 and 2015 was $0 and
$100,000, respectively.
Equity Finance Agreements
During the years
ended December 31, 2012 and 2011, the Company entered into Equity
Finance Agreements (the “Equity Finance Agreements”)
for the future production of web series and the option to
participate in the production of future web series. The investors
contributed a total investment of $1,000,000 and had the ability to
share in the future revenues of the relevant web series, on a
prorata basis, until the total investment was recouped and then
would have shared at a lower percentage of the additional revenues.
The Equity Finance Agreements stated that prior to December 31,
2012, the Company could utilize all, or any portion, of the total
investment to fund any chosen production. Per the Equity Finance
Agreements, the Company was entitled to a producer’s fee, not
to exceed $250,000, for each web series that it produced before
calculating the share of revenues owed to the investors. The
Company invested these funds in eleven projects. On January 1,
2013, the “production cycle”, as defined in
the Equity Finance Agreements, ceased and the
investors were entitled to share in the future revenues of any
productions for which the funds invested were used. Based on the
producer’s gross revenues, (as defined in the Equity Finance
Agreements) for the productions to date and the amount of investor
funds used to date, the Company was not required to pay the
investors any amount in excess of the existing liability already
recorded as of December 31, 2016 and 2015. Two of the productions
were completed as of December 31, 2016 and there was no producer
gross revenue as defined in the Equity Finance Agreements for each
of the years ended December 31, 2016 and 2015 related to those two
productions The costs of the other nine projects was impaired and
no future projects are planned with funds from the Equity Finance
Agreements. As a result, the investors did not recoup any of their
investment.
F-20
On June 23, 2016,
the Company entered into a settlement agreement (the
“Settlement”) with one of the Equity Finance Agreement
investors that had originally contributed $105,000. Pursuant to the
terms of the Settlement, the Company made a payment of $200,000 to
the investor on June 24, 2016 resulting in a loss on extinguishment
of debt of $95,000 recorded in the consolidated statement of
operations for the year ended December 31, 2016. On October 3,
13 and 27, 2016, the Company
entered into debt exchange agreements with three Equity Finance
Agreement three investors to
issue an aggregate total of 66,200 shares of Common Stock at an
exchange price of $5.00 per share to terminate each of their Equity
Finance Agreements for a cumulative original investment amount of
$331,000. On the date of the
conversions the market price of the Common Stock was between $6.25
and $6.75 and as a result, the Company recorded a loss on
extinguishment of debt of $112,025, related to these three
agreements, on its consolidated statement of operations. On
December 29, 2016, the Company entered into a termination agreement
whereby the Company agreed to issue Warrant “K” to
another investor that entitles the warrant holder to purchase
170,000 shares of Common Stock at an exercise price of $0.015 per
share in return for terminating its Equity Finance Agreement. As a
result, the Company recorded a loss on extinguishment of debt of
$538,685 on the consolidated statement of operations for the year
ended December 31, 2016 based on the difference between the fair
value of the Warrant “K” and the carrying amount of the
balance owed to the investor under the Equity Finance Agreement on
the date the Equity Finance Agreement was terminated. The Company
balance of debt related to the Equity Finance Agreements as of
December 31, 2016 and 2015 was $0 and $1,000,000,
respectively.
Loan and Security Agreements
First Group Film Funding
During the years
ended December 31, 2013 and 2014, the Company entered into various
loan and security agreements with individual noteholders (the
“First Loan and Security Noteholders”) for notes with
an aggregate principal amount of $11,945,219 to finance future
motion picture projects (the “First Loan and Security
Agreements”). During the year ended December 31, 2015, one of
the First Loan and Security Noteholders increased its funding under
its respective First Loan and Security Agreement for an additional
$500,000 note and the Company used the proceeds to repay $405,219
to another First Loan and Security Noteholder. Pursuant to the
terms of the First Loan and Security Agreements, the notes accrued
interest at rates ranging from 11.25% to 12% per annum, payable
monthly through June 30, 2015. During 2015, the Company exercised
its option under the First Loan and Security Agreements, to extend
the maturity date of these notes until December 31, 2016. In
consideration for the Company’s exercise of the option to
extend the maturity date, the Company was required to pay a higher
interest rate, increasing by 1.25% resulting in rates
ranging from 12.50% to 13.25%. The First Loan and Security
Noteholders, as a group, will receive the Company’s entire
share of the proceeds from the motion picture productions funded
under the First Loan and Security Agreements, on a prorata basis,
until the principal investment is repaid. Thereafter, the First
Loan and Security Noteholders, as a group, would have the right to
participate in 15% of the Company’s future profits from these
projects (defined as the Company’s gross revenues of such
projects less the aggregate amount of principal and interest paid
for the financing of such projects) on a prorata basis based on
each First Loan and Security Noteholder's loan commitment as a
percentage of the total loan commitments received to fund specific
motion picture productions.
On May 31, 2016 and
June 30, 2016, the Company entered into debt exchange agreements
with certain First Loan and Security Noteholders on substantially
similar terms to convert an aggregate of $11,340,000 of principal
and $1,811,490 of accrued interest into shares of Common Stock.
Pursuant to the terms of such debt exchange agreements, the Company
agreed to convert the debt owed to certain First Loan and Security
Noteholders into Common Stock at an exchange rate of $5.00 per
share and issued 2,630,298 shares of Common Stock. On May 31, 2016,
the market price of a share of Common Stock was $6.99 and on June
30, 2016 it was $6.08. As a result, the Company recorded losses on
the extinguishment of debt on its consolidated statement of
operations of $3,328,366 for the year ended December 31, 2016 based
on the difference between the fair value of the Common Stock issued
and the carrying amount of outstanding balance of the exchanged
notes on the date of the exchange. On December 29,
2016, as part of a global settlement agreement with an investor
that was the noteholder under each of the First Loan and Security
Agreement, a Web Series Agreement and a Second Loan and Security
Agreement, the Company entered into a debt exchange
agreement whereby the Company issued Warrant “J” that
entitles the warrant holder to purchase shares of Common Stock at a
price of $0.015 per share in settlement of $1,160,000 of debt from
the note under the First Loan and Security
Agreement. See Note 16 for further discussion of
Warrant “J”.
F-21
During the years
ended December 31, 2016 and 2015, the Company expensed $518,767 and
$$1,238,234, respectively in interest related to the First Loan and
Security Agreements. As of December 31, 2016 and 2015, the Company
had $0 and $9,334,303, respectively of outstanding debt related to
the First Loan and Security Agreements and $0 and $602,661,
respectively of accrued interest recorded in other current
liabilities on the Company’s consolidated balance
sheets.
Web Series Funding
During the years
ended December 31, 2014 and 2015, the Company entered into various
loan and security agreements with individual noteholders (the
“Web Series Noteholders”) for an aggregate principal
amount of notes of $4,090,000 which the Company used to finance
production of its 2015 web series (the “Web Series Loan and
Security Agreements”). Under the Web Series Loan and Security
Agreements, the Company issued promissory notes that accrued
interest at rates ranging from 10% to 12% per annum payable monthly
through August 31, 2015, with the exception of one note that
accrued interest through February 29, 2016. During 2015, the
Company exercised its option under the Web Series Loan and Security
Agreements to extend the maturity date of these notes to August 31,
2016. In consideration for the Company’s exercise of the
option to extend the maturity date, the Company was required to pay
a higher interest rate, increasing 1.25% resulting in interest
rates ranging from 11.25% to 13.25%. Pursuant to the terms of the
Web Series Loan and Security Agreements, the First Loan and
Security Noteholders, as a group, would have had the right to
participate in 15% of the Company’s future profits generated
by the series (defined as the Company’s gross revenues of
such series less the aggregate amount of principal and interest
paid for the financing of such series) on a prorata basis based on
each Web Series Noteholder's loan commitment as a percentage of the
total loan commitments received to fund the series.
On March 29, 2016
and June 30, 2016, the Company entered into eleven individual debt
exchange agreements (the “Web Series Debt Exchange
Agreements”) on substantially similar terms with the Web
Series Noteholders. Pursuant to the terms of the Web Series Debt
Exchange Agreements, the Company and each Web Series Noteholder
agreed to convert an aggregate of $2,650,000 of principal and
$289,017 of accrued interest under the Web Series Loan and Security
Agreements into an aggregate of 587,804 shares of Common Stock at
an exchange price of $5.00 per share as payment in full of each of
the notes issued under the Web Series Loan and Security Agreements.
Mr. Nicholas Stanham, director of the Company, was one of the Web
Series Noteholders that converted his note into shares of Common
Stock. On December 15 and December 20, 2016, the Company entered
into substantially identical Subscription Agreements with two Web
Series Noteholders to convert $1,265,530 of principal and interest
into an aggregate of 253,106 shares of Common Stock at an exchange
price of $5.00 per share as payment in full of each of the notes
issued under the Web Series Loan and Security Agreements.
The Company recorded a loss on
extinguishment of debt of $1,489,582 on its consolidated statement
of operations related to the Web Series Loan and Security
Agreements due to the following market prices per share on the
dates of the exchanges (i) $6.00 per share for 576,676 shares
issued, (ii) $6.08 for 11,128 shares issued, (iii) $6.10 for
253,934 shares issued and (iv) $6.45 for 32,273 shares issued,
which were in excess of the $5.00 per share exchange prices.
On December 29, 2016, as part of a global settlement agreement with
another investor that was the Noteholder of a First Loan and
Security Agreement, a Web Series Agreement and a Second Loan and
Security Agreement, the Company entered into a debt exchange
agreement whereby the Company issued Warrant “J” that
entitles the warrant holder to purchase shares of Common Stock at a
price of $0.015 per share in settlement of $340,000 of debt from
the Web Series Loan and Security Agreement. See Note 16 for further
discussion of Warrant “J”.
During the years
ended December 31, 2016 and 2015, the Company recorded expense of
$31,487 and $388,320 respectively, in interest related to the Web
Series Loan and Security Agreements. As of December 31, 2016 and
2015, respectively, the Company had outstanding balances of $0 and
$4,090,000, respectively of principal and $0 and $173,211,
respectively, of accrued interest recorded on the Company’s
consolidated balance sheets.
F-22
Second Group Film Funding
During the year
ended December 31, 2015, the Company entered into various loan and
security agreements with individual noteholders (the “Second
Loan and Security Noteholders”) for notes with an aggregate
principal amount of $9,274,327 to fund a new group of film projects
(the “Second Loan and Security Agreements”). Of this
total aggregate amount, notes with an aggregate principal amount of
$8,774,327 were issued in exchange for debt that had originally
been incurred by Dolphin Entertainment, Inc., primarily related to
the production and distribution of the motion picture,
“Believe”. The remaining $500,000 of principal amount
was related to a note issued in exchange for cash. The
notes issued pursuant to the Second Loan and Security Agreements
accrue interest at rates ranging from 11.25% to 12% per annum,
payable monthly through December 31, 2016. The Company did not
exercise its option to extend the maturity date of these notes
until July 31, 2018. The Second Loan and Security Noteholders, as a
group, will receive the Company’s entire share of the
proceeds from the related group of film projects, on a prorata
basis, until the principal balance is repaid. Thereafter, the
Second Loan and Security Noteholders, as a group, would have the
right to participate in 15% of the Company’s future profits
from such projects (defined as the Company’s gross revenues
of such projects less the aggregate amount of principal and
interest paid for the financing of such projects) on a prorata
basis based on each Second Loan and Security Noteholder’s
loan principal as a percentage of the total loan proceeds received
to fund the specific motion picture productions.
On May 31, 2016 and
June 30, 2016, the Company entered into various debt exchange
agreements on substantially similar terms with certain of the
Second Loan and Security Noteholders to convert an aggregate of
$4,003,337 of principal and $341,013 of accrued interest into
shares of Common Stock. Pursuant to such debt exchange agreements,
the Company agreed to convert the debt at an exchange price of
$5.00 per share and issued 868,870 shares of Common
Stock. On May 31, 2016, the market price of a share of
the Common Stock was $6.99 and on June 30, 2016, it was $6.08. As a
result, the Company recorded a loss on the extinguishment of debt
of $1,312,059 on its consolidated statement of operations for the
year ended December 31, 2016, due to the difference between the
exchange price and the market price of the Common Stock on the
dates of exchange. On June 22, 2016, the Company repaid
one of the Second Loan and Security Noteholders its principal
investment of $300,000. On December 29, 2016, as part of a global
settlement agreement with an investor that was the noteholder under
each of a First Loan and Security Agreement, a Web Series Agreement
and a Second Loan and Security Agreement, the Company
entered into a debt exchange agreement whereby the Company issued
Warrant “J” that entitles the warrant holder to
purchase shares of Common Stock at a price of $0.015 per share in
settlement of $4,970,990 of debt from the note under the Second
Loan and Security Agreement. See Note 16 for further
discussion of Warrant “J”.
During the years
ended December 31, 2016 and 2015, the Company recorded interest
expense of $715,934 and $634,923, respectively, related
to the Second Loan and Security Agreements.
As of
December 31, 2016 and 2015, the Company had $0 and
$9,334,303, respectively, of outstanding debt related to the Second
Loan and Security Agreements and $0 and $228,040, respectively of
accrued interest recorded in other current liabilities on the
Company’s consolidated balance sheets.
The Company
accounts for the above agreements in accordance with ASC
470-10-25-2, which requires that cash received from an investor in
exchange for the future payment of a specified percentage or amount
of future revenue shall be classified as debt. The Company does not
purport the arrangements to be a sale and the Company has
significant continuing involvement in the generation of cash flows
due to the noteholders.
F-23
Production Service Agreement
During the year
ended December 31, 2014, Dolphin Films entered into a financing
agreement for the production of one of the Company’s feature
film, Max Steel (the
“Production Service Agreement”). The Production Service
Agreement was for a total amount of $10,419,009 with the lender
taking an $892,619 producer fee. The Production Service Agreement
contained repayment milestones to be made during the year ended
December 31, 2015, that if not met, accrued interest at a default
rate of 8.5% per annum above the published base rate of HSBC
Private Bank (UK) Limited until the maturity on January 31, 2016 or
the release of the movie. Due to a delay in the release of
Max Steel, the Company did
not make the repayments as prescribed in the Production Service
Agreement. As a result, the Company recorded accrued interest of
$1,147,520 and $381,566, respectively, as of December 31, 2016 and
2015 in other current liabilities on the Company’s
consolidated balance sheets. The loan was partially secured by
international distribution agreements entered into by the Company
prior to the commencement of principal photography and the receipt
of tax incentives. As a condition to the Production Service
Agreement, the Company acquired a completion guarantee from a bond
company for the production of the motion picture. The funds for the
loan were held by the bond company and disbursed as needed to
complete the production in accordance with the approved production
budget. The Company recorded debt as funds were transferred from
the bond company for the production.
During the year
ended December 31, 2016, the motion picture, Max Steel, was released in the US and
delivered to the international
distributors. International distributors made payments
totaling $3,493,105 and $675,507 of Canadian tax incentives were
received for an aggregate of $4,168,612 applied to the balance of
the Production Service Agreement debt. As of December
31, 2016 and 2015 the Company had outstanding balances of
$6,243,069 and $10,411,681, respectively, related to this debt on
its consolidated statement of operations.
Loan and Security Agreement – (Prints and Advertising
Loan)
On August 12, 2016,
Dolphin Max Steel Holding, LLC, a Florida limited liability company
(?Max Steel Holding?) and a wholly owned subsidiary of Dolphin
Films, entered into a loan and security agreement (the ?P&A
Loan?) providing for $14,500,000 non-revolving credit facility that
matures on August 25, 2017. The proceeds of the credit facility
were used to pay a portion of the print and advertising expenses of
the domestic distribution of ?Max
Steel”. To secure Max Steel Holding’s
obligations under the Loan and Security Agreement, the Company has
granted to the lender a security interest in bank account funds
totaling $1,250,000 pledged as collateral and recorded as
restricted cash in the consolidated balance sheet as of December
31, 2016, and rights to the assets of Max Steel Holdings, but
without recourse to the assets of the Company. The loan is also
partially secured by a $4,500,000 corporate guaranty from a party
associated with the film. The lender has retained a
reserve of $1,531,871 for loan fees and interest (the
“Reserve”). Amounts borrowed under the
credit facility will accrue interest at either (i) a fluctuating
per annum rate equal to the 5.5% plus a base rate or (ii) a per
annum rate equal to 6.5% plus the LIBOR determined for the
applicable interest period. As of December 31, 2016, the Company
had an outstanding balance of $12,500,000, including the Reserve,
related to this agreement recorded on the consolidated balance
sheet as of December 31, 2016. The Company recorded
$10,168,129 in distribution and marketing costs related to the
release of the feature film on the consolidated statement of
operations for the year ended December 31, 2016.
NOTE
7 — CONVERTIBLE DEBT
On December 7,
2015, the Company entered into a subscription agreement with an
investor to sell up to $7,000,000 in convertible promissory notes
of the Company. The promissory note, bears interest on the unpaid
balance at a rate of 10% per annum, becomes due and payable on
December 7, 2016 and may be prepaid, without penalty, at any time.
Pursuant to the subscription agreement, the Company issued a
convertible note to the investor in the amount of $3,164,000. At
any time prior to the maturity date, the investor has the right, at
its option, to convert some or all of the convertible note into
Common Stock. The convertible note has a conversion price of $5.00
per share. The outstanding principal amount and all accrued
interest are mandatorily and automatically converted into Common
Stock, at the conversion price, upon the average market price per
share of Common Stock being greater than or equal to the conversion
price for twenty trading days.
F-24
On February 5,
2016, a triggering event occurred pursuant to the convertible note
agreement. As such 632,800 shares of Common Stock were issued in
satisfaction of the convertible note payable. As of December 31,
2016 and 2015, the Company recorded $0 and $3,164,000 as
convertible note and accrued $0 and $21,671 of interest in other
current liabilities in its consolidated balance sheets. The Company
expensed $31,207 of interest, incurred prior to its conversion,
during the year ended December 31, 2016.
NOTE
8 — NOTES PAYABLE
On July 5, 2012, the Company signed an
unsecured promissory note in the amount of $300,000 bearing 10%
interest per annum and payable on demand. No payments were made on
the note during the years ended December 31, 2016 and 2015. The
Company recorded accrued interest of $134,794 and $104,712 as of
December 31, 2016 and 2015, respectively related to this note. As
of December 31, 2016 and 2015, the Company had a balance of
$300,000 on its consolidated balance sheets related to this note
payable.
The
Company expensed $30,082 and $30,000, respectively for the years
ended December 31, 2016 and 2015, respectively for interest related
to this note.
NOTE 9 — LOANS FROM RELATED PARTY
On
December 31, 2011, the Company issued an unsecured revolving
promissory note (the “DE Note”) to Dolphin
Entertainment (“DE”), an entity wholly owned by the
Company's CEO that, at December 31, 2016 and December 31, 2015, had
outstanding balances of $0 and $1,982,267, respectively. The DE
Note accrued interest at a rate of 10% per annum. Dolphin
Entertainment had the right at any time to demand that all
outstanding principal and accrued interest be repaid with a ten day
notice to the Company. During the year ended December 31, 2015, DE
loaned the Company $2,797,000 and was repaid $3,267,000 in
principal. During the year ended December 31, 2016, DE advanced the
Company $270,000. On March 4, 2016, the Company entered into a
subscription agreement (the “Subscription Agreement”)
with DE. Pursuant to the terms of the Subscription Agreement, the
Company and DE agreed to convert the $3,073,410 aggregate amount of
principal and interest outstanding under the DE Note into 614,682
shares of Common Stock. The shares were converted at a price of
$5.00 per share. On the date of the conversion that market price of
the shares was $6.00 and as a result the Company recorded a loss on
the extinguishment of the debt of $614,682 on the consolidated
statement of operations for the year ended December 31, 2016.
During the year ended December 31, 2016 and 2015 $32,008 and
$340,050 was expensed in interest, respectively and the Company
recorded accrued interest of $5,788 and $1,126, related to the DE
Note, on its consolidated balance sheet as of December 31, 2016 and
2015, respectively.
In addition, DE has
previously advanced funds for working capital to Dolphin Films.
During the year ended December 31, 2015, Dolphin Films agreed to
enter into second Loan and Security Agreements with certain of
DE’s debtholders, pursuant to which the debtholders exchanged
their DE notes for notes issued by Dolphin Films totaling
$8,774,327. See Note 6 for more details. The amount of debt assumed
by Dolphin Films was applied against amounts owed to Dolphin
Entertainment by Dolphin Films. On October 1, 2016, Dolphin Films
entered into a promissory note with DE (the “New DE
Note”) in the principal amount of $1,009,624. The
New DE Note is payable on demand and bears interest at 10% per
annum. As of December 31, 2016 and 2015,
Dolphin Films owed DE $434,326 and $2,917,523, respectively, that
was recorded on the condensed consolidated balance sheets. Dolphin
Films recorded interest expense of $83,551 and $148,805,
respectively for the years ended December 31, 2016 and
2015.
NOTE
10—FAIR VALUE MEASUREMENTS
During 2016, the
Company issued Series G, H, I, J and K Common Stock warrants (the
“Warrants”) for which the Company determined that the
Warrants should be accounted for as derivatives (see Note 16), for
which a liability is recorded in the aggregate and measured at fair
value in the consolidated balance sheets on a recurring basis, and
the change in fair value from one reporting period to the next is
reported as income or expense in the consolidated statements of
operations.
F-25
The Company records
the fair value of the liability in the consolidated balance sheets
under the caption “Warrant liability” and records
changes to the liability against earnings or loss under the caption
“Changes in fair value of warrant liability” in the
consolidated statements of operations. The carrying
amount at fair value of the aggregate liability for the Warrants
recorded on the consolidated balance sheet at December 31, 2016 is
$20,405,190, and due to the decrease in the fair value of the
Warrant Liability for the period in which the Warrants were
outstanding during the year, the Company recorded a gain on the
warrant liability of $2,195,542 in the consolidated statement of
operations for the year ended December 31, 2016. There
were no assets or liabilities carried at fair value on a recurring
basis at December 31, 2015 or for the year then ended.
The Warrants have
the following terms:
|
|
|
Issuance
Date
|
Number of Common
Shares
|
Initial Per
Share Exercise Price
|
Initial Term
(Years)
|
Expiration
Date
|
|
Series
G Warrants
|
|
November 4,
2016
|
1,500,000
|
$5.00
|
1.2
|
January 31,
2018
|
|
Series
H Warrants
|
|
November 4,
2016
|
500,000
|
$6.00
|
2.2
|
January 31,
2019
|
|
Series
I Warrants
|
|
November 4,
2016
|
500,000
|
$7.00
|
3.2
|
January 31,
2020
|
|
Series
J Warrants
|
|
December 29,
2016
|
2,170,000
|
$.015
|
4
|
December 29,
2020
|
|
Series
K Warrants
|
|
December 29,
2016
|
170,000
|
$.015
|
4
|
December 29,
2020
|
The Warrants have
an adjustable exercise price due to a full ratchet down round
provision, which would result in a downward adjustment to the
exercise price in the event the Company completes a financing in
which the price per share of the financing is lower than the
exercise price of the Warrants in effect immediately prior to the
financing.
Due to the
existence of the full ratchet down round provision, which creates a
path-dependent nature of the exercise prices of the Warrants, the
Company concluded it is necessary to measure the fair value of the
Warrants using a Monte Carlo Simulation model, which incorporates
inputs classified as “level 3” according to the fair
value hierarchy in ASC 820, Fair
Value. In general, level 3 assumptions utilize unobservable
inputs that are supported by little or no market activity in the
subject instrument and that are significant to the fair value of
the liabilities. The unobservable inputs the Company utilizes for
measuring the fair value of the Warrant liability reflects
management’s own assumptions about the assumptions that
market participants would use in pricing the asset or liability as
of the reporting date.
The Company’s
management determined the fair value of the warrant liability as of
December 31, 2016 by using a Monte Carlo simulation model with the
following key inputs:
|
|
As of December
31, 2016
|
||||
|
Inputs
|
Series
G
|
Series
H
|
Series
I
|
Series
J
|
Series
K
|
|
Volatility
(1)
|
63.6%
|
79.1%
|
70.8%
|
65.8%
|
65.8%
|
|
Expected term
(years)
|
1.08
|
2.08
|
3.08
|
4
|
4
|
|
Risk free interest
rate
|
.879%
|
1.223%
|
1.489%
|
1.699%
|
1.699%
|
|
Common stock
price
|
$6.00
|
$6.00
|
$6.00
|
$6.00
|
$6.00
|
|
Exercise
price
|
$5.00
|
$6.00
|
$7.00
|
$.02
|
$.02
|
(1)
“Level
3” input.
The stock
volatility assumption represents the range of the volatility curves
used in the valuation analysis that the Company has determined
market participants would use based on comparison with similar
entities. The risk-free interest rate is interpolated
where appropriate, and is based on treasury yields. The valuation
model also included a level 3 assumption as to dates of potential
future financings by the Company that may cause a reset of the
exercise price.
F-26
Since derivative
financial instruments are initially and subsequently carried at
fair values, the Company’s income or loss will reflect the
volatility in changes to these estimates and
assumptions. The fair value is most sensitive to changes
at each valuation date in the Company’s Common Stock price,
the volatility rate assumption, and the exercise price, which could
change if the Company were to do a dilutive future
financing.
Other financial
instruments such as cash, accounts receivable, debt, notes and
related party notes approximate their fair value due to their short
term nature or being due on demand.
NOTE
11 — LICENSING AGREEMENTS - RELATED PARTY
The
Company has entered into a ten year licensing agreement with
Dolphin Entertainment, a related party. Under the license, the
Company is authorized to use Dolphin Entertainment’s brand
properties in connection with the creation, promotion and operation
of subscription based Internet social networking websites for
children and young adults. The license requires that the Company
pays to Dolphin Entertainment, Inc. royalties at the rate of
fifteen percent of net sales from performance of the licensed
activities. The Company did not use any of the brand properties
related to this agreement and as such, there was no royalty expense
for the years ended December 31, 2016 and 2015.
NOTE
12 — DEFERRED REVENUE
During the year
ended December 31, 2014, the Company entered into agreements with
various entities for the international distribution rights of a
motion picture that was in production. As required by the
distribution agreements, the Company received $1,418,368 of
deposits for these rights that was recorded as deferred revenue on
its consolidated balance sheet. During the
year ended December 31, 2016, the Company delivered the
motion picture to various international distributors and recorded
$1,371,687 of revenue from production from these
deposits. As of December 31, 2016 and 2015, the Company
recorded $46,681 and $1,418,368 as deferred revenue on its
consolidated balance sheets.
NOTE
13 – VARIABLE INTEREST ENTITIES
VIEs are entities
that, by design, either (1) lack sufficient equity to permit the
entity to finance its activities without additional subordinated
financial support from other parties, or (2) have equity investors
that do not have the ability to make significant decisions relating
to the entity’s operations through voting rights, or do not
have the obligation to absorb the expected losses or the right to
receive the residual returns of the entity. The most common type of
VIE is a special-purpose entity (“SPE”). SPEs are
commonly used in securitization transactions in order to isolate
certain assets, and distribute the cash flows from those assets to
investors. The legal documents that govern the transaction specify
how the cash earned on the assets must be allocated to the
SPE’s investors and other parties that have rights to those
cash flows. SPEs are generally structured to insulate investors
from claims on the SPE’s, assets by creditors of other
entities, including the creditors of the seller of the
assets.
The primary
beneficiary of a VIE is required to consolidate the assets and
liabilities of the VIE. The primary beneficiary is the party that
has both (1) the power to direct the activities of an entity that
most significantly impact the VIE’s economic performance; and
(2) through its interests in the VIE, the obligation to absorb
losses or the right to receive benefits from the VIE that could
potentially be significant to the VIE. To assess whether the
Company has the power to direct the activities of a VIE that most
significantly impact the VIE’s economic performance, the
Company considers all the facts and circumstances, including its
role in establishing the VIE and its ongoing rights and
responsibilities.
To assess whether
the Company has the obligation to absorb losses or the right to
receive benefits from the VIE that could potentially be significant
to the VIE, the Company considers all of its economic interests,
including debt and equity investments, servicing fees, and
derivative or other arrangements deemed to be variable interests in
the VIE. This assessment requires that the Company apply judgment
in determining whether these interests, in the aggregate, are
considered potentially significant to the VIE.
F-27
The Company
performs ongoing reassessments of (1) whether entities previously
evaluated under the majority voting-interest framework have become
VIEs, based on certain triggering events, and therefore would be
subject to the VIE consolidation framework, and (2) whether changes
in the facts and circumstances regarding the Company’s
involvement with a VIE cause the Company’s consolidation
conclusion to change. The consolidation status of the VIEs with
which the Company is involved may change as a result of such
reassessments. Changes in consolidation status are applied
prospectively with assets and liabilities of a newly consolidated
VIE initially recorded at fair value unless the VIE is an entity
which was previously under common control, which in that case is
consolidated based historical cost. A gain or loss may be
recognized upon deconsolidation of a VIE depending on the carrying
amounts of deconsolidated assets and liabilities compared to the
fair value of retained interests and ongoing contractual
arrangements.
The Company
evaluated certain entities of which it did not have a majority
voting interest and determined that it had (1) the power to direct
the activities of the entities that most significantly impact their
economic performance and (2) had the obligation to absorb losses or
the right to receive benefits from these entities. As such the
financial statements of Max Steel Productions, LLC and JB Believe,
LLC are consolidated in the balance sheets as of December 31, 2016
and 2015, and in the statements of operations and statements of
cash flows presented herein for the years ended December 31, 2016
and 2015. These entities were previously under common control and
have been accounted for at historical costs for all periods
presented.
|
|
Max Steel
Productions LLC
As of and for
the years ended December 31,
|
JB Believe
LLC
As of and for
the years ended December 31,
|
||
|
(in
USD)
|
2016
|
2015
|
2016
|
2015
|
|
Assets
|
12,327,887
|
18,295,633
|
240,269
|
143,549
|
|
Liabilities
|
(15,922,552)
|
(19,113,335)
|
(7,014,098)
|
(6,655,335)
|
|
Revenues
|
9,233,520
|
-
|
133,331
|
101,555
|
|
Expenses
|
(11,627,444)
|
(677,339)
|
(395,374)
|
(398,959)
|
NOTE
14 — STOCKHOLDERS’ DEFICIT
A) Preferred
Stock
The Company’s
Articles of Incorporation authorize the issuance of 10,000,000
shares of preferred stock. The Board of Directors has the power to
designate the rights and preferences of the preferred stock and
issue the preferred stock in one or more series.
On October 14,
2015, the Company amended its Articles of Incorporation to
designate 4,000,000 preferred shares, as “Series B
Convertible Preferred Stock” with a $0.10 par value. Each
share of Series B Convertible Preferred Stock is convertible, at
the holders request, into 0.95 shares of Common
Stock. Holders of Series B Convertible Preferred Stock
do not have any voting rights.
On October 16,
2015, the Company and T Squared Partners LP ("T Squared") entered
into a Preferred Stock Exchange Agreement whereby 1,042,753 shares
of Series A Convertible Preferred Stock were to be exchanged for
1,000,000 shares of Series B Convertible Preferred Stock upon
satisfaction of certain conditions. On March 7, 2016, all
conditions were satisfied and, pursuant to the Preferred Stock
Exchange Agreement, the Company issued to T Squared Partners LP
1,000,000 shares of Series B Convertible Preferred Stock. The
Company retired the 1,042,753 shares of Series A Convertible
Preferred Stock it received in the exchange. The Company recorded a
preferred stock dividend in additional paid in capital of
$5,227,247 related to this exchange. On November 14, 2016, T
Squared notified the Company that it would convert 1,000,000 shares
of Series B Preferred Stock into 950,000 shares of the Common Stock
effective November 16, 2016.
F-28
On February 23,
2016, the Company amended its Articles of Incorporation to
designate 1,000,000 preferred shares as “Series C Convertible
Preferred Stock” with a $0.001 par value which may be issued
only to an “Eligible Series C Preferred Stock
Holder”. An Eligible Class C Preferred Stock
Holder means any of (i) Dolphin Entertainment for so long as Mr.
O’Dowd continues to beneficially own at least 90% of Dolphin
Entertainment and serves on the board of directors or other
governing body of Dolphin Entertainment, (ii) any other entity in
which Mr. O’Dowd beneficially owns more than 90%, or a trust
for the benefit of others but for which Mr. O’Dowd serves as
trustee and (iii) Mr. O’Dowd individually. The certificate of
designation of the Series C Convertible Preferred Stock (the
“Certificate of Designation”) provides that each share
of Series C Convertible Preferred Stock is convertible into one
share of Common Stock. Until the fifth anniversary of the date of
the issuance, the Series C Convertible Preferred Stock has certain
anti-dilution protections as provided in the Certificate of
Designation. Specifically, the number of shares of Common Stock
into which the Series C Convertible Preferred Stock may convert
(the “Conversion Number”) will be adjusted for each
future issuance of Common Stock (but not upon issuance of Common
Stock equivalents) (i) upon the conversion or exercise of any
instrument currently or hereafter issued (but not upon the
conversion of the Series C Convertible Preferred Stock), (ii) upon
the exchange of debt for shares of Common Stock, or (iii) in a
private placement, such that the total number of shares of Common
Stock held by an “Eligible Series C Preferred Holder”
(based on the number of shares of Common Stock held as of the date
of issuance) will be preserved at the same percentage of shares of
Common Stock outstanding at the time by the holder, which is
approximately 53% of the shares of Common Stock outstanding at
December 31, 2016. The shares of Series C Convertible Preferred
Stock will automatically convert into the number of shares of
Common Stock equal to the Conversion Number in effect at that time
(“Conversion Shares”) upon the occurrence of any of the
following events: (i) upon transfer, by current holder, of the
Series C Convertible Preferred Stock to any holder other than an
Eligible Class C Preferred Stock Holder, (ii) if the aggregate
number of shares of Common Stock plus Conversion Shares (issuable
upon conversion of each share of Series B Convertible Preferred
Stock and the Series C Convertible Preferred Stock) held by the
Eligible Class C Preferred Stock Holders in the aggregate
constitutes 10% or less of the sum of (x) the outstanding shares of
Common Stock plus (y) all Conversion Shares held by the Eligible
Class C Preferred Stock Holders and (iii) at such time as the
holder of Series C Convertible Preferred Stock ceases to be an
Eligible Class C Preferred Stock Holder. Series C Convertible
Preferred Stock will only be convertible by the holder upon the
Company satisfying certain “optional conversion
thresholds” as provided in the Certificate of Designation.
The Certificate of Designation also provides for a liquidation
value of $0.001 per share. The holders of Series C Convertible
Preferred Stock and Common Stock will vote together as a single
class on all matters upon which the Common Stock is entitled to
vote, except as otherwise required by law. The holders of Series C
Convertible Preferred Stock will be entitled to three votes for
each share of Common Stock into which such holders’ shares of
Series C Convertible Preferred Stock could then be converted. The
Certificate of Designation also provides for dividend rights of the
Series C Convertible Preferred Stock on parity with the
Company’s Common Stock.
On March 7, 2016,
as the Merger Consideration related to the Company’s merger
with Dolphin Films (see Note 4 for further discussion), Dolphin
Entertainment was issued 2,300,000 shares of Series B Convertible
Preferred Stock and 1,000,000 shares of Series C Convertible
Preferred Stock. On November 15, 2016, Mr. O’Dowd converted
2,300,000 shares of Series B Convertible Preferred Stock into
2,185,000 shares of the Company’s Common Stock.
As of December 31,
2016, the Company did not have any Series B Convertible Preferred
Stock outstanding and 1,000,000 shares of Series C
Convertible Preferred Stock issued and outstanding. As
of December 31, 2015, the Company had 1,042,753 shares of Series A
Convertible Preferred Stock issued and outstanding.
B) Common
Stock
The Company’s
Articles of Incorporation previously authorized the issuance of
200,000,000 shares of Common Stock. 10,000,000 shares have been
designated for an Employee Incentive Plan. As of December 31, 2016
and 2015, no awards have been issued in connection with this
plan. On February 23, 2016, the Company filed Articles
of Amendment to the Amended Articles of Incorporation with the
Secretary of State of the State of Florida to increase the number
of authorized shares of its Common Stock from 200,000,000 to
400,000,000.
F-29
On February 5,
2016, the Company issued 632,800 shares of Common Stock, at a
post-split price of $5.00 per share, in connection with the
conversion of the debt per the terms of the convertible debt
agreement entered into on December 7, 2015. See Note 7 for further
discussion.
On March 4, 2016,
the Company issued 614,682 shares of Common Stock in connection
with a subscription agreement entered into with Dolphin
Entertainment for debt and interest on its revolving promissory
note. The debt was converted at a post-split price of $5.00 per
share. See Note 9 for further discussion.
On March 29, 2016,
the Company entered into ten debt exchange agreements to convert
$2,883,377 of aggregate principal and accrued interest under
certain loan and security agreements into 576,676 shares of Common
Stock at a post-split conversion price of $5.00 per share. See Note
6 for further discussion.
On April 1, 2016,
the Company entered into subscription agreements under
substantially identical terms with certain private investors (the
“Quarterly Investors”), pursuant to which the Company
issued and sold to the Quarterly Investors in a private placement
(the “Quarterly Placement”) an aggregate of 1,075,000
shares (the “Initial Subscribed Shares”) of Common
Stock (on a post-split basis), at a post-split purchase price of
$5.00 per Share (the “Quarterly Purchase Price”). The
Quarterly Placement initially provided $5,375,000 of aggregate
gross proceeds to the Company. Under the terms of the Agreements,
each Quarterly Investor has the option to purchase additional
shares of Common Stock at the Quarterly Purchase Price, not to
exceed the number of such Quarterly Investor’s Initial
Subscribed Shares, during each of the second, third and fourth
quarters of 2016 (each, a “Quarterly Subscription”). To
exercise a Quarterly Subscription, a Quarterly Investor must
deliver notice to the Company of such election during the first ten
business days of the applicable quarter, specifying the number of
additional shares of Common Stock such Quarterly Investor elects to
purchase. If a Quarterly Investor timely delivers such notice to
the Company, then the closing of the sale of the applicable number
of additional shares of Common Stock must occur on the last
business day of the applicable quarter. On June 28, 2016, the
Company received $500,000 and issued 100,000 shares of Common Stock
related to these agreements. On October 13, 2016, the Company
received $600,000 and issued 120,000 shares of Common Stock related
to these agreements.
On May 9, 2016, the
Company filed Articles of Amendment to its Amended Articles of
Incorporation to effectuate a 1 to 20 reverse stock split, as
previously approved by the Company’s Board of Directors and a
majority of its shareholders. The reverse stock split became
effective on May 10, 2016. All shares and per share amounts in the
Consolidated Financial Statements have been retrospectively
adjusted for the reverse stock split.
On May
31, 2016, the Company entered into debt exchange agreements under
substantially identical terms with certain investors, pursuant to
which the Company issued and sold to such investors in a private
placement an aggregate of 946,509 shares of Common Stock, in
exchange for the cancellation of $4,732,545 of aggregate principal and
accrued interest under certain notes held by such investors, at an
exchange rate of $5.00 per share. See Note 6 for further
discussion.
On June 22, 2016,
the Company entered into a subscription agreement with an investor,
pursuant to which the Company issued and sold to such investor
50,000 shares of Common Stock at a price of $5.00 per Share. This
transaction provided $250,000 in proceeds for the
Company.
On June 30, 2016,
the Company entered into a subscription agreement with an investor,
pursuant to which the Company issued and sold to such investor
20,000 shares of Common Stock at a price of $5.00 per Share. This
transaction provided $100,000 in proceeds for the
Company.
On June 30, 2016,
the Company, entered into debt exchange agreements under
substantially identical terms with certain investors pursuant to
which the Company issued and sold to such investors in a private
placement an aggregate of 2,552,659 shares of Common Stock, in
exchange for the cancellation of $12,763,295 of aggregate principal
and accrued interest under certain notes held by such investors, at
an exchange rate of $5.00 per share. See Note 6 for further
discussion.
F-30
On June 30, 2016,
the Company entered into a substantially identical debt exchange
agreement as those entered into on March 29, 2016. Pursuant to the
terms of the debt exchange agreement, the Company converted an
aggregate of $55,640 principal and interest into 11,128 shares of
Common Stock at a conversion price of $5.00 per share. See Note 6
for further discussion.
On October 3, 2016,
October 13, 2016 and October 27, 2016, the Company entered into
three substantially identical debt exchange agreements to issue an
aggregate of 66,200 shares of Common Stock at an exchange price of
$5.00 per share to terminate three Equity Finance Agreements for a
cumulative original investment amount of $331,000.
On October 3, 2016,
the Company entered into a debt exchange agreement and agreed to
issue 12,000 shares of the Common Stock at an exchange price of
$5.00 per share to terminate the remaining Kids Club Agreement for
(i) $10,000 plus (ii) the original investment of
$50,000.
On October 13,
2016, the Company entered into six substantially identical
subscription agreements, pursuant to which the Company issued
25,000 shares at $5.00 per share and received
$125,000.
On November 15,
2016, the Company entered into a subscription agreement pursuant to
which the Company issued and sold to an investor 100,000 shares of
Common Stock at a price of $5.00 per Share. This transaction
provided $500,000 in proceeds for the Company.
On November 16,
2016, the Company entered into five subscription agreements
pursuant to which the Company issued and sold to three investors
25,000 shares of Common Stock at a price of $5.00 per Share. This
transaction provided $125,000 in proceeds for the
Company.
On November 22,
2016, the Company entered into a subscription agreement pursuant to
which the Company issued and sold to an investor 10,000 shares of
Common Stock at a price of $5.00 per Share. This transaction
provided $50,000 in proceeds for the Company.
On December 15 and
December 20, 2016, the Company entered into two substantially
identical subscription agreements with two noteholders to convert
an aggregate of $1,265,530 principal and interest on the notes into
253,106 shares of Common Stock at a conversion price of $5.00 per
share. See Note 6 for further discussion.
As of December 31,
2016 and 2015, the Company had 14,395,521 and 4,094,618 shares of
Common Stock issued and outstanding, respectively.
C)
Noncontrolling Interest
On May 21, 2012,
the Company entered into an agreement with a note holder to form
Dolphin Kids Clubs, LLC ("Dolphin Kids Clubs"). Under the terms of
the agreement, Dolphin converted an aggregate amount of $1,500,000
in notes payable and received an additional $1,500,000 during the
year ended December 31, 2012 for a 25% membership interest in the
newly formed entity. The Company holds the remaining 75% and thus
controlling interest in Dolphin Kids Clubs. The purpose of Dolphin
Kids Clubs is to create and operate online kids clubs for selected
charitable, educational and civic organizations. The agreement
encompasses kids clubs created between January 1, 2012 and December
31, 2016. It is a “gross revenue agreement” and the
Company will be responsible for paying all associated operating
expenses. On December 29, 2016, as part of a global agreement with
the 25% member of Dolphin Kids Clubs, the Company entered into a
Purchase Agreement and acquired the 25% noncontrolling interest of
Dolphin Kids Clubs. In exchange for the 25% interest,
the Company issued Warrant “J” that entitles the
warrant holder to purchase shares of common stock at a price of
$0.015 per share. At the time of the agreement, the
balance of the noncontrolling interest was
$2,970,708. The Company recorded to Additional Paid in
Capital $921,123 for the difference between the fair value of the
warrants and the balance of the noncontrolling interest on the
consolidated balance sheet on the date of the
agreement. See Note 16 for further discussion of Warrant
“J”.
F-31
In accordance with
ASC 810-20, Consolidation –
Control of Partnerships and Similar Entities Dolphin Kids
Clubs is consolidated in the Company’s financial statements.
Amounts attributable to the noncontrolling interest will follow the
provisions in the contractual arrangement. As of December 31, 2015,
noncontrolling interest of $2,977,808 is presented as a separate
component of shareholders’ equity on the consolidated balance
sheet.
NOTE
15 — LOSS PER SHARE
Net
loss per share is computed by dividing income available to holders
of Common Stock (the numerator) by the weighted-average number of
Common Stock outstanding (the denominator) for the period. Diluted
earnings per share assumes that any dilutive convertible securities
outstanding were converted, with related preferred stock dilution
requirements and outstanding Common Stock adjusted accordingly. In
periods of losses, diluted loss per share is computed on the same
basis as basic loss per share as the inclusion of any other
potential shares outstanding would be anti-dilutive. The Company
included the preferred stock dividend of $5,227,247 in the
calculation of loss per share for the year ended December 31, 2016,
as the loss for holders of Common Stock would be increased by that
amount. Due to the net losses reported the following were excluded
from the computation of diluted loss per share (i) dilutive common
equivalent shares as of December 31, 2015, (ii) 5,890,000 and
1,050,000 of warrants as of December 31, 2016 and 2015,
respectively and (iii) convertible debt as of December 31, 2015.
These were excluded from the computation of diluted loss per share,
as inclusion would be anti-dilutive for the periods
presented.
NOTE
16 — WARRANTS
A summary of
warrants outstanding at December 31, 2015 and issued, exercised and
expired during the year ended December 31, 2016 is as follows
(amounts have been adjusted to reflect the reverse stock
split):
|
|
|
Weighted
|
|
|
|
Avg.
|
|
|
|
Exercise
|
|
Warrants:
|
Shares
|
Price
|
|
Balance at December
31, 2015
|
1,050,000
|
$3.45
|
|
Issued
|
4,840,000
|
2.90
|
|
Exercised
|
—
|
—
|
|
Expired
|
—
|
—
|
|
Balance at December
31, 2016
|
5,890,000
|
$2.99
|
On March 10, 2010,
T Squared Investments, LLC (“T Squared”) was issued
Warrant “E” for 350,000 shares of Dolphin Digital
Media, Inc. at an exercise price of $5.00 per share with an
expiration date of December 31, 2012. T Squared can
continually pay the Company an amount of money to reduce the
exercise price of Warrant “E” until such time as the
exercise price of Warrant “E” is effectively $0.002 per
share. Each time a payment by T Squared is made to Dolphin, a side
letter will be executed by both parties that states the new
effective exercise price of Warrant “E” at that time.
At such time when T Squared has paid down Warrant “E”
to an exercise price of $0.002 per share or less, T Squared shall
have the right to exercise Warrant “E” via a cashless
provision and hold for six months to remove the legend under Rule
144 of the Securities Act of 1933 (the “Securities
Act”). During the years ended December 31, 2010 and 2011, T
Squared paid down a total of $1,625,000. During the year
ended December 31, 2016, T Squared paid $50,000 for the issuance of
Warrants G, H and I as described below. Per the
provisions of the Warrant Purchase Agreement, the $50,000 was to
reduce the exercise price of Warrant “E”. As
such, the current exercise price is $$0.22 per share.
During the year
ended December 31, 2012, T Squared agreed to amend a provision in a
preferred stock purchase agreement (the “Preferred Stock
Purchase Agreement”) dated May 2011 that required the Company
to obtain consent from T Squared before issuing any Common Stock
below the existing conversion price as defined in the Preferred
Stock Purchase Agreement. As a result, the Company has extended the
expiration date of Warrant “E” (described above) to
September 13, 2015 and on September 13, 2012, the Company issued
350,000 warrants to T Squared (“Warrant “F”) with
an exercise price of $5.00 per share. Under the terms of Warrant
“F”, T Squared has the option to continually pay the
Company an amount of money to reduce the exercise price of Warrant
“F” until such time as the exercise price of Warrant
“F” is effectively $0.002 per share. At such time, T
Squared will have the right to exercise Warrant “F” via
a cashless provision and hold for six months to remove the legend
under Rule 144 of the Securities Act. The Company agreed to extend
both warrants until December 31, 2018 with substantially the same
terms as herein discussed. T Squared did not make any payments
during the year ended December 31, 2016 to reduce the exercise
price of the warrants.
F-32
On September 13,
2012, the Company sold 350,000 warrants with an exercise price of
$5.00 per share and an expiration date of September 13, 2015 for
$35,000. Under the terms of these warrants, the holder has the
option to continually pay the Company an amount of money to reduce
the exercise price of the warrants until such time as the exercise
price is effectively $0.002 per share. At such time, the holder
will have the right to exercise the warrants via a cashless
provision and hold for six months to remove the legend under Rule
144 of the Securities Act. The Company recorded the $35,000 as
additional paid in capital. The Company agreed to extend the
warrants until December 31, 2018 with substantially the same terms
as herein discussed. The holder of the warrants did not make any
payments during the year ended December 31, 2016 to reduce the
exercise price of the warrants.
On November 4,
2016, the Company issued a Warrant “G”, a Warrant
“H” and a Warrant “I” to T Squared
(“Warrants “G”, “H” and
“I”). A summary of Warrants “G”,
“H” and “I” issued to T Squared is as
follows:
|
Warrants:
|
Number of
Shares
|
Exercise
Price
|
Fair Value as of
December 31, 2016
|
Expiration
Date
|
|
Warrant
“G”
|
1,500,000
|
$5.00
|
$3,300,671
|
January 31,
2018
|
|
Warrant
“H”
|
500,000
|
$6.00
|
$1,524,805
|
January 31,
2019
|
|
Warrant
“I”
|
500,000
|
$7.00
|
$1,568,460
|
January 31,
2020
|
|
|
2,500,000
|
|
$6,393,936
|
|
The Warrants
“G”, “H” and “I” each contain
an antidilution provision which in the event the Company sells
grants or issues any shares, options, warrants, or any instrument
convertible into shares or equity in any form below the then
current exercise price per share of the Warrants “G”,
“H” and “I”, then the then current exercise
price per share for the warrants that are outstanding will be
reduced to such lower price per share. Under the terms of the
Warrants “G”, “H” and “I”, T
Squared has the option to continually pay the Company an amount of
money to reduce the exercise price of any of Warrants
“G”, “H” and “I” until such
time as the exercise price of Warrant “G”,
“H” and/or “I” is effectively $0.01 per
share. The Common Stock issuable upon exercise of Warrants
“G”, “H” and “I” are not
registered and will contain a restrictive legend as required by the
Securities Act. At such time when the T Squared has paid down the
warrants to an exercise price of $0.01 per share or less T Squared
will have the right to exercise the Warrants “G”,
“H” and “I” via a cashless provision and
hold for six months to remove the legend under Rule 144 of the
Securities Act.
Due to the
existence of the antidilution provision, the Warrants
“G”, “H” and “I” are carried in
the consolidated financial statements as derivative liabilities at
fair value (see Note 10).
On December 29,
2016, in connection with the purchase by the Company of 25% of the
outstanding membership interests of Dolphin Kids Club, LLC, the
termination of an Equity Finance Agreement and the debt exchange of
First Loan and Security Notes, Web Series Notes and Second Loan and
Security Notes (See Note 6), the Company issued Warrant
“J” and Warrant “K” (Warrants
“J” and “K”) to the seller. A summary of
Warrants “J” and “K” follows:
|
Warrant:
|
Number of
Shares
|
Exercise
Price
|
Fair Value as of
December 31, 2016
|
Expiration Date
|
|
Warrant
“J”
|
2,170,000
|
$.015
|
$12,993,342
|
December 29,
2020
|
|
Warrant
“K”
|
170,0000
|
$.015
|
$1,017,912
|
December 29,
2020
|
|
|
2,340,000
|
|
$14,011,254
|
|
The Warrants
“J” and “K” each contain an antidilution
provision that in the event the Company sells grants or issues any
shares, options, warrants, or any instrument convertible into
shares or equity in any form below the current exercise price per
share of Warrants “J” and “K”, then the
current exercise price per share for the Warrants “J”
and “K” that are outstanding will be reduced to such
lower price per share. The Common Stock issuable upon exercise of
Warrants “J” and “K” are not registered and
will contain a restrictive legend as required by the Securities
Act. At such time as the exercise price is $0.01 per share or less,
the holder will have the right to exercise the Warrants
“J” and “K” via a cashless provision and
hold for six months to remove the legend under Rule 144 of the
Securities Act.
Due to
the existence of the antidilution provision, the Warrants
“J” and “K” are carried in the consolidated
financial statements as derivative liabilities at fair value (see
Note 10).
F-33
None of the
warrants were included in computing diluted earnings per share
because the effect was anti-dilutive.
NOTE 17— RELATED PARTY
TRANSACTIONS
On
December 31, 2014, the Company and its CEO renewed his employment
agreement for a period of two years commencing January 1, 2015. The
agreement stated that the CEO was to receive annual compensation of
$250,000 plus bonus. In addition, the CEO was entitled to an annual
discretionary bonus as determined by the Company’s Board of
Directors. The CEO was eligible to participate in all of the
Company’s benefit plans offered to its employees. As part of
his agreement, he received a $1,000,000 signing bonus in 2012 that
is recorded in accrued compensation on the consolidated balance
sheets. Any unpaid and accrued compensation due to the CEO under
this agreement will accrue interest on the principal amount at a
rate of 10% per annum from the date of this agreement until it is
paid. The agreement included provisions for disability, termination
for cause and without cause by the Company, voluntary termination
by executive and a non-compete clause. The Company accrued
$2,250,000 and $2,000,000 of compensation as accrued compensation
and $735,211 and $523,144 of interest in other current liabilities
on its consolidated balance sheets as of December 31, 2016 and
2015, respectively, in relation to this agreement. For the years
ended December 31, 2016 and 2015, the Company recorded interest
expense of $212,066 and $186,513, respectively, on the consolidated
statements of operations.
During the year
ended December 31, 2016, the Company issued Warrants G, H and I
that entitled T Squared, a related party which would own 9.99%, on
the fully diluted basis, of Common Stock to purchase up to
2,500,000 shares of Common Stock. T Squared already held
Warrants E and F that entitles them to purchase up to 700,000
shares of the Company’s common stock. As a result,
T Squared has warrants entitling them to purchase up to an
aggregate number of 3,200,000 shares of Common
Stock. Warrants E, F, G, H and I have a maximum
exercise provision that prohibit T Squared from exercising warrants
that would cause them to exceed 9.99% of the outstanding shares of
Common Stock, unless the restriction is waived or amended, which
may only be done with the consent of the Company and T
Squared. The TSquared warrants have the following
exercise prices and expiration dates (See Note 16 for further
discussion):
|
Warrant
|
Number of
shares
|
Exercise
price
|
Expiration
|
|
Warrant
E
|
350,000
|
$0.22
|
December 31,
2018
|
|
Warrant
F
|
350,000
|
$5.00
|
December 31,
2018
|
|
Warrant
G
|
1,500,000
|
$5.00
|
January 31,
2018
|
|
Warrant
H
|
500,000
|
$6.00
|
January 31,
2019
|
|
Warrant I
|
500,000
|
$7.00
|
January 31,
2020
|
During 2015,
the Company agreed to pay a related party, Dolphin Entertainment
$250,000 for a script that it had developed for a web series that
the Company produced during the year ended December 31, 2015. As
December 31, 2016 and 2015, the Company recorded an accrual of
$250,000 in other current liabilities on its consolidated balance
sheets.
As discussed in
Note 4, on October 14, 2015, the Company and Merger Subsidiary, a
wholly owned subsidiary of the Company, entered into a merger
agreement with Dolphin Films and Dolphin Entertainment, both
entities owned by a related party. Pursuant to the Merger
Agreement, Merger Subsidiary agreed to merge with and into Dolphin
Films with Dolphin Films surviving the Merger. As a result of the
Merger, the Company acquired Dolphin Films. As consideration for
the Merger, the Company issued 2,300,000 shares of Series B
Convertible Preferred Stock (“Series B”), par value
$0.10 per share, and 1,000,000 shares of Series C Convertible
Preferred Stock, par value $0.001 per share to Dolphin
Entertainment. During the year ended December 31, 2016, the Series
B shares were converted into 2,185,000 shares of Common
Stock.
F-34
In connection with
the Merger, on October 16, 2015, the Company and T Squared entered
into a Preferred Stock Exchange Agreement pursuant to which the
Company agreed to issue 1,000,000 shares of Series B to T Squared
in exchange for 1,042,753 shares of Series A Convertible Preferred
Stock, previously issued to T Squared. During the year ended
December 31, 2016, T Squared converted the Series B into 950,000
shares of Common Stock.
The Company entered
into a verbal agreement with Dolphin Entertainment for producer
services related to certain of its projects. The agreement was for
an annual amount of $500,000. The Company terminated the agreement
effective June 30, 2015. The Company recorded $250,000 during the
year ended December 31, 2015 in its consolidated statement of
operations.
During the year
ended December 31, 2016, the Company entered into the following
transactions with entities under the control of Justo L Pozo, an
affiliate of the Company; (i) Debt exchange agreement with Pozo
Opportunity Fund I to exchange debt in the amount of $5,088,692
into 1,017,738 shares of Common Stock, (ii) Debt Exchange Agreement
with Pozo Capital Partners LLP to exchange debt in the amount of
$2,423,166 into 484,633 shares of Common Stock, (iii) Debt Exchange
Agreement with Pozo Capital Partners LLP to exchange debt in the
amount of $636,287 into 127,257 shares of Common Stock, (iv)
Subscription Agreement with Pozo Opportunity Fund II, LLC for the
purchase of 50,000 shares of Common Stock at a price of $5.00 per
share and (v) mandatory issuance of 632,800 shares of Common Stock
per the terms of a Convertible Debt Agreement with Pozo Opportunity
Fund II, LLC. As a result of the transaction, Justo L Pozo,
individually and collectively with the above entities is the owner
of approximately 16% of the outstanding shares of Common
Stock.
NOTE
18 — INCOME TAXES
Income tax expense
(benefit) is as follows:
|
|
December
31,
|
|
|
|
2016
|
2015
|
|
Current income tax
expense (benefit)
|
|
|
|
Federal
|
$-
|
$-
|
|
State
|
-
|
-
|
|
|
$-
|
$-
|
|
Deferred income tax
expense (benefit)
|
|
|
|
Federal
|
$(10,854,954)
|
$(1,354,370)
|
|
State
|
(817,631)
|
(202,112)
|
|
|
$(11,259,911)
|
$(1,556,482)
|
|
Change in valuation
allowance (benefit)
|
|
|
|
Federal
|
$10,854,954
|
$1,354,370
|
|
State
|
817,631
|
202,112
|
|
|
11,259,911
|
1,556,482
|
|
Income tax
expense
|
$-
|
$-
|
F-35
At December 31,
2016 and 2015, the Company had deferred tax assets and liabilities
as a result of temporary differences between financial statement
carrying amounts and the tax basis of assets and
liabilities. Deferred tax values at December 31, 2016
and 2015, are as follows:
|
|
December
31,
|
|
|
|
2016
|
2015
|
|
|
||
|
Deferred tax
assets:
|
|
|
|
Long
Term:
|
|
|
|
Accrued
expenses
|
$177,447
|
$184,726
|
|
Interest
expense
|
329,942
|
726,575
|
|
Deferred
Rent
|
3,418
|
11,251
|
|
Accrued
compensation
|
829,051
|
779,967
|
|
Other
expenses
|
-
|
3,649
|
|
|
|
|
|
Capitalized
costs
|
$795,318
|
$829,108
|
|
Capitalized
production costs
|
1,019,784
|
219,657
|
|
Charitable
contributions
|
388,644
|
319,091
|
|
Net
operating losses and credits
|
16,364,744
|
5,170,093
|
|
Valuation
Allowance
|
(19,902,573)
|
(8,244,117)
|
|
Total
deferred tax assets
|
$5,775
|
$14,130
|
|
Deferred tax
liability:
|
|
|
|
Long
term:
|
|
|
|
Prepaid
expenses
|
-
|
(3,784)
|
|
Fixed
assets
|
(5,775)
|
(10,346)
|
|
Total net deferred
tax assets
|
$-
|
$-
|
As of December 31,
2016, the Company has approximately $44,600,000 of net operating
loss carryforwards for U.S. federal income tax purposes that begin
to expire in 2028. Additionally, the Company has
approximately $32,700,000 of net operating loss carryforwards for
Florida state income tax purposes that begin to expire in 2029 and
approximately $561,000 of California net operating loss
carryforwards that begin to expire in 2032. In assessing
the ability to realize the deferred tax assets, management
considers whether it is more likely than not that some portion or
all of the deferred tax assets will not be realized. The
ultimate realization of the deferred tax asset is dependent upon
the generation of future taxable income during the periods in which
these temporary differences become
deductible. Management believes it is more likely than
not that the deferred tax asset will not be realized and has
recorded a net valuation allowance of $19,902,573 and $8,229,988 as
of December 31, 2016 and 2015, respectively.
F-36
The Company did not
have any income tax expense or benefit for the years ended December
31, 2016 and 2015. A reconciliation of the federal statutory tax
rate with the effective tax rate from continuing operations
follows:
|
|
2016
|
2015
|
|
Federal statutory
tax rate
|
(34.0)%
|
(34.0)%
|
|
Permanent items
affecting tax rate
|
4.9%
|
0.8%
|
|
State income taxes,
net of federal income tax benefit
|
(2.2)%
|
(3.3)%
|
|
Change in Deferred
Rate
|
0.2%
|
(1.2)%
|
|
Return to Provision
Adjustment
|
(0.1)%
|
0.2%
|
|
Miscellaneous
items
|
(0.2)%
|
(1.0)%
|
|
Change in valuation
allowance
|
31.4%
|
38.5%
|
|
Effective tax
rate
|
0.00%
|
0.00%
|
As of December 31,
2016 and 2015, the Company does not have any material unrecognized
tax benefits and accordingly has not recorded any interest or
penalties related to unrecognized tax benefits. The
Company does not believe that unrecognized tax benefits will
significantly change within the next twelve months. The
Company and its subsidiaries file federal, Florida and California
income tax returns. These returns remain subject to examination by
taxing authorities for all years after December 31,
2012.
NOTE
19— LEASES
On November 1,
2011, the Company entered into a 60 month lease agreement for
office space in Miami with an unrelated party. The lease
expired on October 31, 2016 and the Company extended the lease
until September 30, 2017 with substantially the same terms as the
original lease. On June 1, 2014, the Company
entered into a 62 month lease agreement for office space in Los
Angeles, California. The monthly rent is $13,746 with
annual increases of 3% for years 1-3 and 3.5% for the remainder of
the lease. The Company is also entitled to four half
months of free rent over the life of the agreement.
Lease
Payments
Future minimum
payments for operating leases in effect at December 31, 2016 were
as follows:
|
2017
|
$243,269
|
|
2018
|
184,820
|
|
2019
|
110,446
|
|
Total
|
$538,535
|
Rent expense for
the years ended December 31, 2016 and 2015 was $220,426 and
$226,212, respectively.
F-37
NOTE
20 — COMMITMENTS AND CONTINGENCIES
Litigation
On or about January
25, 2010, an action was filed by Tom David against Winterman Group
Limited, Dolphin Digital Media (Canada) Ltd., Malcolm Stockdale and
Sara Stockdale in the Superior Court of Justice in Ontario (Canada)
alleging breach of a commercial lease and breach of a personal
guaranty. On or about March 18, 2010, Winterman Group Limited,
Malcolm Stockdale and Sara Stockdale filed a Statement of Defense
and Crossclaim. In the Statement of Defense, Winterman Group
Limited, Malcolm Stockdale and Sara Stockdale deny any liability
under the lease and guaranty. In the Crossclaim filed against
Dolphin Digital Media (Canada) Ltd., Winterman Group Limited,
Malcolm Stockdale and Sara Stockdale seek contribution or indemnity
against Dolphin Digital Media (Canada) Ltd. alleging that Dolphin
Digital Media (Canada) agreed to relieve Winterman Group Limited,
Malcolm Stockdale and Sara Stockdale from any and all liability
with respect to the lease or the guaranty. On or about March 19,
2010, Winterman Group Limited, Malcolm Stockdale and Sara Stockdale
filed a Third Party Claim against the Company seeking contribution
or indemnity against the Company, formerly known as Logica
Holdings, Inc., alleging that the Company agreed to relieve
Winterman Group Limited, Malcolm Stockdale and Sara Stockdale from
any and all liability with respect to the lease or the guaranty.
The Third Party Claim was served on the Company on April 6, 2010.
On or about April 1, 2010, Dolphin Digital Media (Canada) filed a
Statement of Defense and Crossclaim. In the Statement of Defense,
Dolphin Digital Media (Canada) denied any liability under the lease
and in the Crossclaim against Winterman Group Limited, Malcolm
Stockdale and Sara Stockdale, Dolphin Digital Media (Canada) seeks
contribution or indemnity against Winterman Group Limited, Malcolm
Stockdale and Sara Stockdale alleging that the leased premises were
used by Winterman Group Limited, Malcolm Stockdale and Sara
Stockdale for their own use. On or about April 1, 2010, Dolphin
Digital Media (Canada) also filed a Statement of Defense to the
Crossclaim denying any liability to indemnify Winterman Group
Limited, Malcolm Stockdale and Sara Stockdale. The ultimate results
of these proceedings against the Company cannot be predicted with
certainty. On or about March 12, 2012, the Court served a Status
Notice on all the parties indicating that since more than (2) years
had passed since a defense in the action had been filed, the case
had not been set for trial and the case had not been terminated,
the case would be dismissed for delay unless action was taken
within ninety (90) days of the date of service of the
notice. The Company has not filed for a motion to
dismiss and no further action has been taken in the case. The
ultimate results of these proceedings against the Company could
result in a loss ranging from 0 to $325,000. On March
23, 2012, Dolphin Digital Media (Canada) Ltd filed for bankruptcy
in Canada. The bankruptcy will not protect the Company
from the Third Party Claim filed against it. However, the Company
has not accrued for this loss because it believes that the claims
against it are without substance and it is not probable that they
will result in loss. During the years ended December 31,
2016 and 2015, the Company has not received any other notifications
related to this action.
Tax Filings
For the year ended
December 31, 2011, the Company accrued $120,000 for estimated
penalties associated with not filing certain information
returns. The penalties per return are $10,000 per entity
per year. We received notification from the Internal
Revenue Service concerning information returns for the year ended
December 31, 2009. The Company
responded with a letter stating reasonable cause for the
noncompliance and requested that penalties be
abated. During 2012, we received a notice stating that
the reasonable cause had been denied. The Company
decided to pay the penalties and not appeal the decision for the
2009 Internal Revenue Service notification. There is no
associated interest expense as the tax filings are for information
purposes only and would not result in further income taxes to be
paid by the Company. The Company made payments in the
amount of $40,000 during the year ended December 31, 2012 related
to these penalties and $80,000 remains accrued. The Company has not
received any other notifications related to these returns during
the years ended December 31, 2016 and 2015. During the year ended
December 31, 2014, the Company determined that the Statute of
limitations for penalties to be assessed for not filing certain
information returns on a timely basis had expired. As
such, the Company recorded $40,000 of other income and reduced its
accrued liability related to these tax filings.
Kids Club
In February 2012,
the Company entered into a five year agreement with US Youth Soccer
Association, Inc. to create, design and host the US Youth Soccer
Clubhouse website. During 2012, the Company hired a
third party to begin building the US Soccer Clubhouse website at a
cost of $125,000. The first two installments of $25,000
each were paid during 2012 and remaining payments were made monthly
over a two year period once the website was delivered. The Company
expensed the payments since it could not reasonably estimate future
cash flows or revenues from the website development. The
Company decided not to renew the contract that expired on February
1, 2017.
F-38
In January 2013,
the Company entered into an agreement with United Way Worldwide to
create an online kids club to promote the organizations
philanthropic philosophy and encourage literacy programs. Effective
July 1, 2015, the two parties agreed to amend and restate the
agreement. The agreement was for a period of three years from the
effective date and was to be automatically renewed for successive
terms of three years unless terminated by either party with written
notice at least 180 day prior to the expiration of the initial or
any subsequent term. On July 1, 2016, the Company and United Way
Worldwide mutually agreed to terminate the
agreement. The Company intends to continue promoting the
online kids club with the remaining partners and it does not
anticipate any material change in the operations of the online kids
club. Each school sponsorship package is $10,000 with the Company
earning $1,250. The remaining funds are used for program materials
and the costs of other partners.
The Company
recorded revenues of $28,403 and $69,761 during the years ended
December 31 2016 and 2015, respectively, related to these
agreements.
Incentive Compensation
Plan
During
the year ended December 31, 2012, the Company’s Board of
Directors approved an Incentive Compensation Plan. The plan was
enacted as a way of attracting and retaining exceptional employees
and consultants by enabling them to share in the long term growth
and financial success of the Company. The plan is administered by
the Board of Directors or a committee designated by the Board of
Directors. As part of an increase in authorized shares approved by
the Board of Directors in 2012, 10,000,000 common shares were
designated for this plan. No awards have been issued and, as such,
the Company has not recorded any liability or equity related to
this plan for the years ended December 31, 2016 and
2015.
Talent, Director and Producer
Participations
Per agreements with
talent, directors and producers on certain projects, the Company
will be responsible for bonus and back end payments upon release of
a motion picture and achieving certain box office performance as
determined by the individual agreements. The Company cannot
estimate the amounts that will be due as these are based on future
box office performance. As of December 31, 2016 and 2015, the
Company had not recorded any liability related to these
participations.
NOTE
21 – SUBSEQUENT EVENTS
Subsequent to year
end, the Company received a tax incentive payment from the State of
North Carolina in the amount of $2,060,670 for filming a motion
picture in that jurisdiction. The proceeds of the tax incentive
were used to paydown the production loan.
On February 16,
2017, the Company entered into a subscription agreement pursuant to
which the Company issued and sold to an investor 100,000
shares of Common Stock at a price of $5.00 per Share. This
transaction provided $500,000 in proceeds for the
Company.
On
March 30, 2017, the Company entered into a Membership Interest
Purchase Agreement (the “Purchase Agreement”), by and
among the Company and Leslee Dart, Amanda Lundberg, Allan Mayer and
the Beatrice B. Trust (the “Sellers”). Pursuant to the
Purchase Agreement, on March 30, 2017, the Company acquired from
the Sellers 100% of the membership interests of 42West, LLC, a
Delaware limited liability company (“42West”) and
42West became a wholly-owned subsidiary of the Company (the
“42West Acquisition”). 42West is an entertainment
public relations agency offering talent publicity, strategic
communications and entertainment content marketing. As
consideration i in the 42West Acquisition, the Company paid
approximately $18.7 million in shares of Common Stock based on the
Company’s 30-trading-day average stock price prior to the
closing date of $4.61 per share (less certain working capital and
closing adjustments, transaction expenses and payments of
indebtedness), plus the potential to earn up to an additional $9.3
million in shares of Common Stock. As a result, the Company (i)
issued 1,230,280 shares of Common Stock on the closing date (the
“Initial Consideration”), (ii) will issue (a) 344,550
shares of Common Stock to certain employees within 30 days of the
closing date, (b) 118,655 shares of Common Stock as bonuses during
2017 and (c) approximately 1,961,821 shares of Common Stock on
January 2, 2018 (the "Post-Closing Consideration") and (iii) may
issue approximately 1,963,126 shares of Common Stock based on the
achievement of specified financial performance targets over a
three-year period as set forth in the Purchase Agreement (the
"Earn-Out Consideration", and together with the Initial
Consideration and the Post-Closing Consideration, the
"Consideration").
F-39
Each of Leslee
Dart, Amanda Lundberg and Allan Mayer (the “Principal
Sellers”) has entered into employment agreements with the
Company and will continue as employees of the Company for a
three-year term after the closing of the 42West Acquisition. The
non-executive employees of 42West are expected to be retained as
well. The Purchase Agreement contains customary representations,
warranties and covenants. In connection with the 42West
Acquisition, on March 30, 2017, the Company entered into put
agreements (the “Put Agreements”) with each of the
Sellers. Pursuant to the terms and subject to the conditions set
forth in the Put Agreements, the Company has granted the Sellers
the right, but not obligation, to cause the Company to purchase up
to an aggregate of 2,374,187 of their shares of Common Stock
received as Consideration for a purchase price equal to $4.61 per
share during certain specified exercise periods set forth in the
Put Agreements up until December 2020. In addition, in connection
with the 42West Acquisition, on March 30, 2017, the Company entered
into a registration rights agreement with the Sellers (the
“Registration Rights Agreement”) pursuant to which the
Sellers are entitled to rights with respect to the registration
under the Securities Act of 1933, as amended (the “Securities
Act”). All fees, costs and expenses of underwritten
registrations under the Registration Rights Agreement will be borne
by the Company. At any time after the one-year anniversary of the
Registration Rights Agreement, the Company will be required, upon
the request of such Sellers holding at least a majority of the
Consideration received by the Sellers, to file a registration
statement on Form S-1 and use its reasonable efforts to effect a
registration covering up to 25% of the Consideration received by
the Sellers. In addition, if the Company is eligible to file a
registration statement on Form S-3, upon the request of such
Sellers holding at least a majority of the Consideration received
by the Sellers, the Company will be required to use its reasonable
efforts to effect a registration of such shares on Form S-3
covering up to an additional 25% of the Consideration received by
the Sellers. The Company is required to effect only one
registration on Form S-1 and one registration statement on Form
S-3, if eligible. The right to have the Consideration received by
the Sellers registered on Form S-1 or Form S-3 is subject to other
specified conditions and limitations.
On
April 1, 2017, pursuant to the terms of the Purchase Agreement,
each of the Principal Sellers notified the Company that they would
exercise the put option. As a result, 86,764 shares of Common Stock
were returned to the Company in exchange for an aggregate of
$400,000. The Company retired the shares from the number of
outstanding shares.
On March 31, 2017,
KCF Investments LLC and BBCF 2011 LLC notified the Company that
they would be exercising Warrants J and K to purchase 2,170,000 and
170,000, respectively of shares of Common Stock at a purchase price
of $0.015 per share. This transaction provided $35,100
in proceeds for the Company.
On April 10, 2017,
the Company signed two separate promissory notes (the
“Notes”) with one investor for an aggreagate amount of
$300,000. The Notes bear interest at 10% per annum, payable
monthly, and have a maturity date of October 10,
2017.
On April 14, 2017,
T Squared notified the Company that it would exercise 325,770 of
Warrant E pursuant to the cashless exercise provision in Warrant
E. T Squared had previously paid $1,675,000 for the
warrants. The Company will issue a new warrant for the
remaining 24,230 shares that T Squared can exercise at a price of
$3.10 per share.
F-40