NOTES
TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
September
30, 2007
(Unaudited)
1. Basis
of Presentation
The
accompanying unaudited consolidated financial statements for the three months
and nine months ended September 30, 2007 and 2006 have been prepared by
InfoSearch Media, Inc. (the “Company” or “InfoSearch”) in accordance with the
instructions to Form 10-QSB and the rules and regulations of the Securities
and
Exchange Commission (the “SEC”) including Regulation S-B and accounting
principles generally accepted in the United States (“GAAP”). The information
furnished herein reflects all adjustments (consisting of normal recurring
accruals and other adjustments), which are, in the opinion of management,
necessary to fairly present the operating results for the respective periods.
Certain information and footnote disclosures normally present in annual
financial statements prepared in accordance with GAAP have been omitted pursuant
to such instructions, rules and regulations. The Company believes that the
disclosures provided are adequate to make the information presented clear and
straightforward. For a more complete understanding of the Company's financial
position, these financial statements should be read in conjunction with the
audited financial statements and explanatory notes in the Company's Annual
Report on Form 10-KSB for the year ended December 31, 2006 filed with the SEC
on
April 17, 2007.
Operating
results for the nine-month period ended September 30, 2007 are not necessarily
indicative of the results that may be expected for the year ending December
31,
2007.
2. Organization
and Nature of Operations
InfoSearch
is a Los Angeles-based provider of "smart" search-targeted text and video
content for the Internet, designed to improve traffic, brand recognition and
website performance for publishing and media clients. InfoSearch's network
of
professional writers, editors, technical specialists and video production
resources help businesses succeed on the Web by implementing text and video
content-based Internet marketing solutions. InfoSearch's search marketing
solutions involve
online
content that supports the non-paid search marketing initiatives of its clients.
Non-paid search
results,
(otherwise
known as organic
)
are
the
search results that the search engines find on the World Wide Web as opposed
to
those listings for which companies pay for placement. During
the
first
half of
2007,
we
derived revenue from our two primary operating groups, Content and Web
Properties, and launched several new products including TrafficBuilder Text
and
TrafficBuilder Video. In the third quarter of 2007, we launched an updated
website better describing the Company’s new suite of products and
services.
Content
We
deliver, through sale or license agreements, branded original content for use
by
our clients on their websites
.
Utilizing sophisticated content and keywords analytics, content developed in
the
TrafficBuilder Text program drives traffic to the client's website through
additional pages of text content which helps deliver improved search engine
performance. The TrafficBuilder content provides an environment engineered
to
stimulate a sale through the use of content focused on the client's products
and
services. We derive revenue from this content through either the sale or
licensing of products and services. While many of our small to medium sized
business clients prefer the leasing option over the purchase alternative because
it provides a lower upfront cost, larger firms generally prefer the outright
purchase of the content. We are actively pursuing both methods and have created
a dedicated team to focus on the larger clients and affiliate or reseller
relationships.
We
also
offer supplemental products, including Web analytics and links through
partnerships with specialized service providers where the Company acts as a
reseller of certain products. The analytics and links products are both sold
on
a month-to-month basis.
In
February 2007, the Company launched a new search-targeted online video product
called
TrafficBuilder
Video
to
provide the same customer benefits as the Company's written, text-based product
line, TrafficBuilder Text, including improved organic search engine performance,
increased quality site traffic and brand recognition.
TrafficBuilder Video
is
primarily being offered to a select number of major online media partners such
as Rodale Publishing.
Web
Properties
We
currently operate numerous content-based websites, including ArticleInsider,
through which we distribute traffic to advertisers. These websites are a
collection of general informational articles focused on various business
topics.
We
are no
longer seeking or engaging new customers for these websites and are harvesting
the deferred revenues associated with customers we previously engaged for these
websites. However
,
we
continue to monetize traffic to these websites through the use of Google's
AdSense program. In March 2006,
we
purchased Answerbag, Inc. (“Answerbag”), a consumer information website built
through content generated from its users. In October 2006, we entered into
a
multi-year alliance with Demand Media, Inc. (“Demand Media”), a next generation
media company, pursuant to which we sold all of the assets of Answerbag to
Demand Media, and Demand Media also agreed to purchase our products and
services. During the period of our operation of Answerbag, the site generated
revenue through the use of Google's AdSense program.
3. Significant
Accounting Policies
Basis
of Consolidation
The
consolidated financial statements include the accounts of the Company and one
subsidiary, Answerbag, Inc., a California corporation, which was acquired by
the
Company in March 2006 and the assets of which were subsequently sold in October
2006. All significant inter company accounts and transactions have been
eliminated in consolidation.
Revenue
Recognition
The
Company recognizes revenue on arrangements in accordance with SEC Staff
Accounting Bulletin No. 101 "Revenue Recognition in Financial Statements" and
No. 104 "Revenue Recognition," and Emerging Issues Task Force Issue
00-21,"Revenue Arrangements with Multiple Deliverables." In all cases, revenue
is recognized only when the price is fixed or determinable, persuasive evidence
of an arrangement exists, the service is performed, and collectibility of the
resulting receivable is reasonably assured.
The
Company's revenues are derived principally from the sale or licensing of Content
to third party web site owners through its TrafficBuilder suite of products
and
services. Revenue from Content sales is recognized when the content is delivered
to the client. Revenue earned from Content licensing is treated as an
installment sale and prorated revenue is recognized on a monthly basis over
the
life of the agreement. The Company offers a 12 month license agreement under
which Clients have the right to continue leasing the content at the end of
the
term on a month-to-month basis. The Company offers a month-to-month licensing
agreement and revenue earned on this type of licensing agreement is recognized
on a monthly basis. The Company also earns revenue from supplemental services
such as web analytics, directory submissions and link building. These services
are provided under month-to-month license agreements and revenue earned from
these services is recognized on a monthly basis. Client deposits received in
advance of work being completed for such services are treated as deferred
revenue until the services are performed and the revenue is then
recognized.
The
Company also derives revenue from the sale of interactive advertising on a
CPC
basis through its Web Properties such as ArticleInsider. The Company has
established a relationship with Google whereby Google pays InfoSearch fees
for
clicks on advertisements sponsored by Google and displayed on the ArticleInsider
web site. The Company recognizes revenue associated with the Google AdSense
program as reported by Google to the Company at the end of each
month.
Cost
of Sales
The
majority of the Company's cost of sales is related to its Content products
developed under the TrafficBuilder product line. For the TrafficBuilder program,
content developed pursuant to outright sales and licensing is developed through
keyword analysts, writers, editors, and other independent contractors who
analyze the keywords, write and edit the copy. The Company recognizes and
expenses those costs related to the content developed for outright sales to
clients as the cost is incurred, while the cost of content development for
licensing subject to a 12-month contract is amortized over the life of the
contract. In September 2005 the Company added a month-to-month licensing option,
with content development costs for the month-to-month agreements also expensed
when incurred.
Content
developed pursuant to the Company's ArticleInsider website increases the value
of the network and yields revenue to Company over a period of years, which
led
to the decision to capitalize the development costs. Through December 31, 2004,
the Company’s practice was to expense the cost of content developed for
ArticleInsider as the costs were incurred. However, with the ongoing management
of ArticleInsider, it became apparent to Company management that it was not
uncommon that an article would not begin drawing traffic until some number
of
months after it was posted on the network and that the average lifespan of
an
article on the network, i.e. how long it continued to draw traffic from
individuals performing keyword searches, was well in excess of three years.
Earlier expectations were that the lifespan would be shorter. To better match
costs to revenues and recognize the increased value of the network, upon the
advice of the Company’s previous auditors effective January 1, 2005 the Company
began amortizing the related content development costs over an expected life
of
thirty-six months, which resulted in an increase in the Company’s gross margins.
The Company continues to review this estimate and is no longer developing
new content for the ArticleInsider website, a practice which was discontinued
in
2005. The total value of unamortized content as of September 30, 2007 was
$0.
Cash
Cash
includes cash on hand and cash in banks in demand and time deposit accounts
with
original maturities of 90 days or less. At September 30, 2007, we had restricted
cash of $362,392 held at various financial institutions and online payment
processing firms, including $312,393 of restricted cash which was released
during October 2007.
Use
of
Estimates
The
preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that
affect the amounts reported in the financial statements and accompanying notes.
Actual results could differ from those estimates.
Reclassifications
Certain
account balances in the prior year have been reclassified to permit comparison
with the current year and to identify net effects of discontinued
operations.
Significant
Clients
One
of
our clients, Demand Media, represented approximately 26.4% and 25.7% of our
revenue for the three months ended September 30, 2007 and nine months ended
September 30, 2007, respectively. For the three and nine month periods ended
September 30, 2006, no client represented greater than 10% of our
revenues.
Concentrations
of Credit Risk
Financial
instruments, which potentially subject the Company to concentrations of credit
risk, consist principally of cash, and cash equivalents and trade receivables.
The Company maintains cash with high-credit, quality financial institutions.
At
September 30, 2007, the cash balances held at financial institutions were either
in excess of federally insured limits or not subject to the federal insurance
system.
Credit
is
generally extended based upon an evaluation of each customer's financial
condition, with terms consistent in the industry and no collateral required.
The
Company determines an allowance for collectibility on a periodic basis. Amounts
are written off against the allowance in the period the Company determines
that
the receivable is uncollectible.
For
the
nine months ended September 30, 2007 and 2006, the Company
recorded
an expense related to chargebacks of $0 and $108,656, respectively. For the
three months ended September 30, 2007 and 2006, the Company incurred $0 and
$2,140, respectively, related to chargebacks. As a matter of practice, the
Company
does
not
extend credit and thus has limited accounts receivable. However, in certain
instances, situations arise typically for longtime clients where the monthly
prepayments made, typically in electronic form, are rejected by the credit
card
processor. In limited situations, this can arise due to a dispute with the
Company
and
in
others where the client will no longer honor charges on this card. In certain
instances decisions are made to refund the client deposits or accept the
rejected charges, and in other instances the original charge is no longer
collectible.
Long-Lived
Asset Impairment
The
Company periodically evaluates whether events and circumstances have occurred
that indicate that the remaining estimated useful life of long-lived assets
may
warrant revision or that the remaining balance may not be recoverable. When
factors indicate that the asset should be evaluated for possible impairment,
the
Company uses an estimate of the undiscounted net cash flows over the remaining
life of the asset in measuring whether the asset is recoverable. Based upon
the
anticipated future income and cash flow from operations and other factors,
relevant in the opinion of the Company's management, there has been no
impairment.
Fair
Value of Financial Instruments
To
meet
the reporting requirements of SFAS No. 107, “Disclosures About Fair Value of
Financial Instruments”, the Company calculates the fair value of financial
instruments and includes this additional information in the notes to financial
statements when the fair value is different than the book value of those
financial instruments. When the fair value is equal to the book value, no
additional disclosure is made. The Company uses quoted market prices whenever
available to calculate these fair values.
Valuation
of Derivative Instruments
SFAS
No.
133 “Accounting for Derivative Instruments and Hedging Activities” requires that
embedded derivative instruments be bifurcated and assessed, along with
free-standing derivative instruments such as warrants, on their issuance date
and in accordance with EITF 00-19 “Accounting for Derivative Financial
Instruments Indexed to, and Potentially Settled in, a Company's Own Stock” to
determine whether they should be considered a derivative liability and measured
at their fair value for accounting purposes. In determining the appropriate
fair
value, the Company uses the Black-Scholes Option Pricing Formula. At each period
end, or when circumstances indicate that the Company reevaluate the accounting
of the derivative liability, derivative liabilities are adjusted to reflect
changes in fair value, with any increase or decrease in the fair value being
recorded in results of operations as Change in Fair Value of
Warrants.
Property
and Equipment
Property
and equipment is stated at cost and depreciation is calculated using the
straight-line method over the related assets' estimated economic lives ranging
from three to five years. Amortization of leasehold improvements is calculated
using the straight-line method over the lesser of the estimated economic useful
lives or the lease term. Property under capital leases is amortized over the
lease terms and included in depreciation and amortization expense.
Deferred
Revenue
Deferred
revenue primarily represents payments received from customers as deposits in
advance of the delivery of content, links or analytics under its former content
program. In addition, a small remaining amount of the deferred revenue is
associated with the ArticleInsider program. This deferred revenue results from
payments received from customers as deposits in excess of revenue earned based
on click-through activity (web site visitations) for our ArticleInsider product
and will be recognized as traffic is delivered.
Income
Taxes
The
Company follows Statement of Financial Accounting Standards No. 109 “Accounting
for Income Taxes” (“SFAS No. 109”), which requires recognition of deferred tax
assets and liabilities for the expected future tax consequences of events that
have been included in the financial statements or tax returns. Under this
method, deferred tax assets and liabilities are based on the differences between
the financial statement and tax bases of assets and liabilities using enacted
tax rates in effect for the year in which the differences are expected to
reverse.
The
significant components of the provision for income tax expense for the nine
months ended September 30, 2007 and 2006 were $3,875 and $23,353 respectively,
for the state current provision. There was no state deferred provision or
federal tax provision. Due to its current net loss position, the Company has
provided a valuation allowance in full on its net deferred tax assets in
accordance with SFAS 109 and in light of the uncertainty regarding ultimate
realization of the net deferred tax assets.
The
Company has completed a review of its financial statements for the three
months
ended September 30, 2007 in accordance with FASB Interpretation No. 48 (“Fin
48”) “Accounting for Uncertainty in Income Taxes - an interpretation of FASB
Statement 109”, which was issued in July 2006 and clarifies the accounting for
uncertain tax positions. Uncertain tax positions are recognized in the financial
statements for positions which are considered more likely than not of being
sustained based on the technical merits of the position on audit by the tax
authorities. The measurement of the tax benefit recognized in the financial
statements is based upon the largest amount of the tax benefit that, in
management’s judgment, is greater than 50% likely of being realized based on a
cumulative probability assessment of the possible outcomes. The implementation
of Fin 48 did have a material impact on the amount, reporting and disclosures
of
our fully reserved deferred tax assets resulting primarily from tax loss
carryforwards as the Company accrued $156,000 in Income Tax Payable. Due
to our
net operating loss carryforward position, the impact of uncertain tax positions,
if any, would not be material. Based on the results of this review the Company
does not see any potential for federal of state income taxes other than the
minimum franchise taxes for the period and as a result believes that the
current
provision for income taxes for the period is materially
correct.
Accounting
for Stock-Based Compensation
Effective
January 1, 2006, the Company adopted Statement of Financial Accounting
Standards No. 123(R), “Share-Based Payment”
(“SFAS
123(R)”), which requires the measurement and recognition of compensation expense
for all share-based payment awards made to employees and directors, including
stock options based on their fair values.
Share-based
compensation expense recognized is based on the value of the portion of
share-based payment awards that is ultimately expected to vest. Share-based
compensation expense recognized in the Company's Consolidated Statement of
Operations during the three months and nine months ended September 30, 2007
and
2006 includes compensation expense for share-based payment awards granted prior
to, but not yet vested as of December 31, 2005 based on the grant date fair
value estimated in accordance with the pro forma provisions of SFAS 123
(R).
The
Company attributes the value of share-based compensation to expense using the
straight-line method. Share-based compensation expense related to stock
options was recorded in the accompanying Statements of Operations as
follows:
|
|
Nine
Months Ended September 30,2007
|
|
Nine
Months Ended September 30,2006
|
|
Three
Months Ended September 30,2007
|
|
Three
Months Ended September 30,2006
|
|
Selling
and marketing
|
|
$
|
1,572
|
|
$
|
451,440
|
|
$
|
590
|
|
$
|
64,783
|
|
General
and administration
|
|
|
88,097
|
|
|
1,388,620
|
|
|
12,814
|
|
|
41,001
|
|
Total
share-based compensation expense for stock options
|
|
$
|
89,669
|
|
$
|
1,840,060
|
|
$
|
13,404
|
|
$
|
105,784
|
|
Recently
Issued Accounting Pronouncements
In
February 2006, the Financial Accounting Standards Board (the “FASB”) issued SFAS
No. 155, “Accounting for Certain Hybrid Financial Instruments” (“SFAS No. 155”),
which amends SFAS No.133, “Accounting for Derivatives Instruments and Hedging
Activities” (“SFAS No. 133”) and SFAS No. 140, “Accounting for Transfers and
Servicing of Financial Assets and Extinguishment of Liabilities”(“SFAS No.
140”). SFAS No. 155 amends SFAS No. 133 to narrow the scope exception for
interest-only and principal-only strips on debt instruments to include only
such
strips representing rights to receive a specified portion of the contractual
interest or principal cash flows. SFAS No. 155 amends SFAS No. 140 to allow
qualifying special-purpose entities to hold a passive derivative financial
instrument pertaining to a beneficial interest that itself is a derivative
instrument. SFAS No. 155 is effective for financial instruments acquired,
issued, or subject to a remeasurement event for fiscal years beginning after
September 15, 2006. The adoption of this pronouncement has not had a
material impact on the Company's financial position or statement of operations
and cash flows.
In
March
2006, the FASB issued SFAS No. 156, “Accounting for Servicing of Financial
Assets” (“SFAS No.156”), which provides an approach to simplify efforts to
obtain hedge-like (offset) accounting. This Statement amends SFAS No. 140 with
respect to the accounting for separately recognized servicing assets and
servicing liabilities. SFAS No. 156(1) requires an entity to recognize a
servicing asset or servicing liability each time it undertakes an obligation
to
service a financial asset by entering into a servicing contract in certain
situations; (2) requires that a separately recognized servicing asset or
servicing liability be initially measured at fair value, if practicable; (3)
permits an entity to choose either the amortization method or the fair value
method for subsequent measurement for each class of separately recognized
servicing assets or servicing liabilities; (4) permits at initial adoption
a
one-time reclassification of available-for-sale securities to trading securities
by an entity with recognized servicing rights, provided the securities
reclassified offset the entity's exposure to changes in the fair value of the
servicing assets or liabilities; and (5) requires separate presentation of
servicing assets and servicing liabilities subsequently measured at fair value
in the balance sheet and additional disclosures for all separately recognized
servicing assets and servicing liabilities. SFAS No. 156 is effective for all
separately recognized servicing assets and liabilities as of the beginning
of an
entity's fiscal year that begins after September 15, 2006, with earlier adoption
permitted in certain circumstances. The Statement also describes the manner
in
which it should be initially applied. The adoption of SFAS No. 156 did not
have
a material impact on the Company's financial position, results of operations
or
cash flows.
In
September 2006, the FASB issued Statement of Financial Accounting Issues No.
157, “Fair Value Measurements” (“SFAS No. 157”), which defines the fair value,
establishes a framework for measuring fair value and expands disclosures about
fair value measurements. SFAS No. 157 is effective for financial statements
issued for fiscal years beginning after November 15, 2007, and interim periods
within those fiscal years. Early adoption is encouraged, provided that the
Company has not yet issued financial statements for that fiscal year, including
any financial statements for an interim period within that fiscal year. The
Company is currently evaluating the impact SFAS No. 157 may have on our
financial condition or results of operations.
In
September 2006, the SEC issued Staff Accounting Bulletin No. 108, “Considering
the Effects of Prior Year Misstatements when Quantifying Misstatements in
Current Year Financial Statements” (“SAB 108”). SAB108 provides guidance on the
consideration of the effects of prior year misstatements in quantifying current
year misstatements for the purpose of a materiality assessment. SAB 108
establishes an approach that requires quantification of financial statement
errors based on the effects of each of the company's balance sheet and statement
of operations and the related financial statement disclosures. SAB 108 permits
existing public companies to record the cumulative effect of initially applying
this approach in the first year ending after November 15, 2006 by recording
the
necessary correcting adjustments to the carrying values of assets and
liabilities as of the beginning of that year with the offsetting adjustment
recorded to the opening balance of retained earnings. Additionally, the use
of
the cumulative effect transition method requires detailed disclosure of the
nature and amount of each individual error being corrected through the
cumulative adjustment and how and when it arose. The adoption of this
pronouncement has not had a material impact on the Company's financial position
or statement of operations and cash flows.
In
September 2006, the FASB issued SFAS No. 158, “Employer's Accounting for Defined
Benefit Pension and Other Post Retirement Plans”. SFAS No. 158 requires
employers to recognize in its statement of financial position an asset or
liability based on the retirement plan's over or under funded status. SFAS
No.
158 is effective for fiscal years ending after December 15, 2006. The adoption
of this pronouncement has not had an impact on the Company's financial position
or statement of operations and cash flows.
In
February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial
Assets and Financial Liabilities (“SFAS No. 159”). SFAS No. 159 permits
entities to choose to measure at fair value many financial instruments and
certain other items that are not currently required to be measured at fair
value. Subsequent changes in fair value for designated items will be required
to
be reported in earnings in the current period. SFAS No. 159 also establishes
presentation and disclosure requirements for similar types of assets and
liabilities measured at fair value. SFAS No. 159 is effective for fiscal years
beginning after November 15, 2007. The Company is currently assessing the effect
of implementing this guidance, which directly depends on the nature and extent
of eligible items elected to be measured at fair value, upon initial application
of the standard on January 1, 2008.
4. Accounts
Receivable
At
September 30, 2007, the Company's Google relationship, and various customer
relationships accounted for the Company's accounts receivable. The Company
has
not experienced any problem with collectibility of
receivables.
5. Equity
Warrant Asset
We
account for the equity warrant asset with net settlement terms to purchase
preferred stock of Demand Media as a derivative. Under the terms of the warrant,
the Company is entitled to purchase 125,000 shares of Series C Preferred Stock
of Demand Media at an exercise price of $3.85 per share. Under the accounting
treatment required by SFAS No. 133, equity warrant assets with net settlement
terms are recorded at fair value and are classified as investments on the
balance sheet. The fair value of the Demand Media warrant is reviewed quarterly.
For the three months ended September 30, 2007, we valued the warrant using
the
Black-Scholes option pricing model, which incorporates the following material
assumptions:
|
·
|
Underlying
asset value was estimated based on information available, including
any
information regarding subsequent rounds of funding or initial public
offerings.
|
|
·
|
Volatility,
or the amount of uncertainty or risk about the size of the changes
in the
warrant price, was based on a public equity index comprised of
a basket of
40 internet companies similar in nature to the business in which
Demand
Media operates and yielded a volatility of
22.79%.
|
|
·
|
The
risk-free interest rate was
4.23%.
|
|
·
|
Expected
life of 48 months based on the contractual term of the
warrant.
|
Any
changes from the grant date fair value of the equity warrant asset will be
recognized as increases or decreases to the equity warrant asset on our
consolidated balance sheet and as net gains or losses on derivative investments
within non-operating expenses in the consolidated statement of
operations.
As
of
September 30, 2007, there was a decrease of $186,264 in the fair value of the
equity warrant asset from December 31, 2006.
6. Deferred
Revenue
The
Company allocates between the current portion and the long term portion based
upon its historical experience and its estimate of delivery time for content
and
related product sand click through activity for Web Properties. As of September
30, 2007, total deferred revenue was $606,292 and all of it was classified
as
current.
7. Net
Income (Loss) per Share
Net
income (loss) per share is computed as net income (loss) divided by the weighted
average number of common shares outstanding for the period. For the nine months
ended September 30, 2007 and 2006, there were 1,238,805 and 2,013,980,
respectively, shares exercisable from stock options, certain restricted stock
and warrants that are excluded from the computation of net earnings (loss)
per
share as their effect would be anti-dilutive.
8. Shareholders'
Equity
The
authorized capital stock currently consists of 200,000,000 shares of Common
Stock, par value $0.001 per share, and 25,000,000 shares of preferred stock,
par
value $0.001 per share, the rights and preferences of which may be established
from time to time by The Company’s board of directors. As of September 30, 2007,
there were 52,871,973 shares of our Common Stock issued and outstanding and
options and warrants exercisable representing 10,418,491 shares of Common Stock.
No other securities, including without limitation any preferred stock,
convertible securities, options, warrants, promissory notes or debentures are
outstanding.
Warrants
On
November 7, 2005, the Company issued 8,359,375 shares of common stock in a
private placement transaction to 15 accredited investors for the purchase price
of $0.64 per share (representing a 20% discount to the closing price of our
common stock on November 2, 2005) for total proceeds of $5.35 million. In
addition, the investors received warrants to purchase 4,179,686 shares of our
common stock. The warrants expire on November 7, 2010 and are exercisable
at a price of $0.88 per share. These securities were offered and sold by the
Company in reliance on exemptions from registration provided by Section 4(2)
of
the Securities Act of 1933, as amended (the “Securities Act”) and Regulation D
promulgated thereunder. The investors were “accredited investors” as that term
is defined under Regulation D. As a registration statement was not declared
effective by the SEC within the timeframe set forth in the Registration Rights
Agreement, the Company accrued a charge for liquidated damages and related
interest of $509,904 for the nine months ended September 30, 2006. On August
22,
2006, the investors agreed to accept 4,306,613 shares of the Company's common
stock in exchange for extinguishment of this liability. The number of shares
issued in exchange for the liquidated damages was determined based on a discount
to the average of the Company's stock price for the five days preceding the
first issuance date, which is the date three days following receipt of the
minimum two-thirds majority of the registrable securities necessary to amend
the
Registration Rights Agreement. Theses shares were issued to the investors on
October 4, 2006, and are recorded as equity as of September 30,
2007.
The
warrants issued to all participants in the November 7, 2005 private placement
require the Company to settle the contracts by the delivery of registered
shares. At the date of issuance, the Company did not have an effective
registration statement related to the shares that could be issued should the
warrant holders exercise the warrants. In addition, the warrant holders have
the
right to require that the Company settle the warrant on a net-cash basis in
a
fundamental transaction, regardless of the form of tender underlying the
fundamental transaction. As the contracts must be settled by the delivery of
registered shares and the delivery of the registered shares are not controlled
by the Company and the rights of the warrant holders to settle in cash
potentially in preference to other shareholders receiving other forms of
consideration, pursuant to EITF 00-19, "Accounting for Derivative Financial
Instruments Indexed to, and Potentially Settled in, a Company's Own Stock",
the
warrants are being treated as a liability. The fair value of the warrants was
calculated as of November 7, 2005 using the Black-Scholes pricing model and
was
recorded as a warrant liability on the balance sheet date. The change in fair
value was included on the Statement of Operations under Change in Fair Value
of
Warrants. The value of the warrants on the date of the transaction and as of
December 31, 2006 was $3,063,172 and $485,138, respectively. In addition, the
fair value decreased from December 31, 2006 through September 30, 2007 by
$209,652. The change in fair value from December 31, 2006 was calculated by
using the Black-Scholes pricing model with the following assumptions: expected
weighted average life, 40 months as of September 30, 2007; stock volatility,
121.23%; risk-free interest rates of 4.23%; and no dividends during the expected
term.
On
July
6, 2006
,
the
Company entered into a Settlement Agreement and Release of Claims (the
“Settlement Agreement”), with Gemini Partners, Inc. (“Gemini”), pursuant to
which the Company issued to Gemini a Common Stock Purchase Warrant immediately
exercisable into 300,000 shares of the Company's common stock at a
price
of
$0.01 per share. Pursuant to the Settlement Agreement, Gemini agreed to cancel
its existing warrant to purchase 300,000 shares of our common stock at a
purchase price of $1.00 per share. We have performed an EITF 00-19 analysis
of
the warrants issued pursuant to the Settlement Agreement and determined that
they should be accounted for as equity. On February 15, 2007, Gemini exercised
such warrant and the Company issued 300,000 shares of its common stock to
Gemini. The fair value of the warrant
was
calculated as of July 6, 2006 using the Black-Scholes pricing model with the
following assumptions: expected life
of
54
months
following the grant date; stock volatility
of
104.13%;
risk-free interest rates of 5.2%; and no dividends during the expected term.
The
fair value of the warrant was determined to be $68,752. The warrant was offered
and sold by the Company in reliance on exemptions from registration provided
by
Section 4(2) of the Securities Act as such transaction did not involve any
public offering.
On
July
6, 2006, the Company entered into the GP Group Consulting Agreement (the
“Consulting Agreement”) with GP Group, LLC (“GP Group”), pursuant to which it
issued to GP Group a Common Stock Purchase Warrant on each of
August
6,
2006, September 6, 2006 and October 6, 2006. Each such warrant is
immediately exercisable into 20,000 shares of the Company's common stock at
a
price of $0.01 per share. We have performed an EITF 00-19 analysis of the
warrants issued pursuant to the Consulting Agreement and determined that they
should be accounted for as equity. On February15, 2007, GP Group exercised
such warrants and the Company issued 60,000 shares of its common stock. The
fair values of the warrants were calculated using the Black-Scholes pricing
model with the following assumptions: expected life
of
46,
45,
and 44 months following the grant dates; stock volatility of
104.12%,
106.98%, and 109.50%; risk-free interest rates of 4.88%, 4.76% and 4.66%; and
no
dividends during the expected term, for warrants issued August 6, September
6,
and October 6, 2006 on each respective grant date. The fair value of the three
warrants was determined to be $4,164, $2,804 and $2,611, respectively. The
Consulting Agreement was terminated effective October 24, 2006. The warrants
were offered and sold by the Company in reliance on exemptions from registration
provided by Section 4(2) of the Securities Act as such transaction did not
involve any public offering.
The
board
of
directors
approved
the sale of substantially all of the assets of Answerbag on September 30, 2006.
On October 3, 2006, the Company entered into an Asset Purchase Agreement (the
“Asset Purchase Agreement”) to sell substantially all of the assets of Answerbag
to Demand Answers, Inc. and its parent, Demand Media
.
In
conjunction with the agreement, Demand Media received a five year warrant to
purchase 5,000,000 shares of the Company's common stock at a purchase price
of
$0.158 per share that expires on October 4, 2011. The exercise price of the
warrant was determined by calculating the average of the closing price of the
Company's common stock from the average of the ten day period from September
11,
2006 to September 22,
2006,
and
the average of the ten day period from October 4, 2006
to
October 17, 2006. Pursuant to the Asset Purchase Agreement, Demand Media also
received the right to appoint one member to the board of directors of the
Company, which it has not exercised. We have performed an EITF 00-19 analysis
of
the warrants issued pursuant to the Asset Purchase Agreement and determined
that
they should be accounted for as a liability because of the requirement to
maintain an effective registration statement for a period of two years. The
fair
value of the warrant was calculated as of October 4, 2006 using the
Black-Scholes pricing model with the following assumptions: expected
life
of
60
months
following the grant date; stock volatility, 109.79%; risk-free interest rates
of
4.50%; and no dividends during the expected term.
The
fair
value of the warrant appears on the balance sheet as Fair Value of Warrant
Liability along with the warrants issued pursuant to the private placement
transaction closed in November 2005.
The
change in fair value since the date of issuance was included in other income
on
the Statement of Operations under Change in Fair Value of Warrants. The value
of
the warrants on the date of the transaction and as of December 31, 2006 was
$598,836 and $911,077, respectively. In addition, the fair value decreased
from
December 31, 2006 through September 30, 2007 by $312,700. The change in fair
value on September 30, 2007 was calculated by using the Black-Scholes pricing
model with the following assumptions: expected life, 48 months as of September
30, 2007; stock volatility, 121.23%; risk-free interest rates of 4.23%; and
no
dividends during the expected term. The warrant was offered and sold by the
Company in reliance on exemptions from registration provided by Section 4(2)
of
the Securities Act as such transaction did not involve any public
offering.
Preferred
Stock
Our
board
of directors is authorized, without further stockholder approval, to issue
up to
25,000,000 shares of preferred stock in one or more series and to fix the
rights, preferences, privileges and restrictions of these shares, including
dividend rights, conversion rights, voting rights, terms of redemption and
liquidation preferences, and to fix the number of shares constituting any series
and the designations of these series. These shares may have rights senior to
the
Common Stock. The issuance of preferred stock may have the effect of delaying
or
preventing a change in control of us. The issuance of preferred stock could
decrease the amount of earnings and assets available for distribution to the
holders of Common Stock or could adversely affect the rights and powers,
including voting rights, of the holders of Common Stock. At present, we have
no
plans to issue any shares of our preferred stock.
The
description of our securities contained herein is a summary only and may be
exclusive of certain information that may be important to you. For more complete
information, review the Company’s Certificate of Incorporation and its
restatements and amendments, together with our corporate bylaws.
9. Stock
Options
The
Company's calculations were made using the Black-Scholes option pricing model
with the following weighted average assumptions for the grants during three
months ended September 30, 2007 and 2006: expected life, five years
following the grant date; stock volatility, 121.23% and 109.89%, respectively;
risk-free interest rates of 4.23% and 4.59%, respectively; and no dividends
during the expected term. As share-based compensation expense recognized
in the consolidated statement of operations pursuant to SFAS No. 123(R) is
based
on awards ultimately expected to vest, expense for grants beginning upon
adoption of SFAS No.123(R) on January 1, 2006 is reduced for estimated
forfeitures. SFAS No. 123(R) requires forfeitures to be estimated at the
time of grant and revised, if necessary, in subsequent periods if actual
forfeitures differ from those estimates. Forfeitures are estimated based on
historical experience of forfeited stock options as a percent of total options
granted. A summary of the Company's stock option activity is as
follows:
|
|
#
of Shares
|
|
Weighted
Average Remaining Contractual Life (Years)
|
|
Weighted
Average Exercise Price
|
|
Outstanding
as of December 31, 2006
|
|
|
3,151,619
|
|
|
|
|
$
|
0.58
|
|
Granted
|
|
|
3,222,150
|
|
|
|
|
$
|
0.19
|
|
Cancelled
/ Forfeited
|
|
|
2,619,619
|
|
|
|
|
$
|
0.50
|
|
Outstanding
as of September 30,2007
|
|
|
3,754,150
|
|
|
8.75
|
|
$
|
0.37
|
|
Exercisable
as of September 30, 2007
|
|
|
1,283,616
|
|
|
8.31
|
|
$
|
0.37
|
|
Expected
to vest in future years
|
|
|
2,470,534
|
|
|
9.74
|
|
$
|
0.18
|
|
The
weighted average grant date fair value of options granted during the nine
months
ended September 30, 2007 was $0.18. The intrinsic value of options
exercised during the three months ended September 30, 2007 was $0, the intrinsic
value of the options outstanding was $833 at September 30, 2007. Additional
information regarding options as of September 30, 2007 is as
follows:
Options
Outstanding
|
|
|
Options
Exercisable
|
|
Exercise
prices
|
|
|
Number
of Shares
|
|
|
Weighted
average remaining contractual Life(Years)
|
|
|
Number
of Shares
|
|
|
Weighted
Average Exercise Price
|
|
$
0.14
|
|
|
1,015,000
|
|
|
9.18
|
|
|
215,551
|
|
$
|
0.14
|
|
$
0.17
|
|
|
350,000
|
|
|
9.18
|
|
|
347,280
|
|
$
|
0.17
|
|
$
0.19
|
|
|
440,000
|
|
|
9.49
|
|
|
22,093
|
|
$
|
0.19
|
|
$
0.20
|
|
|
1,772,150
|
|
|
9.29
|
|
|
575,950
|
|
$
|
0.20
|
|
$
0.22
|
|
|
42,500
|
|
|
8.82
|
|
|
3,242
|
|
$
|
0.22
|
|
$
0.23
|
|
|
15,000
|
|
|
9.03
|
|
|
-
|
|
$
|
0.23
|
|
$
0.39
|
|
|
30,000
|
|
|
8.52
|
|
|
30,000
|
|
$
|
0.39
|
|
$
0.41
|
|
|
12,000
|
|
|
8.61
|
|
|
12,000
|
|
$
|
0.41
|
|
$
0.78
|
|
|
60,000
|
|
|
8.09
|
|
|
60,000
|
|
$
|
0.78
|
|
$
0.81
|
|
|
17,500
|
|
|
6.63
|
|
|
17,500
|
|
$
|
0.81
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
Options
|
|
|
3,754,150
|
|
|
8.75
|
|
|
1,283,616
|
|
$
|
0.37
|
|
Subject
to Section 14 of the InfoSearch Media, Inc. 2004 Stock Option Plan (the “Plan”)
as amended, there shall be reserved for issuance under the Plan an aggregate
of
10,450,000 shares of Common Stock. At September 30, 2007, 6,695,850 shares
were
available for future grants under the Company's Stock Option Plan (remaining
balance reflects issuance of restricted stock).
As
of
September 30, 2007, the total compensation related to non-vested option awards
yet to be expensed was $147,008 to be recognized over a weighted average period
of 2.70 years.
As
of
September 30, 2007, we had 5,700,559 shares of restricted stock grants
outstanding to employees and directors of the Company.
A
summary
of the Company's restricted stock activity is as follows:
|
|
Shares
|
|
Weighted
Average Grant Date Fair Value
|
|
Non-Vested
Shares as of January 1, 2007
|
|
|
642,857
|
|
$
|
0.14
|
|
|
|
|
|
|
|
|
|
Granted
|
|
|
100,000
|
|
$
|
0.16
|
|
|
|
|
|
|
|
|
|
Vested
|
|
|
742,857
|
|
$
|
0.14
|
|
|
|
|
|
|
|
|
|
Non-Vested
Shares as of September 30, 2007
|
|
|
0
|
|
|
0
|
|
10. Related
Party Transactions.
Mr.
David
Warthen, our former Chief Technology Officer, is a shareholder and was the
Chief
Technology Officer of Global Streams, a digital video processing company, from
2000 to 2002, which is currently a vendor to Company. At September 30, 2007,
Mr.
Warthen owed the Company $16,309 to reimburse the Company for income taxes
paid
on his behalf.
11. Commitments
and Contingencies
The
Company has entered into a non-cancelable operating lease for facilities
through
July 31, 2008. Rental expense was $77,059 and $194,416 for the three and
nine
months ended September 30, 2007, respectively, and $53,940 and $143,882 for
the
three and nine months ended September 30, 2006, respectively. At September
30,
2007, the future minimum lease payments for the years ending December 31
are as
follows:
2007
(remainder of year)
|
|
$
|
58
55,560
|
|
2008
|
|
|
133,990
|
|
Total
Minimum Lease Payments
|
|
$
|
189,550
|
|
The
capital equipment lease payments for the nine months ended September 30,
2007
and 2006 were $17,162 and $29,956, respectively, leaving $459 remaining as
of
September 30, 2007. Total interest expense for the nine months ended September
30, 2007 and 2006 was $1,165 and $12,795, respectively. The Company has $459
in
outstanding capital lease obligations for equipment as of September 30,
2007.
Employment
Agreements
On
May 1,
2007, the Company, entered into a Second Amendment to Employment Agreement
(the
“Second Amendment”) with George Lichter, the Company's Chief Executive Officer
and a director of the Company. The Second Amendment, effective as of January
12,
2007, amends Mr. Lichter's Employment Agreement dated January 4, 2006 and
effective as of August 23, 2005, as amended by the Amendment to Employment
Agreement, effective as of July 1, 2006 (as amended by the Amendment to
Employment Agreement, the “Employment Agreement”).
The
Second Amendment amends the Employment Agreement to provide, among other things,
that Mr. Lichter is eligible to receive a quarterly bonus in an amount not
to
exceed 25% of his then current base salary for each calendar quarter (or a
pro-rata portion of such bonus in the case of a period of less than three
months) within the board of directors' sole discretion. Prior to the Second
Amendment, the Employment Agreement provided that Mr. Lichter was eligible
to
receive a quarterly bonus not to exceed $37,150 per quarter where such stated
amount was then equal to 25% of his former base salary. The Second Amendment
also revises the definition of a “Change of Control” so that a change of
ownership in the outstanding voting securities of the Company constituting
a
“Change of Control” is determined based on the outstanding voting securities
owned collectively by the common stockholders and warrant holders of the Company
as of January 12, 2007, rather than August 23, 2005 as provided for in the
Employment Agreement prior to the Second Amendment.
In
addition, the Second Amendment provides that if Mr. Lichter terminates his
employment with the Company for Good Reason (as defined in the Employment
Agreement) or if the Company terminates Mr. Lichter without Cause (as defined
in
the Employment Agreement), 50% of the unvested options granted to Mr. Lichter
pursuant to the Company's Stock Option Plan will automatically vest. The Second
Amendment also provides that if Mr. Lichter's employment is terminated without
Cause or if Mr. Lichter resigns his employment with the Company for Good Reason
within 12 months of a Change of Control, 50% of all (i) unvested options to
purchase common stock of the Company, (ii) unvested shares of restricted stock
of the Company and (iii) other unvested equity compensation relating to the
Company (collectively, the “Unvested Equity Compensation”) shall automatically
vest and become immediately exercisable and transferable, and Mr. Lichter shall
have 90 days after the termination of his employment to exercise the Unvested
Equity Compensation. Pursuant to the Second Amendment, in the event of a Change
of Control, and immediately prior to such Change of Control, all Unvested Equity
Compensation shall automatically vest and become immediately exercisable and
transferable, unless all of Mr. Lichter's outstanding options, restricted stock
and other equity compensation is (x) assumed by the surviving corporation or
its
parent or subsidiary on terms no less favorable and with an equity value equal
to or greater than immediately prior to the Change of Control or (y) substituted
by the surviving corporation or its parent or subsidiary with equivalent awards
for the equity compensation on terms no less favorable and with an equity value
equal to or greater than immediately prior to the Change of
Control.
On
June
9, 2007, the Company entered into an employment agreement with Scott Brogi,
the
Company's Chief Financial Officer with an annual base salary of $200,000.
Additionally Mr. Brogi is eligible for a bonus of 40% of his base salary. The
basis for this bonus is revenue and operating income goals and individual goals
to be determined. Mr. Brogi also received an option to purchase 1,000,000 shares
of the Company's Common stock at $0.14 per share, the closing price as of June
11, 2007. These options were granted on June l1, 2007, expire ten years after
the grant date and vest on an equal monthly basis over a 36 month period. In
the
event Mr. Brogi’s employment is terminated or his responsibilities are
materially reduced within 12 months of a change of control of the Company,
Mr.
Brogi will receive six months of base salary and a 6 month acceleration of
vesting of these stock options. Change of control is defined as the acquisition
by a single shareholder (or beneficial owner) of a minimum of 51% of the then
outstanding ordinary shares of the Company. Upon termination, death or long
term
disability, Mr. Brogi receives additional benefits under the agreement. If
termination is without cause, he is entitled to 3 months salary, any bonus
earned through the date of termination and 3 months acceleration of vesting
of
his stock options.
Mr.
Frank
Knuettel, II, resigned as Chief Financial Officer of the Company effective
June
15, 2007. Thereafter Mr. Knuettel was party to a consulting agreement whereby
he
provided certain ongoing services to the Company through September 15, 2007
for
which he received cash compensation as well as 100,000 shares of restricted
stock which have fully vested in three essentially equal monthly installments
through September 15, 2007.
Litigation
From
time
to time, we may be involved in litigation relating to claims arising out of
our
operations in the normal course of business. We are not a party to any legal
proceedings, the adverse outcome of which, in management's opinion, individually
or in the aggregate, would have a material adverse effect on our results of
operations or financial position.