Unassociated Document
UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
WASHINGTON,
D.C. 20549
FORM
10-QSB
ý
|
QUARTERLY
REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
|
|
|
For
the Quarterly Period Ended June 30, 2006
|
|
|
o
|
TRANSITION
REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
|
|
|
For
the transition period from _____ to _____
|
|
Commission
file number: 0-27556
|
YOUTHSTREAM
MEDIA NETWORKS, INC.
(Exact
name of small business issuer as specified in its charter)
Delaware
|
|
13-4082185
|
(State
or other jurisdiction of
incorporation
or organization)
|
|
(I.R.S.
Employer
Identification
Number)
|
|
|
|
244
Madison Avenue, PMB #358, New York, New York
|
|
10016
|
(Address
of principal executive offices)
|
|
(Zip
Code)
|
|
|
|
(212)
883-0083
|
(Issuer’s
telephone number, including area
code)
|
Check
whether the issuer (1) filed all reports required to be filed by Section 13
or
15(d) of the Exchange Act during the past 12 months (or such shorter period
that
the issuer was required to file such reports), and (2) has been subject to
such
filing requirements for the past 90 days. Yes x No o
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act). Yes o No x
As
of
August 31, 2006, the issuer had 39,242,251 shares of common stock, $0.01 par
value, issued and outstanding.
Transitional
Small Business Disclosure Format. Yes o No x
Documents
incorporated by reference: None.
YOUTHSTREAM
MEDIA NETWORKS, INC. AND SUBSIDIARIES
EXPLANATORY
NOTES
The
statements included in this Quarterly Report on Form 10-QSB for the quarterly
period ended June 30, 2006 (the “Report”) regarding future financial performance
and results and other statements that are not historical facts constitute
forward-looking statements. The words "believes," "intends," "expects,"
"anticipates," "projects," "estimates," "predicts," and similar expressions
are
also intended to identify forward-looking statements. These forward-looking
statements are based on current expectations and are subject to risks and
uncertainties. In connection with the "safe harbor" provisions of the Private
Securities Litigation Reform Act of 1995, the Company cautions the reader that
actual results or events could differ materially from those set forth or implied
by such forward-looking statements and related assumptions due to certain
important factors, including, without limitation, the following: (i) cyclical
changes in market supply and demand for steel, (ii) general economic conditions
affecting steel consumption, (iii) U.S. or foreign trade policy affecting the
price of imported steel, (iv) governmental monetary or fiscal policy in the
U.S.
and other major international economies, (v) increased price competition brought
about by excess domestic and global steelmaking capacity and imports of low
priced steel, (vi) continued consolidation in the domestic and global steel
industry, resulting in larger producers with much greater market power to affect
price and/or supply, (vii) changes in the availability or cost of steel scrap,
which has risen dramatically over the past few years, (viii) periodic
fluctuations in the availability and cost of electricity, natural gas or other
utilities, (ix) the occurrence of unanticipated equipment failures and plant
outages or the occurrences of extraordinary operating expenses, (x) competitive
actions by the Company’s domestic and foreign competitors, (xi)
margin squeeze or compression resulting from the Company’s inability to pass
through to its customers, price increases or surcharges, the increased cost
of
raw materials and supplies, (xii) loss of business from one or more major
customers or end-users, (xiii) labor unrest, work stoppages and/or strikes
involving the Company’s workforce, those of its important suppliers or
customers, or those affecting the steel industry in general, (xiv) the effect
of
the elements upon the Company’s production or upon the production or needs of
its important suppliers or customers, (xv) the impact of, or changes in,
environmental laws or in the application of other legal or regulatory
requirements upon the Company’s production processes or costs of production or
upon those of its suppliers or customers, including actions by government
agencies, such as the U.S. Environmental Protection Agency or the Kentucky
Department for Environmental Protection, (xvi) private or governmental liability
claims or litigation, or the impact of any adverse outcome of any litigation
on
the adequacy of the Company’s reserves, the availability or adequacy of its
insurance coverage, its financial well-being or its business and assets, (xvii)
changes in interest rates or other borrowing costs, or the effect of existing
loan covenants or restrictions upon the cost or availability of credit to fund
operations or take advantage of other business opportunities, (xviii) changes
in
the Company’s business strategies or development plans which it may adopt or
which may be brought about in response to actions by its suppliers or customers,
and any difficulty or inability to successfully consummate or implement as
planned any planned or potential projects, acquisitions, joint ventures or
strategic alliances; and (xix) the impact of regulatory or other governmental
permits or approvals, litigation, construction delays, cost overruns, technology
risk or operational complications upon the Company’s ability to complete,
start-up or continue to profitably operate a project or a new business, or
to
complete, integrate and operate any potential acquisitions as anticipated.
The
Company is also subject to general business risks, including management's
success in continuing to settle the Company's outstanding obligations from
its
prior business activities, results of tax audits, adverse state, federal or
foreign legislation and regulation, changes in general economic factors, the
Company's ability to retain and attract key employees, acts of war or global
terrorism, and unexpected natural disasters. Any forward-looking statements
included in this Report are made as of the date hereof, based on information
available to the Company as of the date hereof, and, subject to applicable
law,
the Company assumes no obligation to update any forward-looking
statements.
INDEX
|
Page
Number
|
|
|
PART
I. FINANCIAL INFORMATION
|
1
|
|
|
ITEM
1.
|
FINANCIAL
STATEMENTS
|
1
|
|
|
Condensed
Consolidated Balance Sheets —
June
30, 2006 (Unaudited) and September 30, 2005
|
1
|
|
|
Condensed
Consolidated Statements of Operations (Unaudited) —
Three
Months and Nine Months Ended June 30, 2006 and 2005
|
3
|
|
|
Condensed
Consolidated Statement of Stockholders’ Deficiency (Unaudited) —
Nine
Months Ended June 30, 2006
|
4
|
|
|
Condensed
Consolidated Statements of Cash Flows (Unaudited) —
Nine
Months Ended June 30, 2006 and 2005
|
5
|
|
|
Notes
to Condensed Consolidated Financial Statements (Unaudited) —
Three
Months and Nine Months Ended June 30, 2006 and 2005
|
6
|
ITEM
2.
|
MANAGEMENT’S
DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
|
21
|
|
|
|
ITEM
3.
|
CONTROLS
AND PROCEDURES
|
36
|
|
|
|
|
|
|
PART
II. OTHER INFORMATION
|
II-1
|
|
|
|
ITEM
1.
|
LEGAL
PROCEEDINGS
|
II-1
|
ITEM
2.
|
UNREGISTERED
SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
|
II-1
|
ITEM
3.
|
DEFAULTS
UPON SENIOR SECURITIES
|
II-1
|
ITEM
4.
|
SUBMISSION
OF MATTERS TO A VOTE OF SECURITY HOLDERS
|
II-1
|
ITEM
5.
|
OTHER
INFORMATION
|
II-1
|
ITEM
6.
|
EXHIBITS
|
II-1
|
|
|
|
SIGNATURES
|
II-2
|
YOUTHSTREAM
MEDIA NETWORKS, INC. AND SUBSIDIARIES
CONDENSED
CONSOLIDATED BALANCE SHEETS
|
|
June
30, 2006
|
|
September
30, 2005
|
|
|
|
(Unaudited)
|
|
|
|
|
|
|
|
|
|
ASSETS
|
|
|
|
|
|
Current
assets:
|
|
|
|
|
|
Cash
and cash equivalents
|
|
$
|
933,747
|
|
$
|
998,835
|
|
Accounts
receivable, less allowance for doubtful accounts of $932,019
at
June
30, 2006 and $747,399 at September 30, 2005
|
|
|
12,277,210
|
|
|
14,668,539
|
|
Inventories
|
|
|
19,242,246
|
|
|
17,880,805
|
|
Prepaid
expenses and other current assets
|
|
|
1,103,507
|
|
|
2,167,382
|
|
|
|
|
|
|
|
|
|
Total
current assets
|
|
|
33,556,710
|
|
|
35,715,561
|
|
|
|
|
|
|
|
|
|
Property,
plant and equipment
|
|
|
6,630,012
|
|
|
6,630,012
|
|
Less
accumulated depreciation and amortization
|
|
|
(1,609,892
|
)
|
|
(1,062,267
|
)
|
Property,
plant and equipment, net
|
|
|
5,020,120
|
|
|
5,567,745
|
|
|
|
|
|
|
|
|
|
Other
assets:
|
|
|
|
|
|
|
|
Deferred
loan costs, net of amortization of $690,130 at
June
30, 2006 and $438,913 at September 30, 2005
|
|
|
246,695
|
|
|
422,913
|
|
Deposits
|
|
|
215,435
|
|
|
216,035
|
|
Total
other assets
|
|
|
462,130
|
|
|
638,948
|
|
Total
assets
|
|
$
|
39,038,960
|
|
$
|
41,922,254
|
|
(continued)
YOUTHSTREAM
MEDIA NETWORKS, INC. AND SUBSIDIARIES
CONDENSED
CONSOLIDATED BALANCE SHEETS (continued)
|
|
June
30, 2006
|
|
September
30, 2005
|
|
|
|
(Unaudited)
|
|
|
|
|
|
|
|
|
|
LIABILITIES
AND STOCKHOLDERS’ DEFICIENCY
|
|
|
|
|
|
Current
liabilities:
|
|
|
|
|
|
Accounts
payable
|
|
$
|
8,883,565
|
|
$
|
9,008,612
|
|
Accrued
expenses
|
|
|
3,380,003
|
|
|
2,048,481
|
|
Accrued
interest payable:
|
|
|
|
|
|
|
|
12%
subordinated promissory notes payable to related parties
|
|
|
209,425
|
|
|
1,085,753
|
|
8%
subordinated promissory notes payable to related parties
|
|
|
1,149,862
|
|
|
---
|
|
Notes
payable to directors
|
|
|
---
|
|
|
50,000
|
|
Secured
line of credit
|
|
|
9,890,679
|
|
|
19,009,379
|
|
12%
subordinated promissory notes payable to related parties
|
|
|
7,000,000
|
|
|
---
|
|
8%
subordinated promissory notes payable to related parties
|
|
|
3,159,416
|
|
|
---
|
|
Current
portion of 8% subordinated promissory notes payable to related
parties
|
|
|
1,849,300
|
|
|
---
|
|
Current
portion of equipment contract payable
|
|
|
82,652
|
|
|
77,091
|
|
Current
portion of capital lease obligation
|
|
|
416,291
|
|
|
372,256
|
|
Liabilities
related to discontinued operations
|
|
|
2,984,660
|
|
|
2,984,660
|
|
Total
current liabilities
|
|
|
39,005,853
|
|
|
34,636,232
|
|
|
|
|
|
|
|
|
|
Non-current
liabilities:
|
|
|
|
|
|
|
|
Accrued
interest payable:
|
|
|
|
|
|
|
|
4%
note payable to investor
|
|
|
137,419
|
|
|
107,419
|
|
8%
subordinated promissory notes payable to related parties
|
|
|
---
|
|
|
1,852,384
|
|
4%
note payable to related party, plus cumulative interest of
$952,775
|
|
|
3,952,775
|
|
|
3,952,775
|
|
4%
note payable to investor, net of unamortized discount
|
|
|
967,082
|
|
|
964,194
|
|
8%
subordinated secured promissory notes payable to related parties,
less
current portion
|
|
|
37,643,700
|
|
|
39,493,000
|
|
12%
subordinated promissory notes payable to related parties
|
|
|
---
|
|
|
7,000,000
|
|
Equipment
contract payable, less current portion
|
|
|
109,977
|
|
|
172,714
|
|
Capital
lease obligation, less current portion
|
|
|
994,102
|
|
|
1,312,064
|
|
Deferred
rent
|
|
|
117,188
|
|
|
144,360
|
|
|
|
|
|
|
|
|
|
Preferred
stock of subsidiary subject to mandatory redemption; issued and
outstanding at June 30, 2006 - 25,000 shares, and at September 30,
2005 -
24,733 shares of Series A 13% cumulative, non-convertible, redeemable
preferred stock, mandatory redemption and liquidation value of $1,000.00
per share, plus cumulative dividends of $4,336,301 at June 30, 2006
and
$1,885,129 at September 30, 2005
|
|
|
29,336,301
|
|
|
26,618,129
|
|
|
|
|
|
|
|
|
|
Preferred
stock subject to mandatory redemption; issued and outstanding at
June 30,
2006 and September 30, 2005 - 1,000,000 shares of Series A 4% cumulative,
non-convertible, redeemable preferred stock, mandatory redemption
and
liquidation value of $4.00 per share, plus cumulative dividends of
$1,269,333
|
|
|
5,269,333
|
|
|
5,269,333
|
|
|
|
|
|
|
|
|
|
Minority
interest - related parties
|
|
|
---
|
|
|
---
|
|
Total
liabilities
|
|
|
117,533,730
|
|
|
121,522,604
|
|
|
|
|
|
|
|
|
|
Commitments
and contingencies
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stockholders’
deficiency:
|
|
|
|
|
|
|
|
Preferred
stock, $0.01 par value; authorized - 5,000,000 shares; issued and
outstanding at June 30, 2006 and September 30, 2005 - 1,000,000 shares
of
Series A preferred stock (classified in long-term liabilities as
preferred
stock subject to mandatory redemption)
|
|
|
---
|
|
|
---
|
|
Common
stock, $0.01 par value; authorized - 100,000,000 shares; issued -
39,849,751 shares; outstanding -39,242,251 shares at June 30, 2006
and
September 30, 2005
|
|
|
398,486
|
|
|
398,486
|
|
Additional
paid-in capital
|
|
|
267,835,888
|
|
|
268,096,138
|
|
Accumulated
deficit
|
|
|
(345,899,568
|
)
|
|
(347,265,398
|
)
|
Treasury
stock - 607,500 shares, at cost
|
|
|
(829,576
|
)
|
|
(829,576
|
)
|
Total
stockholders’ deficiency
|
|
|
(78,494,770
|
)
|
|
(79,600,350
|
)
|
Total
liabilities and stockholders’ deficiency
|
|
$
|
39,038,960
|
|
$
|
41,922,254
|
|
See
accompanying notes to condensed consolidated financial statements.
YOUTHSTREAM
MEDIA NETWORKS, INC. AND SUBSIDIARIES
CONDENSED
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
|
|
Three
Months Ended
June
30,
|
|
Nine
Months Ended
June
30,
|
|
|
|
2006
|
|
2005
|
|
2006
|
|
2005
|
|
|
|
|
|
|
|
|
|
|
|
NET
SALES
|
|
$
|
34,284,157
|
|
$
|
29,127,566
|
|
$
|
104,287,949
|
|
$
|
38,261,343
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
COSTS
AND EXPENSES
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost
of sales
|
|
|
29,407,919
|
|
|
27,194,477
|
|
|
89,887,425
|
|
|
35,666,705
|
|
Selling
|
|
|
389,025
|
|
|
300,486
|
|
|
1,184,781
|
|
|
412,544
|
|
General
and administrative
|
|
|
1,559,607
|
|
|
994,051
|
|
|
4,557,136
|
|
|
1,593,208
|
|
|
|
|
31,356,551
|
|
|
28,489,014
|
|
|
95,629,342
|
|
|
37,672,457
|
|
Income
from operations
|
|
|
2,927,606
|
|
|
638,552
|
|
|
8,658,607
|
|
|
588,886
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
OTHER
INCOME (EXPENSE)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
income
|
|
|
119
|
|
|
9,944
|
|
|
321
|
|
|
35,478
|
|
Interest
expense:
13%
Series A Preferred Stock
|
|
|
(810,274
|
)
|
|
(801,621
|
)
|
|
(2,451,172
|
)
|
|
(1,074,700
|
)
|
Notes
payable to related parties
|
|
|
(1,060,135
|
)
|
|
(997,121
|
)
|
|
(3,085,168
|
)
|
|
(1,336,799
|
)
|
Other
|
|
|
(454,385
|
)
|
|
(573,146
|
)
|
|
(1,570,806
|
)
|
|
(797,455
|
)
|
Transaction
costs related to KES acquisition
|
|
|
---
|
|
|
(280,773
|
)
|
|
---
|
|
|
(1,073,727
|
)
|
Other
income (expense), net
|
|
|
2,249
|
|
|
4,216
|
|
|
88,048
|
|
|
(26,489
|
)
|
Other
income (expense), net
|
|
|
(2,322,426
|
)
|
|
(2,638,501
|
)
|
|
(7,018,777
|
)
|
|
(4,273,692
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
INCOME
(LOSS) BEFORE INCOME TAXES AND MINORITY INTEREST
|
|
|
605,180
|
|
|
(1,999,949
|
)
|
|
1,639,830
|
|
|
(3,684,806
|
)
|
Income
taxes
|
|
|
146,000
|
|
|
---
|
|
|
274,000
|
|
|
---
|
|
INCOME
(LOSS) BEFORE MINORITY INTEREST
|
|
|
459,180
|
|
|
(1,999,949
|
)
|
|
1,365,830
|
|
|
(3,684,806
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
MINORITY
INTEREST - related parties
|
|
|
---
|
|
|
162,820
|
|
|
---
|
|
|
430,931
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NET
INCOME (LOSS)
|
|
$
|
459,180
|
|
$
|
(1,837,129
|
)
|
$
|
1,365,830
|
|
$
|
(3,253,875
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NET
INCOME (LOSS) PER COMMON SHARE -
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
|
|
$
|
0.01
|
|
$
|
(0.05
|
)
|
$
|
0.03
|
|
$
|
(0.08
|
)
|
Diluted
|
|
$
|
0.01
|
|
$
|
(0.05
|
)
|
$
|
0.03
|
|
$
|
(0.08
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
WEIGHTED
AVERAGE NUMBER OF COMMON SHARES OUTSTANDING -
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
|
|
|
39,242,251
|
|
|
39,242,251
|
|
|
39,242,251
|
|
|
39,242,251
|
|
Diluted
|
|
|
39,971,097
|
|
|
39,242,251
|
|
|
40,067,251
|
|
|
39,242,251
|
|
See
accompanying notes to condensed consolidated financial statements.
YOUTHSTREAM
MEDIA NETWORKS, INC. AND SUBSIDIARIES
CONDENSED
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ DEFICIENCY
(UNAUDITED)
NINE
MONTHS ENDED JUNE 30, 2006
|
|
Common
Stock
|
|
|
|
|
|
|
|
|
|
|
|
Shares
|
|
Amount
|
|
Additional
Paid-in Capital
|
|
|
|
Treasury
Stock
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balances
at October 1, 2005
|
|
|
39,849,751
|
|
$
|
398,486
|
|
$
|
268,096,138
|
|
$
|
(347,265,398
|
)
|
$
|
(829,576
|
)
|
$
|
(79,600,350
|
)
|
Fair
value of stock options
|
|
|
--
|
|
|
--
|
|
|
6,750
|
|
|
--
|
|
|
-- |
|
|
6,750
|
|
Deemed
distribution to sellers of KES Acquisition Company, LLC
|
|
|
--
|
|
|
--
|
|
|
(267,000
|
)
|
|
--
|
|
|
-- |
|
|
(267,000
|
)
|
Net
income
|
|
|
--
|
|
|
--
|
|
|
--
|
|
|
1,365,830
|
|
|
--
|
|
|
1,365,830
|
|
Balances
at June 30, 2006
|
|
|
39,849,751
|
|
$
|
398,486
|
|
$
|
267,835,888
|
|
$
|
(345,899,568
|
)
|
$
|
(829,576
|
)
|
$
|
(78,494,770
|
)
|
See
accompanying notes to condensed consolidated financial statements.
YOUTHSTREAM
MEDIA NETWORKS, INC. AND SUBSIDIARIES
CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
|
|
Nine
Months Ended
June
30,
|
|
|
|
2006
|
|
2005
|
|
|
|
|
|
|
|
CASH
FLOWS FROM OPERATING ACTIVITIES
|
|
|
|
|
|
Net
income (loss)
|
|
$
|
1,365,830
|
|
$
|
(3,253,875
|
)
|
Adjustments
to reconcile net income (loss) to net cash provided by (used in)
operating
activities:
|
|
|
|
|
|
|
|
Net
change in liabilities related to discontinued operations
|
|
|
---
|
|
|
(27,727
|
)
|
Depreciation
and amortization
|
|
|
547,625
|
|
|
245,452
|
|
Stock-based
compensation
|
|
|
6,750
|
|
|
---
|
|
Amortization
of original issue discount on subordinated notes payable
|
|
|
2,888
|
|
|
1,951
|
|
Amortization
of deferred loan costs
|
|
|
251,218
|
|
|
152,456
|
|
Write-off
of fixed assets
|
|
|
---
|
|
|
20,430
|
|
Write-off
of KES acquisition costs
|
|
|
---
|
|
|
362,846
|
|
Minority
interest - related parties
|
|
|
---
|
|
|
(430,931
|
)
|
Changes
in operating assets and liabilities:
|
|
|
|
|
|
|
|
(Increase)
decrease in -
|
|
|
|
|
|
|
|
Accounts
receivable, net
|
|
|
2,391,329
|
|
|
(2,202,051
|
)
|
Inventories
|
|
|
(1,361,441
|
)
|
|
3,294,122
|
|
Accrued
interest receivable
|
|
|
---
|
|
|
(31,259
|
)
|
Prepaid
expenses
|
|
|
1,063,875
|
|
|
(258,264
|
)
|
Deposits
|
|
|
600
|
|
|
---
|
|
Increase
(decrease) in -
|
|
|
|
|
|
|
|
Accounts
payable
|
|
|
(125,047
|
)
|
|
(2,326,412
|
)
|
Accrued
interest and dividends payable
|
|
|
4,061,738
|
|
|
2,411,499
|
|
Accrued
expenses
|
|
|
1,331,522
|
|
|
(575,794
|
)
|
Deferred
rent
|
|
|
(27,172
|
)
|
|
(12,030
|
)
|
NET
CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES
|
|
|
9,509,715
|
|
|
(2,629,587
|
)
|
|
|
|
|
|
|
|
|
CASH
FLOWS FROM INVESTING ACTIVITIES
|
|
|
|
|
|
|
|
Principal
and interest payments on BTW note receivable
|
|
|
---
|
|
|
247,227
|
|
NET
CASH PROVIDED BY INVESTING ACTIVITIES
|
|
|
---
|
|
|
247,227
|
|
|
|
|
|
|
|
|
|
CASH
FLOWS FROM FINANCING ACTIVITIES
|
|
|
|
|
|
|
|
Net
borrowings (repayments) under secured line of credit
|
|
|
(9,193,700
|
)
|
|
1,410,683
|
|
Repayment
of notes payable to directors
|
|
|
(50,000
|
)
|
|
---
|
|
Principal
payments on equipment contract payable and capital lease
obligation
|
|
|
(331,103
|
)
|
|
(131,440
|
)
|
NET
CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES
|
|
|
(9,574,803
|
)
|
|
1,279,243
|
|
|
|
|
|
|
|
|
|
NET
CASH USED IN OPERATING, INVESTING AND FINANCING ACTIVITIES
|
|
|
(65,088
|
)
|
|
(1,103,117
|
)
|
|
|
|
|
|
|
|
|
CASH
ACQUIRED IN CONNECTION WITH KES ACQUISITION
|
|
|
---
|
|
|
913,194
|
|
|
|
|
|
|
|
|
|
CASH
AND CASH EQUIVALENTS
|
|
|
|
|
|
|
|
Net
decrease
|
|
|
(65,088
|
)
|
|
(189,923
|
)
|
Balance
at beginning of period
|
|
|
998,835
|
|
|
674,880
|
|
Balance
at end of period
|
|
$
|
933,747
|
|
$
|
484,957
|
|
|
|
|
|
|
|
|
|
SUPPLEMENTAL
CASH FLOW INFORMATION
|
|
|
|
|
|
|
|
Cash
paid for -
|
|
|
|
|
|
|
|
Interest
|
|
$
|
3,045,408
|
|
$
|
777,455
|
|
Income
taxes
|
|
$
|
---
|
|
$
|
---
|
|
|
|
|
|
|
|
|
|
NON-CASH
INVESTING AND FINANCING ACTIVITIES
|
|
|
|
|
|
|
|
Deemed
distribution to sellers of KES Acquisition Company, LLC
|
|
$
|
267,000
|
|
$
|
---
|
|
8%
promissory notes payable to related parties issued in payment of
accrued
interest
|
|
$
|
3,159,416
|
|
$
|
---
|
|
Preferred
stock issued in connection with acquisition of KES Acquisition Company,
LLC
|
|
$
|
---
|
|
$
|
24,733,000
|
|
Notes
payable issued in connection with acquisition of KES Acquisition
Company,
LLC
|
|
$
|
---
|
|
$
|
39,493,000
|
|
Non-cash
assets acquired in connection with acquisition of KES Acquisition
Company,
LLC
|
|
$
|
---
|
|
$
|
37,019,827
|
|
Liabilities
assumed in connection with acquisition of KES Acquisition Company,
LLC
|
|
$
|
---
|
|
$
|
36,255,513
|
|
Deemed
distribution to sellers of KES Acquisition Company, LLC in excess
of
predecessor’s basis
|
|
$
|
---
|
|
$
|
63,104,423
|
|
Loan
fees capitalized and added to note principal
|
|
$
|
75,000
|
|
$
|
125,000
|
|
See
accompanying notes to condensed consolidated financial statements.
YOUTHSTREAM
MEDIA NETWORKS, INC. AND SUBSIDIARIES
THREE
MONTHS AND NINE MONTHS ENDED JUNE 30, 2006 AND 2005
1.
Organization and Basis of Presentation
Basis
of
Presentation
The
accompanying consolidated financial statements include the accounts of
YouthStream Media Networks, Inc. (“YouthStream”), and its direct and
indirect wholly and majority-owned subsidiaries: Network Event
Theater, Inc. (“NET”), American Passage Media, Inc. (“American
Passage”), Beyond the Wall, Inc. (“Beyond the Wall” or “BTW”), and
W3T.com, Inc. (“Teen.com”) (all inactive); and, commencing March 1, 2005,
YouthStream Acquisition Corp. (“Acquisition Corp.”), Atacama KES Holding
Corporation (“Atacama KES”) and KES Acquisition Company, LLC (“KES Acquisition”)
(see Note 2) (collectively, the “Company”).
The
consolidated financial statements have been prepared in accordance with
generally accepted accounting principles in the United States of
America.
All
intercompany items and transactions have been eliminated in
consolidation.
Commencing
March 1, 2005, the Company has included the operations of a steel mini-mill
located in Ashland, Kentucky in its consolidated financial statements (see
Note
2), which represents the only business segment in which the Company currently
operates.
The
accompanying condensed consolidated financial statements are unaudited, but
in
the opinion of management of the Company, contain all adjustments, which include
normal recurring accruals, necessary to present fairly the financial position
at
June 30, 2006, the results of operations for the three months and nine months
ended June 30, 2006 and 2005, and the cash flows for the nine months ended
June
30, 2006 and 2005. The balance sheet as of September 30, 2005 is derived from
the Company’s audited financial statements included in the Company’s Annual
Report on Form 10-KSB for the fiscal year ended September 30, 2005.
Certain
information and footnote disclosures normally included in financial statements
that have been prepared in accordance with generally accepted accounting
principles have been condensed or omitted pursuant to the rules and regulations
of the Securities and Exchange Commission, although management of the Company
believes that the disclosures contained in these financial statements are
adequate to make the information presented therein not misleading. For further
information, refer to the financial statements and the notes thereto included
in
the Company’s Annual Report on Form 10-KSB for the fiscal year ended September
30, 2005, as filed with the Securities and Exchange Commission.
The
preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities, disclosure of contingent assets and liabilities at the date of
the
financial statements, and the reported amounts of revenues and expenses during
the reporting period. Actual results could differ from those
estimates.
The
results of operations for the three months and nine months ended June 30, 2006
are not necessarily indicative of the results of operations to be expected
for
the full fiscal year ending September 30, 2006.
Going
Concern
The
Company has incurred recurring operating losses since its inception. The
Company
incurred
a net loss of $3,430,562 and a negative cash flow from operating activities
of
$4,300,395 for the year ended September 30, 2005, and had an accumulated deficit
of $347,265,398 and a stockholders' deficiency of $79,600,350 at September
30,
2005. As
of
September 30, 2005, the Company had insufficient capital to fund all of its
obligations on a consolidated basis. These factors raise substantial doubt
about
the Company’s ability to continue as a going concern. The consolidated financial
statements do not include any adjustments to reflect the possible future effect
of the recoverability and classification of assets or the amounts and
classifications of liabilities that may result from the outcome of this
uncertainty.
On
March
9, 2005, the Company completed the acquisition of a steel mini-mill located
in
Ashland, Kentucky (see Note 2). The Company utilized substantially all of its
available cash resources to fund such acquisition and will require additional
operating capital to fund corporate general and administrative expenses, which
the Company expects to obtain primarily through periodic tax sharing payments
from Acquisition Corp. and Atacama KES (see Note 2). In addition, the steel
mini-mill restarted operations in late January 2004 after being acquired by
the
previous owners, and until recently has incurred losses. For the year ended
September 30, 2005, operating income was $2,691,955 (which included the
operations of the steel mini-mill for the seven month period March through
September 2005), exclusive of interest expense. For the three months and nine
months ended June 30, 2006, operating income was $2,927,606 and $8,658,607,
respectively, exclusive of interest expense. The steel mini-mill relies on
cash
flows from operations to support a secured line of credit with General Electric
Capital Corporation to fund its separate operations. As a result of improved
operating performance of the steel mini-mill beginning in late 2005, the Company
has been able to increase borrowing availability under this line of credit.
Based
on
its current level of operations, the Company believes that its current cash
resources provided by operations and the secured line of credit will be adequate
to fund its operations through September 30, 2006. However, to the extent the
Company’s estimates are inaccurate or its assumptions are incorrect, the Company
may not have sufficient cash resources to fund its operations. In such event,
the Company may have to consider a formal or informal restructuring or
reorganization, including a sale or other disposition of its
assets.
The
Company’s management may also consider various strategic alternatives in the
future, including the acquisition of new business opportunities, which may
be
from related or unrelated parties. However, there can be no assurances
that such efforts will ultimately be successful. The Company may finance
any acquisitions through a combination of debt and/or equity
securities.
Stock-Based
Compensation
Through
December 31, 2005, the Company accounted for stock-based employee compensation
in accordance with the provisions of Accounting Principles Board (“APB”) Opinion
No. 25 and FASB Interpretation No. 44, “Accounting for Certain
Transactions Involving Stock Compensation”, and complied with the disclosure
requirements of SFAS No. 123 (as modified by SFAS No. 48), “Accounting for
Stock-Based Compensation”. Under APB No. 25, compensation expense was
recorded based on the difference, if any, between the fair value of the
Company’s stock and the exercise price on the measurement date. The Company
accounted for stock issued to non-employees in accordance with SFAS
No. 123, which required entities to recognize as expense over the service
period the fair value of all stock-based awards on the date of grant and EITF
No. 96-18, “Accounting for Equity Investments that are Issued to Other Than
Employees for Acquiring, or in Conjunction with Selling, Goods or Services”,
which addressed the measurement date and recognition approach for such
transactions.
The
Company recognized compensation expense related to variable awards in accordance
with FASB Interpretation No. 28, “Accounting for Stock Appreciation Rights
and Other Variable Stock Option or Award Plans”. For fixed awards, the Company
recognized expense over the vesting period or the period of
service.
On
January 1, 2006, the Company adopted Statement of Financial Accounting Standards
No. 123 (revised 2004), “Share-Based Payment” (“SFAS No. 123R”), a
revision to SFAS No. 123, “Accounting for Stock-Based Compensation”. SFAS
No. 123R superseded APB Opinion No. 25, “Accounting for Stock Issued
to Employees”, and amended SFAS No. 95, “Statement of Cash Flows”. SFAS
No. 123R requires that the Company measure the cost of employee services
received in exchange for equity awards based on the grant date fair value of
the
awards. The cost will be recognized as compensation expense over the vesting
period of the awards.
Under
this method, the Company began recognizing compensation cost for equity-based
compensation for all new or modified grants after the date of adoption. The
pro
forma disclosures previously permitted under SFAS No. 123 are no longer an
alternative to financial statement recognition. In addition, the Company will
recognize the unvested portion of the grant date fair value of awards issued
prior to adoption based on the fair values previously calculated for disclosure
purposes over the remaining vesting period of the outstanding options and
warrants.
Accordingly,
the Company recognizes compensation cost for equity-based compensation for
all
new or modified grants issued after December 31, 2005.
In
addition, commencing January 1, 2006, the Company is required to recognize
the
unvested portion of the grant date fair value of awards issued prior to the
adoption of SFAS No. 123R based on the fair values previously calculated for
disclosure purposes over the remaining vesting period of the outstanding stock
options and warrants. The Company had one partially vested stock option
outstanding at December 31, 2005 (see Note 6). This option fully vested during
the six months ended June 30, 2006 and compensation cost of $6,750 was
recognized during the period. On
June
26, 2006, the Company issued an option to purchase 200,000 shares of common
stock to a new director, exercisable through June 26, 2013 at $0.12 per share,
which was the fair market value on the date of issuance. The fair value of
the
option, calculated pursuant to the Black-Scholes option-pricing model, was
$24,000 ($0.12 per share). The option vests over a 12-month period in equal
monthly installments beginning July 1, 2006 (see Note 6).
Although
the expense for stock options that may be vested or granted in future
periods cannot be determined at this time due to the uncertainty of the vesting
or timing of future grants, the Company’s future stock price, and the related
fair value calculation, the adoption of SFAS No. 123R could have a material
effect on the Company’s future financial statements.
Pro
forma
information regarding net loss per share is required by SFAS No. 123 as if
the
Company had accounted for its employee stock options under the fair value method
of such statement. The fair value of these options was estimated on the grant
date using the Black-Scholes option-pricing model.
For
purposes of pro forma disclosures, the estimated fair value of the options
is
amortized to operations over the vesting period of the options or the expected
period of benefit. The Company’s unaudited pro forma information is summarized
as follows:
|
|
Nine
Months Ended June 30,
2006
|
|
Three
Months Ended June 30,
2005
|
|
Nine
Months
Ended
June 30,
2005
|
|
|
|
|
|
|
|
|
|
Net
income (loss) - as reported
|
|
$
|
1,365,830
|
|
$
|
(1,837,129
|
)
|
$
|
(3,253,875
|
)
|
|
|
|
|
|
|
|
|
|
|
|
Less:
Total stock-based compensation expense determined under the fair
value
method for all awards
|
|
|
(13,500
|
)
|
|
(13,500
|
)
|
|
(20,250
|
)
|
|
|
|
|
|
|
|
|
|
|
|
Net
income (loss) - pro forma
|
|
$
|
1,352,330
|
|
$
|
(1,850,629
|
)
|
$
|
(3,274,125
|
)
|
|
|
|
|
|
|
|
|
|
|
|
Net
income (loss) per share - basic:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As
reported
|
|
$
|
0.03
|
|
$
|
(0.05
|
)
|
$
|
(0.08
|
)
|
|
|
|
|
|
|
|
|
|
|
|
Pro
forma
|
|
$
|
0.03
|
|
$
|
(0.05
|
)
|
$
|
(0.08
|
)
|
|
|
|
|
|
|
|
|
|
|
|
Net
income (loss) per share - diluted:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As
reported
|
|
$
|
0.03
|
|
$
|
(0.05
|
)
|
$
|
(0.08
|
)
|
|
|
|
|
|
|
|
|
|
|
|
Pro
forma
|
|
$
|
0.03
|
|
$
|
(0.05
|
)
|
$
|
(0.08
|
)
|
Earnings
Per Share
The
Company calculates net income (loss) per share as required by SFAS No. 128,
"Earnings per Share". Basic earnings (loss) per share excludes any dilution
for
common stock equivalents and is computed by dividing net income (loss) by the
weighted average number of common shares outstanding during the relevant period.
Diluted earnings per share reflects the potential dilution that could occur
if
options or other securities or contracts entitling the holder to acquire shares
of common stock were exercised or converted, resulting in the issuance of
additional shares of common stock that would then share in earnings. However,
diluted loss per share does not consider such dilution as its effect would
be
anti-dilutive.
At
June
30, 2006 and 2005, potentially dilutive securities entitling the holder thereof
to acquire shares of common stock are summarized as follows:
|
|
2006
|
|
2005
|
|
|
|
|
|
|
|
Stock
options
|
|
|
1,605,404
|
|
|
1,405,404
|
|
Common
stock purchase warrants
|
|
|
1,000,000
|
|
|
1,000,000
|
|
Concentrations
The
Company’s cash balances exceeded federally-insured levels at June 30, 2006 and
September 30, 2005. The Company minimizes its credit risk by investing its
cash
and cash equivalents with major banks and financial institutions located in
the
United States, as a result of which the Company believes that it had nominal
risk with respect to its concentration of balances in cash and cash equivalents
at such date.
During
the three months ended June 30, 2006, the Company had two suppliers that
accounted for approximately 53% of raw materials purchases, one supplier
providing approximately 30% and the other supplier providing approximately
23%,
of which $2,624,138 was included in accounts payable at June 30, 2006. During
the three months ended June 30, 2006, the Company had two customers that
accounted for approximately 21% of net sales, one customer providing
approximately 11% and the other customer providing approximately 10%, of which
$2,933,411 was included in accounts receivable at June 30, 2006.
During
the nine months ended June 30, 2006, the Company had two suppliers that
accounted for approximately 54% of raw materials purchases, one supplier
providing approximately 35% and the other supplier providing approximately
19%,
of which $2,624,138 was included in accounts payable at June 30, 2006. During
the nine months ended June 30, 2006, the Company had one customer that accounted
for approximately 11% of net sales, of which $2,724,484 was included in accounts
receivable at June 30, 2006.
Discontinued
Operations
As
of
June 30, 2006 and September 30, 2005, the Company has accrued liabilities
$2,984,660 remaining from its discontinued businesses. The accrued liabilities
consist primarily of severance, lease payments and other costs related to the
operations of the discontinued businesses.
Recent
Accounting Pronouncements and Developments
In
May 2005, the FASB issued SFAS No. 154, “Accounting Changes and Error
Corrections” (“SFAS No. 154”). SFAS No. 154 is a replacement of APB
Opinion No. 20, “Accounting Changes” and SFAS No. 3, “Reporting
Accounting Changes in Interim Financial Statements - (an Amendment of APB
Opinion No. 28)” and provides guidance on the accounting for and reporting
of accounting changes and error corrections. SFAS No. 154 establishes
retrospective application as the required method for reporting a change in
accounting principle, and provides guidance for determining whether
retrospective application of a change in accounting principle is impracticable
and for reporting a change when retrospective application is impracticable.
Retrospective application is the application of a different accounting principle
to a prior accounting period as if that principle had always been used or as
the
adjustment of previously issued financial statements to reflect a change in
the
reporting entity. SFAS No. 154 also addresses the reporting of the
correction of an error by restating previously issued financial statements.
SFAS
No. 154 is effective for accounting changes and error corrections occurring
in fiscal years beginning after December 15, 2005. The adoption of SFAS No.
154 is not expected to have any impact on the Company’s financial statement
presentation or disclosures.
In
June
2006, the FASB issued FASB Interpretation No. 48, “Accounting for Uncertainty in
Income Taxes, an interpretation of FASB Statement No. 109 (“FIN 48”). FIN 48
provides criteria for the recognition, measurement, presentation and disclosure
of uncertain tax positions that has an effect on a company’s financial
statements accounted for in accordance with SFAS No. 109, “Accounting for Income
Taxes”, as a result of positions taken or expected to be taken in a company’s
tax return. A tax benefit from an uncertain position may be recognized only
if
it is “more likely than not” that the position is sustainable based on its
technical merits. The provisions of FIN 48 are effective for fiscal years
beginning after December 15, 2006. The Company is currently evaluating the
potential effect that the adoption of FIN 48 will have on the Company's
financial statement presentation and disclosures.
On
September 22, 2005, the Securities and Exchange Commission ("SEC") issued rules
to delay by one year the required reporting by management on internal controls
over financial reporting for non-accelerated filers. The new SEC rule extends
the compliance date for such registrants to fiscal years ending on or after
July
15, 2007. Accordingly, the Company qualifies for the deferral to comply with
the
internal control reporting requirements until its fiscal year ending September
30, 2007. On August 9, 2006, the SEC issued two releases that when adopted
are
designed to grant smaller public companies further relief from compliance with
Section 404 of the Sarbanes-Oxley Act of 2002.
2.
Acquisition of Steel Mini-Mill
In
September 2003, YouthStream invested $125,000 to acquire a 1.00% membership
interest in KES Holdings, LLC, a Delaware limited liability company ("KES
Holdings"), which was formed to acquire certain assets of Kentucky Electric
Steel, Inc., a Delaware corporation ("KES"), consisting of a steel
mini-mill located in Ashland, Kentucky (the “Mill”). On September 2, 2003,
KES Holdings, through its subsidiary, KES Acquisition Company, LLC, a Delaware
limited liability company ("KES Acquisition"), completed the acquisition of
the
Mill pursuant to Section 363 of the United States Bankruptcy Code for cash
consideration of $2,650,000, which was funded through the capital contributions
of the members of KES Holdings. Members’ capital contributions were also used
for start-up costs, working capital purposes and payment of deferred maintenance
of the Mill. KES had ceased production on or about December 16, 2002 and
filed a voluntary petition for relief under Chapter 11 of the United States
Bankruptcy Code on February 5, 2003.
The
Mill
had been in operation for approximately forty years and was refurbished by
KES
Acquisition subsequent to its acquisition. The refurbished Mill has been
generating revenues since late January 2004. The current production capacity
of
the Mill for finished products, based on the current operating structure and
man-hours worked, is approximately 200,000 short-tons per year, and the Mill
is
currently operating at approximately 99% of such annualized
capacity. Management
is focusing on developing the business and improving operating
efficiencies.
The
Mill
produces bar flats that are produced to a variety of specifications and fall
primarily into two general quality levels - merchant bar quality steel bar
flats
(“MBQ Bar Flats”) for generic types of applications, and special bar quality
steel bar flats (“SBQ Bar Flats”), where more precise customer specifications
require the use of alloys, customized equipment and special production
procedures to insure that the finished product meets critical end-use
performance characteristics.
The
Mill
manufactures over 2,600 different Bar Flat items which are sold to volume niche
markets, including original equipment manufacturers (“OEMs”), cold drawn bar
converters, steel service centers and the leaf-spring suspension market for
light- and heavy-duty trucks, mini-vans and utility vehicles. The Mill was
specifically designed to manufacture wider and thicker bar flats up to three
inches in thickness and twelve inches in width that are required by these
markets. In addition, the Mill employs a variety of specially designed equipment
which is necessary to manufacture SBQ Bar Flats to the specifications of the
Mill’s customers.
On
March
9, 2005, YouthStream completed the acquisition of KES Acquisition (the
"Acquisition"), which was deemed effective March 1, 2005. Pursuant to definitive
agreements executed with KES Holdings and Atacama Capital Holdings, Ltd., a
British Virgin Islands company ("Atacama", and together with KES Holdings,
collectively, the "Sellers"), YouthStream, through its newly-formed subsidiary,
YouthStream Acquisition Corp., a Delaware corporation ("Acquisition Corp."),
acquired 100% of the membership interests of KES Acquisition by acquiring (i)
a
37.45% membership interest from KES Holdings and (ii) all of the capital stock
of Atacama KES Holding Corporation, a wholly-owned subsidiary of Atacama
(“Atacama KES”), the owner of the remaining 62.55% membership interest in KES
Acquisition. As consideration for the Acquisition, Acquisition Corp. issued
to
the Sellers (i) $40,000,000 in promissory notes (the “Notes”), (ii) 25,000
shares of 13% Series A Non-Convertible Preferred Stock with an aggregate
liquidation value of $25,000,000 (the “13% Series A Preferred Stock”) and (iii)
100% of its authorized shares of Series B Non-Voting Common Stock. With respect
to the $65,000,000 of purchase consideration, $19,000,000 of the Notes and
$10,000,000 of the 13% Series A Preferred Stock were issued to KES Holdings,
and
$21,000,000 of the Notes and $15,000,000 of the 13% Series A Preferred Stock
were issued to Atacama. YouthStream also contributed an aggregate of $500,000
of
cash to Acquisition Corp. as consideration for the issuance by Acquisition
Corp.
of 100% of its Series A Voting Common Stock. In addition, YouthStream will
periodically be required to purchase shares of Series B Preferred Stock of
Acquisition Corp. in amounts equal to distributions it receives on its KES
Holdings membership interest.
As
a
result of these transactions, YouthStream owns 80.01% of the common stock,
and
100% of the voting stock, of Acquisition Corp. The remaining 19.99% common stock
interest in Acquisition Corp. is owned 62.55% by Atacama and 37.45% by KES
Holdings. YouthStream currently has a 2.67% equity interest in KES Holdings
(this percentage has increased from 1.00% as a result of the redemption of
another member’s interest), as a result of which the Company has eliminated its
$507,000 equity interest in the Notes and $267,000 equity interest in the 13%
Series A Preferred Stock in the consolidated balance sheet at September 30,
2005, and its $507,000 equity interest in the Notes and $0 equity interest
in
the 13% Series A Preferred Stock in the consolidated balance sheet at March
31,
2006 (see Note 6). YouthStream has consolidated the operations of the Mill
through its ownership of KES Acquisition commencing March 1, 2005. As a result
of the Acquisition, the Company’s financial statements for periods ending after
March 1, 2005 are materially different from and are not comparable to its
financial statements prior to that date.
Subsequent
to the Acquisition, the management of the Mill continued unchanged. The
Acquisition did not result in any change in the Mill’s business operations or
financial condition, and, other than as set forth herein, the working capital,
operating cash flow, debt service obligations and credit profile of the Mill
were not affected in any way by the Acquisition.
As
described herein, the Notes and 13% Series A Preferred Stock were issued by
Acquisition Corp., the parent company of KES Acquisition. KES Acquisition is
a
separate legal entity that owns and operates the Mill. The Notes are legal
obligations solely of Acquisition Corp., and are not obligations of KES
Acquisition, nor are they secured by the assets or cash flows of the Mill.
In
the future, Acquisition Corp. may grant liens to secure repayment of the Notes,
upon the consent of any senior lender to KES Acquisition at that time. In
addition, the Notes are non-recourse to the assets of YouthStream, except for
the shares of capital stock of Acquisition Corp. that have been pledged by
YouthStream to the holders of the Notes. Pursuant to the terms of the
transaction documentation in connection with the Acquisition and the loan
facility with General Electric Capital Corporation (“GECC”), YouthStream and
Acquisition Corp. are currently limited in their ability to receive cash
distributions from KES Acquisition, but are permitted to receive tax sharing
payments as described below. Any change in control of Acquisition Corp. in
the
future as a result of the holders of the Notes exercising their legal rights
would not reasonably be expected to have a material impact on the operations
or
financial position of the Mill.
The
Notes
are structurally subordinate in right and payment of up to $40,000,000 of senior
debt, including existing debt obligations in favor of GECC. Scheduled principal
payments commence in (i) February 2007 with respect to the $19,000,000 principal
amount of Notes issued in favor of KES Holdings and (ii) February 2011 with
respect to the $21,000,000 principal amount of Notes issued in favor of Atacama.
In addition, the Notes require additional quarterly principal payments out
of
"free cash", as that term is defined in the Note Purchase Agreement. The Notes
bear interest at the rate of 8% per annum, payable annually during the first
two
years of the Note, as provided for in a letter agreement dated as of July 14,
2005 and effective as of February 28, 2005 by and among Acquisition Corp. and
the Note holders, and quarterly thereafter. The obligations of Acquisition
Corp.
under the Notes are secured by a limited guaranty by YouthStream, which guaranty
is secured by and limited in recourse solely to a pledge by YouthStream of
all
of its interest in Acquisition Corp. As of September 30, 2005, the balance
outstanding on the Notes was $39,493,000, and related accrued interest payable
was $1,852,384. As of June 30, 2006, the balance outstanding on the notes was
$39,493,000 (of which $1,849,300 was classified as a current liability) and
the
related accrued interest payable was $1,064,688 (which was classified as a
current liability).
Future
scheduled principal payments on the Notes are summarized as
follows:
|
|
KES
Holdings -
$19,000,000
Note
|
|
Atacama
-
$21,000,000
Note
|
|
Years
Ending September 30,
|
|
|
|
|
|
|
|
|
|
|
|
2006
|
|
$
|
---
|
|
$
|
---
|
|
2007
|
|
|
1,900,000
|
|
|
---
|
|
2008
|
|
|
950,000
|
|
|
---
|
|
2009
|
|
|
950,000
|
|
|
---
|
|
2010
|
|
|
950,000
|
|
|
---
|
|
2011
|
|
|
2,850,000
|
|
|
4,200,000
|
|
2012
|
|
|
2,850,000
|
|
|
4,200,000
|
|
2013
|
|
|
2,850,000
|
|
|
4,200,000
|
|
2014
|
|
|
---
|
|
|
1,264,000
|
|
2015
|
|
|
5,700,000
|
|
|
7,136,000
|
|
Total
|
|
$
|
19,000,000
|
|
$
|
21,000,000
|
|
Pursuant
to a further letter agreement dated April 11, 2006 and effective as of February
27, 2006 by and among Acquisition Corp. and the Note holders, the interest
payment of $3,200,000 due on February 27, 2006 was paid by the delivery of
short-term notes due February 27, 2007 in the principal amount of $3,200,000,
with interest at 8% per annum. The balance outstanding on the notes, net of
eliminations, was $3,159,416 at June 30, 2006. Accrued interest payable was
$85,174 at June 30, 2006.
For
the
nine months ending September 30, 2005, Acquisition Corp., KES Acquisition and
Atacama KES were collectively required to have, on a consolidated basis, in
excess of $4,000,000 of earnings before interest, taxes, depreciation and
amortization, calculated in accordance with generally accepted accounting
principles ("EBITDA"). For each of the fiscal years ending on and
after September 30, 2006, Acquisition Corp., KES Acquisition and Atacama KES
are
collectively required to have, on a consolidated basis, in excess of $7,200,000
of EBITDA. At March 31 of each fiscal year following the fiscal year
ending September 30, 2005 in which the obligations under the Notes remain
outstanding, Acquisition Corp., KES Acquisition and Atacama KES are collectively
required to have, on a consolidated basis, in excess of $3,000,000 of EBITDA
for
the six months then ended. Effective September 23, 2005, the holders of the
Notes executed an agreement to amend the Notes to eliminate the requirement
that
Acquisition Corp., KES Acquisition and Atacama KES collectively have, on a
consolidated basis, in excess of $4,000,000 of EBITDA for the nine months ending
September 30, 2005. The Company was in compliance with this minimum EBITDA
requirement for the nine months ended June 30, 2006.
The
holders of each share of 13% Series A Preferred Stock are entitled to receive
a
cumulative dividend at an annual rate of 13% of the sum of $1,000 and all
accrued but unpaid dividends. The 13% Series A Preferred Stock contains a
liquidation preference equal to $1,000 per share, plus accrued but unpaid
dividends, and is redeemable out of, and to the extent of, legally available
funds, at a redemption price equal to the sum of $1,000 and all accrued but
unpaid dividends on the earlier to occur of (i) any liquidation of Acquisition
Corp., (ii) the occurrence of an event of default under the Note Purchase
Agreement pursuant to which the Notes were issued or (iii) the first anniversary
of
Acquisition
Corp.’s full and complete repayment of the Notes. As of September 30, 2005, the
balance outstanding on the 13% Series A Preferred Stock was $24,733,000, and
related accrued dividends payable were $1,885,129. As of June 30, 2006, the
balance outstanding on the 13% Series A Preferred Stock was $25,000,000 and
related accrued dividends payable were $4,336,301.
Since
the
acquisition of the Mill by the Sellers, the Mill has been operating under a
Management Services Agreement with Pinnacle Steel, LLC (the "Pinnacle
Agreement"), which agreement remained in effect following the closing. The
principals of Pinnacle Steel LLC that manage the Mill have significant
experience and expertise in the steel industry. The Pinnacle Agreement will
remain in effect through October 31, 2009, subject to earlier termination or
extension based on the financial performance of the Mill. Pinnacle is entitled
to a monthly management fee and a management incentive fee as provided in the
Pinnacle Agreement.
Subsequent
to the acquisition of the Mill by the Sellers, KES Acquisition issued an
aggregate of $7,000,000 of subordinated promissory notes to the Sellers and
certain of their respective affiliates (the “Subordinated Promissory Notes”).
The proceeds from the Subordinated Promissory Notes were used to accelerate
the
development and expansion of the Mill’s operations. The Subordinated Promissory
Notes bear interest at the rate of 12% per annum, with interest payable monthly,
subject to compliance with various agreements and covenants, are secured by
a
subordinated security interest in all of the assets of KES Acquisition, and
are
subject to an Intercreditor and Subordination Agreement dated March 24, 2004
with GECC. When originally issued, principal and interest were due and payable
upon the earlier to occur of (i) an event of default under the Loan and Security
Agreement with GECC or (ii) each note’s respective due date, which ranged from
March 31, 2005 to December 31, 2005. As of September 30, 2005, the due dates
of
the notes had all been extended to December 31, 2006, if not repaid earlier.
At
September 30, 2005, accrued interest payable with respect to the Subordinated
Promissory Notes was $1,085,753. At June 30, 2006, accrued interest payable
with
respect to the Subordinated Promissory Notes was $209,425.
Related
parties with respect to this transaction are summarized as follows: Robert
Scott
Fritz, a director of YouthStream, is an investor in KES Holdings. Hal G. Byer,
another director of YouthStream, is an employee of affiliates of Libra/KES
Investment I, LLC ("Libra/KES"), the Manager of KES Holdings, and has an
economic interest in KES Holdings through his relationship with Libra
Securities, LLC ("Libra Securities"). Jess M. Ravich, a director of YouthStream
effective as of June 26, 2006, is a principal of Libra/KES. In addition,
affiliates of Mr. Ravich, including a trust for the benefit of Mr. Ravich and
certain of his family members (the “Ravich Trust”) are investors in KES
Holdings. Mr. Ravich, either directly or through the Ravich Trust, holds
1,860,000 shares of YouthStream's common stock, warrants to purchase 500,000
shares of YouthStream's common stock exercisable through August 31, 2008,
1,000,000 shares of YouthStream's redeemable preferred stock and an option
to
purchase 200,000 shares of YouthStream’s common stock exercisable through June
26, 2013, which was issued to Mr. Ravich under YouthStream’s 2000 Stock Option
Incentive Plan in connection with his election to the Board of Directors.
Through his positions at Libra/KES, Mr. Ravich managed the business of KES
Acquisition through February 28, 2005. Subordinated Promissory Notes with a
principal amount of $1,650,000 and $450,000 are payable to the Ravich Trust
and
Libra Securities Holdings, LLC, the parent of Libra Securities,
respectively. Mr. Fritz and Mr. Byer have each previously acquired an option
from the Ravich Trust for $2,500 ($0.04 per share) to purchase 62,500 shares
of
YouthStream's redeemable preferred stock issued to the Ravich Trust in January
2003, exercisable at $0.36 per share until December 31, 2006 or earlier upon
the
occurrence of certain events.
The
Acquisition was accounted for as a purchase in accordance with SFAS No. 141,
“Business Combinations”, and in accordance with Emerging Issues Task Force
(“EITF”) No. 88-16, “Basis in Leveraged Buyout Transactions”. As a result of the
substantial and continuing relationships between YouthStream and the Sellers,
and the provisions of EITF 88-16 that are required to be considered when
determining the extent of fair value/predecessor basis to be used in recording
the transaction, the Acquisition has been recorded at predecessor basis. Since
the debt and equity held by the Sellers represented almost the entire amount
of
capital at risk both before and after the Acquisition, the application of the
“monetary test” specified in Section 3 of EITF 88-16, which limits the portion
of the purchase consideration that can be valued at fair value to the percentage
of the total consideration that is monetary, was utilized by the Company in
determining to record the transaction at predecessor basis. The excess of the
purchase price over predecessor basis of the net assets acquired has been
reflected as a deemed distribution of $63,104,423 to the Sellers at the date
of
acquisition in the consolidated financial statements.
For
taxable periods beginning after February 28, 2005, Acquisition Corp. and Atacama
KES are included in the consolidated federal income tax return filed by
YouthStream as the common parent. Acquisition Corp. and Atacama KES have
entered into a Tax Sharing Agreement with YouthStream, pursuant to which they
have agreed to pay YouthStream an amount equal to 50% of their respective
"separate company tax liability", subject to compliance with the GECC secured
line of credit. The term "separate company tax liability" is defined as
the amount, if any, of the federal income tax liability (including, without
limitation, liability for any penalty, fine, additions to tax, interest, minimum
tax and other items applicable to such subsidiary in connection with the
determination of the subsidiary's tax liability), which such subsidiary
would have incurred if its federal income tax liability for the periods during
which it is includible in a consolidated federal income tax return with
YouthStream were determined generally in the same manner in which its
separate return liability would have been calculated under Section 1552(a)(2)
of
the Internal Revenue Code of 1986, as amended. YouthStream has
approximately $255,000,000 of federal net operating loss carryovers currently
available to offset the consolidated federal taxable income of the affiliated
group in the future.
The
total
purchase price of $65,000,000, as well as the terms and conditions of the Notes
and 13% Series A Preferred Stock issued to the Sellers, was determined to be
at
fair value based on reports prepared by an independent valuation firm.
The
following is a summary of the assets acquired and liabilities assumed at
predecessor basis at February 28, 2005.
Assets
Acquired:
|
|
|
|
Cash
|
|
$
|
913,194
|
|
Accounts
receivable
|
|
|
10,781,836
|
|
Allowance
for doubtful accounts
|
|
|
(328,351
|
)
|
Inventories
|
|
|
18,762,218
|
|
Prepaid
expenses and other current assets
|
|
|
904,271
|
|
Property,
plant and equipment
|
|
|
6,630,012
|
|
Accumulated
depreciation and amortization
|
|
|
(639,254
|
)
|
Due
from YouthStream Acquisition Corp.
|
|
|
187,702
|
|
Other
non-current assets
|
|
|
721,393
|
|
|
|
|
|
|
Total
assets acquired
|
|
|
37,933,021
|
|
Liabilities
Assumed:
|
|
|
|
Accounts
payable
|
|
|
9,566,327
|
|
Accrued
expenses
|
|
|
1,267,016
|
|
Accrued
interest payable
|
|
|
593,260
|
|
Deferred
rent
|
|
|
165,413
|
|
Subordinated
promissory notes payable
|
|
|
7,000,000
|
|
Line
of credit
|
|
|
15,495,095
|
|
Equipment
contract payable
|
|
|
291,223
|
|
Capital
lease obligation
|
|
|
1,877,179
|
|
|
|
|
|
|
Total
liabilities assumed
|
|
|
36,255,513
|
|
|
|
|
|
|
Net
assets acquired
|
|
|
1,677,508
|
|
|
|
|
|
|
Adjustment
to recognize minority interest
|
|
|
(331,981
|
)
|
|
|
|
|
|
|
|
$
|
1,345,527
|
|
|
|
|
|
|
Total
purchase consideration, net of intercompany eliminations of 2.67%
interest
held by KES Holdings:
|
|
|
|
|
8%
Subordinated secured promissory notes payable
|
|
$
|
39,493,000
|
|
13%
Series A preferred stock
|
|
|
24,733,000
|
|
|
|
|
|
|
Net
purchase consideration
|
|
|
64,226,000
|
|
|
|
|
|
|
Minority
interests in equity
|
|
|
223,950
|
|
|
|
|
|
|
Adjustment
to record deemed distribution to Sellers
|
|
|
(63,104,423
|
)
|
|
|
|
|
|
|
|
$
|
1,345,527
|
|
The
amount due from Acquisition Corp. of $187,702 represents costs incurred by
KES
Acquisition with respect to the Acquisition, which were included in the
$1,171,406 of transaction costs related to the Acquisition charged to operations
during the year ended September 30, 2005.
As
of
September 30, 2004, the Company had incurred $175,144 of costs with respect
to
the Acquisition, which were presented as deferred costs in the Company’s
consolidated balance sheet at such date. These costs were included in the
$1,171,406 of transaction costs related to the Acquisition charged to operations
during the year ended September 30, 2005.
Minority
interest - related parties was $430,931 on February 28, 2005. For the year
ended
September 30, 2005, the net loss of Acquisition Corp. (an 80.01% consolidated
subsidiary) allocable to the 19.99% minority shareholders was $681,698, but
the
reduction to minority interest - related parties was limited to the balance
at
February 28, 2005 of $430,931. Accordingly, the remainder of the net loss of
Acquisition Corp. allocable to the 19.99% minority shareholders for the year
ended September 30, 2005 of $250,767 was included in the Company’s consolidated
statement of operations for the year ended September 30, 2005, and will be
recovered to the extent that Acquisition Corp. generates net income in future
periods. For the three months and nine months ended June 30, 2006, net income
allocable to the 19.99% minority shareholders was $26,210 and $56,439,
respectively.
The
following pro forma operating data shown below presents the results of
operations for the three months and nine months ended June 30, 2005, as if
the
Acquisition had occurred on the last day of the immediately preceding fiscal
period. Accordingly, transaction costs related to the Acquisition are not
included in the net loss from continuing operations shown below. The pro forma
results are not necessarily indicative of the financial results that might
have
occurred had the Acquisition actually taken place on the respective dates,
or of
future results of operations. Pro
forma
information for the three months and nine months ended June 30, 2005 is
summarized as follows:
|
|
Three
Months
Ended
June
30,
2005
|
|
Nine
Months
Ended
June
30,
2005
|
|
|
|
|
|
|
|
Net
sales
|
|
$
|
29,127,566
|
|
$
|
82,865,839
|
|
Cost
of sales
|
|
|
27,194,477
|
|
|
77,993,132
|
|
Gross
margin
|
|
|
1,933,089
|
|
|
4,872,707
|
|
Operating
income
|
|
|
638,552
|
|
|
1,066,767
|
|
Interest
expense
|
|
|
(2,371,888
|
)
|
|
(7,075,831
|
)
|
Minority
interest
|
|
|
218,439
|
|
|
218,439
|
|
Net
loss from continuing operations
|
|
$
|
(1,500,737
|
)
|
$
|
(5,693,104
|
)
|
|
|
|
|
|
|
|
|
Basic
and diluted net loss per common share
|
|
$
|
(0.04
|
)
|
$
|
(0.15
|
)
|
Weighted
average common shares outstanding
|
|
|
39,242,251
|
|
|
39,242,251
|
|
Almost
all of the Company's net assets are owned by KES Acquisition, a consolidated
subsidiary. As a result of various contractual restrictions contained in
various financing agreements (as previously described) and documents relating
to
the Acquisition, there are limits on the Company’s ability to transfer assets
from KES Acquisition to Youthstream, whether in the form of loans and advances,
cash dividends, tax-sharing payments, or otherwise, without notice to and/or
consent of one or more third parties.
A
summary
of the Company's restricted and unrestricted assets, liabilities and equity
at
June 30, 2006 (unaudited) and at September 30, 2005 is presented
below.
June
30, 2006
|
|
Unrestricted
|
|
Restricted
|
|
As
Reported
|
|
|
|
|
|
|
|
|
|
Current
assets
|
|
$
|
878,875
|
|
$
|
32,677,835
|
|
$
|
33,556,710
|
|
Property,
plant and equipment, net
|
|
|
-
|
|
|
5,020,120
|
|
|
5,020,120
|
|
Other
assets
|
|
|
-
|
|
|
462,130
|
|
|
462,130
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
assets
|
|
$
|
878,875
|
|
$
|
38,160,085
|
|
$
|
39,038,960
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current
liabilities
|
|
$
|
10,182,245
|
|
$
|
28,823,608
|
|
$
|
39,005,853
|
|
Non-current
liabilities
|
|
|
77,306,610
|
|
|
1,221,267
|
|
|
78,527,877
|
|
Equity:
|
|
|
|
|
|
|
|
|
|
|
Retained
earnings (accumulated deficit)
|
|
|
(352,337,270
|
)
|
|
6,437,702
|
|
|
(345,899,568
|
)
|
Other
|
|
|
265,727,290
|
|
|
1,677,508
|
|
|
267,404,798
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
liabilities and equity
|
|
$
|
878,875
|
|
$
|
38,160,085
|
|
$
|
39,038,960
|
|
September
30, 2005
|
|
Unrestricted
|
|
Restricted
|
|
As
Reported
|
|
|
|
|
|
|
|
|
|
Current
assets
|
|
$
|
261,740
|
|
$
|
35,453,821
|
|
$
|
35,715,561
|
|
Property,
plant and equipment, net
|
|
|
-
|
|
|
5,567,745
|
|
|
5,567,745
|
|
Other
assets
|
|
|
-
|
|
|
638,948
|
|
|
638,948
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
assets
|
|
$
|
261,740
|
|
$
|
41,660,514
|
|
$
|
41,922,254
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current
liabilities
|
|
$
|
4,224,995
|
|
$
|
30,411,237
|
|
$
|
34,636,232
|
|
Non-current
liabilities
|
|
|
78,257,234
|
|
|
8,629,138
|
|
|
86,886,372
|
|
Equity:
|
|
|
|
|
|
|
|
|
|
|
Retained
earnings (accumulated deficit)
|
|
|
(348,435,183
|
)
|
|
1,169,785
|
|
|
(347,265,398
|
)
|
Other
|
|
|
266,214,694
|
|
|
1,450,354
|
|
|
267,665,048
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
liabilities and equity
|
|
$
|
261,740
|
|
$
|
41,660,514
|
|
$
|
41,922,254
|
|
3.
Inventories
Inventories
are comprised of the following at June 30, 2006 and September 30,
2005:
|
|
June
30,
2006
|
|
September
30, 2005
|
|
|
|
(Unaudited)
|
|
|
|
|
|
|
|
|
|
Raw
materials and scrap
|
|
$
|
3,669,997
|
|
$
|
2,954,405
|
|
Semi-finished
goods
|
|
|
6,251,028
|
|
|
6,556,006
|
|
Finished
goods
|
|
|
9,321,221
|
|
|
8,370,394
|
|
Total
|
|
$
|
19,242,246
|
|
$
|
17,880,805
|
|
Inventories
are comprised of raw materials (consisting of billets and scrap metal),
semi-finished goods and finished goods. Inventory costs include material, labor
and manufacturing overhead. Inventories are valued at the lower of average
cost
or market. The average cost of the billets and scrap metal is adjusted
periodically to reflect current changes in cost inputs.
4.
Notes Payable and Long-Term Debt
Notes
Payable to Related Parties
During
September 2005, the Company borrowed $50,000 from certain directors under
short-term unsecured notes due December 31, 2005, with interest at 4% per annum,
to fund corporate general and administrative expenses. The notes were subject
to
mandatory prepayment based on any proceeds received by the Company from, among
other sources, the note that the Company received in February 2004 from the
sale
of the assets and operations of its subsidiary, Beyond the Wall, Inc., and
any
tax sharing payments received under the Tax Sharing Agreement with Acquisition
Corp. and Atacama KES (see Note 2). On
September 30, 2005, the Company received a cash payment of $258,922 as
settlement in full of the outstanding note receivable from the sale of the
assets and operations of Beyond the Wall, Inc., and repaid the notes payable
to
directors in October 2005.
Subordinated
Secured Promissory Notes Payable to Related Parties
Subordinated
secured promissory notes payable consist
of seven notes payable aggregating $7,000,000 issued by KES Acquisition to
three
related parties. The proceeds from these notes were used to accelerate the
development and expansion of the steel mini-mill’s operations prior to its
acquisition by the Company. The notes bear interest at 12% per annum, with
interest payable monthly, subject to compliance with various agreements and
covenants, are secured by a subordinated security interest in all of the assets
of KES Acquisition, and are subject to an Intercreditor and Subordination
Agreement dated March 24, 2004 with GECC. When originally issued, principal
and
interest were due and payable upon the earlier to occur of (i) an event of
default under the Loan and Security Agreement with GECC or (ii) each note’s
respective due date, which ranged from March 31, 2005 to December 31, 2005.
As
of September 30, 2005, the due dates of the notes had all been extended to
December 31, 2006, if not repaid earlier. At June 30, 2006 and September 30,
2005, accrued interest payable with respect to the subordinated secured
promissory notes payable was $209,425 and $1,085,753, respectively.
At
June
30, 2006, KES Acquisition was in compliance with all terms and covenants
relating to its subordinated secured promissory notes payable.
On
August
29, 2006, the subordinated secured promissory notes were amended and restated
to
extend their maturity date to March 31, 2010, with all other terms and
conditions described above remaining substantially the same.
On
August
31, 2006, the Company made a principal payment on the subordinated secured
promissory notes of $4,000,000.
Secured
Line of Credit
Effective
March 24, 2004, KES Acquisition entered into a loan and security agreement,
as
amended, with GECC. Under the terms of the agreement, KES Acquisition has the
ability to borrow up to $23,000,000, subject to limitations under the lender’s
borrowing base formula and compliance with a minimum fixed charge coverage
ratio. Interest is payable monthly in arrears on the outstanding principal
balance at the index rate (defined as the thirty-day dealer commercial paper
rate) plus 3.5% per annum. The line of credit originally matured on March 24,
2007, however, was extended to March 24, 2010 on August 27, 2006 (see below),
and is secured by all of the assets of KES Acquisition and a pledge of (i)
the
membership interests of KES Acquisition owned by Acquisition Corp. and (ii)
the
capital stock of Atacama KES owned by Acquisition Corp. As of June 30, 2006
and
September 30, 2005, the balance outstanding on the line of credit was $9,890,679
and $19,009,379, respectively, which has been presented as a current liability
in the consolidated balance sheet at such date due to the collateral securing
such line of credit consisting primarily of current assets and the continuing
uncertainty with respect to the Company’s ability to maintain compliance under
the terms and conditions of the line of credit.
At
March
31, 2005, KES Acquisition was not in compliance with the fixed charge coverage
ratio based on its consolidated financial statements as originally filed, in
part relating to changes to its accounting procedures as a result of the review
of its financial statements conducted in conjunction with its acquisition by
YouthStream (see Note 2), and subsequently received a waiver of default from
the
lender. At June 30, 2005, KES Acquisition was in compliance with the fixed
charge coverage ratio based on its consolidated financial statements as
originally filed. However, KES Acquisition was not in compliance with the fixed
charge coverage ratio at June 30, 2005 based on its revised consolidated
financial statements, as a result of a determination by management to
re-characterize a lease for certain equipment used by KES Acquisition as a
capital lease rather than an operating lease. In addition, KES Acquisition
was
not in compliance with its obligation to deliver audited financial statements
in
the form and time period as set forth in the loan agreement. On June 26,
2006, the Company received a waiver of default from the lender with respect
to
the fixed charge coverage ratio for the restated March 31, 2005 and June 30,
2005 interim financial statements, as well as with respect to the form and
timeliness of the September 30, 2005 annual audited financial statements being
provided to GECC.
At
June
30, 2006, March 31, 2006, December 31, 2005 and September 30, 2005, KES
Acquisition was in compliance with the fixed charge coverage ratio based on
its
consolidated financial statements.
In
the
event that KES Acquisition is not in compliance with the fixed charge coverage
ratio in any future period, the Company intends to seek a further waiver of
any
default from the lender, and if no such waiver is received, the lender would
have the right to accelerate the maturity of the line of credit at that time.
On
August
29, 2006, the loan and security agreement with GECC was amended and restated
to
extend its maturity date to March 24, 2010, and to allow the payment of
principal on the Company’s subordinated secured promissory notes, subject to
compliance with various agreements and covenants, with all other terms and
conditions described above remaining substantially the same.
5.
Commitments and Contingencies
Legal
Proceedings
The
Company and/or its subsidiary that owned its former operating business, Beyond
the Wall, Inc., have periodically been defendants in various lawsuits and claims
from various trade creditors and former landlords. Based on the Company’s
contract relating to the sale of the Beyond the Wall, Inc. assets, certain
of
these claims are the responsibility of the buyer of the Beyond the Wall, Inc.
business. The Company evaluates its response in each situation based on the
particular facts and circumstances of a claim. Accordingly, the ultimate outcome
of these matters cannot be determined at this time and may ultimately result
in
judgments and liens against the Company or its assets. The Company has made
sufficient accruals for the exposure related to such matters that have been
deemed probable and reasonably estimable at June 30, 2006 and September 30,
2005.
KES
Acquisition was named in a wrongful death lawsuit before the Circuit Court
of
Cabell County, West Virginia (the “Court”), which was filed in December 2004.
The action was brought by Stephanie Harshbarger, individually and as
Administratrix of the Estate of Chad Harshbarger against Aero-Fab, Inc. and
KES
Acquisition. Mr. Harshbarger was an employee of Aero-Fab, Inc., an unaffiliated
contractor, who died while working at the Mill in April 2004. KES Acquisition
was defended by its insurance carrier in this action. On July 3, 2006, the
Court
dismissed KES Acquisition from the lawsuit, ruling that KES Acquisition was
not
within the Court’s jurisdiction. Notwithstanding such Court ruling, the
plaintiff may appeal the ruling, or file an action against KES Acquisition
in
the State of Kentucky, neither of which has occurred to date. The Company does
not believe that the resolution of this litigation will have a material adverse
effect on its financial condition or results of operations.
Operating
Commitments
The
Mill
has been operating under a the Pinnacle Agreement effective through October
31,
2009 that provides for Pinnacle Steel, LLC to provide, at its expense, employees
to serve as the General Manager of the Mill and provide oversight and general
management of the operations of the Mill, for which the management company
receives an annual fee of $700,000, payable monthly, and bonus payments based
on
16.6% of defined earnings before interest, taxes, depreciation and amortization
(“EBITDA”) in excess of $6,000,000 for the fiscal years ending September 30,
2006 and thereafter. Management bonus charged to operations was $437,000
and $1,101,000 for the three months and nine months ended June 30, 2006,
respectively.
The
Company has various short-term commitments for the purchase of materials,
supplies and energy arising in the ordinary course of business which aggregated
approximately $7,900,000 and $7,962,000 at June 30, 2006 and September 30,
2005,
respectively.
6.
Common and Preferred Stock
On
December 22, 2005, 10,000 shares of 13% Series A Preferred Stock with a face
amount of $10,000,000 that were originally issued by Acquisition Corp. to KES
Holdings in February 2005 (see Note 2) were transferred to two independent
charities. Since the Company owned a 2.67% interest in KES Holdings, the pro
rata portion of the face amount of such 13% Series A Preferred Stock and the
related accrued dividends had previously been eliminated in consolidation.
However, as a result of the transfer of such preferred shares to the two
charities in December 2005, the Company recorded the previously eliminated
portion of the face amount of the 13% Series A Preferred Stock ($267,000) as
a
deemed distribution to the Sellers of KES Acquisition, consistent with the
accounting for the Acquisition as described at Note 2, and the previously
eliminated portion of the preferred stock dividends ($28,243) through December
22, 2005, as interest expense.
On
February 15, 2005, the Company issued an option to purchase 200,000 shares
of
common stock to a new director, exercisable through February 15, 2012 at $0.30
per share, which was the fair market value on the date of issuance. The fair
value of the option, calculated pursuant to the Black-Scholes option-pricing
model, was $54,000 ($0.27 per share). The option vests over a 12-month period
in
equal monthly installments beginning March 1, 2005.
On
June
26, 2006, the Company issued an option to purchase 200,000 shares of common
stock to a new director, exercisable through June 26, 2013 at $0.12 per share,
which was the fair market value on the date of issuance. The fair value of
the
option, calculated pursuant to the Black-Scholes option-pricing model, was
$24,000 ($0.12 per share). The option vests over a 12-month period in equal
monthly installments beginning July 1, 2006.
7.
Income Taxes
Income
tax expense was $146,000 and $274,000 for the three months and nine months
ended
June 30, 2006, respectively, consisting of a provision for state income taxes.
No federal income tax provision was provided for the three months and nine
months ended June 30, 2006 as a result of the utilization of the Company’s net
operating loss carryforwards as described below. No federal or state income
tax
provision was provided for the three months and nine months ended June 30,
2005
due to the Company reporting a pre-tax operating loss for such
periods.
At
September 30, 2005, the Company had net operating loss carryforwards for
federal income tax purposes of approximately $291,060,000 that expire from
2012
through 2025. The use of approximately $36,000,000 of this net operating loss
in
future years may be restricted under Section 382 of the Internal Revenue
Code.
In
assessing the potential realization of deferred tax assets, management considers
whether it is more likely than not that some portion or all of the deferred
tax
assets will be realized. The ultimate realization of deferred tax assets is
dependent upon the Company attaining future taxable income during the periods
in
which those temporary differences become deductible. As of September 30, 2005,
management was unable to determine if it was more likely than not that the
deferred tax assets would be realized. Accordingly, due to the uncertainty
surrounding the realization of the benefits of the Company’s tax attributes
(primarily net operating loss carryforwards), as of September 30, 2005, the
Company recorded a 100% valuation allowance against its net deferred tax assets
for financial reporting purposes.
The
Company is subject to periodic audits by federal, state and local tax
authorities for various tax liabilities incurred in prior periods from the
parent entity and its subsidiaries, including previously discontinued
businesses. The amount of any tax assessments and penalties may be material
and
may negatively impact the Company’s operations. Given the uncertainty in the
amount and the difficulty in estimating the probability of the assessments
arising from future tax audits, the Company has not made any accruals for such
tax contingencies.
For
taxable periods beginning after February 28, 2005, Acquisition Corp. and Atacama
KES (see Note 2) are included in the consolidated federal income tax return
filed by YouthStream as the common parent. Acquisition Corp. and Atacama
KES have entered into a Tax Sharing Agreement with YouthStream, pursuant to
which they have agreed to pay YouthStream an amount equal to 50% of their
respective "separate company tax liability", subject to compliance with the
GECC
secured line of credit. The term "separate company tax liability" is
defined as the amount, if any, of the federal income tax liability (including,
without limitation, liability for any penalty, fine, additions to tax, interest,
minimum tax and other items applicable to such subsidiary in connection
with the determination of the subsidiary's tax liability), which such
subsidiary would have incurred if its federal income tax liability for the
periods during which it is includible in a consolidated federal income tax
return with YouthStream were determined generally in the same manner in
which its separate return liability would have been calculated under Section
1552(a)(2) of the Internal Revenue Code of 1986, as amended. YouthStream
has approximately $255,000,000 of federal net operating loss carryovers
currently available to offset the consolidated federal taxable income of the
affiliated group in the future.
8.
Subsequent Events
Investment
in Planet Hollywood (Alabama), LLC
In
August
2006, YouthStream invested $75,000 to acquire an 8.82% membership interest
in
Planet Hollywood (Alabama), LLC, a Florida limited liability company, to pursue
a licensing and merchandising arrangement with Planet Hollywood International,
Inc., or one or more of its subsidiaries (“PHI”). Planet Hollywood (Alabama),
LLC was formed by PHI on June 22, 2005 and assigned certain rights held by
PHI
in connection with PHI’s role in the development of a charitable bingo facility,
restaurant and entertainment venue in Shorter, Alabama with Lucky Palace, LLC
(“Lucky”), a subsidiary of Lucky Palace, Inc. Libra Securities Holdings, LLC
(“Libra Holdings”) is also involved in this business enterprise.
Related
parties with respect to this transaction are summarized as follows: Robert
Scott
Fritz, a director of YouthStream, is expected to be an investor in Lucky. Hal
G.
Byer, another director of YouthStream, is an employee of affiliates of Libra
Holdings,and has an economic interest in Lucky. Jess M. Ravich, a director
of
YouthStream, is a principal of Libra Securities, a subsidiary of Libra Holdings.
In addition, affiliates of Mr. Ravich, including a trust for the benefit of
Mr.
Ravich and certain of his family members (the “Ravich Trust”) are investors in
Planet Hollywood (Alabama), LLC and are expected to be investors in Lucky.
Mr.
Ravich, either directly or through the Ravich Trust, holds 1,860,000 shares
of
YouthStream's common stock, warrants to purchase 500,000 shares of YouthStream's
common stock exercisable through August 31, 2008, 1,000,000 shares of
YouthStream's redeemable preferred stock and an option to purchase 200,000
shares of YouthStream’s common stock exercisable through June 26, 2013, which
was issued to Mr. Ravich under YouthStream’s 2000 Stock Option Incentive Plan.
Subordinated Promissory Notes with a principal amount of $1,650,000 and $450,000
are payable to the Ravich Trust and Libra Holdings, respectively. Mr. Fritz
and Mr. Byer have each previously acquired an option from the Ravich Trust
for
$2,500 ($0.04 per share) to purchase 62,500 shares of YouthStream's redeemable
preferred stock issued to the Ravich Trust in January 2003, exercisable at
$0.36
per share until December 31, 2006 or earlier upon the occurrence of certain
events (see Note 2).
Renegotiated
Debt Agreements
On
August
29, 2006, the loan and security agreement with GECC was amended and restated
to
extend its maturity date to March 24, 2010, and to allow the payment of
principal on the Company’s subordinated secured promissory notes, subject to
compliance with various agreements and covenants, with all other terms and
conditions described above remaining substantially the same (See Note
4).
On
August
29, 2006, the subordinated secured promissory notes were amended and restated
to
extend their maturity date to March 31, 2010, with all other terms and
conditions described above remaining substantially the same (See Note
4).
General
Overview
Commencing
March 1, 2005, the Company has included the operations of a steel mini-mill
located in Ashland, Kentucky, which represents the only business segment in
which the Company currently operates, in its consolidated financial statements.
The Company completed the acquisition of this steel mini-mill on March 9, 2005
(see “Acquisition of Steel Mini-Mill” below).
During
September 2005, the Company borrowed $50,000 from certain directors under
short-term unsecured notes due December 31, 2005, with interest at 4% per annum,
to fund corporate general and administrative expenses. The notes were subject
to
mandatory prepayment based on any proceeds received by the Company from, among
other sources, the note that the Company received in February 2004 from the
sale
of the assets and operations of its subsidiary, Beyond the Wall, Inc., and
any
tax sharing payments received under the Tax Sharing Agreement with Acquisition
Corp. and Atacama KES (see “Acquisition of Steel Mini-Mill” below). On
September 30, 2005, the Company received a cash payment of $258,922 as
settlement in full of the outstanding note receivable from the sale of the
assets and operations of Beyond the Wall, Inc., and repaid the notes payable
to
directors in October 2005.
Acquisition
of Steel Mini-Mill
In
September 2003, YouthStream invested $125,000 to acquire a 1.00% membership
interest in KES Holdings, LLC, a Delaware limited liability company ("KES
Holdings"), which was formed to acquire certain assets of Kentucky Electric
Steel, Inc., a Delaware corporation ("KES"), consisting of a steel
mini-mill located in Ashland, Kentucky (the “Mill”). On September 2, 2003,
KES Holdings, through its subsidiary, KES Acquisition Company, LLC, a Delaware
limited liability company ("KES Acquisition"), completed the acquisition of
the
Mill pursuant to Section 363 of the United States Bankruptcy Code for cash
consideration of $2,650,000, which was funded through the capital contributions
of the members of KES Holdings. Members’ capital contributions were also used
for start-up costs, working capital purposes and payment of deferred maintenance
of the Mill. KES had ceased production on or about December 16, 2002 and
filed a voluntary petition for relief under Chapter 11 of the United States
Bankruptcy Code on February 5, 2003.
The
Mill
had been in operation for approximately forty years and was refurbished by
KES
Acquisition subsequent to its acquisition. The refurbished Mill has been
generating revenues since late January 2004. The current production capacity
of
the Mill for finished products, based on the current operating structure and
man-hours worked, is approximately 200,000 short-tons per year, and the Mill
is
currently operating at approximately 99% of such annualized
capacity. Management
is focusing on developing the business and improving operating
efficiencies.
The
Mill
produces bar flats that are produced to a variety of specifications and fall
primarily into two general quality levels - merchant bar quality steel bar
flats
(“MBQ Bar Flats”) for generic types of applications, and special bar quality
steel bar flats (“SBQ Bar Flats”), where more precise customer specifications
require the use of alloys, customized equipment and special production
procedures to insure that the finished product meets critical end-use
performance characteristics.
The
Mill
manufactures over 2,600 different Bar Flat items which are sold to volume niche
markets, including original equipment manufacturers (“OEMs”), cold drawn bar
converters, steel service centers and the leaf-spring suspension market for
light- and heavy-duty trucks, mini-vans and utility vehicles. The Mill was
specifically designed to manufacture wider and thicker bar flats up to three
inches in thickness and twelve inches in width that are required by these
markets. In addition, the Mill employs a variety of specially designed equipment
which is necessary to manufacture SBQ Bar Flats to the specifications of the
Mill’s customers.
On
March
9, 2005, YouthStream completed the acquisition of KES Acquisition (the
"Acquisition"), which was deemed effective March 1, 2005. Pursuant to definitive
agreements executed with KES Holdings and Atacama Capital Holdings, Ltd., a
British Virgin Islands company ("Atacama", and together with KES Holdings,
collectively, the "Sellers"), YouthStream, through its newly-formed subsidiary,
YouthStream Acquisition Corp., a Delaware corporation ("Acquisition Corp."),
acquired 100% of the membership interests of KES Acquisition by acquiring (i)
a
37.45% membership interest from KES Holdings and (ii) all of the capital stock
of Atacama KES Holding Corporation, a wholly-owned subsidiary of Atacama
(“Atacama KES”), the owner of the remaining 62.55% membership interest in KES
Acquisition. As consideration for the Acquisition, Acquisition Corp. issued
to
the Sellers (i) $40,000,000 in promissory notes (the “Notes”), (ii) 25,000
shares of 13% Series A Non-Convertible Preferred Stock with an aggregate
liquidation value of $25,000,000 (the “13% Series A Preferred Stock”) and (iii)
100% of its authorized shares of Series B Non-Voting Common Stock. With respect
to the $65,000,000 of purchase consideration, $19,000,000 of the Notes and
$10,000,000 of the 13% Series A Preferred Stock were issued to KES Holdings,
and
$21,000,000 of the Notes and $15,000,000 of the 13% Series A Preferred Stock
were issued to Atacama. YouthStream also contributed an aggregate of $500,000
of
cash to Acquisition Corp. as consideration for the issuance by Acquisition
Corp.
of 100% of its Series A Voting Common Stock. In addition, YouthStream will
periodically be required to purchase shares of Series B Preferred Stock of
Acquisition Corp. in amounts equal to distributions it receives on its KES
Holdings membership interest.
As
a
result of these transactions, YouthStream owns 80.01% of the common stock,
and
100% of the voting stock, of Acquisition Corp. The remaining 19.99% common
stock
interest in Acquisition Corp. is owned 62.55% by Atacama and 37.45% by KES
Holdings. YouthStream currently has a 2.67% equity interest in KES Holdings
(this percentage has increased from 1.00% as a result of the redemption of
another member’s interest), as a result of which the Company has eliminated its
$507,000 equity interest in the Notes and $267,000 equity interest in the 13%
Series A Preferred Stock in the consolidated balance sheet at September 30,
2005, and its $507,000 equity interest in the Notes and $0 equity interest
in
the 13% Series A Preferred Stock in the consolidated balance sheet at March
31,
2006. YouthStream has consolidated the operations of the Mill through its
ownership of KES Acquisition commencing March 1, 2005. As a result of the
Acquisition, the Company’s financial statements for periods ending after March
1, 2005 are materially different from and are not comparable to its financial
statements prior to that date.
Subsequent
to the Acquisition, the management of the Mill continued unchanged. The
Acquisition did not result in any change in the Mill’s business operations or
financial condition, and, other than as set forth herein, the working capital,
operating cash flow, debt service obligations and credit profile of the Mill
were not affected in any way by the Acquisition.
As
described herein, the Notes and 13% Series A Preferred Stock were issued by
Acquisition Corp., the parent company of KES Acquisition. KES Acquisition is
a
separate legal entity that owns and operates the Mill. The Notes are legal
obligations solely of Acquisition Corp., and are not obligations of KES
Acquisition, nor are they secured by the assets or cash flows of the Mill.
In
the future, Acquisition Corp. may grant liens to secure repayment of the Notes,
upon the consent of any senior lender to KES Acquisition at that time. In
addition, the Notes are non-recourse to the assets of YouthStream, except for
the shares of capital stock of Acquisition Corp. that have been pledged by
YouthStream to the holders of the Notes. Pursuant to the terms of the
transaction documentation in connection with the Acquisition and the loan
facility with General Electric Capital Corporation (“GECC”), YouthStream and
Acquisition Corp. are currently limited in their ability to receive cash
distributions from KES Acquisition, but are permitted to receive tax sharing
payments as described below. Any change in control of Acquisition Corp. in
the
future as a result of the holders of the Notes exercising their legal rights
would not reasonably be expected to have a material impact on the operations
or
financial position of the Mill.
The
Notes
are structurally subordinate in right and payment of up to $40,000,000 of senior
debt, including existing debt obligations in favor of GECC. Scheduled principal
payments commence in (i) February 2007 with respect to the $19,000,000 principal
amount of Notes issued in favor of KES Holdings and (ii) February 2011 with
respect to the $21,000,000 principal amount of Notes issued in favor of Atacama.
In addition, the Notes require additional quarterly principal payments out
of
"free cash", as that term is defined in the Note Purchase Agreement. The Notes
bear interest at the rate of 8% per annum, payable annually during the first
two
years of the Note, as provided for in a letter agreement dated as of July 14,
2005 and effective as of February 28, 2005 by and among Acquisition Corp. and
the Note holders, and quarterly thereafter. The obligations of Acquisition
Corp.
under the Notes are secured by a limited guaranty by YouthStream, which guaranty
is secured by and limited in recourse solely to a pledge by YouthStream of
all
of its interest in Acquisition Corp. As of September 30, 2005, the balance
outstanding on the Notes was $39,493,000, and related accrued interest payable
was $1,852,384. As of June 30, 2006, the balance outstanding on the notes was
$39,493,000 (of which $1,849,300 was classified as a current liability) and
the
related accrued interest payable was $1,149,862 (which was classified as a
current liability).
Future
scheduled principal payments on the Notes are summarized as
follows:
|
|
KES
Holdings -
$19,000,000
Note
|
|
Atacama
-
$21,000,000
Note
|
|
Years
Ending September 30,
|
|
|
|
|
|
|
|
|
|
|
|
2006
|
|
$
|
---
|
|
$
|
---
|
|
2007
|
|
|
1,900,000
|
|
|
---
|
|
2008
|
|
|
950,000
|
|
|
---
|
|
2009
|
|
|
950,000
|
|
|
---
|
|
2010
|
|
|
950,000
|
|
|
---
|
|
2011
|
|
|
2,850,000
|
|
|
4,200,000
|
|
2012
|
|
|
2,850,000
|
|
|
4,200,000
|
|
2013
|
|
|
2,850,000
|
|
|
4,200,000
|
|
2014
|
|
|
---
|
|
|
1,264,000
|
|
2015
|
|
|
5,700,000
|
|
|
7,136,000
|
|
Total
|
|
$
|
19,000,000
|
|
$
|
21,000,000
|
|
Pursuant
to a further letter agreement dated April 11, 2006 and effective as of February
27, 2006 by and among Acquisition Corp. and the Note holders, the interest
payment of $3,200,000 due on February 27, 2006 was paid by the delivery of
short-term notes due February 27, 2007 in the principal amount of $3,200,000,
with interest at 8% per annum. The balance outstanding on the notes, net of
eliminations, was $3,159,416 at June 30, 2006. Accrued interest payable was
$85,174 at June 30, 2006.
Pursuant
to the Notes, for the nine months ending September 30, 2005, Acquisition Corp.,
KES Acquisition and Atacama KES were collectively required to have, on a
consolidated basis, in excess of $4,000,000 of earnings before interest, taxes,
depreciation and amortization, calculated in accordance with generally accepted
accounting principles ("EBITDA"). For each of the fiscal years ending
on and after September 30, 2006, Acquisition Corp., KES Acquisition and
Atacama KES are collectively required to have, on a consolidated basis, in
excess of $7,200,000 of EBITDA. At March 31 of each fiscal year
following the fiscal year ending September 30, 2005 in which the obligations
under the Notes remain outstanding, Acquisition Corp., KES Acquisition and
Atacama KES are collectively required to have, on a consolidated basis, in
excess of $3,000,000 of EBITDA for the six months then ended. Effective
September 23, 2005, the holders of the Notes executed an agreement to amend
the
Notes to eliminate the requirement that Acquisition Corp., KES Acquisition
and
Atacama KES collectively have, on a consolidated basis, in excess of $4,000,000
of EBITDA for the nine months ending September 30, 2005. The Company was in
compliance with this minimum EBITDA requirement for the nine months ended June
30, 2006.
The
holders of each share of 13% Series A Preferred Stock are entitled to receive
a
cumulative dividend at an annual rate of 13% of the sum of $1,000 and all
accrued but unpaid dividends. The 13% Series A Preferred Stock contains a
liquidation preference equal to $1,000 per share, plus accrued but unpaid
dividends, and is redeemable out of, and to the extent of, legally available
funds, at a redemption price equal to the sum of $1,000 and all accrued but
unpaid dividends on the earlier to occur of (i) any liquidation of Acquisition
Corp., (ii) the occurrence of an event of default under the Note Purchase
Agreement pursuant to which the Notes were issued or (iii) the first anniversary
of Acquisition Corp.’s full and complete repayment of the Notes. As of September
30, 2005, the balance outstanding on the 13% Series A Preferred Stock was
$24,733,000, and related accrued dividends payable were $1,885,129. As of June
30, 2006, the balance outstanding on the 13% Series A Preferred Stock was
$25,000,000 and related accrued dividends payable were $4,336,301.
Since
the
acquisition of the Mill by the Sellers, the Mill has been operating under a
Management Services Agreement with Pinnacle Steel, LLC (the "Pinnacle
Agreement"), which agreement remained in effect following the closing. The
principals of Pinnacle Steel, LLC that manage the Mill have significant
experience and expertise in the steel industry. The Pinnacle Agreement will
remain in effect through October 31, 2009, subject to earlier termination or
extension based on the financial performance of the Mill. Pinnacle is entitled
to a monthly management fee and a management incentive fee as provided in the
Pinnacle Agreement.
Subsequent
to the acquisition of the Mill by the Sellers, KES Acquisition issued an
aggregate of $7,000,000 of subordinated promissory notes to the Sellers and
certain of their respective affiliates (the “Subordinated Promissory Notes”).
The proceeds from the Subordinated Promissory Notes were used to accelerate
the
development and expansion of the Mill’s operations. The Subordinated Promissory
Notes bear interest at the rate of 12% per annum, with interest payable monthly,
subject to compliance with various agreements and covenants, are secured by
a
subordinated security interest in all of the assets of KES Acquisition, and
are
subject to an Intercreditor and Subordination Agreement dated March 24, 2004
with GECC. When originally issued, principal and interest were due and payable
upon the earlier to occur of (i) an event of default under the Loan and Security
Agreement with GECC or (ii) each note’s respective due date, which ranged from
March 31, 2005 to December 31, 2005. As of September 30, 2005, the due dates
of
the notes had all been extended to December 31, 2006, if not repaid earlier.
At
September 30, 2005, accrued interest payable with respect to the Subordinated
Promissory Notes was $1,085,753. At June 30, 2006, accrued interest payable
with
respect to the Subordinated Promissory Notes was $209,425.
Related
parties with respect to this transaction are summarized as follows: Robert
Scott
Fritz, a director of YouthStream, is an investor in KES Holdings. Hal G. Byer,
another director of YouthStream, is an employee of affiliates of Libra/KES
Investment I, LLC ("Libra/KES"), the Manager of KES Holdings, and has an
economic interest in KES Holdings through his relationship with Libra
Securities, LLC ("Libra Securities"). Jess M. Ravich, a director of YouthStream
effective as of June 26, 2006, is a principal of Libra/KES. In addition,
affiliates of Mr. Ravich, including a trust for the benefit of Mr. Ravich and
certain of his family members (the “Ravich Trust”) are investors in KES
Holdings. Mr. Ravich, either directly or through the Ravich Trust, holds
1,860,000 shares of YouthStream's common stock, warrants to purchase 500,000
shares of YouthStream's common stock exercisable through August 31, 2008,
1,000,000 shares of YouthStream's redeemable preferred stock and an option
to
purchase 200,000 shares of YouthStream’s common stock exercisable through June
26, 2013, which was issued to Mr. Ravich under YouthStream’s 2000 Stock Option
Incentive Plan in connection with his election to the Board of Directors.
Through his positions at Libra/KES, Mr. Ravich managed the business of KES
Acquisition through February 28, 2005. Subordinated Promissory Notes with a
principal amount of $1,650,000 and $450,000 are payable to the Ravich Trust
and
Libra Securities Holdings, LLC, the parent of Libra Securities,
respectively. Mr. Fritz and Mr. Byer have each previously acquired an option
from the Ravich Trust for $2,500 ($0.04 per share) to purchase 62,500 shares
of
YouthStream's redeemable preferred stock issued to the Ravich Trust in January
2003, exercisable at $0.36 per share until December 31, 2006 or earlier upon
the
occurrence of certain events.
The
Acquisition was accounted for as a purchase in accordance with SFAS No. 141,
“Business Combinations”, and in accordance with Emerging Issues Task Force
(EITF) No. 88-16, “Basis in Leveraged Buyout Transactions”. As a result of the
substantial and continuing relationships between YouthStream and the Sellers,
and the provisions of EITF 88-16 that are required to be considered when
determining the extent of fair value/predecessor basis to be used in recording
the transaction, the Acquisition has been recorded at predecessor basis. Since
the debt and equity held by the Sellers represented almost the entire amount
of
capital at risk both before and after the Acquisition, the application of the
“monetary test” specified in Section 3 of EITF 88-16, which limits the portion
of the purchase consideration that can be valued at fair value to the percentage
of the total consideration that is monetary, was utilized by the Company in
determining to record the transaction at predecessor basis. The excess of the
purchase price over predecessor basis of the net assets acquired has been
reflected as a deemed distribution of $63,104,423 to the Sellers at the date
of
acquisition in the consolidated financial statements.
For
taxable periods beginning after February 28, 2005, Acquisition Corp. and Atacama
KES are included in the consolidated federal income tax return filed by
YouthStream as the common parent. Acquisition Corp. and Atacama KES have
entered into a Tax Sharing Agreement with YouthStream, pursuant to which they
have agreed to pay YouthStream an amount equal to 50% of their respective
"separate company tax liability", subject to compliance with the GECC secured
line of credit. The term "separate company tax liability" is defined as
the amount, if any, of the federal income tax liability (including, without
limitation, liability for any penalty, fine, additions to tax, interest, minimum
tax and other items applicable to such subsidiary in connection with the
determination of the subsidiary's tax liability), which such subsidiary
would have incurred if its federal income tax liability for the periods during
which it is includible in a consolidated federal income tax return with
YouthStream were determined generally in the same manner in which its
separate return liability would have been calculated under Section 1552(a)(2)
of
the Internal Revenue Code of 1986, as amended. YouthStream has
approximately $255,000,000 of federal net operating loss carryovers currently
available to offset the consolidated federal taxable income of the affiliated
group in the future.
The
total
purchase price of $65,000,000, as well as the terms and conditions of the Notes
and 13% Series A Preferred Stock issued to the Sellers, was determined to be
at
fair value based on reports prepared by an independent valuation firm.
The
following is a summary of the assets acquired and liabilities assumed at
predecessor basis at February 28, 2005.
Assets
Acquired:
|
|
|
|
Cash
|
|
$ |
913,194 |
|
Accounts
receivable
|
|
|
10,781,836
|
|
Allowance
for doubtful accounts
|
|
|
(328,351
|
)
|
Inventories
|
|
|
18,762,218
|
|
Prepaid
expenses and other current assets
|
|
|
904,271
|
|
Property,
plant and equipment
|
|
|
6,630,012
|
|
Accumulated
depreciation and amortization
|
|
|
(639,254
|
)
|
Due
from YouthStream Acquisition Corp.
|
|
|
187,702
|
|
Other
non-current assets
|
|
|
721,393
|
|
|
|
|
|
|
Total
assets acquired
|
|
|
37,933,021
|
|
Liabilities
Assumed:
|
|
|
|
Accounts
payable
|
|
|
9,566,327
|
|
Accrued
expenses
|
|
|
1,267,016
|
|
Accrued
interest payable
|
|
|
593,260
|
|
Deferred
rent
|
|
|
165,413
|
|
Subordinated
promissory notes payable
|
|
|
7,000,000
|
|
Line
of credit
|
|
|
15,495,095
|
|
Equipment
contract payable
|
|
|
291,223
|
|
Capital
lease obligation
|
|
|
1,877,179
|
|
|
|
|
|
|
Total
liabilities assumed
|
|
|
36,255,513
|
|
|
|
|
|
|
Net
assets acquired
|
|
|
1,677,508
|
|
|
|
|
|
|
Adjustment
to recognize minority interest
|
|
|
(331,981
|
)
|
|
|
|
|
|
|
|
$ |
1,345,527 |
|
|
|
|
|
|
Total
purchase consideration, net of intercompany eliminations of 2.67%
interest
held by KES Holdings:
|
|
|
|
|
8%
Subordinated secured promissory notes payable
|
|
$ |
39,493,000 |
|
13%
Series A preferred stock
|
|
|
24,733,000
|
|
|
|
|
|
|
Net
purchase consideration
|
|
|
64,226,000
|
|
|
|
|
|
|
Minority
interests in equity
|
|
|
223,950
|
|
|
|
|
|
|
Adjustment
to record deemed distribution to Sellers
|
|
|
(63,104,423
|
)
|
|
|
|
|
|
|
|
$ |
1,345,527 |
|
The
amount due from YouthStream Acquisition Corp. of $187,702 represents costs
incurred by KES Acquisition with respect to the Acquisition, which were included
in the $1,171,406 of transaction costs related to the Acquisition charged to
operations during the year ended September 30, 2005.
As
of
September 30, 2004, the Company had incurred $175,144 of costs with respect
to
the Acquisition, which were presented as deferred costs in the Company’s
consolidated balance sheet at such date. These costs were included in the
$1,171,406 of transaction costs related to the Acquisition charged to operations
during the year ended September 30, 2005.
Minority
interest - related parties was $430,931 on February 28, 2005. For the year
ended
September 30, 2005, the net loss of Acquisition Corp. (an 80.01% consolidated
subsidiary) allocable to the 19.99% minority shareholders was $681,698, but
the
reduction to minority interest - related parties was limited to the balance
at
February 28, 2005 of $430,931. Accordingly, the remainder of the net loss of
Acquisition Corp. allocable to the 19.99% minority shareholders for the year
ended September 30, 2005 of $250,767 was included in the Company’s consolidated
statement of operations for the year ended September 30, 2005, and will be
recovered to the extent that Acquisition Corp. generates net income in future
periods. For the three months and nine months ended June 30, 2006, net income
allocable to the 19.99% minority shareholders was $26,210 and $56,439,
respectively.
Pro
Forma Information
The
following pro forma operating data shown below presents the results of
operations for the three months and nine months ended June 30, 2005, as if
the
Acquisition had occurred on the last day of the immediately preceding fiscal
period. Accordingly, transaction costs related to the Acquisition are not
included in the net loss from continuing operations shown below. The pro forma
results are not necessarily indicative of the financial results that might
have
occurred had the Acquisition actually taken place on the respective dates,
or of
future results of operations. Pro
forma
information for the three months and nine months ended June 30, 2005 is
summarized as follows:
|
|
Three
Months
Ended
June
30,
2005
|
|
Nine
Months
Ended
June
30,
2005
|
|
|
|
|
|
|
|
Net
sales
|
|
$
|
29,127,566
|
|
$
|
82,865,839
|
|
Cost
of sales
|
|
|
27,194,499
|
|
|
77,993,132
|
|
Gross
margin
|
|
|
1,933,089
|
|
|
4,872,707
|
|
Operating
income
|
|
|
638,552
|
|
|
1,066,767
|
|
Interest
expense
|
|
|
(2,371,888 |
) |
|
(7,075,831 |
) |
Minority
interest
|
|
|
218,439 |
|
|
218,439 |
|
Net
loss from continuing operations
|
|
$
|
(1,500,737
|
)
|
$
|
(5,693,104
|
)
|
|
|
|
|
|
|
|
|
Basic
and diluted net loss per common share
|
|
$
|
(0.04
|
)
|
$
|
(0.15
|
)
|
Weighted
average common shares outstanding
|
|
|
39,242,251
|
|
|
39,242,251 |
|
Critical
Accounting Policies and Estimates
The
Company prepared its financial statements in accordance with accounting
principles generally accepted in the United States. The preparation of these
financial statements requires the use of estimates and assumptions that affect
the reported amounts of assets and liabilities and the disclosure of contingent
assets and liabilities at the date of the financial statements and the reported
amount of revenues and expenses during the reporting period. Management
periodically evaluates the estimates and judgments made. Management bases its
estimates and judgments on historical experience and on various factors that
are
believed to be reasonable under the circumstances. Actual results may differ
from these estimates as a result of different assumptions or
conditions.
The
following critical accounting policies affect the more significant judgments
and
estimates used in the preparation of the Company’s financial statements.
Revenue
Recognition
The
Company recognizes revenue when there is persuasive evidence that an arrangement
exists, delivery of the product has occurred and title has passed, the selling
price is both fixed and determinable, and collectibility is reasonably assured,
all of which generally occur either upon shipment of the Company’s product or
delivery of the product to the destination specified by the
customer.
Accounts
Receivable
The
Company grants credit to its customers generally in the form of short-term
trade
accounts receivable. Management evaluates the credit risk of its customers
utilizing historical data and estimates of future performance. Accounts
receivable are stated at the amount management expects to collect from
outstanding balances. When appropriate, management provides for probable
uncollectible amounts through a provision for doubtful accounts and an
adjustment to a valuation allowance. Management reviews and adjusts this
allowance periodically based on the aging of accounts receivable balances,
historical write-off experience, customer concentrations, customer
creditworthiness, and current industry and economic trends. Balances that are
still outstanding after management has used reasonable collection efforts are
written off through a charge to the valuation allowance and a credit to accounts
receivable.
Inventories
Inventories
are comprised of raw materials (consisting of billets and scrap metal),
semi-finished goods and finished goods. Inventory costs include material, labor
and manufacturing overhead. Inventories are valued at the lower of average
cost
or market. The average cost of the billets and scrap metal is adjusted
quarterly.
Impairment
of Assets
Long-lived
assets are evaluated for impairment whenever events or changes in circumstances
indicate that the carrying amount of an asset may not be recoverable in
accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of
Long-Lived Assets”. An asset is considered impaired if its carrying amount
exceeds the future net cash flow the asset is expected to generate. If an asset
is considered to be impaired, the impairment to be recognized is measured by
the
amount by which the carrying amount of the asset exceeds its fair market value.
The recoverability of long-lived assets is assessed by determining whether
the
unamortized balances can be recovered through undiscounted future net cash
flows
of the related assets. The amount of impairment, if any, is measured based
on
projected discounted future net cash flows using a discount rate reflecting
the
Company’s average cost of capital.
Income
Taxes
The
Company accounts for income taxes in accordance with SFAS No. 109,
“Accounting for Income Taxes”. Under this method, deferred income taxes are
provided for differences between the carrying amounts of the Company’s assets
and liabilities for financial reporting purposes and the amounts used for income
tax purposes using expected tax rates in effect for the year in which those
temporary differences are expected to be recovered or settled. KES Acquisition
Company is a limited liability company and as such does not provide for federal
and state income taxes. Rather, its income is taxed to its members.
The
Company records a valuation allowance to reduce its deferred tax assets to
the
amount that is more likely than not to be realized. In the event the Company
was
to determine that it would be able to realize its deferred tax assets in the
future in excess of its recorded amount, an adjustment to the deferred tax
assets would be credited to operations in the period such determination was
made. Likewise, should the Company determine that it would not be able to
realize all or part of its deferred tax assets in the future, an adjustment
to
the deferred tax assets would be charged to operations in the period such
determination was made.
Recent
Accounting Pronouncements and Developments
In
May 2005, the FASB issued SFAS No. 154, “Accounting Changes and Error
Corrections” (“SFAS No. 154”). SFAS No. 154 is a replacement of APB
Opinion No. 20, “Accounting Changes” and SFAS No. 3, “Reporting
Accounting Changes in Interim Financial Statements - (an Amendment of APB
Opinion No. 28)” and provides guidance on the accounting for and reporting
of accounting changes and error corrections. SFAS No. 154 establishes
retrospective application as the required method for reporting a change in
accounting principle, and provides guidance for determining whether
retrospective application of a change in accounting principle is impracticable
and for reporting a change when retrospective application is impracticable.
Retrospective application is the application of a different accounting principle
to a prior accounting period as if that principle had always been used or as
the
adjustment of previously issued financial statements to reflect a change in
the
reporting entity. SFAS No. 154 also addresses the reporting of the
correction of an error by restating previously issued financial statements.
SFAS
No. 154 is effective for accounting changes and error corrections occurring
in fiscal years beginning after December 15, 2005. The adoption of SFAS No.
154 is not expected to have any impact on the Company’s financial statement
presentation or disclosures.
In
June
2006, the FASB issued FASB Interpretation No. 48, “Accounting for Uncertainty in
Income Taxes, an interpretation of FASB Statement No. 109 (“FIN 48”). FIN 48
provides criteria for the recognition, measurement, presentation and disclosure
of uncertain tax positions that has an effect on a company’s financial
statements accounted for in accordance with SFAS No. 109, “Accounting for Income
Taxes”, as a result of positions taken or expected to be taken in a company’s
tax return. A tax benefit from an uncertain position may be recognized only
if
it is “more likely than not” that the position is sustainable based on its
technical merits. The provisions of FIN 48 are effective for fiscal years
beginning after December 15, 2006. The Company is currently evaluating the
potential effect that the adoption of FIN 48 will have on the Company's
financial statement presentation and disclosures.
On
September 22, 2005, the Securities and Exchange Commission ("SEC") issued rules
to delay by one year the required reporting by management on internal controls
over financial reporting for non-accelerated filers. The new SEC rule extends
the compliance date for such registrants to fiscal years ending on or after
July
15, 2007. Accordingly, the Company qualifies for the deferral to comply with
the
internal control reporting requirements until its fiscal year ending September
30, 2007. On August 9, 2006, the SEC issued two releases that when adopted
are
designed to grant smaller public companies further relief from compliance with
Section 404 of the Sarbanes-Oxley Act of 2002.
Results
of Operations
Effective
February 25, 2004, the Company’s wholly-owned subsidiary, Beyond the Wall, Inc.
(“BTW”), sold substantially all of its assets and operations to a group
unaffiliated with the Company (which included certain former management of
BTW).
Effective February 28, 2005, the Company acquired the Mill, and the operations
of the Mill have been consolidated commencing March 1, 2005. Accordingly, for
the period from March 2004 through February 2005, the Company did not have
any
revenue-generating operations.
For
the
nine months ended June 30, 2005, the Company’s results of operations only
include the operations of the Mill for the four months March through June 2005.
As
a
result of the acquisition of the Mill, the Company’s financial statements for
periods ending after March 1, 2005 are materially different from and are not
comparable to its financial statements prior to that date.
Three
Months Ended June 30, 2006 and 2005
Net
Sales. Net sales were $34,284,157 for the three months ended June 30, 2006,
an
average of $11,428,052 per month, as compared to net sales of $29,127,566 for
the three months ended June 30, 2005, an average of $9,709,189 per month. The
increase in net sales in 2006 as compared to 2005 reflects a general improvement
in the steel industry as well as the Company’s decision to focus on selling
higher margin products.
Cost
of
Sales. Cost of sales was $29,407,919 for the three months ended June 30, 2006,
resulting in gross profit of $4,876,238 and a gross profit margin of 14.2%.
Cost
of sales was $27,194,477 for the three months ended June 30, 2005, resulting
in
a gross profit of $1,933,089 and a gross profit margin of 6.6%. The increase
in
gross profit margin in 2006 as compared to 2005 reflects the Company’s decision
to focus on selling higher margin products.
Selling
Expenses. For the three months ended June 30, 2006, selling expenses were
$389,025 or 1.1% of sales, as compared to selling expenses of $300,486 or 1.0%
of sales for the three months ended June 30, 2005. Selling expenses consist
primarily of sales commissions and personnel-related costs.
General
and Administrative Expenses. For the three months ended June 30, 2006, general
and administrative expenses were $1,559,607 or 4.5% of sales, as compared to
general and administrative expenses of $994,051 or 3.4% of sales for the three
months ended June 30, 2005. General and administrative expenses consist
primarily of management and office compensation and related costs, legal and
accounting fees, and insurance costs at both corporate facilities and the Mill.
Income
from Operations. Income from operations was $2,927,606 for the three months
ended June 30, 2006, as compared to income from operations of $638,552 for
the
three months ended June 30, 2005.
Interest
Income. Interest income was $119 for the three months ended June 30, 2006,
as
compared to $9,944 for the three months ended June 30, 2005.
Interest
Expense. For the three months ended June 30, 2006, interest expense was
$2,324,794, which included interest expense related to the 8% notes payable
of
$850,711 and the 13% Series A Preferred Stock of $810,274 issued in conjunction
with the acquisition of the Mill, the 12% notes payable of $209,325 and the
4%
notes payable of $11,040.
For
the
three months ended June 30, 2005, interest expense was $2,371,888, which
included interest expense related to the 8% notes payable of $787,696 and the
13% Series A Preferred Stock of $801,621 issued in conjunction with the
acquisition of the Mill, the 12% notes payable of $209,425 and the 4% notes
payable of $10,416.
Transaction
Costs Related to KES Acquisition. The
Company incurred $280,773 of costs with respect to the acquisition of the Mill,
which were charged to operations during the three months ended June 30,
2005.
Other
Income (Expense). For the three months ended June 30, 2006, other income was
$2,249, as compared to other income of $4,216 for the three months ended June
30, 2005.
Income
(Loss) before Income Taxes and Minority Interest. Income before income taxes
and
minority interest was $605,180 for the three months ended June 30, 2006, as
compared to a loss before income taxes and minority interest of $(1,999,949)
for
the three months ended June 30, 2005.
Income
Taxes. Income
tax expense was $146,000 for the three months ended June 30, 2006, consisting
of
a provision for state income taxes. No federal income tax provision was provided
for the three months ended June 30, 2006 as a result of the utilization of
the
Company’s net operating loss carryforwards. No federal or state income tax
provision was provided for the three months ended June 30, 2005 due to the
Company reporting a pre-tax operating loss for such period.
Income
(Loss) before Minority Interest. Income before minority interest was $459,180
for the three months ended June 30, 2006, as compared to a loss before minority
interest of $(1,999,949) for the three months ended June 30, 2005.
Minority
Interest - Related Parties. Minority interest - related parties was $0 for
the
three months ended June 30, 2006 and $162,820 for the three months ended June
30, 2005. Minority
interest - related parties was $430,931 on February 28, 2005. For the year
ended
September 30, 2005, the net loss of Acquisition Corp. (an 80.01% consolidated
subsidiary) allocable to the 19.99% minority shareholders was $681,698, but
the
reduction to minority interest - related parties was limited to the balance
at
February 28, 2005 of $430,931. Accordingly, the remainder of the net loss of
Acquisition Corp. allocable to the 19.99% minority shareholders for the year
ended September 30, 2005 of $250,767 was included in the Company’s consolidated
statement of operations for the year ended September 30, 2005, and will be
recovered to the extent that Acquisition Corp. generates net income in future
periods. For the three months ended June 30, 2006, net income allocable to
the
19.99% minority shareholders was $26,210.
Net
Income (Loss). Net income was $459,180 for the three months ended June 30,
2006,
as compared to a net loss of $(1,837,129) for the three months ended June 30,
2005.
Nine
Months Ended June 30, 2006 and 2005
Net
Sales. Net sales were $104,287,949 for the nine months ended June 30, 2006,
an
average of $11,587,550 per month, as compared to net sales of $38,261,343 for
the nine months ended June 30, 2005. If the Company had owned the Mill for
the
nine months ended June 30, 2005, pro forma net sales would have been
$82,865,839, an average of $9,207,315 per month. The increase in net sales
in
2006 as compared to 2005 reflects a general improvement in the steel industry
as
well as the Company’s decision to focus on selling higher margin products.
Cost
of
Sales. Cost of sales was $89,887,425 for the nine months ended June 30, 2006,
resulting in gross profit of $14,400,524 and a gross profit margin of 13.8%.
Cost of sales was $35,666,705 for the nine months ended June 30, 2005, resulting
in a gross profit of $2,594,638 and a gross profit margin of 6.8%. If the
Company had owned the Mill for the nine months ended June 30, 2005, pro forma
gross profit would have been $4,872,707 and the gross profit margin would have
been 5.9%. The increase in gross profit margin in 2006 as compared to 2005
reflects the Company’s decision to focus on selling higher margin products.
Selling
Expenses. For the nine months ended June 30, 2006, selling expenses were
$1,184,781 or 1.1% of sales, as compared to selling expenses of $412,544 or
1.1%
of sales for the nine months ended June 30, 2005. Selling expenses consist
primarily of sales commissions and personnel-related costs.
General
and Administrative Expenses. For the nine months ended June 30, 2006, general
and administrative expenses were $4,557,136 or 4.4% of sales, as compared to
general and administrative expenses of $1,593,208 or 4.2% of sales for the
nine
months ended June 30, 2005. General and administrative expenses consist
primarily of management and office compensation and related costs, legal and
accounting fees, and insurance costs at both corporate and the Mill.
Income
from Operations. Income from operations was $8,658,607 for the nine months
ended
June 30, 2006, as compared to income from operations of $588,886 for the nine
months ended June 30, 2005.
Interest
Income. Interest income was $321 for the nine months ended June 30, 2006, as
compared to $35,478 for the nine months ended June 30, 2005.
Interest
Expense. For the nine months ended June 30, 2006, interest expense was
$7,107,146, which included interest expense related to the 8% notes payable
of
$2,456,894 and the 13% Series A Preferred Stock of $2,451,172 issued in
conjunction with the acquisition of the Mill, the 12% notes payable of $628,174
and the 4% notes payable of $32,888.
For
the
nine months ended June 30, 2005, interest expense was $3,208,954, which included
interest expense related to the 8% notes payable of $1,056,032 and the 13%
Series A Preferred Stock of $1,074,700 issued in conjunction with the
acquisition of the Mill, the 12% notes payable of $280,767 and the 4% notes
payable of $31,952.
Transaction
Costs Related to KES Acquisition. The
Company incurred $1,073,727 of costs with respect to the acquisition of the
Mill, which were charged to operations during the nine months ended June 30,
2005. Included in such costs was $187,702 of transaction costs incurred by
KES
Acquisition.
Other
Income (Expense). For the nine months ended June 30, 2006, other income was
$88,048, as compared to other expense of $(29,489) for the nine months ended
June 30, 2005.
Income
(Loss) before Income Taxes and Minority Interest. Income before income taxes
and
minority interest was $1,639,830 for the nine months ended June 30, 2006, as
compared to a loss before income taxes and minority interest of $(3,684,806)
for
the nine months ended June 30, 2005.
Income
Taxes. Income
tax expense was $274,000 for the nine months ended June 30, 2006, consisting
of
a provision for state income taxes. No federal income tax provision was provided
for the nine months ended June 30, 2006 as a result of the utilization of the
Company’s net operating loss carryforwards. No federal or state income tax
provision was provided for the nine months ended June 30, 2005 due to the
Company reporting a pre-tax operating loss for such period.
Income
(Loss) before Minority Interest. Income before minority interest was $1,365,830
for the nine months ended June 30, 2006, as compared to a loss before minority
interest of $(3,684,806) for the nine months ended June 30, 2005.
Minority
Interest - Related Parties. Minority interest - related parties was $0 for
the
nine months ended June 30, 2006 and $430,931 for the nine months ended June
30,
2005. Minority
interest - related parties was $430,931 on February 28, 2005. For the year
ended
September 30, 2005, the net loss of Acquisition Corp. (an 80.01% consolidated
subsidiary) allocable to the 19.99% minority shareholders was $681,698, but
the
reduction to minority interest - related parties was limited to the balance
at
February 28, 2005 of $430,931. Accordingly, the remainder of the net loss of
Acquisition Corp. allocable to the 19.99% minority shareholders for the year
ended September 30, 2005 of $250,767 was included in the Company’s consolidated
statement of operations for the year ended September 30, 2005, and will be
recovered to the extent that Acquisition Corp. generates net income in future
periods. For the nine months ended June 30, 2006, net income allocable to the
19.99% minority shareholders was $56,439.
Net
Income (Loss). Net income was $1,365,830 for the nine months ended June 30,
2006, as compared to a net loss of $(3,253,875) for the nine months ended June
30, 2005.
Liquidity
and Capital Resources - June 30, 2006
Overview
On
March
9, 2005, YouthStream completed the acquisition of the Mill. In connection with
the Company’s acquisition and consolidation of the Mill, the Company also
acquired $913,194 of cash. The Company used substantially all of its available
cash resources to fund the acquisition of the Mill, including its contribution
of an aggregate of $500,000 of cash to Acquisition Corp. and the payment of
the
costs related to the transaction. Accordingly, the Company will require
additional operating capital to fund corporate general and administrative
expenses, which the Company expects to obtain primarily through periodic tax
sharing payments from Acquisition Corp. and Atacama KES. The Mill relies on
cash
flows from operations to support a secured line of credit with GECC to fund
its
separate operations. As a result of improved operating performance of the Mill
beginning in late 2005, the Company has been able to increase borrowing
availability under this line of credit.
As
of
June 30, 2006 and September 30, 2005, the balance outstanding on the line of
credit was $9,890,679 and $19,009,379, respectively, which has been presented
as
a current liability in the consolidated balance sheet at such date due to the
collateral securing such line of credit consisting primarily of current assets
and the continuing uncertainty with respect to the Company’s ability to maintain
compliance under the terms and conditions of the line of credit.
At
March
31, 2005, KES Acquisition was not in compliance with the fixed charge coverage
ratio based on its consolidated financial statements as originally filed, in
part relating to changes to its accounting procedures as a result of the review
of its financial statements conducted in conjunction with its acquisition by
YouthStream, and subsequently received a waiver of default from the lender.
At
June 30, 2005, KES Acquisition was in compliance with the fixed charge coverage
ratio based on its consolidated financial statements as originally filed.
However, KES Acquisition was not in compliance with the fixed charge coverage
ratio at June 30, 2005 based on its revised consolidated financial statements,
as a result of a determination by management to re-characterize a lease for
certain equipment used by KES Acquisition as a capital lease rather than an
operating lease. In addition, KES Acquisition was not in compliance with its
obligation to deliver audited financial statements in the form and time period
as set forth in the loan agreement. On June 26, 2006, the Company received
a waiver of default from the lender with respect to the fixed charge coverage
ratio for the restated March 31, 2005 and June 30, 2005 interim financial
statements, as well as with respect to the form and timeliness of the September
30, 2005 annual audited financial statements being provided to GECC.
At
June
30, 2006, March 31, 2006, December 31, 2005 and September 30, 2005, KES
Acquisition was in compliance with the fixed charge coverage ratio based on
its
consolidated financial statements.
In
the
event that KES Acquisition is not in compliance with the fixed charge coverage
ratio in any future period, the Company intends to seek a further waiver of
any
default from the lender, and if no such waiver is received, the lender would
have the right to accelerate the maturity of the line of credit at that time.
To
the
extent that the Mill generates taxable income in the future, the Tax Sharing
Agreement with Acquisition Corp. and Atacama KES will generate cash payments
to
YouthStream equal to 50% of their respective “separate company tax liability”,
subject to compliance with the GECC secured line of credit. The tax sharing
payment due to YouthStream for the three months ended September 30, 2005 was
$334,826, which was received in December 2005. The tax sharing payment due
to
YouthStream for the three months ended December 31, 2005 was $382,290, which
was
received in February 2006. The
tax
sharing payment due to YouthStream for the three months ended March 31, 2006
was
$387,607, which was received, net of certain intercompany offsets, in July
2006.
The tax
sharing payment due to YouthStream for the three months ended June 30, 2006
was
$500,027, which was received, net of certain offsets, in August 2006.
YouthStream has approximately $255,000,000 of federal net operating loss
carryovers currently available to offset any federal income tax liability of
Acquisition Corp and Atacama KES in subsequent periods. YouthStream expects
that
its federal net operating loss carryovers will be sufficient to absorb most
of
any future federal income tax liability of Acquisition Corp. and Atacama KES.
The
Mill
restarted operations in January 2004 after being acquired by the previous
owners, and has incurred losses until recently. The long-term economic viability
of the Mill and its ability to fund its operations and debt service
requirements, including maintaining compliance with various debt covenants
and
servicing the interest and principal obligations on the Notes and the dividends
and redemption features on the 13% Series A Preferred Stock issued in connection
with the acquisition of the Mill, is dependent on various internal and external
factors, including the Mill’s ability to operate on a sustained basis at 80% or
more of its annual capacity of 200,000 tons per year, as currently configured.
To the extent that the Mill is not able to maintain this operating threshold,
the ability of the Mill to generate sufficient cash flows to fund its operations
and debt service requirements and maintain compliance with various debt
covenants may be impaired. In such event, the Company may have to consider
a
formal or informal restructuring or reorganization, including a sale or other
disposition of its assets.
Going
Concern
The
Company has incurred recurring operating losses since its inception. The
Company
incurred
a net loss of $3,430,562 and a negative cash flow from operating activities
of
$4,300,395 for the year ended September 30, 2005, and had an accumulated deficit
of $347,265,398 and a stockholders' deficiency of $79,600,350 at September
30,
2005. As
of
September 30, 2005, the Company had insufficient capital to fund all of its
obligations on a consolidated basis. These factors raise substantial doubt
about
the Company’s ability to continue as a going concern. The consolidated financial
statements do not include any adjustments to reflect the possible future effect
of the recoverability and classification of assets or the amounts and
classifications of liabilities that may result from the outcome of this
uncertainty.
On
March
9, 2005, the Company completed the acquisition of a steel mini-mill located
in
Ashland, Kentucky. The Company utilized substantially all of its available
cash
resources to fund such acquisition and will require additional operating capital
to fund corporate general and administrative expenses, which the Company expects
to obtain primarily through periodic tax sharing payments from Acquisition
Corp.
and Atacama KES. In addition, the steel mini-mill restarted operations in late
January 2004 after being acquired by the previous owners, and until recently
has
incurred losses. For the year ended September 30, 2005, operating income was
$2,691,955 (which included the operations of the steel mini-mill for the seven
month period March through September 2005), exclusive of interest expense.
For
the three months and nine months ended June 30, 2006, operating income was
$2,927,606 and $8,658,607, respectively, exclusive of interest expense. The
steel mini-mill relies on cash flows from operations to support a secured line
of credit with GECC to fund its separate operations. As a result of improved
operating performance of the steel mini-mill beginning in late 2005, the Company
has been able to increase borrowing availability under this line of credit.
Based
on
its current level of operations, the Company believes that its current cash
resources provided by operations and the secured line of credit will be adequate
to fund its operations through September 30, 2006. However, to the extent the
Company’s estimates are inaccurate or its assumptions are incorrect, the Company
may not have sufficient cash resources to fund its operations. In such event,
the Company may have to consider a formal or informal restructuring or
reorganization, including a sale or other disposition of its
assets.
The
Company’s management may also consider various strategic alternatives in the
future, including the acquisition of new business opportunities, which may
be
from related or unrelated parties. However, there can be no assurances
that such efforts will ultimately be successful. The Company may finance
any acquisitions through a combination of debt and/or equity
securities.
Operating
Activities. During the nine months ended June 30, 2006, the Company generated
$9,509,715 of cash from operating activities.
During
the nine months ended June 30, 2005, the Company used $2,629,587 of cash in
operating activities, both to fund the corporate overhead of YouthStream and
to
fund the operations of the Mill for the four month period March through June
2005.
Investing
Activities. During the nine months ended June 30, 2005, net cash provided by
investing activities was $247,227, which consisted of principal and interest
payments on the Beyond the Wall note receivable that the Company received in
the
February 2004 sale of the assets and operations of Beyond the Wall. During
the
nine months ended June 30, 2006, the Company did not have any investing
activities.
Financing
Activities. During the nine months ended June 30, 2006, net cash utilized in
financing activities was $9,574,803, consisting of $9,193,700 to reduce
borrowings under the secured line of credit with GECC, the repayment of $50,000
of short-term notes payable to certain directors, and payments on an equipment
contract payable and capital lease obligation of $331,103. During the nine
months ended June 30, 2005, net cash generated by financing activities was
$1,279,243, consisting of $1,410,683 of borrowings under the secured line of
credit with GECC, reduced by payments on an equipment contract payable and
capital lease obligation of $131,440.
Summary
of Restricted and Unrestricted Assets, Liabilities and
Equity
Almost
all of the Company’s net assets are owned by KES Acquisition, a consolidated
subsidiary. As a result of various contractual restrictions contained in
various financing agreements (as previously described) and documents relating
to
the Acquisition, there are limits on the Company’s ability to transfer assets
from KES Acquisition to Youthstream, whether in the form of loans and advances,
cash dividends, tax-sharing payments, or otherwise, without notice to and/or
consent of one or more third parties.
A
summary
of the Company's restricted and unrestricted assets, liabilities and equity
at
June 30, 2006 (unaudited) and at September 30, 2005 is presented
below.
June
30, 2006
|
|
Unrestricted
|
|
Restricted
|
|
As
Reported
|
|
|
|
|
|
|
|
|
|
Current
assets
|
|
$
|
878,875
|
|
$
|
32,677,835
|
|
$
|
33,556,710
|
|
Property,
plant and equipment, net
|
|
|
-
|
|
|
5,020,120
|
|
|
5,020,120
|
|
Other
assets
|
|
|
-
|
|
|
462,130
|
|
|
462,130
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
assets
|
|
$
|
878,875
|
|
$
|
38,160,085
|
|
$
|
39,038,960
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current
liabilities
|
|
$
|
10,182,245
|
|
$
|
28,823,608
|
|
$
|
39,005,853
|
|
Non-current
liabilities
|
|
|
77,306,610
|
|
|
1,221,267
|
|
|
78,527,877
|
|
Equity:
|
|
|
|
|
|
|
|
|
|
|
Retained
earnings (accumulated deficit)
|
|
|
(352,337,270
|
)
|
|
6,437,702
|
|
|
(345,899,568
|
)
|
Other
|
|
|
265,727,290
|
|
|
1,677,508
|
|
|
267,404,798
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
liabilities and equity
|
|
$
|
878,875
|
|
$
|
38,160,085
|
|
$
|
39,038,960
|
|
September
30, 2005
|
|
Unrestricted
|
|
Restricted
|
|
As
Reported
|
|
|
|
|
|
|
|
|
|
Current
assets
|
|
$
|
261,740
|
|
$
|
35,453,821
|
|
$
|
35,715,561
|
|
Property,
plant and equipment, net
|
|
|
-
|
|
|
5,567,745
|
|
|
5,567,745
|
|
Other
assets
|
|
|
-
|
|
|
638,948
|
|
|
638,948
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
assets
|
|
$
|
261,740
|
|
$
|
41,660,514
|
|
$
|
41,922,254
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current
liabilities
|
|
$
|
4,224,995
|
|
$
|
30,411,237
|
|
$
|
34,636,232
|
|
Non-current
liabilities
|
|
|
78,257,234
|
|
|
8,629,138
|
|
|
86,886,372
|
|
Equity:
|
|
|
|
|
|
|
|
|
|
|
Retained
earnings (accumulated deficit)
|
|
|
(348,435,183
|
)
|
|
1,169,785
|
|
|
(347,265,398
|
)
|
Other
|
|
|
266,214,694
|
|
|
1,450,354
|
|
|
267,665,048
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
liabilities and equity
|
|
$
|
261,740
|
|
$
|
41,660,514
|
|
$
|
41,922,254
|
|
Principal
Commitments
At
June
30, 2006, the Company's principal commitments consisted of the following
obligations:
|
|
|
|
Payments
Due by 12 Month Periods Ending June 30,
(in
thousands)
|
|
|
|
Contractual
cash obligations
|
|
Total
|
|
2007
|
|
2008
|
|
2009
|
|
2010
|
|
2011
|
|
There-after
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4%
notes payable
|
|
$
|
4,917
|
|
$
|
---
|
|
$
|
---
|
|
$
|
---
|
|
$
|
---
|
|
$
|
4,917
|
|
$
|
---
|
|
12%
subordinated promissory notes payable
|
|
|
7,000
|
|
|
7,000
|
|
|
---
|
|
|
---
|
|
|
---
|
|
|
---
|
|
|
---
|
|
8%
subordinated secured promissory notes payable
|
|
|
39,493
|
|
|
1,849
|
|
|
925
|
|
|
925
|
|
|
925
|
|
|
6,974
|
|
|
27,895
|
|
8%
subordinated secured promissory notes payable - interest
|
|
|
3,159
|
|
|
3,159
|
|
|
---
|
|
|
---
|
|
|
---
|
|
|
---
|
|
|
---
|
|
Secured
line of credit
|
|
|
9,891
|
|
|
9,891
|
|
|
---
|
|
|
---
|
|
|
---
|
|
|
---
|
|
|
---
|
|
Operating
leases
|
|
|
1,274
|
|
|
416
|
|
|
390
|
|
|
390
|
|
|
78
|
|
|
---
|
|
|
---
|
|
Capital
lease obligation
|
|
|
1,410
|
|
|
416
|
|
|
483
|
|
|
511
|
|
|
---
|
|
|
---
|
|
|
---
|
|
Equipment
contact payable
|
|
|
193
|
|
|
83
|
|
|
110
|
|
|
---
|
|
|
---
|
|
|
---
|
|
|
---
|
|
Management
services agreement
|
|
|
2,333
|
|
|
700
|
|
|
700
|
|
|
700
|
|
|
233
|
|
|
---
|
|
|
---
|
|
4%
Series A Preferred Stock subject to mandatory redemption
|
|
|
5,269
|
|
|
---
|
|
|
---
|
|
|
---
|
|
|
---
|
|
|
5,269
|
|
|
---
|
|
13%
Series A Preferred Stock of subsidiary subject to mandatory redemption,
excluding accrued dividends
|
|
|
26,618
|
|
|
---
|
|
|
---
|
|
|
---
|
|
|
---
|
|
|
---
|
|
|
26,618
|
|
Total
contractual cash obligations
|
|
$
|
101,557
|
|
$
|
23,514
|
|
$
|
2,608
|
|
$
|
2,526
|
|
$
|
1,236
|
|
$
|
17,160
|
|
$
|
54,513
|
|
At
June
30, 2006 and September 30, 2005, the Company did not have any material
commitments for capital expenditures.
At
June
30, 2006 and September 30, 2005, the Company has various short-term commitments
for the purchase of materials, supplies and energy arising in the ordinary
course of business which aggregated approximately $7,900,000 and $7,962,000,
respectively.
Off-Balance
Sheet Arrangements
The
Company does not have any transactions, obligations or relationships that could
be considered off-balance sheet arrangements at June 30, 2006 or September
30,
2005.
(a)
Evaluation of Disclosure Controls and Procedures
The
certifications of the principal executive officer and the principal financial
officer (or persons performing similar functions) required by Rules 13a-14
and
15d-14 of the Securities Exchange Act of 1934, as amended are filed as exhibits
to this report. This section of the report contains the information concerning
the evaluation of the Company's disclosure controls and procedures (as defined
in Securities Exchange Act Rules 13a-15(e) and 15d-15(e)) and changes to
internal controls over financial reporting (as defined in Securities Exchange
Act Rules 13a-15(f) and 15d-15(f)) referred to in the certifications and this
information should be read in conjunction with the certifications for a more
complete understanding of the topics presented herein.
Disclosure
controls and procedures are designed to ensure that information required to
be
disclosed in the reports filed or submitted by the Company under the Securities
Exchange Act of 1934 is recorded, processed, summarized and reported, within
the
time periods specified in the rules and forms of the Securities and Exchange
Commission. Disclosure controls and procedures include, without limitation,
controls and procedures designed to ensure that information required to be
disclosed in the reports filed under the Securities Exchange Act of 1934 is
accumulated and communicated to management, including its principal executive
and financial officers, as appropriate, to allow timely decisions regarding
required disclosure.
The
Company carried out an evaluation, under the supervision and with the
participation of its management, including its principal executive and financial
officers, of the effectiveness of the design and operation of the Company’s
disclosure controls and procedures as of the end of the period covered by this
report. Based upon and as of the date of that evaluation, the Company’s
principal executive and financial officers concluded that there were material
weaknesses in the internal controls at the Company’s steel mini-mill acquired
effective February 28, 2005, the financial statements of which are included
in
the consolidated financial statements of the Company from that date forward.
In
addition, as a result of this evaluation, the Company’s consolidated financial
reporting and disclosure controls were also determined to have material
weaknesses.
Specifically,
the steel mini-mill lacks adequate accounting systems and controls and
procedures to process information for inclusion in the Company’s reports filed
with the Securities and Exchange Commission. Furthermore, the steel mini-mill
also lacks adequate accounting personnel in general and adequately trained
accounting personnel in particular in order to be able to process and generate
the required financial information to be included in the Company’s consolidated
financial statements on a timely basis. The Company is addressing these issues
by reviewing and revising its internal accounting policies and procedures.
The
Company also intends to increase the resources and personnel allocated to the
steel mini-mill’s accounting department. The Company expects that the resolution
of these issues will take several months.
(b)
Changes in Internal Controls
There
were no changes in the Company’s internal controls or in other factors that
could have significantly affected those controls during the fiscal quarter
ended
June 30, 2006.
The
Company and/or its subsidiary that owned its former operating business, Beyond
the Wall, have periodically been defendants in various lawsuits and claims
from
various trade creditors and former landlords. Based on the Company’s contract
relating to the sale of the Beyond the Wall assets, certain of these claims
are
the responsibility of the buyer of the Beyond the Wall business. The Company
evaluates its response in each situation based on the particular facts and
circumstances of a claim. Accordingly, the ultimate outcome of these matters
cannot be determined at this time and may ultimately result in judgments and
liens against the Company or its assets. The Company has made sufficient
accruals for the exposure related to such matters that have been deemed probable
and reasonably estimable at June 30, 2006 and September 30,
2005.
KES
Acquisition was named in a wrongful death lawsuit before the Circuit Court
of
Cabell County, West Virginia (the “Court”), which was filed in December 2004.
The action was brought by Stephanie Harshbarger, individually and as
Administratrix of the Estate of Chad Harshbarger against Aero-Fab, Inc. and
KES
Acquisition. Mr. Harshbarger was an employee of Aero-Fab, Inc., an unaffiliated
contractor, who died while working at the Mill in April 2004. KES Acquisition
was defended by its insurance carrier in this action. On July 3, 2006, the
Court
dismissed KES Acquisition from the lawsuit, ruling that KES Acquisition was
not
within the Court’s jurisdiction. Notwithstanding such Court ruling, the
plaintiff may appeal the ruling, or file an action against KES Acquisition
in
the State of Kentucky, neither of which has occurred to date. The Company does
not believe that the resolution of this litigation will have a material adverse
effect on its financial condition or results of operations.
ITEM
2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF
PROCEEDS
Not
applicable.
ITEM
3. DEFAULTS UPON SENIOR SECURITIES
Not
applicable.
ITEM
4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not
applicable.
ITEM
5. OTHER INFORMATION
ITEM
6. EXHIBITS
A
list of
exhibits required to be filed as part of this report is set forth in the Index
to Exhibits, which immediately precedes such exhibits, and is incorporated
herein by reference.
SIGNATURES
Pursuant
to the requirements of Section 13 or 15(d) the Securities Exchange Act of 1934,
the registrant has caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
|
YOUTHSTREAM
MEDIA NETWORKS, INC. |
|
(Registrant)
|
|
|
|
|
|
|
DATE:
September 13, 2006
|
By: |
/s/
JOHN SCHEEL
|
|
|
|
John
Scheel
|
|
|
Chief
Executive Officer
|
|
|
|
|
|
|
|
|
|
DATE:
September 13, 2006
|
By: |
/s/
DONALD A. REISENBERG
|
|
|
|
Donald
A. Reisenberg
|
|
|
Chief
Financial Officer
|
EXHIBIT
INDEX
3.1
|
|
Certificate
of Incorporation (incorporated by reference to Exhibit 3.1 to the
Company's Registration Statement on Form SB-2, Registration No. 33-80935,
filed on March 6, 1996).
|
|
|
|
3.2
|
|
Certificate
of Amendment of Certificate of Incorporation (incorporated by reference
to
Exhibit 3.2 to the Company's Registration Statement on Form SB-2,
Registration No. 33-80935, filed on March 6, 1996).
|
|
|
|
3.3
|
|
Certificate
of Amendment of Certificate of Incorporation (incorporated by reference
to
Exhibit 3.3 to the Company's Form 10-KSB for the fiscal year ended
June
30, 1998, filed May 27, 1998).
|
|
|
|
3.4
|
|
Certificate
of Designation for Preferred Stock of YouthStream Media Networks,
Inc.
(incorporated by reference to Exhibit 99.3 to the Company's Form
8K filed
February 7, 2003).
|
|
|
|
3.5
|
|
Certificate
of Correction to the Certificate of Designation of Series A Preferred
Stock of YouthStream Media Networks, Inc. (incorporated by reference
to
Exhibit 3.5 to the Company’s Amended Form 10-K/A, filed March 5,
2004).
|
|
|
|
3.6
|
|
Bylaws
(incorporated by reference to Exhibit 4.2 to YouthStream's Registration
Statement on Form S-8, Registration No. 333-32022, filed on March
9,
2000).
|
|
|
|
3.7
|
|
Amendment
to Bylaws (incorporated by reference to Exhibit 3.8 to the Company’s Form
10-Q for the quarter ended June 30, 2004, filed August 13,
2004).
|
|
|
|
31.1
|
|
Certification
of the Chief Executive Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
|
|
|
|
31.2
|
|
Certification
of the Chief Financial Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
|
|
|
|
32.1
|
|
Certification
pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
|