Kartoon Studios, Inc. (formerly Genius Brands International, Inc.) — Form 10-Q Summary
Reporting period: Three and six months ended June 30, 2013, filed August 13, 2013. The company was a smaller reporting company with 73,123,888 common shares outstanding as of August 12, 2013.
Business context
The company develops, distributes and licenses children’s videos, music, books, toys and digital content under brands including Baby Genius, Little Genius, Kid Genius, 123 Favorite Music and Wee Worship. Revenue is generated from product sales, licensed and distributed products, and royalties. Management was shifting resources toward core children’s entertainment and education products and digital distribution.
Key financial metrics
| Metric | Three months ended June 30, 2013 | Three months ended June 30, 2012 | Six months ended June 30, 2013 | Six months ended June 30, 2012 |
|---|---|---|---|---|
| Revenue | $622,324 | $1,641,798 | $1,356,563 | $2,672,745 |
| Gross profit | $289,656 | $351,053 | $376,586 | $647,869 |
| Gross margin | 46.5% | 21.4% | 27.8% | 24.2% |
| Loss from operations | $(484,591) | $(649,648) | $(1,175,627) | $(1,217,819) |
| Net loss attributable to the company | $(543,249) | $(583,247) | $(1,489,114) | $(1,189,914) |
| Net loss per share | $(0.01) | $(0.01) | $(0.02) | $(0.02) |
| Net cash used in operating activities | Not separately presented for the quarter | $(85,918) | $(100,325) |
Six-month revenue declined 49.2%, driven primarily by lower product sales and the discontinuation of intermittent, low-margin overstock product sales. Royalties increased 268.5% for the six-month period, but the increase included a final payment related to termination of the Tollytots toy license and is not expected to recur at the same level.
At June 30, 2013, cash was $253,390, compared with $447,548 at December 31, 2012. Current assets were $1,036,775 and current liabilities were $2,802,146, producing a working-capital deficit of $1,765,371. Total assets were $1,885,025, total liabilities were $3,263,571 and stockholders’ deficit was $1,378,546. Accumulated deficit was $11,697,138.
Debt included a $1.0 million, 16% senior secured convertible debenture due June 27, 2014, recorded net of a $322,903 discount at June 30, 2013. The company also owed $461,425 in notes payable and accrued interest to related parties. The debenture’s scheduled redemptions were $250,000 in December 2013, $250,000 in March 2014 and $500,000 at maturity in June 2014, plus accrued interest.
Material changes versus the prior comparable period
- Second-quarter revenue decreased 62.1%; six-month revenue decreased 49.2%.
- Product sales declined 30.2% in the quarter and 44.9% for the six-month period. Licensed and distributed product sales declined 94.7% and 65.9%, respectively.
- Cost of sales declined more rapidly than revenue, increasing gross margin to 46.5% in the quarter and 27.8% for the six months.
- Operating expenses declined 22.6% in the quarter and 16.8% for the six months, but the company remained substantially loss-making.
- Six-month net loss increased from $1.185 million to $1.489 million, primarily reflecting materially higher interest expense and the absence of the prior-year gain on debt extinguishment.
- Interest expense increased to $310,742 for the six months from $5,147 in the prior-year period, largely because of the convertible debenture and debt-discount amortization.
- Cash declined by $194,158 during the six months. Operating cash use improved modestly, but investing cash use increased to $172,518, primarily for intangible and product development assets.
- The company issued 1,211,271 shares during the period for interest and services, and granted options to purchase 1,000,000 shares. Common shares outstanding increased from 71,912,617 at year-end 2012 to 73,123,888 at June 30, 2013.
Guidance, outlook, risks and unusual items
- Management expected Ready!Play!Learn! to be available in the third quarter of 2013, an application to be available in the third quarter, and an initial digital streaming platform and content conversion by the fourth quarter of 2013. These are forward-looking expectations, not commitments.
- The Tollytots license was terminated on June 6, 2013. The company expected no further payments after June 30, 2013 and anticipated lower royalty revenue thereafter.
- Management stated that funds from revenue, operating cash flow, deferred officer salaries and short-term financing were expected to fund planned operations for the next twelve months. It also warned that additional funding could be required and that development plans might need to be reduced or operations scaled back or terminated.
- Sales are seasonal, with management expecting the third and fourth quarters to benefit from holiday demand. Quarterly results may fluctuate significantly.
- Principal risks include declining retail demand, dependence on limited customers and licensees, inability to increase sales or market share, financing and debt-service requirements, competition, production delays and costs, intellectual-property protection, consumer preference changes and execution of digital initiatives.
- The quarter included a $103,619 gain from derivative valuation. The six-month period included a $10,757 derivative valuation gain, while the prior-year six-month period included a $76,280 gain on extinguishment of debt.
- The company reported no material pending legal proceedings, no reportable defaults on senior securities and no subsequent events requiring disclosure. Management stated that disclosure controls and procedures were effective.
Investor verification points
- Verify the company’s ability to fund operations and meet the $1.0 million debenture redemption schedule through June 2014.
- Assess whether the working-capital deficit, accumulated losses and negative equity create a material going-concern or refinancing risk.
- Determine how much of the royalty increase was nonrecurring Tollytots termination proceeds and the likely post-termination royalty run rate.
- Track revenue recovery in core product categories and the impact of discontinuing overstock product sales.
- Verify delivery, monetization and capital requirements for the planned application, Ready!Play!Learn! program and digital streaming platform.
- Monitor dilution from shares issued for services and interest, outstanding options for 11,475,000 shares and warrants for 5,768,452 shares.
- Reconcile the filing’s cash-flow period descriptions and comparative figures before relying on quarter-specific cash-flow conclusions.