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KITARA MEDIA CORP. - 10-K - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.(Edgar Glimpses Via Acquire Media NewsEdge) Unless otherwise indicated, all dollar amounts in this Item 7 are set forth in thousands. General We are a Delaware corporation incorporated on December 5, 2005. From our inception in 2005 until February 29, 2012, when we completed a reverse acquisition transaction with Andover Games, we were a blank check company and did not engage in active business operations other than our search for, and evaluation of, potential business opportunities for acquisition or participation. On February 29, 2012, we completed a reverse acquisition of Andover Games through a merger transaction whereby Andover Games became our wholly-owned direct subsidiary. Accordingly, the financial statements of Andover Games became our financial statements. Prior to June 30, 2013, our principal business was focused on developing mobile games for iPhone and Android platforms. On July 1, 2013, we consummated the transactions contemplated by the K/N Merger Agreement. Upon the closing, we ceased the operations of Andover Games, our operations became entirely that of Kitara Media and NYPG and the financial statements of Kitara Media became our financial statements. For accounting purposes, the acquisition of Kitara Media was treated as an acquisition of the Company by Kitara Media and as a recapitalization of Kitara Media as Kitara Media members held a large percent of the Company's shares and exercise significant influence over the operating and financial policies of the consolidated entity and the Company was a non-operating public registrant prior to the transaction. Pursuant to ASC 805-10-11 through 55-15, the merger or acquisition of a private operating company into a non-operating public registrant with nominal assets is considered a capital transaction in substance rather than a business combination. As a result, the consolidated balance sheets, statements of operations, and statements of cash flows of Kitara Media have been retroactively updated to reflect the recapitalization. On August 19, 2013, we filed with the Secretary of the State of Delaware an amendment to our certificate of incorporation to change our name from "Ascend Acquisition Corp." to "Kitara Media Corp." to better reflect our current operations following the transactions contemplated by the K/N Merger Agreement. On December 3, 2013, we entered into the HG Merger Agreement and simultaneously closed the transactions contemplated thereby, acquiring Health Guru Media. The financial results of operations of Health Guru Media from the date of acquisition to December 31, 2013 were consolidated into our financial statements. 14 -------------------------------------------------------------------------------- Results of Operations Year Ended December 31, 2013 2012 Revenue $ 25,377 $ 23,557 Cost of revenue 17,148 18,598 Gross Profit 8,229 4,959 GP as % of revenue 32 % 21 % Operating expenses Employee Expenses 5,097 4,672 Related party expenses 251 399 Impairment of property and equipment 0 649 Other operating expenses 2,432 1,316 Depreciation and amortization 525 748 Total operating expenses 8,305 7,784 Operating (loss) (76 ) (2,825 ) Other (loss) (43 ) (5 ) Loss before income taxes (119 ) (2,830 ) Income taxes (67 ) 0 Net (loss) (186 ) (2,830 ) EBITDA (a non-GAAP measure) 537 (2,082 ) Net (loss) (186 ) (2,830 ) Depreciation and amortization 525 748 Interest expense, less other income 42 0 Stock compensation expense 89 0 Taxes 67 0 EBITDA (a non-GAAP measure) 537 (2,082 ) 15--------------------------------------------------------------------------------Revenue and Gross Margin Consolidated revenue for the year ended December 31, 2013 increased by $1,820, or 8%, to $25,377 as compared to $23,557 for the year ended December 31, 2012. The growth in revenue was primarily due to an increase in video revenue as compared to banner revenue. For the year ended December 31, 2013, total video ad revenue doubled to 68% of total revenue as compared to the year ended December 31, 2012 of only 35% of total revenue. Consolidated margins for the year ended December 31, 2013 increased by $3,270 or 66% to $8,229 as compared to $4,959 for the year ended December 31, 2012. Gross profit as a percentage of revenue increased from 21% for the year ended December 31, 2012 to 32% for the year ended December 31, 2013. The increase in margin was due to video ad revenue having a higher CPM ("cost per thousand") compared to banner ads as well as the fact that we expanded beyond our owned and operated sites with the introduction of our proprietary PROPEL+ video unit, which reaches broader audiences and increasing available impressions through added media partnerships and placements. As a result, we believe PROPEL+ will maximize gross margins. Our acquisition of Health Guru Media also contributed to the increase in margin as their CPM's are much higher due to the fact their advertisements are highly targeted in the medical vertical. Health Guru Medial also further enhanced the PROPEL+ Platform with advanced content management and syndication capabilities. Integrated functionalities and combined development efforts further allow for improvements in margins and performance. Employee Expenses Employee Expenses for the year ended December 31, 2013 increased by $425, or 9%, to $5,097 as compared to $4,672 for the year ended December 31, 2012. The increase for the year ended December 31, 2013 was primarily due to accrued bonuses for the new President of Kitara which was approximately $250. We also added 41 employees through the Health Guru Media acquisition on December 3, 2013 which added $541 for the month of December. Additionally, we had stock-based compensation of approximately $89 that we did not incur in the previous year and $95 of lower software capitalization due to fewer projects. However, this was offset by lower salary expense, commission and payroll related taxes which totals approximately $542 as compared to prior year due to a decrease in headcount from the prior year. Other Operating Costs and Related Party Expenses Other operating costs and related party expense for the year ended December 31, 2013 increased by $968, or 56%, to $2,683 as compared to $1,715 for the year ended December 31, 2012. The increase for the year was primarily due to costs related to the Kitara Media and NYPG merger as well as the costs related to the Health Guru Media merger which was approximately $367. Operation charges as it relates to our content delivery network (CDN) system which is used to deliver video are new charges in 2013 and was approximately $378. In addition, we wrote off customer balances from our accounts receivable that were deemed uncollectable and established a reserve of 3.8% of Accounts Receivable which increased bad debt expense over the prior year by approximately $309. Depreciation and Amortization Depreciation and amortization expense for the year ended December 31, 2013 decreased by $223, or -30%, to $525 as compared to $748 for the year ended December 31, 2012. The decrease in depreciation expense is due to assets reaching their maturity. EBITDA (a non-GAAP measure) EBITDA (a non-GAAP measure) for the year ended December 31, 2013 increased by $2,619, or 126%, to $537 as compared to ($2,082) for the year ended December 31, 2012. Overall the increase in EBITDA (a non-GAAP measure) was due to higher sales with significant improvements to margins. As explained above in Results of Operations: Revenue and Margin, the increase in video ad revenue which can command a higher price is why margins improved. Management reviews EBITDA on a monthly basis as it is a key business indicator and metric that is used internally and as a comparison to others in our industry who also report EBITDA (a non-GAAP measure). We calculate EBITDA by taking the net loss and adding back depreciation, amortization and interest expense less interest income, stock-based compensation and taxes. 16 --------------------------------------------------------------------------------Liquidity and Capital Resources Sources of Liquidity We have historically funded our operations principally through private placements of our capital stock, issuance of promissory notes and bank borrowings. In connection with the consummation of the K/N Merger Agreement, we issued to Robert Regular the Closing Notes. The first Closing Note was in the amount of $100 and was due and payable on January 1, 2014. We amended this note on December 31, 2013 to extend the maturity of the note to January 1, 2015. The second Closing Note was in the amount of $200 and is due and payable on January 1, 2023. The Closing Notes accrue interest at a rate of 1% per annum, which will be due on maturity. At December 31, 2013, the outstanding balance, including interest, for both Closing Notes was $302. Also in connection with the closing of the K/N Merger Agreement, we issued an aggregate of 4,000,000 shares of common stock in a private placement to Ironbound, an affiliate of Jonathan J. Ledecky, our Non-Executive Chairman of the Board, for an aggregate purchase price of $2,000. On November 1, 2013, Kitara Media secured a three-year $5,000 credit facility with Wells Fargo Bank, National Association (the "Lender") pursuant to the Credit Agreement. The line may be increased to $10,000 at Kitara Media's option on or prior to April 30, 2015 in two equal tranches of $2,500 each. At December 31, 2013, the outstanding balance (including interest) on the credit facility was $841. Outstanding advances under the Credit Agreement may not at any time exceed the Borrowing Base less amounts outstanding under letters of credit. The "Borrowing Base" is equal to 85% of eligible accounts receivable plus the lesser of 75% of eligible unbilled accounts receivable or $500 less reserves established by Lender from time to time less $500. Funds advanced under the Credit Agreement are to be used for the payment of Lender's expenses that are reimbursable by Kitara Media and for Kitara Media's working capital and general corporate purposes. Amounts repaid under the Credit Agreement may be reborrowed at any time during the term of the Credit Agreement. All outstanding amounts, together with accrued and unpaid interest, are due and payable on November 1, 2016 or earlier upon termination of the Credit Agreement at Kitara Media's request or upon the occurrence and continuation of an event of default. Loans under the Credit Agreement bear interest, payable monthly, at the LIBOR rate (increased to reflect Federal Reserve requirements greater than zero) for 3-month interest rate periods plus 4.25% per annum. If the loan remains outstanding at the end of an interest rate period, it will automatically convert to a variable rate loan that changes with daily changes in the published LIBOR rate unless a request by Kitara Media to continue on a fixed rate basis is approved by Lender. If an event of default under the Credit Agreement occurs and continues, the interest rate is increased by 2% per annum and, at Lender's option, becomes a variable rate that changes with daily changes in the published LIBOR rate for 3-month interest rate periods. There is a minimum interest charge of $10 per calendar month. Amounts due under the Credit Agreement are secured by a continuing security interest in substantially all of Kitara Media's assets and also by pledges by us of our ownership interests in NYPG and Andover Games. Amounts owed are also guaranteed by us, Andover Games and NYPG. Kitara Media has made certain representations and warranties to the Lender in the Credit Agreement that are customary for credit arrangements of this type. The Credit Agreement also contains certain affirmative and negative covenants and financial covenants incumbent upon Kitara Media that are typical in such agreements. Among the negative covenants are covenants restricting, without the consent of the Lender, the incurrence of indebtedness and liens, restrictions on fundamental changes by Kitara Media such as mergers, acquisitions, consolidations, reorganizations and reclassifications, and restrictions on the disposal of assets, the making of Restricted Junior Payments, Changes of Control, Investments, transactions with Affiliates and the issuance of Stock (as such terms are defined in the Credit Agreement). Change of Control events include, among other items, any person or group becoming the owner of 30% or more of our outstanding common stock. 17 -------------------------------------------------------------------------------- On December 3, 2013, in connection with the consummation of the transactions contemplated by the HG Merger Agreement, we sold an aggregate of 4,000,000 shares of our common stock to several accredited investors, including Ironbound and Jeremy Zimmer on a private placement basis, for an aggregate purchase price of $2,000. Also in connection with the consummation of the transactions contemplated by the HG Merger Agreement, Health Guru Media secured a one (1) year receivable financing arrangement with Sterling National Bank - Factoring and Trade Finance Division (the "Bank"). Pursuant to this arrangement, Health Guru Media present invoices to the Bank who then advances it up to 60% of eligible invoices which may remain outstanding for up to 120 days of the invoice date or 60 days past due. The Bank charges a commission rate of .35% of the gross invoice. At the Bank's discretion, they may elect to charge the difference between the actual commission earned by them and the minimum commission on a monthly basis and if so, the monthly minimum charge shall not be less than $1.5. All debits in the account shall bear interest daily at a rate equal to 1.75% above prime rate as published in the Wall Street Journal. The Bank is also a party to an intercreditor agreement that sets forth the respective rights and obligations with respect to the assets of Health Guru Media between the Bank and the Lender for the Health Guru loans. Cash Flows Net cash used in operating activities Net cash used in operating activities was ($388) for the year ended December 31, 2013, compared to ($2,800) for the year ended December 31, 2012. There was an improvement in cash used primarily due to our net loss after non-cash adjustments, such as depreciation, asset impairment, stock compensation, deferred rent, bad debt and loss on disposal of property of $776 for the year ended December 31, 2013 compared to a loss after non-cash adjustments of ($1,450) for the year ended December 31, 2012. The increase was driven by higher sales and better margins (See "Results of Operations - Other operating costs and related party expenses"), offset by the cash used in conjunction with the Health Guru Media acquisition. During 2012, we had established stronger credit checks and increased our collection efforts by contacting late payers as soon as they've exceeded their terms. The full benefit of the improvements to our credit policy and collection efforts has resulted in better management of accounts receivable balances which is evident by the balance in cash provided by accounts receivable at December 31, 2013 of $214 vs. cash used in accounts receivable of ($2,321) at December 31, 2012. Net cash provided by (used) in investing activities Net cash provided by investing activities was $16 for the year ended December 31, 2013, compared to ($593) of net cash used in investing activities for the year ended December 31, 2012. During the years ended December 31, 2013 and 2012 investment expenditures were primarily for software development for internal use offset in 2013 for the cash acquired in the acquisition of Health Guru Media. In 2013, our main project was the development of our PROPEL+ player which is an ad delivery solution. In 2012, we primarily focused on developing various games that were run on owned and operated websites that also delivered banner and video ads. The cash expenditures for the year ended December 31, 2013 was offset by the cash acquired in the acquisition of Health Guru Media. 18 --------------------------------------------------------------------------------Net cash provided by financing activities Net cash provided by financing activities was $2,850 for the year ended December 31, 2013, compared to $3,393 provided by financing for the year ended December 31, 2012. Due to the loss and cash needs in 2012, we had a large capital contribution of $3,079 to cover the loss and working capital constraints. In 2013 we distributed back to our members $699 and raised $4,000 in the private placement in conjunction with the mergers with Kitara Media, NYPG and Health Guru Media but only received $3,700 in cash as $300 was from the conversion of a previous bridge loan made by Ironbound. This raise was done in order to provide liquidity for the transactions and future working capital needs. As part of our financial strategy, Kitara Media recently established a credit facility with the Lender as described above. The amount of the credit line is $5,000 initially with an option to increase to $10,000 on April 30, 2015 in two equal tranches of $2,500 each. The interest rate on the credit facility is Libor plus 4.25% with a minimum interest charge of $10 per month. There are various financial and other covenants in the credit agreement that we must continue to satisfy in order to be compliant with the credit facility. The ability to borrow against our accounts receivable will give us greater flexibility to grow the business by providing additional liquidity and relieving the pressure we currently have in working capital. Management believes cash and the ability to borrow are sufficient to maintain operations for a minimum of twelve months. Contractual Obligations and Commitments We have non-cancelable contractual obligations for office space. The following table discloses aggregate information about material contractual obligations and periods in which payments were due as of December 31, 2013. The following table summarizes certain of our contractual obligations at December 31, 2013 (in thousands): Less than More than Total 1 year 1-3 Years 3-5 Years 5 years Operating Leases 361 361 Notes Payable and collateralized obligations 526 224 101 201 Credit facilities 1,921 1,921 Loan 1,383 1,383 Total Contractual Obligations 4,191 3,889 101 0 201 We have 12,235 square feet of space that we lease for our corporate offices in Jersey City, New Jersey. Our lease expires at the end of September 2014. Through our acquisition of NYPG, we have two promissory notes, one in the amount of $100 that will mature on January 1, 2015 and the other in the a mount of $200 that will mature on January 1, 2023. These notes accrue interest at a rate of 1% per annum. Through the acquisition of Health Guru Media, we have a contingent liability to Skyword, the seller of Gather.com which Health Guru Media acquired prior to our acquisition of its company. Pursuant to the purchase agreement, contingent consideration for the purchase consists of a five year arrangement to pay royalties to Skyword. The Skyword royalties are to be paid in quarterly installments and is based on revenues generated by the assets purchased. As of December 31, 2013, the future value of this contingent liability is $224. 19 -------------------------------------------------------------------------------- On November 1, 2013 Kitara Media secured a three-year $5,000 credit facility with the Lender. The interest rate on the credit facility is Libor plus 4.25% with a minimum interest charge of $10 per month. The balance of the credit facility on December 31, 2013 was $841. In conjunction with the acquisition of Health Guru Media, the Company acquired certain debts as follows: On June 10, 2011, Health Guru Media obtained a commitment from a lender to borrow an aggregate of $3,000. The commitment was divided into two tranches. The first tranche was for $2,000 which expires on October 1, 2014. The second tranche was for $1,000 and expires on December 1, 2014. On January 31, 2012, Health Guru Media obtained an additional growth capital loan on its second commitment ("Tranche 3") in the amount of $500 which expires on December 1, 2014. Interest is payable monthly at an annual interest rate which is a sum of the prime rate, as published by The Wall Street Journal, plus 9.75% per annum (the "Combined Interest Rate"). In no event shall the designated rate be less than 13%. At December 31, 2013, the interest rate on this debt was 13%. As of December 31, 2013, the total balance on the notes was $1,383. On June 18 2013, Health Guru Media secured a one (1) year receivable financing arrangement with the Bank. Health Guru Media presents invoices to the Bank who then advances it up to 60% of eligible invoices and may remain outstanding for up to 120 days of the invoice date or 60 days past due. The Bank charges a commission rate of .35% of the gross invoice. All debits in the account shall bear interest daily at a rate equal to 1.75% above prime rate as published in the Wall Street Journal. As of December 31, 2013, the total balance outstanding was $1,080. On June 19, 2013, Health Guru Media, the Bank and Health Guru Lender for the loans, entered into an Intercreditor agreement that granted the Bank and Health Guru Lender for the loans,a general lien and security interest in substantially all of Health Guru Media's assets. This agreement sets forth the respective rights and obligations with respect to the assets of Health Guru Media between the Bank and Health Guru Lender for the loans. See Note 6 of the consolidated financial included in this Form 10-K for further details. Off-Balance Sheet Arrangements We do not have any off-balance sheet financing arrangements. Critical Accounting Policies and Estimates The preparation of our consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of the assets and liabilities, revenues and expenses, and the disclosure of contingent assets and liabilities in these consolidated financial statements. We believe that of our significant accounting policies (see Note 2 of the consolidated financial included in this Form 10-K), the following policies involve a higher degree of judgment and complexity: Capitalization of internally developed software We follows the guidance of ASC Topic 350-40, "Internal-Use Software" and ASC Topic 985-20, "Costs of Software to be Sold, Leased or Marketed" in regards to the capitalization of software development costs. The Company capitalizes certain costs related to its software developed or obtained for internal use in accordance with ASC 350-40. Costs related to preliminary project activities and post-implementation activities are expensed as incurred. Internal and external costs incurred during the application development stage, including upgrades and enhancements representing modifications that will result in significant additional functionality, are capitalized. Software maintenance and training costs are expensed as incurred. Capitalized costs are recorded as part of property and equipment and are amortized on a straight-line basis over the software's estimated useful life. The Company evaluates these assets for impairment whenever events or changes in circumstances occur that could impact the recoverability of these assets. 20 -------------------------------------------------------------------------------- In accordance with ASC 985-20 "Accounting for the Cost of Computer Software to be Sold, Leased or Otherwise Marketed," software development costs are expensed as incurred until technological feasibility (generally in the form of a working model) has been established. Research and development costs which consist primarily of salaries and fees paid to third parties for the development of software and applications are expensed as incurred. The Company capitalizes only those costs directly attributable to the development of the software. Capitalization of these costs begins upon the establishment of technological feasibility. Activities undertaken after the products are available for release to customers to correct errors or keep the product up to date are expensed as incurred. Capitalized software development costs will be amortized over the estimated economic life of the software once the product is available for general release to customers. Capitalized software development costs will be amortized over the greater of the ratio of current revenue to total projected revenue for a product or the straight-line method. We will periodically perform reviews of the recoverability of such capitalized software costs. At the time a determination is made that capitalized amounts are not recoverable based on the estimated cash flows to be generated from the applicable software, any remaining capitalized amounts are written off. Revenue recognition We recognize revenue in accordance with ASC Topic 605, "Revenue Recognition." Accordingly, we recognize revenue when the following four basic criteria have been met: · Existence of persuasive evidence than an arrangement exists; · Delivery has occurred or services have been rendered; · The seller's price to the buyer is fixed and determinable; and · Collectability is reasonably assured. Our revenues are recognized in the period that the actions occur or when services are provided and the criteria of ASC Topic 605 are met. Additionally, consistent with the provisions of ASC Topic 605-45, "Principle Agent Considerations," ("ASC Topic 605-45"), our revenues are recorded on a gross basis and publisher expenses that are directly related to a revenue-generating event are recorded as a component of cost of revenues. Prepayments and amounts on deposit from customers are recorded as an advertiser deposit liability and are included in either accounts payable and accrued liabilities or accounts receivable, net, in the accompanying consolidated balance sheets. Business Combinations For a business combination, the assets acquired, the liabilities assumed and any non-controlling interest in the acquiree are recognized at the acquisition date, measured at their fair values as of that date. In a business combination achieved in stages, the identifiable assets and liabilities, as well as the non-controlling interest in the acquiree, are recognized at the full amounts of their fair values. In a bargain purchase in which the total acquisition-date fair value of the identifiable net assets acquired exceeds the fair value of the consideration transferred plus any non-controlling interest in the acquiree, that excess in earnings are recognized as a gain attributable to the Company. Deferred tax liabilities and assets were recognized for the deferred tax consequences of differences between the tax bases and the recognized values of assets acquired and liabilities assumed in a business combination in accordance with Accounting Standards Codification ("ASC") Topic 740-10. 21-------------------------------------------------------------------------------- |