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                                  UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                   FORM 10-QSB

[X]      Quarterly  Report Under Section 13 or 15(d) of the Securities  Exchange
         Act of 1934

                For the quarterly period ended September 30, 2003

[_]      Transition  Report  Pursuant  to Section 13 or 15(d) of the  Securities
         Exchange Act of 1934

  For the transition period from __________________ to ______________________.

                        Commission file number 001-14480

                      BRILLIANT DIGITAL ENTERTAINMENT, INC.
        (Exact Name of Small Business Issuer as Specified in its Charter)

          DELAWARE                                                95-4592204
(State or Other Jurisdiction of                               (I.R.S. Employer
Incorporation or Organization)                               Identification No.)

                    6355 TOPANGA CANYON BOULEVARD, SUITE 520
                        WOODLAND HILLS, CALIFORNIA 91367
                    (Address of Principal Executive Offices)

                                 (818) 615-1500
                (Issuer's Telephone Number, Including Area Code)



         State the number of shares  outstanding of each of the issuer's classes
of common equity,  as of the latest  practicable  date:  Common Stock, par value
$0.001, 41,351,571 shares issued and outstanding as of November 3, 2003.

         Transitional  Small Business  Disclosure Format (check one):
                              Yes [_]     No [X]

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<PAGE>


                      BRILLIANT DIGITAL ENTERTAINMENT, INC.

                                      INDEX

                                                                            PAGE
                                                                            ----

PART I   FINANCIAL INFORMATION.................................................3

Item 1.  Financial Statements..................................................3

         Condensed Consolidated Balance Sheet as of
         September 30, 2003....................................................3

         Condensed Consolidated Statements of Operations
         for the three and nine months ended September 30, 2003
         and September 30, 2002................................................4

         Condensed Consolidated Statements of Cash Flows
         for the nine months ended September 30, 2003 and
         September 30, 2002....................................................5

         Notes to Consolidated Financial Statements............................7

Item 2.  Management's Discussion and Analysis or Plan of
         Operation ...........................................................17

Item 3.  Controls and Procedures..............................................36

PART II  OTHER INFORMATION....................................................38

Item 2.  Changes in Securities and Use of Proceeds............................38

Item 6.  Exhibits and Reports on Form 8-K.....................................38

         Signatures...........................................................39


                                       2
<PAGE>


                                     PART I
                              FINANCIAL INFORMATION

Item 1.  Financial Statements

                      BRILLIANT DIGITAL ENTERTAINMENT, INC.
                      CONDENSED CONSOLIDATED BALANCE SHEET
                                 (In thousands)
                                                                   SEPTEMBER 30,
                                                                         2003
                                                                       --------
ASSETS                                                               (unaudited)
Current assets:
    Cash and cash equivalents .................................        $     64
    Restricted cash (Note 2) ..................................              75
    Accounts receivable, net ..................................           2,481
    Note Receivable (Note 4) ..................................              99
    Other assets, net .........................................           1,906
                                                                       --------
Total current assets ..........................................           4,625
Property, plant and equipment, net ............................              95
Note Receivable (Note 4) ......................................              99
Purchased Technology Related Party (Note 2) ...................           1,568
License Rights (Notes 3 and 7) ................................           5,534
Other assets, net .............................................              13
                                                                       --------
Total assets ..................................................        $ 11,934
                                                                       ========

LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
    Accounts payable ..........................................        $    923
    Accrued expenses ..........................................           3,323
    Note payable-net of discount (Note 3) .....................             200
    Guaranteed minimum payments (Note 7) ......................             360
    Deferred revenue ..........................................             226
    Capital financing, net of discount ........................           3,657
                                                                       --------
Total current liabilities .....................................           8,689
Long-term debt ................................................             142
Long-term Guaranteed Minimum Payments (Note 7) ................             630
                                                                       --------
Total liabilities .............................................           9,461

Stockholders' equity:
    Common stock ..............................................              46
    Additional paid-in capital ................................          65,676
    Accumulated deficit .......................................         (63,282)
    Foreign currency translation ..............................              33
                                                                       --------
Total stockholders' equity ....................................           2,473
                                                                       --------
Total liabilities and stockholders' equity ....................        $ 11,934
                                                                       ========

                 See Notes to Consolidated Financial Statements.


                                       3
<PAGE>


                      BRILLIANT DIGITAL ENTERTAINMENT, INC.
                 CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
                      (In thousands, except per share data)


                                       THREE MONTHS             NINE MONTHS
                                    ENDED SEPTEMBER 30,     ENDED SEPTEMBER 30,
                                   --------------------    --------------------
                                      2002       2003         2002        2003
                                   --------------------    --------------------
                                        (unaudited)             (unaudited)

Revenues ........................  $    601    $  1,343    $  1,269    $  3,623

Costs and expenses:
     Costs of revenues ..........        67         160         158         449
     Sales and marketing ........       133         390         258         788
     General and administrative .       716       2,079       2,524       4,264
     Research and development ...       (11)        115         222         421
     Depreciation and
        amortization ............        23          91          54         144
                                   --------------------    --------------------
                                        928       2,835       3,216       6,066
                                   --------------------    --------------------
Income (loss) from operations ...      (327)     (1,492)     (1,947)     (2,443)
Other income (expense):
     Other Income ...............      --          --          --         2,097
     Loss on write off of
        deferred fees ...........      --          --          --          (206)
     Interest expense ...........      (892)       (824)     (2,667)     (1,820)
                                   --------------------    --------------------
     Total other income (expense)      (892)       (824)     (2,667)         71
                                   --------------------    --------------------
Net income (loss) ...............    (1,219)     (2,316)     (4,614)     (2,372)
Unrealized Gain Marketable
   Securities
Foreign currency translation
   adjustment (net of tax
   effects) .....................        16        --            24          33
                                   --------------------    --------------------
Comprehensive income (loss) .....  $ (1,203)   $ (2,316)   $ (4,590)   $ (2,339)
                                   ====================    ====================


Basic and fully-diluted net
   income (loss) per share ......  $  (0.05)   $  (0.06)   $  (0.20)   $  (0.06)
                                   ====================    ====================
Weighted average number of
   shares used in computing
   basic and fully-diluted net
   income (loss) per share ......    25,212      40,316      22,602      35,836
                                   ========    ========    ========    ========

                 See Notes to Consolidated Financial Statements.


                                       4
<PAGE>


                      BRILLIANT DIGITAL ENTERTAINMENT, INC.
                 CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
                                 (In thousands)

                                                                NINE MONTHS
                                                             ENDED SEPTEMBER 30,
                                                            -------------------
                                                              2002        2003
                                                            -------     -------
                                                                 (unaudited)

OPERATING ACTIVITIES
Net loss ...............................................    $(4,614)    $(2,372)
Adjustments to reconcile net loss to the net cash
   provided by (used in) operating activities:
      Depreciation and amortization ....................        147         144
      Effect of accrued interest expense on
         convertible debt & capital financing ..........      2,578       1,820
      Effect of warrant amortization related to
         promissory notes ..............................       --           317
      Effect of warrant amortization related to purchase
         of license rights .............................       --           522
      Effect of warrant amortization related to
         agreements ....................................        342         514
      Changes in operating assets and liabilities:
         Accounts receivable ...........................       (423)     (1,877)
         Other assets ..................................       --           140
         Accounts payable and accruals .................       (457)      3,011
         Deferred revenue ..............................       (686)     (2,182)
         Notes receivable ..............................       --          (197)
         Other long-term liabilities ...................      1,076          35
                                                            -------     -------
Net cash (used in) provided by operating
   activities ..........................................     (2,037)       (125)

INVESTING ACTIVITIES
Purchase of equipment ..................................         (7)        (70)
                                                            -------     -------
Net cash used in investing activities ..................         (7)        (70)

FINANCING ACTIVITIES
Proceeds from issuance of shares, net of costs .........      2,286          37
Proceeds from issuance of promissory notes net
   of discount .........................................       --           200
Proceeds from the issuance of capital financing ........        400        --
Repayments of notes payable ............................        (66)       --
Restricted cash ........................................       --          (222)
                                                            -------     -------
Net cash provided by financing activities ..............      2,620          15
                                                            -------     -------

NET INCREASE (DECREASE) IN CASH AND CASH
   EQUIVALENTS .........................................        576        (180)

Effect of exchange rate changes on cash ................         24           8
Cash and cash equivalents at beginning of period .......        185         236
                                                            -------     -------
Cash and cash equivalents at end of period .............    $   785     $    64
                                                            =======     =======

Supplemental  disclosure of cash flow information:
Cash paid during the period for:
   Interest ............................................    $    15     $  --
                                                            =======     =======

                 See Notes to Consolidated Financial Statements.


                                       5
<PAGE>


Supplemental Disclosure of Non-cash Financing Activity:

THE  FOLLOWING  TABLE  SUMMARIZES  THE  COMPANY'S   NON-CASH  RELATED  FINANCING
ACTIVITY:

                                                             SEPTEMBER 30,
                                                           ----------------
                                                            2002      2003
                                                           ------    ------
                                                              (unaudited)

     Beneficial conversion feature--debt discount .....    $3,320    $ --
     Debt discount and interest amortization ..........     2,355     1,820
     Warrants issued in lieu of compensation ..........       279      --
     Effect of warrant amortization related to purchase
         of license rights ............................      --         522
     Effect of warrant amortization related to
        agreements ....................................      --         514
     Warrant amortization related to promissory notes .      --         317


                                       6
<PAGE>


                      BRILLIANT DIGITAL ENTERTAINMENT, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                               SEPTEMBER 30, 2003


1.       BASIS OF PRESENTATION

         The accompanying  unaudited condensed consolidated financial statements
have been prepared in accordance with generally accepted  accounting  principles
in the United States for interim financial information and with the instructions
to Form 10-QSB and Item 310 of Regulation S-B. Accordingly,  they do not include
all of the information and footnotes required by generally  accepted  accounting
principles  in  the  United  States  for  complete  financial  statements.   The
accompanying  unaudited condensed  consolidated financial statements reflect all
adjustments that, in the opinion of management,  are considered  necessary for a
fair  presentation of the financial  position,  results of operations,  and cash
flows for the periods presented.  The results of operations for such periods are
not necessarily  indicative of the results  expected for the full fiscal year or
for any future period. The accompanying  financial  statements should be read in
conjunction  with the audited  consolidated  financial  statements  of Brilliant
Digital  Entertainment,  Inc.  and  consolidated  subsidiaries  (the  "Company")
included in the  Company's  Form 10-KSB for the fiscal year ended  December  31,
2002.

         The accompanying  consolidated  financial statements have been prepared
assuming that the Company will continue as a going concern,  which  contemplates
the  realization  of assets and the  satisfaction  of  liabilities in the normal
course of business.  The carrying amounts of assets and liabilities presented in
the financial  statements  do not purport to represent  realizable or settlement
values.  However,  the Company has suffered  recurring  operating  losses and at
September 30, 2003, had negative  working capital of  approximately  $4,064,000.
These factors raise substantial doubt about the Company's ability to continue as
a going concern.

         The Company is seeking additional funding and believes this will result
in  improved  working  capital.  There can be no  assurance,  however,  that the
Company  will be able to secure  additional  funding or that if such  funding is
available, whether the terms or conditions would be acceptable to the Company.

2.       SIGNIFICANT ACCOUNTING POLICIES

PRINCIPLES OF CONSOLIDATION

          The  consolidated  financial  statements  include the  accounts of the
Company and majority  owned and  controlled  domestic and foreign  subsidiaries.
Intercompany transactions have been eliminated.

CHANGE IN ESTIMATE

         In February  2000,  the Company  entered into an  agreement  with e-New
Media  relating to  distribution,  production and licensing of the Company's B3D
software suite and Multipath Movie Webisodes. At the inception of the agreement,
the Company  received  advances of $2,500,000  related to the  distribution  and
licensing portions of the agreement,  which were to be recognized by the Company
over six years, the term of the agreement.  Under SEC Staff Accounting  Bulletin
No. 101 (SAB 101) and AICPA  Statement of Position 97-2 (SOP 97-2),  the Company
recognizes  revenue when all of the following  criteria are met: (1)  persuasive
evidence of an  arrangement  exists,  (2) delivery has occurred or services have
been rendered, (3) the seller's price to the buyer is fixed or determinable, and
(4) collectibility is reasonably  assured.  In


                                       7
<PAGE>


                      BRILLIANT DIGITAL ENTERTAINMENT, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                               SEPTEMBER 30, 2003


June 2003, the Company  determined that it had met all of its obligations  under
the  agreement  with  respect to delivery of master  discs for the B3D  software
suite and Multipath Movie Webisodes, and in accordance with SEC Staff Accounting
Bulletin  No. 101 (SAB 101) and AICPA  Statement  of  Position  97-2 (SOP 97-2),
recognized as other income the remaining deferred balance of $2,097,000.

PURCHASED TECHNOLOGY

         The Company records  intangible  assets in accordance with Statement of
Financial Accounting  Standards (or FAS) 141 "Business  Combination" and FAS 142
"Goodwill  and other  Intangible  Assets".  FAS 141  requires  that the purchase
method of  accounting  be used for all  business  combinations  initiated  after
September  30, 2001,  and also  specifies  the criteria for the  recognition  of
intangible  assets  separately  from goodwill.  FAS 142 requires that intangible
assets with definitive  lives be amortized over their estimated useful lives and
reviewed for impairment  when events or changes in  circumstances  indicate that
the  carrying  amount of such assets may not be realized.  Purchased  technology
consists of licensing and other  agreements  which are recorded at cost,  net of
accumulated amortization.

         On May 28, 2003,  the Company  entered into a Share Exchange and Option
Agreement with Joltid, Ltd., the entity which prior to the transaction owned 49%
of Altnet,  Inc. Under the terms of the Agreement,  the Company issued 7,000,000
unregistered  shares of its common stock to acquire  1,102,500  shares of Altnet
common stock (24.5%),  and 1,000,000  unregistered shares of its common stock to
obtain the option to purchase the  remaining  1,102,500  shares of Altnet common
stock  (24.5%)  at an  exercise  price of  0.1575  newly  issued  shares  of the
Company's common stock,  for an aggregate  purchase price of 7,000,000 shares of
the Company's  common stock for all such option  shares.  The option to purchase
the remaining  shares  expires in May 2005. The Company now owns 75.5% of Altnet
and  continues  to manage  all of the  day-to-day  operations  of  Altnet.  This
transaction  resulted in the recognition of $1,680,000 of purchased  technology,
relating to the rights contained in various Altnet  agreements,  including those
under the Joltid  Software  License  Agreement and the Sharman Joint  Enterprise
Agreement. The purchased technology rights are being amortized over their useful
life of 5 years. The Company recognized $112,000 in amortization  expense during
the nine month period ended September 30, 2003,  leaving an unamortized  balance
of $1,568,000 on the balance sheet as of September 30, 2003.

RESTRICTED CASH

         At September  30, 2003,  $75,000 of cash was pledged as  collateral  on
outstanding  convertible  promissory notes and was classified as restricted cash
on the balance sheet.

EARNINGS PER SHARE

         Basic and fully  diluted  net income  (loss) per share is  computed  by
dividing net income by the weighted average number of common shares  outstanding
during the period plus the incremental  shares that would have been  outstanding
upon the assumed exercise of dilutive stock options and warrants.


                                       8
<PAGE>


                      BRILLIANT DIGITAL ENTERTAINMENT, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                               SEPTEMBER 30, 2003


3.       STOCKHOLDERS' EQUITY

         Options and  warrants  representing  common  shares of  79,540,000  and
149,881,079  were  excluded  from  the  average  number  of  common  and  common
equivalent shares outstanding in the diluted EPS calculation for the nine months
ended   September   30,  2002  and  2003,   respectively,   because   they  were
anti-dilutive.  The  increase in the options and  warrants is  primarily  due to
warrants  issued in connection with capital debt financing and the Sharman Joint
Enterprise  Agreement,  and options issued in connection  with the conversion of
deferred  compensation,  the Joltid  Share  Exchange and Option  Agreement,  and
annual employee option grants.

COMMON STOCK

         In May 2003, the Company  purchased from Joltid Ltd.,  1,102,500 shares
of common stock of Altnet.  As a result of the purchase,  the Company  increased
its ownership from 51% to 75.5% of the outstanding  voting securities of Altnet.
The purchase price consisted of 7,000,000  unregistered  shares of the Company's
common  stock.  The  Company  also  acquired  from  Joltid a two year  option to
purchase  Joltid's  remaining  1,102,500  shares of Altnet  common  stock for an
exercise  price per share of 0.1575 newly issued shares of the Company's  common
stock,  for an aggregate  purchase  price of 7,000,000  shares of the  Company's
common stock for all of Joltid's  remaining Altnet shares.  For this option, the
Company  issued Joltid  1,000,000  unregistered  shares of the Company's  common
stock. The company  recognized  $82,000 of expense during the quarter ended June
30, 2003 in  conjunction  with the  transaction.  This  option to  purchase  the
remaining shares expires in May 2005.

WARRANTS AND OPTIONS

         Under the terms of the Company's  Deferred  Compensation  Plan ("Plan")
dated  January 1, 1997,  a director  (and prior  employee of the  Company) and a
current  executive,  elected to exchange  Plan benefits for stock options on May
30, 2003. In  conjunction  with this  election,  the Company  issued  10,395,000
options to purchase common stock of the Company to the two  individuals  with an
exercise  price  of  $0.12  per  share,  when the  average  market  price of the
Company's  stock for the five days  preceding  the grant date was equal to $0.23
per share. The options expire in May 2013. The intrinsic value of the options of
$1,143,450 were equal to the total amount of deferred compensation, plus accrued
interest owed to the two individuals, as of the date of the grant, May 30, 2003,
and therefore the Company has not  recognized  any expense  associated  with the
conversion.

         In June 2003,  the  Company  and its  subsidiary  entered  into a Joint
Enterprise   Agreement  with  Sharman  Networks,   to  act  as  their  exclusive
representative for the sale, license and/or other commercial exploitation of its
search technology. Under the terms of this agreement, the Company issued Sharman
Networks  warrants to purchase up to 14,000,000  shares of the Company's  common
stock,  par value  $0.001 per share,  at an  exercise  price of $0.61 per share,
expiring in June 2008. These warrants were initially vested and exercisable with
respect  to  7,000,000  shares on the  issuance  date and will  vest and  become
exercisable  with respect to the remaining  7,000,000 shares two years following
the issuance  date  provided  that the Joint  Enterprise  Agreement has not been
terminated  prior to such date.  The fair value of  warrants  as examined at the
date of  grant  is  based  on a  Black-Scholes  option  pricing  model  with the


                                       9
<PAGE>


                      BRILLIANT DIGITAL ENTERTAINMENT, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                               SEPTEMBER 30, 2003


following  weighted-average  assumptions  for  2003:  interest  rates  of  4.5%;
dividend yield rates of 0;  volatility  factors of the expected  market price of
the Company's common stock of 50.0%; and the expected life of the warrants, or 5
years. The value of these warrants was determined to be $2,951,000.  The Company
is  reflecting  the total  value of these  warrants,  net of  amortized  warrant
expense,  as License  Rights on the balance  sheet.  The Company  amortizes  the
license rights over three years,  the life of the agreement,  and has recognized
$246,000 of warrant  expense in the current  quarter  reflecting  the  remaining
unamortized  amount of $2,623,000  as License  Rights on the balance sheet as of
September 30, 2003.

         In June 2003, the Company received $200,000 of additional  financing in
the form of promissory notes,  bearing an interest rate of 10% per annum and due
August 10,  2003.  In  conjunction  with this  transaction,  the Company  issued
warrants to purchase up to 1,066,666  shares of the Company's common stock at an
exercise  price equal to  $0.28125  per share,  expiring in June 2006.  The fair
value of warrants  as examined at the date of grant is based on a  Black-Scholes
option pricing model with the following  weighted-average  assumptions for 2003:
interest  rates of 4.5%;  dividend yield rates of 0;  volatility  factors of the
expected market price of the Company's  common stock of 50.0%; and expected life
of the warrants.  The value of these warrants was determined to be $414,100. The
Company  attributed  33% of the fair value of the  warrants  of $134,900 to debt
discount  which was fully  amortized  over the two-month  life of the note.  The
remaining  value of $279,200 was reflected as deferred  warrant  expense and was
fully  amortized  over the two-month life of the note. At September 30, 2003 the
Company reflected a Note Payable of $200,000. In August 2003, a holder of one of
these notes in the amount of $100,000  agreed to extend the maturity date of the
notes from August 10, 2003 to December  31,  2003.  In  consideration  for their
agreement to extend the  maturity  date,  the Company  issued to the Note holder
warrants to purchase up to an aggregate of 227,272  shares of common stock at an
exercise price of $0.44 per share. The fair value of warrants as examined at the
date of  grant  is  based  on a  Black-Scholes  option  pricing  model  with the
following  weighted-average  assumptions  for  2003:  interest  rates  of  4.5%;
dividend yield rates of 0;  volatility  factors of the expected  market price of
the Company's common stock of 50.0%; and the expected life of the warrants, or 3
years. The value of these warrants was determined to be $48,476 and is reflected
as  deferred  warrant  expense  in  current  Other  Assets,  net of  accumulated
amortization of $19,390,  leaving a remaining  unamortized balance of $29,086 on
the balance sheet at September  30, 2003 in current Other Assets.  The remaining
note holder did not elect extend and will be paid in full in the fourth quarter.

         In October 2002, the Company  entered into a patent  license  agreement
with Kinetech, Inc. ("Kinetech"), pursuant to which it acquired a license to the
TruNames patent,  and in consideration  for such license,  the Company issued to
Kinetech  a  warrant  to  purchase  up  to  5,000,000  shares  of  common  stock
(the"Warrant  to  Purchase  Common  Stock") at an  exercise  price of $0.001 per
share.  In July 2003, the Company  modified the terms of the Warrant to Purchase
Common Stock with  Kinetech,  Inc.,  which  accelerated  the vesting of the then
outstanding  warrants.  As a result of the accelerated vesting and the fact that
the Company now  recognizes  revenue on a monthly basis from  sub-licensing  the
TruNames patent, the Company determined that the warrants granted to Kinetech as
consideration for the patent rights had a determinable  value. The fair value of
the  warrants  was  re-examined  at the date of  modification  and is based on a
Black-Scholes   option  pricing  model  with  the  following   weighted  average
assumptions  for  2003:  interest  rates of  4.5%;  dividend  yield  rates of 0;
volatility  factors of


                                       10
<PAGE>


                      BRILLIANT DIGITAL ENTERTAINMENT, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                               SEPTEMBER 30, 2003


expected  market  price of the  Company's  common stock of 50%; and the expected
life of the warrants,  or 6 years. The value of these warrants was determined to
be $2,095,631 and will be amortized over the remaining useful life of the patent
license agreement,  or 3 years. During the quarter ended September 30, 2003, the
Company recorded $174,636 of amortization expense related to the patent, leaving
an unamortized balance of $1,920,995 at September 30, 2003 which is reflected on
the balance sheet in License Rights.

         In  August  2003  the  Company  signed a  twelve  month  Representation
Agreement with a legal  consultant,  to assist Altnet in marketing and promoting
its peer-to-peer  technology to major record companies. In conjunction with this
agreement, the Company issued warrants to purchase up to 5,000,000 shares of the
Company's  common stock at an exercise price equal to $0.54 per share,  expiring
on October 15, 2008. The fair value of warrants as examined at the date of grant
is  based  on  a   Black-Scholes   option   pricing  model  with  the  following
weighted-average  assumptions for 2003:  interest rates of 4.5%;  dividend yield
rates of 0;  volatility  factors of the expected  market price of the  Company's
common stock of 50.0%;  and the expected life of the warrants,  or 5 years.  The
value of these warrants was  determined to be $1,319,000,  and will be amortized
over the life of the agreement, or 12 months. During the quarter ended September
30, 2003, the Company  recorded  $219,244 of  amortization  expense,  leaving an
unamortized balance of $1,099,756 on the balance sheet in current Other Assets.

4.       SIGNIFICANT AGREEMENTS

         On June 11, 2003,  the Company  entered into an  Interactive  Marketing
Agreement with  Streamwaves.com,  Inc. to market and promote the streaming music
service of Streamwaves, and to sell Streamwaves' streamed music, video and, when
available,   downloadable   digital  audio  and  video  files  over  the  Altnet
peer-to-peer  network. As consideration for the Company's services,  Streamwaves
will pay the Company a percentage of revenue Streamwaves  receives from sales of
its content to Altnet users.  The Company will also provide  Streamwaves and its
customers with online  payment  processing  services for a transaction  fee. The
Company  loaned  Streamwaves  $200,000  in the  form  of a  promissory  note  in
connection  with this  transaction.  The  promissory  note due in June 2005,  is
secured by all of Streamwaves  assets and shares of  Streamwaves  stock owned by
its founder.

5.       COMMITMENTS AND CONTINGENCIES

         In September  2003, the Company signed a new five-year  facility lease,
which supercedes the lease signed in February 2003, and continues its obligation
under one other facility lease. As of September 30, 2003, the commitments  under
these leases were as follows:


                                       11
<PAGE>


                      BRILLIANT DIGITAL ENTERTAINMENT, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                               SEPTEMBER 30, 2003


               YEAR               UNITED STATES            AUSTRALIA
         -----------------     -------------------      ---------------

               2003                   $    21,000            $   9,000
               2004                        92,000               42,000
               2005                        92,000                4,000
               2006                        92,000                    -
               2007                        92,000                    -
            Thereafter                     77,000                    -
                               -------------------      ---------------
                                      $   466,000            $  55,000
                               ===================      ===============

         Rent  expense  was  $66,000  and  $129,000  for the nine  months  ended
September 30, 2002 and September 30, 2003, respectively.

6.       MAJOR CUSTOMERS

         For  the  nine  months  ended  September  30,  2003,  Sharman  Networks
contributed  $1,250,000  (35%) of  revenue  related  to  content  sales,  patent
licensing, advertising and development, and The Excite Network (TEN) contributed
$1,041,000  (29%) of the  revenue,  from the  amortization  of a  non-recoupable
signing bonus,  bounties earned on activated  installations  of the TEN toolbar,
and profit sharing on paid searches via the TEN toolbar.

7.       RELATED PARTY TRANSACTIONS

         On May  28,  2003,  Altnet  entered  into a  non-exclusive,  perpetual,
irrevocable,  transferable,  worldwide  license to use  rights to Joltid  Ltd.'s
Content  Distribution  Environment   peer-to-peer  computer  program,   commonly
referred to as  PeerEnabler.  In exchange for the license,  Altnet agreed to pay
Joltid a guaranteed  monthly fee of $30,000  based on a  percentage  of revenues
earned  from the  exploitation  of the  licensed  rights,  subject  to a maximum
aggregate  amount.  The  Company  has  reflected  the  current  portion  of  the
guaranteed  payment of $360,000 as a current  liability,  and the balance of the
commitment  of $630,000 as a long-term  liability.  The Company has recorded the
$1,080,000  related to the license  rights  under this  agreement on the balance
sheet as License Rights, and is amortizing the license rights on a straight-line
basis over three years  commencing  July 1, 2003. In addition,  the Company paid
Joltid  $136,000  for  services  provided  during  the nine month  period  ended
September 30, 2003, and has an  outstanding  payable to Joltid of $ 44,221 as of
September 30, 2003.

         The Company  entered into a Patent  Sublicense  Agreement  with Sharman
Networks  Limited,  the  distributor  of the Kazaa Media  Desktop  file  sharing
software application (or KMD). Pursuant to the Patent Sublicense Agreement,  the
Company  granted  Sharman  Networks a limited,  non-exclusive  sublicense to the
Company's  rights to the  TruNames  patent,  which  the  Company  licenses  from
Kinetech Inc. The TrueNames patent covers a method of identifying  digital files
based on the actual data contents of the file, rather than by its name,  origin,
location,  address,  or  other  information  that  can  easily  be  changed.  As
consideration for the sublicense, the Company will receive from Sharman Networks
a monthly  license  fee.  Additionally,  in June 2003,  the  Company  and Altnet
entered into a Joint Enterprise Agreement with Sharman Networks, to act as their
exclusive   representative   for  the  sale,  license  and/or  other  commercial
exploitation  of index search results  displayed on or otherwise  accessed using
the KMD in


                                       12
<PAGE>


                      BRILLIANT DIGITAL ENTERTAINMENT, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                               SEPTEMBER 30, 2003


response to end user search  requests.  The agreement also granted the Company a
non-exclusive  right to enter into  agreements with third parties to provide for
the  establishment  of one or more  browse  channels  within the KMD that enable
users to find and  download  rights-managed  content  from the  relevant  browse
channel  in a  single  click  process,  and to  provide  for all the  terms  and
conditions governing the management,  maintenance, operation, and other elements
of each browse  channel.  The Company  shall share in revenues  derived from the
browse channels.  Under the terms of this agreement,  the Company issued Sharman
Networks  warrants to purchase up to 14,000,000  shares of the Company's  common
stock,  par value  $0.001 per share,  at an  exercise  price of $0.61 per share,
expiring  in June 2008.  The fair value of  warrants  as examined at the date of
grant  is based on a  Black-Scholes  option  pricing  model  with the  following
weighted-average  assumptions for 2003:  interest rates of 4.5%;  dividend yield
rates of 0;  volatility  factors of the expected  market price of the  Company's
common stock of 50.0%;  and the expected life of the warrants,  or 5 years.  The
value  of these  warrants  was  determined  to be  $2,951,000.  The  Company  is
reflecting the total value of these warrants,  net of amortized warrant expense,
as License Rights on the balance sheet. The Company amortizes the license rights
over three years,  the life of the  agreement,  and has  recognized  $246,000 of
warrant  expense in the current  quarter  reflecting  the remaining  unamortized
amount of $2,623,000 as License  Rights on the balance sheet as of September 30,
2003.

         As of  September  30,  2003 the  Company  has an  outstanding  accounts
receivable balance from Sharman Networks of $967,714, and an outstanding payable
balance of $2,614,360.

         In June 2003, the Company received additional  financing in the form of
a promissory note,  totaling $100,000,  from Europlay Capital Advisors (ECA), an
entity in which the Company's Chairman is an executive, bearing an interest rate
of 10% per annum and due August 10, 2003. In conjunction with this  transaction,
the Company  issued  warrants to purchase up to 533,333  shares of the Company's
common stock at an exercise price equal to $0.28125 per share,  expiring in June
2006. At September 30, 2003 the debt discount  recorded in conjunction with this
note,  was fully  amortized,  with the balance of the  promissory  note equal to
$100,000.  ECA agreed to extend the  maturity  date of the note from  August 10,
2003 to December 31, 2003. In  consideration  for their  agreement to extend the
maturity  date,  we issued to the ECA warrants to purchase up to an aggregate of
227,272 shares of our common stock at an exercise price of $0.44 per share.  The
fair  value  of  warrants  as  examined  at the  date of  grant  is  based  on a
Black-Scholes   option   pricing  model  with  the  following   weighted-average
assumptions  for  2003:  interest  rates of  4.5%;  dividend  yield  rates of 0;
volatility factors of the expected market price of the Company's common stock of
50.0%;  and the expected  life of the warrants,  or 3 years.  The value of these
warrants  was  determined  to be $48,476 and is  reflected  as deferred  warrant
expense,  amortized over the five months remaining life of the note.  During the
quarter  ended  September  30, 2003 we  amortized  $19,390,  leaving a remaining
unamortized  balance of $29,086 on the balance  sheet in current Other Assets at
September 30, 2003.

         In 2003, the Company issued warrants to purchase shares of common stock
in  consideration  for consulting  services,  related to a management  initiated
audit of systems and procedures,  to Scheinrock  Advisory Group, an entity owned
by Jeff Scheinrock,  a member of the Board of Directors. In addition the Company
paid Scheinrock Advisory Group $43,000 for consulting services.


                                       13
<PAGE>


                      BRILLIANT DIGITAL ENTERTAINMENT, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                               SEPTEMBER 30, 2003


         For the nine month period  ended  September  30, 2003,  the Company has
paid Abe Sher,  a member  of the Board of  Directors,  $112,500  for  consulting
services.

8.       STOCK BASED COMPENSATION

1996 STOCK OPTION PLAN

         The Company adopted a Stock Option Plan (the "1996 Plan"), which became
effective on September 13, 1996. Each director,  officer, employee or consultant
of the Company or any of its  subsidiaries  is eligible to be considered for the
grant of awards  under the 1996  Plan.  The  maximum  number of shares of Common
Stock  that may be  issued  pursuant  to awards  granted  under the 1996 Plan is
20,000,000,  subject to certain  adjustments to prevent dilution.  Any shares of
Common Stock  subject to an award,  which for any reason  expires or  terminates
unexercised are again available for issuance under the 1996 Plan.

         The fair value of options  granted  under the 1996 Plan is  examined at
the date of grant and is based on a Black-Scholes  option pricing model with the
following weighted-average  assumptions for both of 2003 and 2002: interest rate
of 5.5%; dividend yield of 0%; volatility factor of the expected market price of
the  Company's  common  stock of 50.0%;  and  expected  life of the options of 3
years.

         In accordance  with Accounting  Principles  Board Opinion (APB) No. 25,
"Accounting  for  Stock  Issued  to  Employees,"  no  compensation  cost for the
Company's  stock option plan has been recognized in the  accompanying  condensed
financial    statements.    SFAS   No.   148,    "Accounting   for   Stock-Based
Compensation--Transition  and  Disclosure"  which  amends SFAS No. 123  provides
alternative methods of transition for a voluntary change to the fair value based
method of accounting for stock-based employee  compensation.  In addition,  SFAS
148 amends the disclosure requirements of SFAS 123 to require more prominent and
more frequent  disclosures in financial statements of the effects of stock-based
compensation.  The  Company  has  elected  not to change to the fair value based
method of accounting for stock-based  compensation and had the compensation cost
for the stock option plan been  determined  under the fair value,  it would have
been as follows:

                                                            NINE MONTHS ENDED
                                                              SEPTEMBER 30,
                                                           2002           2003
                                                         -------        -------

Comprehensive income (loss), as reported .........       $(4,590)       $(2,339)
Employee compensation expense ....................           (19)          (118)
                                                         -------        -------
Net income (loss), pro forma .....................       $(4,609)        (2,457)
                                                         =======        =======
Basic and diluted income (loss)
   per share, as reported ........................       $ (0.20)       $ (0.06)
                                                         =======        =======
Basic and diluted income  (loss)
   per share, pro forma ..........................       $ (0.20)       $ (0.06)
                                                         =======        =======


                                       14
<PAGE>


                      BRILLIANT DIGITAL ENTERTAINMENT, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                               SEPTEMBER 30, 2003


9.       GUARANTEES

         In November  2002, the FASB issued FIN No. 45  "Guarantor's  Accounting
and Disclosure  Requirements for Guarantees,  including  Indirect  Guarantees of
Indebtedness of Others - an  interpretation of FASB Statements No. 5, 57 and 107
and  rescission of FIN 34." The  following are a summary of agreements  that the
Company has determined are within the scope of FIN 45.

         Under its bylaws,  the Company has agreed to  indemnify  its  officers,
directors and employees for certain events or occurrences arising as a result of
the  officer,  director,  or  employee  serving in such  capacity.  The  maximum
potential  amount of future payments the Company could be required to make under
these  indemnification  agreements  is  unlimited.  However,  the  Company has a
directors and officer liability insurance policy that mitigates its exposure and
enables  it to  recover a portion of any  future  amounts  paid,  subject to the
applicable  terms of the policy.  As a result of its insurance  policy coverage,
the  Company  believes  the  estimated  fair  value  of  these   indemnification
agreements is minimal and has no liabilities recorded for these agreements as of
September 30, 2003.

         The Company occasionally enters into  indemnification  provisions under
(i) its  agreements  with other  companies in its  ordinary  course of business,
typically with business partners,  contractors,  customers,  and landlords,  and
(ii) its agreements with investors. Under these provisions the Company generally
indemnifies  and holds  harmless the  indemnified  party for losses  suffered or
incurred by the indemnified party as a result of the Company's activities or, in
some  cases,  as a  result  of the  indemnified  party's  activities  under  the
agreement.  These  indemnification  provisions  often  include  indemnifications
relating  to  representations  made by the Company  with regard to  intellectual
property rights. These indemnification  provisions generally survive termination
of the underlying agreement.  In addition, in some cases, the Company has agreed
to reimburse  employees for certain expenses and to provide salary  continuation
during  short-term  disability.  The maximum potential amount of future payments
the Company could be required to make under these indemnification  provisions is
unlimited.  The Company has not incurred  material  costs to defend  lawsuits or
settle claims  related to these  indemnification  agreements.  As a result,  the
Company  believes  the  estimated  fair value of these  agreements  is  minimal.
Accordingly,  the Company has no liabilities recorded for these agreements as of
September 30, 2003.

10.      NEW ACCOUNTING PRONOUNCEMENTS

         In  January  2003,  the  FASB  issued  FASB   Interpretation   No.  46,
"Consolidation  of Variable Interest  Entities" ("FIN 46"). This  Interpretation
requires that variable  interest  entities  created after January 31, 2003,  and
variable  interest entities in which an interest is obtained after that date, be
evaluated  for  consolidation  into  an  entity's  financial  statements.   This
interpretation  also  applies,  beginning  July 1, 2003 for us, to all  variable
interest  entities in which an  enterprise  holds an  interest  that it acquired
before  February  1,  2003.  We are  in the  process  of  evaluating  all of our
investments  and other  interests in entities under the provisions of FIN 46 and
have not yet determined the effect of its adoption on our financial position and
results of operations.


                                       15
<PAGE>


                      BRILLIANT DIGITAL ENTERTAINMENT, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                               SEPTEMBER 30, 2003


         In May 2003,  the FASB  issued  SFAS No.  150  ACCOUNTING  FOR  CERTAIN
FINANCIAL  INSTRUMENTS WITH CHARACTERISTICS OF BOTH LIABILITIES AND EQUITY. SFAS
No. 150 establishes  standards for how an issuer classifies and measures certain
financial  instruments with  characteristics  of both liabilities and equity. It
requires that an issuer classify a financial instrument that is within its scope
as a liability (or an asset in some  circumstances).  Many of these  instruments
were previously  classified as temporary equity.  SFAS No. 150 will be effective
for  financial  instruments  entered into or modified  after May 31,  2003,  and
otherwise  shall be  effective  at the  beginning  of the first  interim  period
beginning  after June 15, 2003.  For financial  instruments  created  before the
issuance date of SFAS No. 150 and still existing at the beginning of the interim
period of adoption,  transition  shall be achieved by reporting  the  cumulative
effect of a change in accounting  principle by initially measuring the financial
instruments at fair value or other  measurement  attribute  required by SFAS No.
150.  Instruments  with  characteristics  of both  liabilities  and  equity  not
addressed  in SFAS No. 150 will be  addressed  in the next phase of the project.
Adoption  of SFAS No.  150 is not  expected  to have a  material  impact  on the
Company's consolidated financial position, results of operations or cash flows.


                                       16
<PAGE>


ITEM 2.  MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION

         The information contained in this Form 10-QSB is intended to update the
information  contained  in our Annual  Report on Form  10-KSB for the year ended
December 31, 2002 and presumes  that readers have access to, and will have read,
the "Management's  Discussion and Analysis of Financial Condition and Results of
Operations" and other information  contained in such Form 10-KSB.  The following
discussion  and  analysis  also should be read  together  with our  consolidated
financial  statements  and the notes to the  consolidated  financial  statements
included elsewhere in this Form 10-QSB.

         THIS  DISCUSSION  SUMMARIZES  THE  SIGNIFICANT  FACTORS  AFFECTING  THE
CONSOLIDATED OPERATING RESULTS, FINANCIAL CONDITION AND LIQUIDITY AND CASH FLOWS
OF BRILLIANT DIGITAL  ENTERTAINMENT FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003
AND SEPTEMBER 30, 2002. EXCEPT FOR HISTORICAL INFORMATION, THE MATTERS DISCUSSED
IN THIS  MANAGEMENT'S  DISCUSSION  AND ANALYSIS OR PLAN OF OPERATION ARE FORWARD
LOOKING  STATEMENTS  THAT  INVOLVE  RISKS AND  UNCERTAINTIES  AND ARE BASED UPON
JUDGMENTS CONCERNING VARIOUS FACTORS THAT ARE BEYOND OUR CONTROL. ACTUAL RESULTS
COULD DIFFER MATERIALLY FROM THOSE PROJECTED IN THE  FORWARD-LOOKING  STATEMENTS
AS A RESULT OF,  AMONG  OTHER  THINGS,  THE  FACTORS  DESCRIBED  BELOW UNDER THE
CAPTION "CAUTIONARY STATEMENTS AND RISK FACTORS."

OVERVIEW

         Brilliant Digital  Entertainment,  Inc. is a company which operates two
distinct lines of business: (1) through our Altnet, Inc. subsidiary,  we operate
a peer-to-peer-based  content distribution network,  utilizing existing,  proven
technology  which allows Altnet to securely and efficiently  distribute  digital
files to end users, and (2) through our b3d, Inc. subsidiary, we are a developer
and server of rich media  advertising  campaigns  ("rich media" being defined as
use of audio and animation), and a developer of software authoring tools used in
the creation of "three  dimensional",  or "3D", animated content, for use on the
World Wide Web.

         Through our Altnet, Inc.  subsidiary,  we operate a  peer-to-peer-based
content  distribution  network that allows  Altnet to securely  and  efficiently
distribute a content owner's music,  video,  software and other digital files to
computer users. We commercialize Altnet by partnering with third party operators
of web sites and other Internet  applications to enable users of those web sites
and  applications  to search  for and  download  digital  files  from the Altnet
network.  In June 2003,  we  purchased  an  additional  24.5%  equity  ownership
interest in Altnet from Joltid, Ltd. (formally known as Blastoise, Ltd.) and now
own 75.5% of the outstanding  capital stock of Altnet and continue to manage all
of its  day-to-day  operations.  Joltid,  the  company  from  whom we  license a
substantial portion of Altnet's  peer-to-peer  technology,  continues to own the
remaining  24.5% of Altnet's  common  stock.  We have an option to purchase  the
additional 24.5% from Joltid, under a Share Exchange and Option Agreement, which
expires in May 2013.

         Additionally,  through our b3d, Inc. subsidiary, we are a developer and
server of "rich media" (which  includes  audio and  animation)  Internet  banner
advertisements, and a developer of software authoring tools used to create three
dimensional (or 3D) animated content for use on the World Wide Web.


                                       17
<PAGE>


         During   fiscal  2002,  we  shifted  our  emphasis  from  our  Internet
advertising and b3d toolset business to our Altnet peer-to-peer  business.  This
shift in emphasis  occurred  gradually  over the course of fiscal 2002, and came
about primarily due to our limited financial  resources,  which have been unable
to support both businesses.  Until we have sufficient  resources to support both
businesses,  we have  indefinitely  suspended  substantially all of our Internet
advertising and b3d toolset operations and intend to focus  substantially all of
our limited  financial  resources  and efforts to grow the Altnet  business.  We
intend to resume efforts once cash flow improves.

         We generate, or intend to generate, revenue in five principal ways:

         o        We contract with content  owners to distribute  and sell their
                  digital files to computer  users over our Altnet  peer-to-peer
                  network.   We  charge  the  content   owner  a  placement   or
                  distribution fee based on one or more of the following:  (i) a
                  negotiated fee for each file downloaded, (ii) a negotiated fee
                  for each  license  issued  once the end user tries to play the
                  file the first time after it has been downloaded,  and (iii) a
                  negotiated  percentage of the sales price a computer user pays
                  to purchase a digital file. We also charge  content owners and
                  licensed  distributors a transaction fee for processing online
                  payments for digital files.

         o        We perform business  development services in the United States
                  for Sharman  Networks  Limited,  the  distributor of the Kazaa
                  Media  Desktop file  sharing  software  application  (or KMD),
                  pursuant  to an  arrangement  which  gives us a portion of the
                  revenue received by Sharman as a result of our efforts;

         o        We intend to  sublicense  to third  parties  our rights to the
                  TrueNames patent (U.S.  patent  #5,978,791),  which we license
                  from  Kinetech  Inc. The  TrueNames  patent covers a method of
                  identifying digital files based on the actual data contents of
                  the file, rather than by its name, origin, location,  address,
                  or other information that can easily be changed.

         o        We license our ad serving technology, which is used to display
                  our Brilliant  Banners,  to third party operators of web sites
                  and other Internet applications; and

         o        We license  our b3d  software  tools to  creators  of animated
                  content.

         During the second half of 2002,  we generated  our first  revenues from
the  distribution  and sale of digital files over the Altnet network to users of
the KMD. Our agreement with Sharman  Networks  Limited,  distributor of the KMD,
allows us to distribute  and sell digital  files from the Altnet  network to KMD
users.  A KMD user can  download  an Altnet  file  from the  Altnet  network  in
substantially  the same  manner as the user would  download a digital  file from
other users of KMD  applications.  Pursuant to our agreement with Sharman,  if a
search query matches the  description of one or more Altnet files,  the matching
Altnet files are currently displayed in the top four positions and every seventh
file  within the  search  results  page of the KMD.  We pay  Sharman  Networks a
percentage of revenue  generated from the  distribution and sale of Altnet files
to users of the KMD.


                                       18
<PAGE>


         We memorialized our agreement with Sharman Networks,  and expanded upon
it, in June 2003,  when we entered into our Joint  Enterprise  Agreement.  Under
this agreement,  we act as Sharman  Networks  exclusive  representative  for the
sale,  license  and/or other  commercial  exploitation  of index search  results
displayed on or otherwise  accessed using the KMD in response to end user search
requests.  We were also granted a  non-exclusive  right to enter into agreements
with third  parties  to  provide  for the  establishment  of one or more  browse
channels  within the KMD that enable users to find and  download  rights-managed
content  from the relevant  browse  channel in a single  click  process,  and to
provide for all the terms and conditions governing the management,  maintenance,
operation,  and other elements of each browse channel. We will share in revenues
derived from the browse channels with Sharman Networks.  For this agreement,  we
issued  Sharman  Networks  warrants to purchase up to  14,000,000  shares of our
common  stock,  par value  $0.001 per share,  at an exercise  price of $0.61 per
share, expiring in June 2008.

         During  the  second  half  of  2002,  we  began   performing   business
development  services  in the United  States  under an  agreement  with  Sharman
Networks.  We negotiate  with third parties that desire to enter into a business
transaction  with  Sharman  Networks  relating  to the  KMD  application.  These
transactions include the placement by third parties of banner  advertisements on
the KMD, software bundle  transactions  whereby a third party's software product
is bundled with downloads of the KMD, and other partnering transactions.  We are
paid a percentage of the gross revenue  received by Sharman for each transaction
entered into based on our  efforts.  Pursuant to this  arrangement,  in February
2003, we assisted with an agreement  between  Sharman  Networks and MatchNet plc
for the placement on the KMD of a "dating service" application that allows users
of the KMD to search MatchNet's online database of dating profiles and subscribe
to  MatchNet's  online  dating  service  from the KMD. We entered  into a Patent
Sublicense Agreement with Sharman Networks, pursuant to which we granted Sharman
Networks  a limited,  non-exclusive  sublicense  to our  rights to the  TruNames
patent (U.S.  patent No.  5,978,791),  which we license from  Kinetech  Inc. The
TrueNames  patent  covers a method of  identifying  digital  files  based on the
actual data  contents of the file,  rather than by its name,  origin,  location,
address,   or  other  information  that  can  easily  be  changed.   We  have  a
non-exclusive,  sublicensable right to the patent for the purpose of developing,
marketing,  renting  and  selling  products  and  services,  which,  without the
license, would infringe or contribute to the infringement of the Patent. Sharman
Networks will pay us a monthly license fee for its sublicense of the patent.

         In April 2003, we signed a two-year Strategic  Alliance,  Marketing and
Distribution  Agreement  with The Excite  Network,  Inc.  with respect to its My
Search toolbar,  which enables users to access  content,  products and services.
Pursuant to our agreement,  the parties agreed to develop, market and distribute
a  customized  version of the My Search  toolbar  and to  operate an  integrated
sweepstakes  and loyalty program for users of our Altnet  peer-to-peer  software
application. The search toolbar will be bundled and distributed with the "Altnet
Loyalty Points Manager," our point's management  software program. We received a
refundable (under limited  circumstances),  non-recoupable  signing bonus in the
aggregate amount of $225,000 in April 2003. We will be recognizing this bonus as
revenue over the life of the  agreement;  as a result we  recognized  $54,000 as
revenue  during  the three  months  ended  September  30,  2003.  In May 2003 we
received an additional  refundable (under limited  circumstances) and recoupable
advance of $300,000 to be earned when we satisfied certain  conditions under the
agreement.  We have  satisfied all of these  conditions,  and  accordingly  have
recognized  the full $300,000 as


                                       19
<PAGE>


revenue as of the quarter ended  September 30, 2003. The agreement also provides
for ongoing payments  between the parties,  based on the success in distributing
the browser plug-ins and their performance.

         On  May  28,  2003  we  entered   into  a   non-exclusive,   perpetual,
irrevocable,  transferable,  worldwide license to use rights to Joltid's Content
Distribution Environment peer-to-peer computer program,  commonly referred to as
PeerEnabler.  In exchange for the license, we agreed to pay Joltid a monthly fee
based on a percentage of revenues  earned from the  exploitation of the licensed
rights, subject to a maximum aggregate amount.

         On June 11, 2003, we entered into an  Interactive  Marketing  Agreement
with Streamwaves.com,  Inc. to market and promote the streaming music service of
Streamwaves, and to sell Streamwaves' streamed music, video and, when available,
downloadable digital audio and video files over the Altnet peer-to-peer network.
As  consideration  for our  services,  we will be paid a  percentage  of revenue
Streamwaves  receives  from sales of its content to Altnet  users.  We will also
provide  Streamwaves and its customers with online payment  processing  services
for a transaction  fee. We loaned  Streamwaves  $200,000 in connection with this
transaction  pursuant to a secured promissory note, which note is secured by all
of Streamwaves assets and shares of Streamwaves stock owned by its founder.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

         Our discussion  and analysis of our financial  condition and results of
operations are based upon our consolidated financial statements, which have been
prepared in accordance  with  accounting  principles  generally  accepted in the
United States. The preparation of these financial statements requires us to make
estimates and judgments that affect the reported amounts of assets, liabilities,
revenues  and  expenses,   and  related  disclosure  of  contingent  assets  and
liabilities.  On an on-going basis,  we evaluate our estimates,  including those
related  to  reserves  for  bad  debts.  We base  our  estimates  on  historical
experience and on various other  assumptions  that are believed to be reasonable
under  the  circumstances,  the  results  of which  form the  basis  for  making
judgments  about the  carrying  value of  assets  and  liabilities  that are not
readily  apparent  from other  sources.  Actual  results  may differ  from these
estimates  under  different  assumptions  or  conditions.  Our use of estimates,
however, is quite limited, as we have adequate time to process and record actual
results from operations.

         We  believe  our most  critical  accounting  policies  include  revenue
recognition,  the  corresponding  accounts  receivable,  and  capitalization  of
purchased technology (intangibles). We believe the following critical accounting
policies affect our more significant judgments and estimates used in preparation
of our consolidated financial statements.

         Under  SEC  Staff  Accounting  Bulletin  No.  101 (SAB  101) and  AICPA
Statement of Position 97-2 (SOP 97-2),  generally we recognize  revenue when all
of the following  criteria are met: (1)  persuasive  evidence of an  arrangement
exists,  (2)  delivery  has  occurred or services  have been  rendered,  (3) the
seller's price to the buyer is fixed or determinable,  and (4) collectibility is
reasonably  assured.  In the case of each of our product  and  service  lines we
establish a contract or insertion  order with our customers  with  specifics for
requirements,  a fixed price, a delivery schedule, and terms for payment. Unless
cash is paid in advance,  our receivables are recorded as


                                       20
<PAGE>


revenue is earned. We regularly  evaluate the  collectibility of our receivables
based on a combination of factors.  When a customer's  account becomes past due,
we initiate  dialogue with the customer to determine the cause.  If we determine
that the customer will be unable to meet its financial obligations to us, due to
a  bankruptcy  filing,  deterioration  in the  customer's  operating  results or
financial position or other material events impacting their business,  we record
a specific  reserve for bad debt to reduce the related  receivable to the amount
we expect to recover given all information presently available. If circumstances
related to specific  customers  change,  our estimates of the  recoverability of
receivables  could materially  change.  We do not have material  exposure to any
single  customer or group of customers at this time.  At September  30, 2003, we
had a reserve of $32,000 to cover three  customers from whom  collectibility  is
uncertain.

         We record  intangible  assets in accordance with Statement of Financial
Accounting  Standards (or FAS) 141 "Business  Combination" and FAS 142 "Goodwill
and other  Intangible  Assets".  FAS 141 requires  that the  purchase  method of
accounting be used for all business  combinations  initiated after September 30,
2001, and also specifies the criteria for the  recognition of intangible  assets
separately  from  goodwill.   FAS  142  requires  that  intangible  assets  with
definitive lives be amortized over their estimated useful lives and reviewed for
impairment  when events or changes in  circumstances  indicate that the carrying
amount of such assets may not be realized.

RESULTS OF OPERATIONS

         REVENUES. During the nine months ended September 30, 2003, we continued
to earn  advertising  and  development  revenues.  For the first  time we earned
Patent  Sublicense  Revenue  through our newly  signed  agreement  with  Sharman
Networks.  We  recognize  the  Sharman  Networks  revenue on a monthly  basis as
earned. In addition we are now earning  installation  bounty and search revenue,
which relates to our new agreement with The Excite Network.  Subject to specific
terms of the  agreement,  we are paid  non-refundable  bounties  for each active
installation  of  the  Excite   Activated   Installation   Toolbar  bundled  for
distribution  with our Altnet Loyalty Points Manager  software  application.  In
addition  we will  share  in the  gross  profit  generated  from  the  Activated
Installation  Toolbar  in the form of paid  searches.  We  recognize  The Excite
Network  revenues as  Activated  Installations  are  recorded,  and as our gross
profit  share of paid  searches  is  reported.  We have also begun to  recognize
revenues as we continue to expand our  business  of  providing  digital  content
through the use of our peer-to-peer  technology,  primarily  through our Altnet,
Inc. subsidiary.

         Revenues  increased  185% from  $1,269,000  for the nine  months  ended
September 30, 2002 to $3,623,000  for the nine months ended  September 30, 2003.
Distribution  and  technology  revenue from a related  party,  which consists of
revenue earned from the e-New Media contract, was $487,000 for 2003 and $688,000
for 2002.  During the nine  months  ended  September  30,  2003,  we  recognized
$1,575,000 of patent sublicense,  advertising and development revenues, compared
to $581,000  for the nine months  ending  September  30,  2002.  During the nine
months ended September 30, 2003, we recognized  $470,000 in revenue  relating to
the sale of  digital  content,  primarily  through  our  Altnet  subsidiary.  In
addition we recognized  $1,091,000 of search revenue,  primarily  related to our
agreement with The Exicte Network for active  installations  of their  Activated
Installation Toolbar.


                                       21
<PAGE>


         The following table shows revenues by product or service grouping:

                                               SEPTEMBER 30,
               REVENUES                     2002         2003        NET CHANGE
------------------------------------    -----------   -----------   -----------

e-New Media Technology ..............   $   688,000   $   487,000   $  (201,000)
Patent Sublicense, Advertising and
Development .........................       581,000     1,575,000       994,000
Digital content .....................          --         470,000       470,000
Search ..............................          --       1,091,000     1,091,000

                                        -----------   -----------   -----------

Total Revenue .......................   $ 1,269,000   $ 3,623,000   $ 2,354,000
                                        ===========   ===========   ===========


         COST OF REVENUES.  Cost of revenues  consists  primarily of the cost of
providing internet bandwidth for Altnet and amortization of licensing  royalties
to third parties.  Cost of revenues  increased from $158,000 for the nine months
ended  September  30, 2002 to $449,000 for the nine months ended  September  30,
2003. This represents an increase of $291,000,  or 184%,  which is primarily due
to increased  bandwidth costs  resulting from increased  distribution of digital
files over the Altnet network.

         SALES AND  MARKETING.  Sales and marketing  expenses  increased by 205%
from  $258,000 for the nine months ended  September 30, 2002 to $788,000 for the
nine months  ended  September  30, 2003.  Of the  $788,000  incurred in the nine
months  ended  September  30,  2003,  $185,000  pertains  to fees  paid to sales
consultants for Altnet,  Inc. and $356,000 for our initial marketing efforts for
Altnet,  Inc.  There was also  $135,000  attributable  to  commissions  paid for
securing new business.

         GENERAL  AND  ADMINISTRATIVE.   General  and  administrative   expenses
primarily  include  salaries  and  benefits  of  management  and  administrative
personnel,  rent,  insurance  costs,  professional  fees  and  non-cash  warrant
expense.  General and administrative  expenses increased  $1,740,000 or 69% from
$2,524,000  for the nine months ended  September 30, 2002 to $4,264,000  for the
nine months ended September 30, 2003. This increase is primarily attributable to
an increase of $1,092,000 in non-cash warrant expense,  attributable to warrants
issued to Sharman Networks under our Joint Enterprise Agreement, warrants issued
in conjunction with the Patent License Agreement with Kinetech,  warrants issued
in  conjunction  with the June  2003  promissory  notes and  warrants  issued in
conjunction  with the extension of these notes in August 2003. In addition there
was an increase in payroll and related costs  associated  with the growth of our
Altnet peer-to-peer business.

         RESEARCH AND  DEVELOPMENT.  Research and development  expenses  include
salaries and benefits of personnel  conducting research and development relating
to our Internet web site,  payment processing  solution and related  information
database,  and the development of Altnet's Points Manager software  application.
These costs increased 90% from $222,000 for the nine


                                       22
<PAGE>


months ended  September 30, 2002 to $421,000 for the nine months ended September
30, 2003 primarily due to the development of Altnet's Points Manager.

         DEPRECIATION  AND   AMORTIZATION.   Depreciation   expense  relates  to
depreciation of fixed assets such as computer  equipment and cabling,  furniture
and fixtures and leasehold improvements. These fixed assets are depreciated over
their estimated useful lives (up to five years) using the straight-line  method.
Amortization  expense is related to the  amortization  of Purchased  Technology,
associated with the acquisition of additional ownership interest in Altnet, from
Joltid,  Ltd. This Purchased  Technology is being amortized over the life of the
agreement,  three years. We recognized  $112,000 of amortization  expense during
the nine months ended September 30, 2003.  Depreciation  expense was $41,000 for
the nine  months  ended  September  30, 2002 as compared to $32,000 for the nine
months ended September 30, 2003, as the  depreciable  assets have not materially
changed.

         OTHER  INCOME AND  EXPENSE.  Other  income and expense  includes  other
income,  interest  expense  and the  amortization  of debt  discount  on capital
financing.  Other income and expense increased from an expense of $2,667,000 for
the nine  months  ended  September  30,  2002 to income of $71,000  for the nine
months  ended  September  30,  2003.  This  $2,738,000  increase  was  primarily
attributable  to the  recognition  of $2,097,000 of deferred  revenues under the
agreement  with e-New  Media,  entered  into in February  2000.  As part of this
agreement,  we received advances of $2,500,000 that we were recognizing over six
years, the term of the agreement.  In June 2003, we determined we had met all of
our obligations under the agreement with e-New Media. In light of these factors,
we recognized  the  remaining  balance of the deferred  revenue  relating to the
agreement.  We also had an $847,000  reduction in interest  expense during 2003.
For the nine months ended  September 30, 2002, the expense was due to a non-cash
debt discount  expense of $2,354,000  and accrued  interest  expense of $288,000
incurred in connection  with the  $3,014,150 in  Convertible  Promissory  Notes.
During the nine months ended September 30, 2003, we amortized  non-cash  warrant
expense of $1,420,000,  related to the extension of these Convertible Promissory
Notes.  In  addition,  we  incurred  accrued  interest  expense of  $400,000  in
connection with the notes during the nine months ended September 30, 2003

LIQUIDITY AND CAPITAL RESOURCES

         As of  September  30,  2003,  our  cash and  cash  equivalents  totaled
approximately  $64,000.  This is a decrease  of $172,000 as compared to December
31, 2002.

         Cash flows from operating,  financing and investing  activities for the
nine months ended  September  30, 2003 and 2002 are  summarized in the following
table:

               ACTIVITY:                               2002               2003
------------------------------------------           -------            -------

Continuing Operations ....................           $(2,037)           $  (125)

Investing ................................                (7)               (70)
Financing ................................             2,620                 15

         During the nine months ended  September 30, 2003, we had a net decrease
in cash of  $172,000.  The net cash used in  operating  activities  of  $125,000
during the nine months ended September 30, 2003 was primarily the net result of



                                       23
<PAGE>


the net loss of $2,372,00,  the decrease in deferred  revenue  associated with a
change  in  accounting   estimate  related  to  the  e-New  Media  agreement  of
$2,097,000, and the increase in Accounts Receivable of $1,877,000. These amounts
were  offset by the  increase  in  accounts  payable  and  accrued  expenses  of
$3,011,000 and non-cash expenses of $3,317,000.

         Net  cash  used  in  investing  activities  of  $70,000  was  primarily
attributed to the purchase of computer equipment.

         Net cash used by financing  activities  was  primarily  attributed to a
$222,000  increase  in  restricted  cash and  marketable  securities,  offset by
$200,000 in proceeds  from the sale of promissory  notes,  $100,000 of which was
received from an affiliate of our  Chairman.  This is compared to a net increase
in cash from  financing  activities  during the nine months ended  September 30,
2002 of  $2,620,000.  During 2002,  the net loss of $4,614,000 was offset by the
proceeds  from the issuance of common stock of  $2,320,000,  as well as proceeds
from the issuance of capital financing of $400,000.

         In September 2003, the Company signed one new five-year facility lease,
which  supercedes the lease signed in February 2003 and continues its obligation
under one other facility lease. As of September 30, 2003, the commitments  under
these leases were as:

               YEAR               UNITED STATES            AUSTRALIA
         -----------------     -------------------      ---------------

               2003                $  21,000              $  9,000
               2004                   92,000                42,000
               2005                   92,000                 4,000
               2006                   92,000                     -
               2007                   92,000                     -
            Thereafter                77,000                     -
                               -------------------      ---------------
                                   $ 466,000              $ 55,000
                               ===================      ===============


         Our  operations  generated  negative  cash flow  during the nine months
ended  September  30,  2002 and we are  reporting a net loss for the nine months
ended  September  30,  2003.  We expect a  significant  use of cash  during  the
remainder  of the 2003  fiscal year as we  continue  to  initiate  the  business
opportunity for Altnet, Inc. We anticipate that our current cash reserves,  plus
our expected generation of cash from existing operations,  may not be sufficient
to fund our anticipated expenditures for the remainder of 2003. Consequently, we
may require  additional  equity or debt  financing  during 2003,  the amount and
timing of which will depend in large part on our  spending  program.  Our recent
financings  have  been  significantly   dilutive  to  our  stockholders  and  if
additional  funds are raised  through  the  issuance of equity  securities,  our
stockholders may experience significant additional dilution.  Furthermore, there
can be no assurance that  additional  financing will be available when needed or
that  if  available,   such


                                       24
<PAGE>


financing  will  include  terms  favorable  to our  stockholders  or us. If such
financing is not  available  when  required or is not  available  on  acceptable
terms,  we may be unable to develop or enhance our products and  services,  take
advantage of business opportunities or respond to competitive pressures,  any of
which could have a material adverse effect on our business,  financial condition
and results of  operations,  and would most likely  result in our having to file
for bankruptcy protection under the Bankruptcy Code.

         The accompanying  consolidated  financial statements have been prepared
assuming  that we will  continue  as a going  concern,  which  contemplates  the
realization of assets and the  satisfaction  of liabilities in the normal course
of business.  The carrying  amounts of assets and  liabilities  presented in the
financial  statements  do not  purport to  represent  realizable  or  settlement
values.  The report of our  Independent  Certified  Public  Accountants  for the
December  31,  2002  financial  statements  included  an  explanatory  paragraph
expressing substantial doubt about our ability to continue as a going concern.

NEW ACCOUNTING PRONOUNCEMENTS

         In  January  2003,  the  FASB  issued  FASB   Interpretation   No.  46,
"Consolidation  of Variable Interest  Entities" ("FIN 46"). This  Interpretation
requires that variable  interest  entities  created after January 31, 2003,  and
variable  interest entities in which an interest is obtained after that date, be
evaluated  for  consolidation  into  an  entity's  financial  statements.   This
interpretation  also  applies,  beginning  July 1, 2003 for us, to all  variable
interest  entities in which an  enterprise  holds an  interest  that it acquired
before  February  1,  2003.  We are  in the  process  of  evaluating  all of our
investments  and other  interests in entities under the provisions of FIN 46 and
have not yet determined the effect of its adoption on our financial position and
results of operations.

         In May 2003,  the FASB  issued  SFAS No.  150  ACCOUNTING  FOR  CERTAIN
FINANCIAL  INSTRUMENTS WITH CHARACTERISTICS OF BOTH LIABILITIES AND EQUITY. SFAS
No. 150 establishes  standards for how an issuer classifies and measures certain
financial  instruments with  characteristics  of both liabilities and equity. It
requires that an issuer classify a financial instrument that is within its scope
as a liability (or an asset in some  circumstances).  Many of these  instruments
were previously  classified as temporary equity.  SFAS No. 150 will be effective
for  financial  instruments  entered into or modified  after May 31,  2003,  and
otherwise  shall be  effective  at the  beginning  of the first  interim  period
beginning  after June 15, 2003.  For financial  instruments  created  before the
issuance date of SFAS No. 150 and still existing at the beginning of the interim
period of adoption,  transition  shall be achieved by reporting  the  cumulative
effect of a change in accounting  principle by initially measuring the financial
instruments at fair value or other  measurement  attribute  required by SFAS No.
150.  Instruments  with  characteristics  of both  liabilities  and  equity  not
addressed  in SFAS No. 150 will be  addressed  in the next phase of the project.
Adoption  of SFAS No.  150 is not  expected  to have a  material  impact  on the
Company's consolidated financial position, results of operations or cash flows.

CAUTIONARY STATEMENTS AND RISK FACTORS

         Several   of  the   matters   discussed   in  this   document   contain
forward-looking  statements  that  involve  risks  and  uncertainties.   Factors
associated with the forward-looking statements that


                                       25
<PAGE>


could cause actual results to differ materially from those projected or forecast
are included in the statements below. In addition to other information contained
in this report,  readers  should  carefully  consider the  following  cautionary
statements.

         THERE IS DOUBT ABOUT OUR ABILITY TO  CONTINUE  AS A GOING  CONCERN.  We
currently  have a number  of  obligations  that we are  unable  to meet  without
generating  additional  revenues  or raising  additional  capital.  If we cannot
generate  additional revenues or raise additional capital in the near future, we
may  become  insolvent.   As  of  September  30,  2003,  our  cash  balance  was
approximately  $64,000 and our outstanding accounts payable and accrued expenses
totaled  $4,246,000  not including  the capital  financing  notes,  which have a
convertible feature.  Historically, we have funded our capital requirements with
debt and  equity  financing.  Our  ability to obtain  additional  equity or debt
financing depends on a number of factors including our financial performance and
the overall  conditions in our industry.  If we are not able to raise additional
financing or if such  financing is not  available on  acceptable  terms,  we may
liquidate assets, seek or be forced into bankruptcy,  and/or continue operations
but suffer  material  harm to our  operations  and  financial  condition.  These
measures  could have a material  adverse  affect on our ability to continue as a
going concern.

         WE HAVE A HISTORY OF LOSSES,  A NEGATIVE NET WORTH AND MAY NEVER ATTAIN
PROFITABILITY.  We have a limited operating history and realized a comprehensive
loss of  $2,339,000  for  the  nine  months  ended  September  30,  2003.  Since
inception, we have incurred significant losses and negative cash flow, and as of
September 30, 2003 we had an accumulated  deficit of $63.2 million.  We incurred
comprehensive  losses of $4,590,000  million for the nine months ended September
30,  2002 and in light of the  comprehensive  losses  reported  during  the most
recent quarter and year to date period,  we anticipate  that we will continue to
generate  operating  losses for the foreseeable  future as we fund operating and
capital  expenditures  in the areas of brand  promotion,  sales  and  marketing,
administration,  and  research  and  development,  all  principally  related  to
deployment  of our Altnet  peer-to-peer  network and  operating  infrastructure.
Additionally,  as of the date of this report, our current liabilities exceed our
current assets.

         In fiscal 2002, we significantly  reduced the development and marketing
of our proprietary  software authoring tools, and our services for serving "rich
media" Internet banner advertisements  (banner advertisements that use audio and
animation).   Additionally,   we  have  ceased  all   internal   production   of
three-dimensional  animated  content.  While our past  activities in these areas
will continue to generate some future  revenue,  our business model assumes that
our growth and a significant portion of our future revenues will be derived from
our Altnet  peer-to-peer  business,  which only became operational in the fourth
quarter  of 2002.  This  business  model is not yet  proven  and we cannot  make
assurances  that we will  ever  achieve  or  sustain  profitability  or that our
operating  losses will not  increase in the future or be  inconsistent  with the
expectations  of the  public  market.  Primarily  as a result  of our  continued
losses, our independent public accountants included an explanatory  paragraph in
their opinion on our financial  statements  wherein they  expressed  substantial
doubt about our ability to continue as a going concern.

         OUR  RECENT  CAPITAL  RAISING  EFFORTS  HAVE  RESULTED  IN  SUBSTANTIAL
DILUTION TO OUR  STOCKHOLDERS  AND OUR FUTURE  CAPITAL NEEDS WOULD INCREASE THIS
DILUTION.  During 2001, we raised $3.0 million  through the sale of  convertible
promissory notes and common stock purchase


                                       26
<PAGE>


warrants.  The holders may convert  the  promissory  notes,  which now mature on
December 31, 2003, and accrued  interest,  at any time into shares of our common
stock at a price of $0.1203 per share.  The warrants  attached to the promissory
notes  have an  expiration  date of May 23,  2004 and  entitle  the  holders  to
purchase  up to an  aggregate  of  69,768,745  shares of our Common  Stock at an
exercise price of $0.1353375 per share on 44,542,718  shares, and at an exercise
price of $0.2091 on  25,226,028  shares.  The  exercise  of the  warrants  would
increase the number of shares  outstanding and result in further dilution to our
other stockholders.

         The conversion  price of the promissory notes and the exercise price of
warrants  to  purchase up to  44,542,718  shares of Common  Stock are subject to
reduction if we issue additional securities at a price below the then applicable
conversion  price or  exercise  price,  with  exceptions  for  certain  types of
securities  issuances.  If we issue  securities at a price below the  conversion
price or exercise  price,  then the  conversion  price or exercise price will be
adjusted downward to equal the price at which we sold the additional securities.
As a  consequence,  if we trigger the  adjustment  provision for the  promissory
notes,  the holders of the promissory notes could convert them at a lower price,
which would  increase the number of shares of Common  Stock they would  receive.
Similarly,  if we trigger the adjustment provision for the warrants, the holders
of the warrants  could  exercise  the  warrants to purchase a greater  number of
shares for the same aggregate purchase price.

         The table  below sets  forth the  number of shares of our Common  Stock
that could be acquired by the holders upon  conversion of the  promissory  notes
and exercise of the warrants,  and the  percentages  of our  outstanding  Common
Stock that the shares issued upon conversion and exercise would  represent.  The
amounts assume  conversion on the maturity date of the promissory notes December
31,  2003,  and include all interest  that would accrue on the entire  principal
amount  of the  promissory  notes  through  such  date.  The share  amounts  and
percentages  are based on our closing  share price of $0.44 on November 3, 2003,
and on assumed  closing  share  prices of $0.33,  $0.22 and $0.11,  which prices
represent a 25%,  50% and 75%  decline,  respectively,  in our  November 3, 2003
closing share price. The table assumes that we would issue additional securities
at these prices,  and thus trigger the price adjustment  provisions of the notes
and  warrants.  The table also assumes that the warrants  would be exercised for
cash  and  that  the  holders  would  pay us the  aggregate  exercise  price  of
$6,028,300.  The percentages  are also based on 41,351,571  shares of our common
stock outstanding on November 3, 2003.

Percentage Decline in                                      Percentage of
  Novenber 3, 2003           Assumed        Shares of      Outstanding
    Closing Price         Closing Price    Common Stock    Common Stock
----------------------    -------------    ------------    ------------
         --                   $0.44*        75,683,821        64.7%
         25%                  $0.33*        75,683,821        64.7%
         50%                  $0.22*        75,683,821        64.7%
         75%                  $0.11        107,996,607        72.3%
----------
* Based on the terms of the notes and  warrants,  if we sold  securities at this
share closing price the conversion  price of the notes and exercise price of the
warrants would be $0.1203 and $0.1353375 per share, respectively.


                                       27
<PAGE>


         Additionally,  during 2002, we raised an additional  $2,685,000 through
the sale of  15,451,318  shares of common stock at an average price per share of
$0.15,  and  in  connection  therewith  issued  warrants  to  purchase  up to an
additional  27,568,627  shares of common stock at exercise  prices  ranging from
$0.148725 to $0.28125 per share. We anticipate that during the fourth quarter of
2003, we may need to raise  additional  capital,  as our current  operations are
only  generating a modest  positive cash flow. As such, any  additional  capital
raising efforts would cause further dilution to stockholders.

         The following table  illustrates our  capitalization  as of November 3,
2003,  and  identifies  the number of shares issued and  outstanding  as of such
date,  as well as the  number of shares  that may be issued in the  future  upon
conversion  of  outstanding   convertible   promissory  notes  and  exercise  of
outstanding options and warrants:

                                                                      PERCENTAGE
                                                                       OF FULLY
                                                     SHARES OF         DILUTED
SECURITY                                           COMMON STOCK        SHARES
--------------------------------------------       ------------       ----------

Outstanding Common Stock ...................         41,351,571          25.1%
Convertible Promissory Notes,
  with accrued interest ....................         30,737,434          18.7%
Outstanding Warrants(1) ....................         67,091,154          40.7%
Outstanding Options ........................         25,520,018          15.5%
                                                   ------------       ----------
  Fully Diluted Shares of Common Stock(2) ..        164,700,177         100.0%

----------
1    For  purposes  of this  table,  we have  only  included  warrants  that are
     "in-the-money"  (the  exercise  price of the warrants is below the price of
     our common stock),  and the number of shares of common stock underlying the
     outstanding  warrants has been  calculated on a "cashless"  exercise basis,
     whereby  the  holder of each  warrant  receives  upon  exercise a number of
     shares of common  stock  with a value  equal to (i) the total  value of the
     shares  underlying  the warrants LESS (ii) the aggregate  exercise price of
     the  warrants,  and is  calculated  based on the closing sales price of our
     common stock on the American Stock Exchange on November 3, 2003,  which was
     $0.44.
2    This number  excludes  (i)  3,733,875  shares that have been  reserved  for
     issuance  under our 1996 Stock  Option Plan that were not the subject of an
     outstanding  stock  option  or other  award at  August  1,  2003,  and (ii)
     19,227,272  shares  underlying  warrants that have exercise  prices ranging
     from $0.54 to $0.6096 per share, and thus not "in-the-money."

         The following table  illustrates our  capitalization  as of November 3,
2003,  and  identifies  the number of shares issued and  outstanding  as of such
date,  as well as the  number of shares  that may be issued in the  future  upon
conversion  of  outstanding   convertible   promissory  notes  and  exercise  of
outstanding  options  and  warrants.  For the  purposes  of this  table  we have
included all warrants whether they are  "in-the-money" or not, and the number of
shares of common stock  underlying the outstanding  warrants has been calculated
on a "paid-for" exercise basis, whereby the holder of each warrant receives upon
exercise  a number of shares of common  stock  equal to the  number of  warrants
held:


                                       28
<PAGE>


                                                                      PERCENTAGE
                                                                       OF FULLY
                                                     SHARES OF         DILUTED
SECURITY                                           COMMON STOCK        SHARES
--------------------------------------------       ------------       ----------

Outstanding Common Stock ...................         41,351,571          18.7%
Convertible Promissory Notes, with
  accrued interest .........................         30,737,434          13.9%
Outstanding Warrants .......................        123,811,061          55.9%
Outstanding Options ........................         25,520,018          11.5%
                                                   ------------       ----------
  Fully Diluted Shares of Common Stock .....        221,420,084         100.0%

         IF WE  BECOME  INSOLVENT,  WE  WILL BE IN  DEFAULT  UNDER  OUR  SECURED
CONVERTIBLE  PROMISSORY  NOTES,  WHICH  COULD  RESULT IN OUR  OBLIGATION  TO PAY
IMMEDIATELY ALL AMOUNTS THEN OUTSTANDING UNDER THE NOTES. If we generally do not
pay,  or become  unable to pay,  our debts as such  debts  become  due,  we will
default under our  outstanding  Secured  Convertible  Promissory  Notes,  in the
aggregate  principal  amount of $3.0 million.  If a default occurs,  all amounts
owed to the holders of the notes would  immediately  become due and payable.  If
the debt  becomes due before its maturity in December  2003,  we likely will not
have sufficient funds to repay the indebtedness,  which will entitle the holders
of the notes to exercise all of their rights and remedies, including foreclosure
on all of our assets which we pledged as collateral  to secure  repayment of the
debt.

         WE DO NOT MEET THE CONTINUED LISTING REQUIREMENTS OF THE AMERICAN STOCK
EXCHANGE,  AND OUR  STOCK  COULD BE  DELISTED  AT ANY  TIME.  Our  common  stock
currently is quoted on the American Stock Exchange.  For continued  inclusion on
the American Stock Exchange, we must meet certain tests, including maintaining a
sales price for our common stock above $1.00 per share,  and net tangible assets
of at least $6 million.  We currently  are not in  compliance  with both the bid
price  and  net  tangible  assets  requirements.  Specifically,  we  are  not in
compliance  with the  following  listing  requirements  as set forth in the AMEX
COMPANY GUIDE:

         o        Section  1003  (a)(i) with  shareholders'  equity of less than
                  $2,000,000 and losses from  continuing  operations  and/or net
                  losses in two of our three most recent fiscal years;
         o        Section 1003 (a)(ii)  with  shareholders'  equity of less than
                  $4,000,000 and losses from  continuing  operations  and/or net
                  losses in three of our four most recent fiscal years;
         o        Section 1003 (a)(iii) with  shareholders'  equity of less than
                  $6,000,000 and losses from  continuing  operations  and/or net
                  losses in our five most recent fiscal years; and
         o        Section 1003 (a) (iv) in that we have  sustained  losses which
                  are so  substantial  in relation to our overall  operations or
                  our existing financial  resources,  or our financial condition
                  has become so impaired  that it appears  questionable,  in the
                  opinion  of the  exchange,  as to  whether  we will be able to
                  continue  operations  and/or  meet  our  obligations  as  they
                  mature.

         We were afforded the  opportunity to submit a plan of compliance to the
exchange,  which we did on  April  30,  2002.  On June 19,  2002,  the  exchange
notified us that it accepted our plan of  compliance  and granted us an informal
extension. We were asked to submit an additional plan


                                       29
<PAGE>


of compliance to the exchange, which we did on August 19, 2003. On September 17,
2003 the  exchange  notified  us that it  accepted  our plan of  compliance  and
granted us an extension  through  November  2003 to regain  compliance  with the
continued listing standards.

         We could be delisted from the American Stock Exchange at any time, with
little or no advance notice. If this occurs,  trading of our common stock may be
conducted on (i) the NASDAQ Small Cap Market,  if we qualify for listing at that
time,  which we currently  do not,  (ii) in the  over-the-counter  market on the
"pink sheets", or (iii) if available, the NASD's "Electronic Bulletin Board." In
any of those cases, investors could find it more difficult to buy or sell, or to
obtain  accurate  quotations  as to the  value of our  common  stock.  If we are
delisted,  our stock  could also become a "penny  stock." The trading  price per
share of our common stock likely would be reduced as a result.

         TO DEVELOP  PRODUCTS THAT CONSUMER'S  DESIRE,  WE MUST MAKE SUBSTANTIAL
INVESTMENTS IN RESEARCH AND DEVELOPMENT TO KEEP UP WITH THE RAPID  TECHNOLOGICAL
DEVELOPMENTS  THAT ARE TYPICAL IN OUR INDUSTRY.  The software  market and the PC
industry are subject to rapid  technological  developments.  To develop products
that consumer's  desire,  we must  continually  improve and enhance our existing
products  and  technologies  and  develop new  products  and  technologies  that
incorporate these technological developments.  We cannot be certain that we will
have the financial and technical resources available to make these improvements.
We must make improvements to our technology while remaining competitive in terms
of performance and price.  This will require us to make  investments in research
and  development,  often times well in advance of the widespread  release of the
products in the market and any revenues  these  products may generate.  Until we
become profitable,  we will need to fund these research and development  efforts
from  proceeds  we  receive  from  equity  or debt  financings.  We do not  have
sufficient  resources  to fund  long term  research  and  development,  which is
presently on hold.

         OUR STOCK PRICE AND TRADING VOLUME FLUCTUATE WIDELY AND MAY CONTINUE TO
DO SO IN THE FUTURE. AS A RESULT, WE MAY EXPERIENCE  SIGNIFICANT DECLINES IN OUR
STOCK PRICE.  The market  price and trading  volume of our common  stock,  which
trades  on  the  American  Stock  Exchange,  has  been  subject  to  substantial
volatility,  which  is  likely  to  continue.  This  volatility  may  result  in
significant  declines in the price of our common  stock.  Factors that may cause
these fluctuations include:

         o        variations in quarterly operating results;
         o        the gain or loss of significant contracts;
         o        changes in management;
         o        announcements of technological  innovations or new products by
                  us or our competitors;
         o        recommendations by securities industry analysts;
         o        dilution to existing stockholders  resulting from the issuance
                  of additional shares of common stock; and
         o        short sales and hedging of our common stock.

         Additionally,  the  stock  market  has  experienced  extreme  price and
trading volume fluctuations that have affected the market price of securities of
many technology companies.  These fluctuations have, at times, been unrelated to
the operating performances of the specific


                                       30
<PAGE>


companies  whose stock is affected.  The market price and trading  volume of our
stock may be subject to these fluctuations.

         IF  OUR  STOCK  DOES  NOT  SUSTAIN  A   SIGNIFICANT   TRADING   VOLUME,
STOCKHOLDERS  MAY BE UNABLE TO SELL LARGE  POSITIONS IN OUR COMMON STOCK. In the
past,  our common  stock has not  experienced  significant  trading  volume on a
consistent  basis and has not been actively  followed by stock market  analysts.
The average  trading  volume in our common stock may not increase or sustain its
current  levels.  As a result,  we cannot be certain  that an  adequate  trading
market will exist to permit  stockholders  to sell large positions in our common
stock.

         FLUCTUATIONS IN OPERATING  RESULTS MAY RESULT IN UNEXPECTED  REDUCTIONS
IN REVENUE AND STOCK PRICE VOLATILITY. We operate in an industry that is subject
to significant  fluctuations in operating results from quarter to quarter, which
may lead to  unexpected  reductions  in  revenues  and stock  price  volatility.
Factors that may influence our quarterly operating results include:

         o        the  introduction  or  enhancement  of software  products  and
                  technology by us and our competitors;
         o        the use by animators  of our  toolsets to create  b3d-produced
                  content;
         o        the market's acceptance of our 3D Brilliant Banner advertising
                  format; and
         o        our  ability  to operate  and  expand our Altnet  peer-to-peer
                  business.

         Additionally,  a  majority  of the unit  sales for a product  typically
occurs in the  quarter in which the  product  is  introduced.  As a result,  our
revenues  may  increase  significantly  in a  quarter  in which a major  product
introduction occurs and may decline in following quarters.

         DECREASES IN THE PRICE OF OUR COMMON STOCK COULD  INCREASE  SHORT SALES
OF OUR COMMON STOCK BY THIRD PARTIES,  WHICH COULD RESULT IN FURTHER  REDUCTIONS
IN THE PRICE OF OUR COMMON STOCK. Our sales of common stock at a discount to the
market price of our common  stock,  which may be  necessary to raise  additional
capital to fund  operations,  could result in  reductions in the market price of
our common  stock.  Downward  pressure  on the price of our common  stock  could
encourage short sales of the stock by third parties.  Material  amounts of short
selling could place further downward  pressure on the market price of the common
stock.  A short  sale is a sale of stock  that is not owned by the  seller.  The
seller  borrows the stock for  delivery at the time of the short sale,  and buys
back the stock when it is necessary to return the borrowed shares.  If the price
of the common stock declines between the time the seller sells the stock and the
time the seller subsequently  repurchases the common stock, then the seller sold
the shares for a higher  price than he  purchased  the shares and may  realize a
profit.

         WE HAVE ADOPTED A NUMBER OF ANTI-TAKEOVER MEASURES THAT MAY DEPRESS THE
PRICE  OF OUR  COMMON  STOCK.  Our  ability  to issue up to  700,000  shares  of
preferred  stock and some  provisions of our  certificate of  incorporation  and
bylaws and of  Delaware  law could make it more  difficult  for a third party to
make an unsolicited  takeover  attempt of us. These  anti-takeover  measures may
depress  the price of our  common  stock by making  third  parties  less able to
acquire  us by  offering  to  purchase  shares of our stock at a premium  to its
market price. Our Board of Directors can issue up to 700,000 shares of preferred
stock and determine the price, rights, preferences, privileges and restrictions,
including voting rights, of those shares without


                                       31
<PAGE>


any further vote or action by our  stockholders.  Our Board of  Directors  could
issue the preferred  stock with voting,  liquidation,  dividend and other rights
superior to the rights of our common stock.  The rights of holders of our common
stock  will be  subject  to,  and may be  adversely  affected  by, the rights of
holders  of the share  purchase  rights and of any  preferred  stock that may be
issued in the future. The issuance of preferred stock, while providing desirable
flexibility  in  connection  with  possible  acquisitions  and  other  corporate
purposes could make it more difficult for a third party to acquire a majority of
our outstanding voting stock.

RISKS RELATED TO OUR BUSINESS

         ALTNET IS AN UNPROVEN  BUSINESS  VENTURE  AND MAY  REQUIRE  SIGNIFICANT
CAPITAL TO BE  SUCCESSFULLY  implemented.  Our Altnet  peer-to-peer  business is
unproven and we cannot  guaranty  that it will be  financially  successful.  The
success of the business  will depend,  in part, on our ability to enter into end
user agreements with a sufficient  number of qualified  personal computer owners
to  allow  the  network  to work  efficiently  and  effectively,  acceptance  by
corporate customers of our services, the technical viability of the commercially
available digital rights  management,  or DRM, software we employ to protect the
proprietary  content  that will pass  through  the Altnet  network and reside on
network  computers,  acceptance  of content  offered  through  TopSearch,  broad
acceptance and use of our micro-payment  processing  system,  and our underlying
peer-to-peer  technology.  Additionally,  we do not have  sufficient  capital to
internally fund Altnet's development and operations.  Consequently,  the capital
necessary  to fund  Altnet  and  expand  the  operations  will need to come from
outside  sources.  We cannot make  assurances  that  sufficient  capital will be
available at all or on terms  acceptable to us to fund Altnet's  development and
operations.

         ALTNET'S MICRO-PAYMENT PROCESSING SYSTEM IS RELIANT UPON THE TECHNOLOGY
AND SYSTEMS OF THIRD PARTY VENDORS THAT PROVIDE THEIR SERVICES TO ALTNET. We use
the  technology  and  services  of third  parties  to  process  payment  for the
individual  sale  of  digital  content  over  our  Altnet  peer-to-peer  system.
NewGenPay Inc. currently provides payment processing  technology and services to
us. The ability to process  payment for  individual  sales at price  points well
below  $1.00  (better  known as micro  payments)  is  integral to our ability to
commercialize  the secure  distribution  to and sale of our  customers'  digital
content to  millions  of users.  Our ability to  commercialize  Altnet  could be
materially  adversely  affected if we do not maintain our relationships with the
vendors that provide these services on our behalf. Additionally, a disruption in
these vendors'  services,  problems with their technology,  or any other matters
that interfere with their  provision of services to us could disrupt our ability
to collect  fees for the  digital  content  we  distribute,  which  would have a
materially  adverse  affect  on our  operations  and our  relationship  with our
customers.

         OUR FAILURE TO MAINTAIN A STRATEGIC  RELATIONSHIP WITH SHARMAN NETWORKS
COULD  ADVERSELY  AFFECT  OPERATING  RESULTS.  We  receive  compensation  as the
exclusive representative of Sharman Networks for the sale, license, and/or other
commercial  exploitation  of index  search  results  displayed  on or  otherwise
accessed using the Kazaa Media Desktop in response to end user search  requests.
Additionally,   through  our  business  development   arrangement  with  Sharman
Networks,  we receive  compensation  for the sale of  advertising  campaigns and
other revenue  received by Sharman  Networks,  which is generated as a result of
our  efforts.  We also receive a monthly  license fee from  Sharman  Networks in
connection with its license from us of


                                       32
<PAGE>


rights to the TrueNames patent. If we do not maintain our strategic relationship
with Sharman  Networks,  these sources of revenue may be eliminated  which would
adversely affect our financial condition and results of operations.

         OUR  FAILURE TO  MAINTAIN  STRATEGIC  RELATIONSHIPS  WITH  DISTRIBUTION
PARTNERS COULD REDUCE THE NUMBER OF ALTNET PEER-TO-PEER APPLICATIONS WE ARE ABLE
TO  DISSEMINATE  TO  CONSUMERS,  WHICH WOULD  REDUCE THE NUMBER OF USERS FOR OUR
ALTNET PEER-TO-PEER BUSINESS. We distribute the software necessary to create and
run our Altnet  peer-to-peer  business  primarily  by bundling  it with  Sharman
Networks'  Kazaa Media Desktop.  We rely on computer users' demand for the Kazaa
Media Desktop to increase the installed  base of our Altnet  software,  which is
necessary to connect users to our private  peer-to-peer  network.  Additionally,
through our agreement with Sharman Networks, Altnet distributes and sell digital
files to users of the Kazaa Media Desktop.  Our business,  results of operations
and  financial  condition  could be materially  adversely  affected if we do not
maintain our distribution relationship with Sharman Networks on acceptable terms
or if this  relationship  does not achieve  the  projected  distribution  of our
Altnet software or sales of authorized digital files.

         CURRENT LITIGATION AGAINST SHARMAN NETWORKS LIMITED MAY PREVENT FURTHER
DISTRIBUTION  OF OUR ALTNET  PEER-TO-PEER  SOFTWARE,  AND  ADVERSELY  AFFECT OUR
ABILITY TO SERVE BRILLIANT  BANNERS ON, AND DISTRIBUTE AND SELL DIGITAL FILES TO
USERS OF, THE KAZAA MEDIA DESKTOP. A disruption in the distribution of the Kazaa
Media Desktop or its use by consumers would necessarily adversely impact (1) the
future distribution of our Altnet software,  (2) revenues we derive from serving
Brilliant  Banners  on the  Kazaa  Media  Desktop,  and  (3)  Altnet's  sale  of
authorized  digital  files to users of the  Kazaa  Media  Desktop.  For the nine
months ended  September  30, 2003, we generated  approximately  87% of our total
revenues from  activities  dependent  upon the  availability  of the Kazaa Media
Desktop to computer users.  If there is a disruption in the  distribution of the
Kazaa Media Desktop or its use by consumers,  we may not be able to replace this
source of revenue in the short  term,  or at all.  Sharman  Networks,  the Kazaa
Media  Desktop,  and other  peer-to-peer  software  products,  are currently the
subject of a lawsuit, METRO-GOLDWYN-MAYER STUDIOS, INC. ET. AL. V. GROKSTER LTD.
ET. AL., filed in the United States  District Court for the Central  District of
California (Western Division) by twenty-eight  entertainment  companies claiming
that, among other things,  the Kazaa Media Desktop  facilitates,  contributes to
and  encourages  copyright  infringement.  On November  18,  2001,  there was an
additional  complaint filed, LIEBER ET. AL. V. CONSUMER EMPOWERMENT B.V. ET. AL.
To the extent that Sharman  Networks is precluded  from  distributing  the Kazaa
Media  Desktop  as a result  of this  litigation,  our  business  and  financial
condition could be materially and adversely  affected.  While we understand that
Sharman  Networks is  vigorously  defending  against  the claims  raised in this
litigation,  we are unable to determine at this time  whether  Sharman  Networks
will prevail.

         OUR  BUSINESS  MODEL  CONTEMPLATES  RECEIVING  A PORTION  OF OUR FUTURE
REVENUES FROM RICH MEDIA INTERNET ADVERTISEMENTS  DEVELOPED AND SERVED USING OUR
SOFTWARE TOOLS, AND FROM INTERNET ADVERTISING SERVICES.  INTERNET ADVERTISING IS
DEPENDENT ON THE ECONOMIC  PROSPECTS OF  ADVERTISERS  AND THE ECONOMY IN GENERAL
AND RECENTLY HAS  EXPERIENCED A  SIGNIFICANT  DECLINE.  A CONTINUED  DECREASE IN
EXPENDITURES  BY ADVERTISERS OR A PROLONGED  DOWNTURN IN THE ECONOMY COULD CAUSE
US TO FAIL TO ACHIEVE OUR REVENUE  PROJECTIONS.  While we significantly  reduced
the  development  and marketing of our Internet  advertising  business in fiscal
2002 in favor of our  Altnet  peer-to-peer  business,  we intend to pursue  some
revenue from


                                       33
<PAGE>


this business  during fiscal 2003. We are focusing a portion of our resources on
generating  revenues  from the sale of our b3d  tools for the  creation  of rich
media Internet  advertisements and from the sale of technologies and services to
web publishers,  third party advertising  representation firms,  advertisers and
agencies.   In  recent  quarters,   the  market  for  Internet  advertising  has
experienced lower demand,  lower prices for  advertisements and the reduction of
marketing and advertising  budgets. As a consequence,  expenditures for Internet
advertisements  have decreased.  We cannot be certain that future decreases will
not occur and that spending on Internet  advertisement will return to historical
levels.  A continued  decline in the economic  prospects of  advertisers  or the
economy in general  could  cause us to fail to achieve  our  advertising-related
revenue projections.

         WE WILL NOT BE ABLE TO GENERATE REVENUES FROM OUR BRILLIANT BANNERS AND
OTHER B3D CONTENT  WITHOUT A BROAD BASE OF  INSTALLED  DIGITAL  PROJECTORS.  Our
Digital  Projector must be installed on a user's computer in order for that user
to view our  Brilliant  Banners and other b3d content.  If we do not achieve and
maintain  widespread  installation of our Digital  Projector,  there will not be
substantial  demand for  b3d-produced  content or our  software  tools.  We have
discontinued  the  production  of  3D  animated   entertainment,   such  as  our
MultipathTM  Movies  and  animated  music  videos.  The  user's  demand for this
entertainment helped drive installation of our Digital Projector. Presently, the
substantial  majority of b3d content  consists of  Brilliant  Banners.  Computer
users are less likely to  voluntarily  install our Digital  Projector or keep it
installed if its use is almost exclusively for viewing Internet  advertisements.
Other  companies,  such as Lavasoft,  market  software  that removes our Digital
Projector  from a user's  computer.  The  widespread  use of this software could
diminish the number of installed  projectors,  which would reduce demand for our
Brilliant Banners by Internet advertisers and correspondingly  reduce the demand
for our b3d toolset by the creators of Internet advertisements.

         WE WILL NOT BE ABLE TO GENERATE  REVENUES FROM OUR BRILLIANT BANNERS IF
THEY DO NOT ACHIEVE MARKET ACCEPTANCE.  The success of our Brilliant Banner rich
media ad format and our ability to generate revenues through sale and serving of
these advertisements will be determined by consumer reaction and acceptance.  To
generate revenues, we must develop advertisements that appeal to the advertising
community and the consumer, which is unpredictable.  Additionally, our Brilliant
Banner  advertisements face competition from other online advertising  companies
like Unicast, Eyeblaster and Viewpoint. Other factors that influence our ability
to generate revenues from our Brilliant Banners include:

         o        Acceptance of the Brilliant Banner  advertising  format by web
                  sites;

         o        Performance  of the  Brilliant  Banner versus other rich media
                  advertising formats and traditional 2D advertisements; and

         o        Our  ability to broadly  disseminate  our  Digital  Projector,
                  which is necessary to view our Brilliant Banners.

         WE MAY NOT BE ABLE TO COMPETE  EFFECTIVELY  WITH OTHER  COMPANIES  THAT
OFFER  SOFTWARE  TOOLS AND  SERVICES  SIMILAR TO OURS.  The  markets for our b3d
software  tools  are  highly   competitive  and  characterized  by  pressure  to
incorporate  new  features  and  accelerate  the  release  of new  and  enhanced
products. A number of companies currently offer content development


                                       34
<PAGE>


products and services that compete  directly or  indirectly  with one or more of
our tools sets. These competitors include, among others, Macromedia, Inc., Adobe
Systems, Inc. as well as Pulse Entertainment, Inc. and Viewpoint Corporation. As
we compete with larger  competitors such as Macromedia across a broader range of
product lines and different platforms,  we may face increasing  competition from
such companies.

         WE MAY BE UNABLE TO SUCCESSFULLY COMPETE WITH MICROSOFT,  REAL NETWORKS
AND OTHER  COMPANIES IN THE MEDIA DELIVERY  MARKET.  The market for software and
services for the delivery of media over the Internet is constantly  changing and
highly competitive.  Companies such as Microsoft  Corporation and Real Networks,
Inc.  have   substantial   penetration  in  the  media  delivery   market,   and
significantly  greater  resources  than we do. More  companies  are entering the
market for,  and  expending  increasing  resources  to develop,  media  delivery
software and services.  We expect that  competition  will continue to intensify.
Because our b3d content, such as our Brilliant Banners, can only be viewed using
our Digital  Projector,  if we do not achieve a widespread  distribution  of our
media player,  there will not be substantial demand for b3d-produced  content or
our software tools. Similarly, we can only deliver digital files over our Altnet
peer-to-peer network to users that have downloaded the Altnet software. If we do
not achieve a widespread distribution of our Altnet software,  there will not be
substantial  demand by content  owners to distribute and sell their content over
the Altnet network.

         IF WE DO NOT IMPROVE OUR SOFTWARE  TOOLS TO PRODUCE NEW,  MORE ENHANCED
3D ANIMATED CONTENT, OUR REVENUES WILL BE ADVERSELY AFFECTED. The software tools
that enable us to create 3D content,  such as our Brilliant  Banners,  have been
developed  over the past five  years.  Additional  refinement  of these tools is
necessary  to  continue  to  enhance  the  b3d  format.  If  we  cannot  develop
improvements  to these  software  tools,  our  Brilliant  Banners  and all other
b3d-produced  content  may not  obtain or  maintain  market  acceptance  and our
revenues will be adversely affected.

         ERRORS OR DEFECTS IN OUR  SOFTWARE  TOOLS AND PRODUCTS MAY CAUSE A LOSS
OF MARKET ACCEPTANCE AND RESULT IN FEWER SALES OF OUR PRODUCTS. Our products are
complex and may contain undetected errors or defects when first introduced or as
new versions are released.  In the past, we have  discovered  software errors in
some of our new  products and  enhancements  after their  introduction  into the
market. Because our products are complex, we anticipate that software errors and
defects will be present in new products or releases in the future. While to date
these errors have not been  material,  future errors and defects could result in
adverse  product  reviews and a loss of, or delay in,  market  acceptance of our
products.

         WE  WILL  NOT  BE  ABLE  TO  GENERATE  SIGNIFICANT  REVENUES  FROM  OUR
TECHNOLOGY  BUSINESS IF OUR B3D TOOLSET DOES NOT ACHIEVE MARKET ACCEPTANCE.  Our
b3d toolset may have programming errors, may be incompatible with other software
or hardware  products in the market,  may face slow adoption in the  marketplace
and may face competition from other toolmakers. Other factors that influence our
ability to generate revenues from our b3d toolset include:

         o        our marketing strategies;
         o        the quality of our products and competing products;
         o        critical reviews;


                                       35
<PAGE>


         o        the  availability of alternative  forms of  entertainment  and
                  leisure time activities;
         o        our  ability  to sell  advertising  and  sponsorships  for the
                  content;
         o        our  ability to  increase  the  installed  base of our Digital
                  Projector, which is necessary to view b3d-produced content;
         o        our  b3d  toolset  may  contain  features,   functionality  or
                  workflow  conventions  that may not be widely  accepted by our
                  target audience;
         o        our ability to  continue  to develop,  enhance and deliver the
                  toolset in accordance with established milestones; and
         o        the marketplace's reluctance to adopt a new toolset.

         OUR  PROPRIETARY  TECHNOLOGY  MAY  NOT  BE  ADEQUATELY  PROTECTED  FROM
UNAUTHORIZED  USE BY OTHERS,  WHICH  COULD  INCREASE  OUR  LITIGATION  COSTS AND
ADVERSELY  AFFECT OUR SALES.  Our  ability to compete  with other  entertainment
software companies depends in part upon our proprietary technology. Unauthorized
use by others of our  proprietary  technology  could  result in an  increase  in
competing  products and a reduction in our sales. We rely on trademark,  patent,
trade  secret and  copyright  laws to protect  our  technology,  and require all
employees and third-party developers to sign nondisclosure  agreements.  We have
been issued two  patents  and have  pending 6  additional  patent  applications,
all-relating to our b3d toolset. We cannot be certain that our reliance on these
laws and  nondisclosure  agreements  will  provide  meaningful  protection  from
unauthorized use by others.  We do not  copy-protect our software,  so it may be
possible  for  unauthorized  third  parties to copy our  products  or to reverse
engineer or otherwise  obtain and use information that we regard as proprietary.
Our  customers  may take  inadequate  precautions  to  protect  our  proprietary
information.  If we  must  pursue  litigation  in  the  future  to  enforce  our
intellectual  property rights,  to protect our trade secrets or to determine the
validity and scope of the proprietary  rights of others,  we may not prevail and
will likely make  substantial  expenditures  and divert valuable  resources.  In
addition,  many foreign  countries' laws may not protect us from improper use of
our proprietary  technologies overseas. We may not have adequate remedies if our
proprietary rights are breached or our trade secrets are disclosed.

         IF OUR PRODUCTS  INFRINGE ANY PROPRIETARY  RIGHTS OF OTHERS,  A LAWSUIT
MAY BE BROUGHT  AGAINST US THAT COULD REQUIRE US TO PAY LARGE LEGAL EXPENSES AND
JUDGMENTS AND REDESIGN OR DISCONTINUE  SELLING OUR PRODUCT.  We believe that our
products,  including our Digital Projector,  b3d toolset and Altnet software, do
not  infringe  any  valid  existing  proprietary  rights of third  parties.  Any
infringement claims, however, whether or not meritorious, could result in costly
litigation  or require us to enter into royalty or licensing  agreements.  If we
are  found to have  infringed  the  proprietary  rights of  others,  we could be
required to pay damages, redesign the products or discontinue their sale. Any of
these outcomes,  individually  or  collectively,  could have a material  adverse
effect on our business and financial condition.


ITEM 3.  CONTROLS AND PROCEDURES.

         As of September 30, 2003, the end of the period covered by this report,
our Chief Executive Officer and Chief Financial Officer,  with the participation
of our  management,  carried  out an  evaluation  of  the  effectiveness  of our
disclosure controls and procedures pursuant to


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<PAGE>


Exchange Act Rule  13a-15(b).  Based upon that  evaluation,  our Chief Executive
Officer  and  Chief  Financial  Officer  believe  that,  as of the  date  of the
evaluation, our disclosure controls and procedures are effective in making known
to  them  material  information  relating  to  us  (including  our  consolidated
subsidiaries) required to be included in this report.

         Disclosure  controls and  procedures,  no matter how well  designed and
implemented,  can provide  only  reasonable  assurance  of achieving an entity's
disclosure  objectives.  The likelihood of achieving such objectives is affected
by limitations inherent in disclosure controls and procedures. These include the
fact that human judgment in decision-making can be faulty and that breakdowns in
internal  control can occur  because of human  failures such as simple errors or
mistakes or intentional circumvention of the established process.

         There were no significant  changes in our internal controls or in other
factors that could  significantly  affect internal controls,  known to our Chief
Executive  Officer and Chief  Financial  Officer,  subsequent to the date of the
evaluation.


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<PAGE>


                                     PART II

                                OTHER INFORMATION

ITEM 2.  CHANGES IN SECURITIES AND USE OF PROCEEDS

         Effective  in August  2003 we issued to  Ziffren,  Brittenham,  Branca,
Fischer,  Gilbert-Lurie & Stiffelman warrants to purchase up to 5,000,000 shares
of our common stock at an exercise price equal to $0.54 per share.  The warrants
have a term of five years.  The  warrants  were  issued to Ziffren,  Brittenham,
Branca,  Fischer,  Gilbert-Lurie  & Stiffelman in  consideration  for consulting
services to be provided to Altnet in marketing and  promoting  its  peer-to-peer
technology to major record  companies.  Ziffren,  Brittenham,  Branca,  Fischer,
Gilbert-Lurie  &  Stiffelman  represented  to us  that  it  was  an  "accredited
investor"  within the meaning of Rule 501 of  Regulation D under the  Securities
Act of 1933,  and it was  purchasing  the  securities  for investment and not in
connection  with  a  distribution  thereof.  The  issuance  and  sale  of  these
securities was exempt from the registration and prospectus delivery requirements
of the  Securities  Act  pursuant  to Section  4(2) of the  Securities  Act as a
transaction not involving any public offering.

         Effective in August 2003, Europlay Capital Advisors,  LLC (an entity in
which Mark Dyne, our Chairman,  has an ownership  interest) agreed to extend the
maturity date of the loan of $100,000  Europlay  Capital  Advisors made to us in
June 2003 from August 10, 2003 to December 31, 2003.  In  consideration  for its
agreement to extend the maturity  date, we issued to Europlay  Capital  Advisors
warrants to purchase up to an aggregate of 227,272 shares of our common stock at
an exercise price of $0.44 per share.  Europlay Capital Advisors  represented to
us that it was an  "accredited  investor"  within  the  meaning  of Rule  501 of
Regulation D under the  Securities  Act of 1933,  and that it was purchasing the
securities for investment and not in connection with a distribution thereof. The
issuance  and sale of these  securities  was exempt  from the  registration  and
prospectus delivery  requirements of the Securities Act pursuant to Section 4(2)
of the Securities Act as a transaction not involving any public offering.


ITEM 6.  EXHIBITS AND REPORTS ON FORM 8-K

(a)      EXHIBITS - THE FOLLOWING EXHIBITS ARE FILED AS PART OF THIS REPORT:

         10.1     Standard Form Lease Agreement dated September 21, 2003 between
                  the Company and Topanga & Victory Partners LP.

         31.1     Certificate  of  Chief  Executive  Officer  pursuant  to  Rule
                  13a-14(a)  under the  Securities  and Exchange Act of 1934, as
                  amended.

         31.2     Certificate  of  Chief  Financial  Officer  pursuant  to  Rule
                  13a-14(a)  under the  Securities  and Exchange Act of 1934, as
                  amended.

         32.1     Certificate  of Chief  Executive  Officer and Chief  Financial
                  Officer  pursuant to Rule  13a-14(b)  under the Securities and
                  Exchange Act of 1934, as amended.

(b)      REPORTS ON FORM 8-K.

         Current Report on Form 8-K,  reporting  Items 7 and 12, filed on August
21, 2003.


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<PAGE>


                                   SIGNATURES

         Pursuant to the  requirements  of Section 13 or 15(d) of the Securities
Exchange Act of 1934, as amended, the Registrant caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized.

                                          BRILLIANT DIGITAL ENTERTAINMENT, INC.


Date: November 14, 2003                     /S/ TYLER TARR
                                          --------------------------------------
                                          By:    Tyler Tarr
                                          Its:   Chief Financial Officer
                                                 (Principal Financial and
                                                 Accounting Officer)


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