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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 March 31, 2004

[_]      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)

         Check whether the issuer (i) filed all reports  required to be filed by
Section 13 or 15(d) of the  Exchange  Act during the past 12 months (or for such
shorter period that the  registrant was required to file such reports),  and (2)
has been subject to such filing requirements for the past 90 days. Yes X No ___

         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, 42,857,153 shares issued and outstanding as of May 3, 2004.

         Transitional Small Business Disclosure Format (check one):

                              Yes [_]      No  [X]


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<PAGE>


                      BRILLIANT DIGITAL ENTERTAINMENT, INC.

                              INDEX TO FORM 10-QSB

                                                                            PAGE
                                                                            ----

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

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

           Condensed Consolidated Balance Sheet as of
              March 31, 2004 (unaudited).......................................3

           Condensed Consolidated Statements of Operations
              for the three months ended March 31, 2004
              and March 31, 2003 (unaudited)...................................4

           Condensed Consolidated Statements of Cash Flows
              for the three months ended March 31, 2004 and
              March 31, 2003 (unaudited).......................................5

           Notes to Consolidated Financial Statements (unaudited)..............6

Item 2.    Management's Discussion and Analysis or Plan of Operation .........16

Item 3.    Controls and Procedures............................................32

PART II    OTHER INFORMATION..................................................33

Item 1.    Legal Proceedings..................................................33

Item 2.    Changes in Securities and Small Business Issuer
           Purchases of Equity Securities.....................................33

Item 3.    Default Upon Senior Securities.....................................33

Item 6.    Exhibits and Reports on Form 8-K...................................34

           Signatures.........................................................35


                                       2
<PAGE>


                                     PART I
                              FINANCIAL INFORMATION

Item 1.  Financial Statements

                      BRILLIANT DIGITAL ENTERTAINMENT, INC.
                      CONDENSED CONSOLIDATED BALANCE SHEET
                                 (In thousands)
                                                                       MARCH 31,
                                                                         2004
                                                                       --------
ASSETS                                                               (unaudited)
Current assets:
    Cash and cash equivalents ..................................       $    572
    Restricted cash ............................................             75
    Accounts receivable, net ...................................          2,480
    Debt Issuance Costs ........................................          3,847
    Note Receivable ............................................             74
    Other assets, net ..........................................            252
                                                                       --------
Total current assets ...........................................          7,300
Property, plant and equipment, net .............................            110
License Rights .................................................          1,572
                                                                       --------
Total assets ...................................................       $  8,982
                                                                       ========

LIABILITIES AND STOCKHOLDERS' DEFICIT
Current liabilities:
    Accounts payable ...........................................            760
    Accrued expenses, related parties ..........................          3,559
    Accrued expenses ...........................................            561
    Guaranteed minimum payments, related party .................            360
    Deferred revenue ...........................................            114
    Secured convertible promissory notes,
       including accrued interest ..............................          4,108
                                                                       --------
Total current liabilities ......................................          9,462
Other long term liabilities ....................................            142
Long-term Guaranteed Minimum Payments, related party ...........            450
                                                                       --------
Total liabilities ..............................................         10,054

Stockholders' deficit:
    Common stock ...............................................             47
    Additional paid-in capital .................................         69,703
    Accumulated deficit ........................................        (70,811)
    Unrealized gain on marketable securities and
    foreign exchange transactions ..............................            (11)
                                                                       --------
Total stockholders' deficit ....................................         (1,072)
                                                                       --------
Total liabilities and stockholders' deficit ....................       $  8,982
                                                                       ========

                 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 ENDED
                                                                 MARCH 31,
                                                           --------------------
                                                             2003        2004
                                                           --------    --------
                                                                (unaudited)

Revenues:
     Marketing services ................................   $   --      $  1,840
      Licensing and other services .....................        186         543
      Distribution and technology from related party ...        229        --
      Digital content ..................................        171         124
                                                           --------    --------
           Total revenues ..............................   $    586    $  2,507

Costs and expenses:
     Costs of revenues .................................         34         324
     Sales and marketing ...............................         89         378
     General and administrative ........................        686       1,599
     Research and development ..........................        209         118
     Depreciation ......................................         19          13
                                                           --------    --------
                                                              1,037       2,432
Income (loss) from operations ..........................       (451)         75
Other income (expense):
     Interest expense ..................................       (446)       (432)
     Interest income ...................................       --             3
                                                           --------    --------
     Total other income (expense) ......................       (446)       (429)
                                                           --------    --------
Net income (loss) ......................................       (897)       (354)
Unrealized Gain Marketable Securities ..................         32        --
Foreign currency translation adjustment
   (net of tax effects) ................................        (23)          1
                                                           --------    --------

Comprehensive income (loss) ............................   $   (888)   $   (353)
                                                           ========    ========

Basic and fully-diluted net income (loss)
   per share ...........................................   $  (0.03)   $  (0.01)
                                                           --------    --------
 Weighted average number of shares used
   in computing basic and fully-diluted
   net income (loss) per share .........................     32,115      42,345
                                                           ========    ========

                 See Notes to Consolidated Financial Statements.


                                       4
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                      BRILLIANT DIGITAL ENTERTAINMENT, INC.
                 CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
                                 (In thousands)
                                                                 THREE MONTHS
                                                                ENDED MARCH 31,
                                                               ----------------
                                                                2003       2004
                                                               -----      -----
                                                                 (unaudited)
OPERATING ACTIVITIES
Net loss .................................................      (897)      (354)
Adjustments to reconcile net loss to the net cash
   provided by (used in) operating activities:
      Depreciation and amortization ......................        19         12
      Accrued interest expense on secured convertible
         promissory notes ................................       446         75
      Warrant amortization related to secured
         convertible promissory notes ....................        45       --
      Warrant amortization related to purchase of
         license rights ..................................      --          174
      Warrant amortization related to agreements .........        20       --
      Changes in operating assets and liabilities:
         Accounts receivable .............................      (115)      (358)
         Other assets ....................................       (51)       153
         Accounts payable and accruals ...................       429         60
         Deferred revenue ................................        24        (29)
         Notes receivable ................................      --           52
         Guaranteed minimum payments due related
            parties ......................................      --          (90)
                                                               -----      -----
Net cash (used in) operating activities ..................       (80)      (305)

INVESTING ACTIVITIES
Purchase of equipment ....................................      --          (16)
                                                               -----      -----
Net cash used in investing activities ....................      --          (16)

FINANCING ACTIVITIES
Restricted cash ..........................................       (75)      --
                                                               -----      -----
Net cash used  in financing activities ...................       (75)      --
                                                               -----      -----

NET DECREASE IN CASH AND CASH EQUIVALENTS ................      (155)      (321)

Effect of exchange rate changes on cash ..................       (23)        13
Cash and cash equivalents at beginning of period .........       236        880
                                                               -----      -----
Cash and cash equivalents at end of period ...............     $  58      $ 572
                                                               =====      =====

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

                 See Notes to Consolidated Financial Statements


                                       5
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                       BRILLIANT DIGITAL ENTERTAINMENT, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                                 MARCH 31, 2004

1.       BASIS OF PRESENTATION, RISKS AND GOING CONCERN UNCERTAINTY

         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,
2003.

         The  discussion and analysis of the Company's  financial  condition and
results of operations are based upon their  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 the Company 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, the Company evaluates
its  estimates,  including  those  related to  reserves  for bad debts and those
related to the possible  impairment of long-lived  assets. The Company bases its
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.  The Company's use of
estimates,  however, is quite limited, as they have adequate time to process and
record actual results from operations.

         The  Company is subject to a number of risks  similar to those of other
companies  in a  comparable  stage  of  development  including  reliance  on key
personnel,   successful  marketing  of  its  services  in  an  emerging  market,
competition from other companies with greater technical,  financial,  management
and marketing  resources,  successful  development  of new services,  successful
integration of acquired  businesses and technology,  the enhancement of existing
services,  and the  ability  to secure  adequate  financing  to  support  future
operations.

         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
March


                                       6
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31, 2004,  have  negative  working  capital of  approximately  $2,162,000  and a
stockholders'   deficit  of  approximately   $1,072,000.   These  factors  raise
substantial doubt about the Company's ability to continue as a going concern. In
their report on our financial  statements  for the year ended December 31, 2003,
our independent  certified public accountants included an explanatory  paragraph
expressing  substantial doubt about the Company's ability to continue as a going
concern.

         The Company is seeking  additional  funding and believes that this will
result in improved operating results.  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.

RESTRICTED CASH

         At March  31,  2004,  $75,000  of cash was  pledged  as  collateral  on
outstanding  secured   convertible   promissory  notes  and  was  classified  as
restricted cash on the balance sheet.

REVENUE RECOGNITION

         Under SEC Staff  Accounting  Bulletin  No. 104,  generally  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 the case of each of the Company's
products  and service  lines,  the Company  establishes  a contract or insertion
order  with its  customers  with  specific  requirements  for a fixed  price,  a
delivery schedule, and terms for payment. The Company also recognizes revenue in
accordance  with  the  following  with  respect  to the  specific  products  and
services.  The Company regularly evaluates the collectibility of its receivables
based on a combination of factors.  When a customer's  account becomes past due,
it initiates  dialogue with the customer to determine the cause.  If the Company
determines  that the customer will be unable to meet its financial  obligations,
due to a bankruptcy filing, deterioration in the customer's operating results or
financial position or other material events impacting its business,  the Company
records a specific reserve for bad debt to reduce the related  receivable to the
amount it expects to  recover  given all  information  presently  available.  If
circumstances  related to specific  customers change,  the Company's estimate of
the  recoverability of receivables  could materially  change. At March 31, 2004,
the  Company  had a reserve of $115,000  to cover  several  customers  from whom
collectibility is uncertain.


                                       7
<PAGE>


         The Company's revenues are derived principally from marketing services,
licensing and other services, and digital content revenue.

         Marketing   services   revenues   are  derived  from  paid  search  and
advertising services. Under the terms of the Company's agreement with The Excite
Network,  Inc., the Company is paid a non-refundable bounty for the installation
of each Excite My Search  toolbar  bundled for  distribution  with the Company's
Altnet Loyalty Points Manager on an English  speaking user's  computer,  and the
Company is paid a percentage of the gross profit earned as a result of clicks on
paid search  results by any end users of these  toolbars.  The  Company  derives
advertising  revenue  by  selling  advertising  inventory  on behalf of  Sharman
Networks  Limited  ("Sharman")  in exchange for a percentage of revenue  Sharman
receives from its advertising  clients.  Sharman's  clients pay a fee based on a
cost per thousand impressions (CPM) or specified conversions delivered (CPA).

         Licensing  and other  services  revenues are derived from the Company's
sublicense  of rights to the  TruNames  patent (see  License  Rights),  business
development  services,  and payment processing services.  Under the terms of the
Company's  patent  sublicense  agreement  with Sharman,  the Company  recognizes
sublicense  payments  as  revenue  on a monthly  basis as  earned.  The  Company
generates fee income for performing business development services for Sharman in
accordance  with an agreement.  The Company  negotiates  with third parties that
desire to enter into a business  transaction  with Sharman relating to the Kazaa
Media Desktop (or KMD) software  application.  The Company receives a percentage
of the gross revenue received by Sharman for each transaction entered into based
on the  Company's  efforts.  The Company  also  generates  fees from  processing
payments for the purchase of digital content using the Altnet payment processing
gateway.

         Digital  content  revenues are derived from  processing  digital  media
content (music,  PC games,  software,  movies) for placement on the peer-to-peer
network operated by the Company's  subsidiary,  Altnet,  Inc., and by promoting,
distributing,  and selling the content to end users of the network.  The Company
charges  clients a processing  fee to prepare  content for  distribution  on the
network. The amount of this fee varies based on the number of files, the size of
the files,  digital encoding costs, and the preparation of collateral  marketing
materials,  such as artwork.  The Company charges clients for content promotions
on a cost per  specified  number  of  downloaded  files.  A  customer  typically
pre-purchases  an agreed upon number of downloaded  files.  The amounts  charged
vary based on volume and the  complexity  of the campaign.  The Company  charges
clients for content sales based on a revenue sharing basis where they receive an
agreed  upon  percentage  of  the  sales  price  for  each  transaction,  and  a
combination  of  revenue  share and a cost per  specified  number of  downloaded
files.

LICENSE RIGHTS

         In October 2002, the Company  entered into a patent  license  agreement
with  Kinetech,  Inc.,  pursuant to which the Company  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 at an
exercise price of $0.001 per share. In July 2003, the Company modified the terms
of the  warrants  with  Kinetech,  to  accelerate  vesting.  As a result  of the
accelerated  vesting and the fact that the Company now  recognizes  revenue on a
monthly


                                       8
<PAGE>


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 was  based on a  Black-Scholes  model  with the  following
weighted average  assumptions for 2003:  interest rates of 4.5%;  dividend yield
rates of 0; volatility  factors of 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 $2,096,000  and will be amortized over the
remaining useful life of the patent license  agreement,  or 3 years.  During the
first three months of 2004,  the Company has recorded  $175,000 of  amortization
expense related to the patent,  leaving an unamortized  balance of $1,572,000 at
March 31, 2004, which is reflected on the balance sheet as License Rights.

         The Company assesses the  recoverability  of long-lived assets whenever
events or changes in business  circumstances indicate that the carrying value of
an asset may not be recoverable.  Annual estimated  amortization expense for the
remaining long-lived asset for each of the five succeeding years is as follows:

                                  Amortization
         Year                       Expense
         -----                    ------------
         2004                     $   524,000
         2005                         698,000
         2006                         350,000
                                  ------------
         Total                    $ 1,572,000
                                  ============


CONCENTRATION OF REVENUE RISK

         For the three months ended March 31, 2004,  the Company  generated 100%
of its total revenue either directly from Sharman or from other parties based on
activities  dependent  upon the  availability  of the  Kazaa  Media  Desktop  to
computer users.

         For the three months ended March 31, 2004,  Sharman  contributed 29% of
the Company's  revenue,  from content sales,  patent licensing,  advertising and
payment  processing.  The Excite Network (TEN)  contributed 71% of the Company's
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.

         Financial   instruments  which  potentially   subject  the  Company  to
concentrations  of credit risk  consist  primarily of accounts  receivable.  The
Company  had  $2,525,000  of  accounts   receivable  from  The  Excite  Network,
representing 97% of the Company's accounts receivable balance at March 31, 2004.
The  Company  performs  credit   evaluations  and  generally  does  not  require
collateral.

         The Company  maintains the majority of its cash and cash equivalents in
one bank and with one  brokerage  house.  The bank account is  guaranteed by the
Federal  Deposit  Insurance  Corporation  ("FDIC") up to $100,000.  At March 31,
2004, the Company had  approximately  $572,000 at a bank, which was in excess of
the FDIC insurance limit.


                                       9
<PAGE>


3.       RELATED PARTY TRANSACTIONS

         In May 2003,  Altnet  entered  into a 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 $450,000  as a long-term  liability.  The  company  assesses  the
recoverability  of  long-lived  assets  whenever  events or changes in  business
circumstances  indicate  that  the  carrying  value  of  an  asset  may  not  be
recoverable.  During the fourth quarter of 2003, in connection with this review,
the Company  obtained an independent  valuation to assist them in evaluating the
Company's  intangible  assets for  impairment  in  accordance  with FAS 144.  An
impairment loss is recognized when the sum of the expected  undiscounted  future
net cash flows over the remaining  useful life, is less than the carrying amount
of the asset.  Prior to the impairment  evaluation the Company  capitalized  and
reflected on its balance sheet an asset;  Purchased  Technology  associated with
our purchase of additional  shares of our Altnet  subsidiary  from Joltid.  As a
result of the independent  evaluation of these assets,  the Company  recorded an
impairment  charge of $1,484,000  during the fourth quarter of 2003. The Company
paid Joltid  $90,000 for services  provided  during the three months ended March
31, 2004, and had an outstanding trade payable to them of $19,840.

         The Company  entered into a Patent  Sublicense  Agreement with Sharman,
the distributor of the Kazaa Media Desktop file sharing software application (or
KMD). Pursuant to the Patent Sublicense Agreement, the Company granted Sharman 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 a monthly license fee.  Additionally,  in June
2003,  the Company and Altnet  entered into a Joint  Enterprise  Agreement  with
Sharman,  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 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.  As of March 31,  2004,  the  Company has an
outstanding  accounts  payable  balance  to  Sharman  of  $2,836,000,  which  is
classified on the balance sheet as Accrued Expenses Related Parties.

         The Company paid Europlay Capital Advisors,  LLC, a company  controlled
by Mark Dyne, a significant  stockholder of the Company and its former Chairman,
$243,000 in  commissions  to secure new business,  during the three months ended
March 31, 2004. As of March 31, 2004,  the Company has an  outstanding  accounts
payable  balance  to  Europlay  Capital  Advisors,  LLC of  $721,000,  which  is
classified on the balance sheet as Accrued Expenses Related Parties.

         The Company leases its U.S. offices,  under operating lease agreements,
from Toibb Enterprises  (Toibb), an entity owned by Harris Toibb, a secured debt
holder and the largest


                                       10
<PAGE>


shareholder  in the  Company.  The  Company  paid rent to Toibb of  $24,000  and
$20,000 during the three months ended March 31, 2004 and 2003, respectively.

         The Company has paid $30,950,  as reimbursement  for bandwidth and data
hosting  services  associated with content placed on our Altnet  network,  to an
entity  owned by a member  of our Board of  Directors,  during  the first  three
months of 2004.

4.       SIGNIFICANT AGREEMENTS

         SECURED CONVERTIBLE PROMISSORY NOTES At March 31, 2004, the Company was
indebted  to  its  secured  debt  holders  in the  amount  of  $4,108,000.  This
indebtedness  is convertible  by the holders into the Company's  common stock at
price  $0.1203 per share,  for a total of  31,141,103  shares of common stock at
March 31, 2004. In connection  with this  financing,  the note holders  received
warrants  to  purchase up to  44,542,718  shares of common  stock at an exercise
price of $0.1353 per share. In October 2002, in consideration of an agreement to
extend the maturity date of the secured  indebtedness  to December 31, 2003, the
Company  issued to the note  holders  warrants to purchase up to an aggregate of
25,226,028  shares of common stock at an exercise price of $0.2091 per share. In
December 2003, in  consideration  of an agreement to extend the maturity date of
the  secured  indebtedness  to March 1, 2004,  the  Company  paid the  holders a
$15,000 extension fee, and increased the principal amount of the indebtedness by
$300,000 in payment of the note holders legal fees and costs. On March 30, 2004,
in  consideration  of an agreement  to extend the  maturity  date of the secured
indebtedness to September 26, 2004, the Company agreed to the following:

         o        To  amend  the   expiration   date  of  warrants  to  purchase
                  44,542,718  shares of common  stock  held by the note  holders
                  from May 23, 2004 to October 4, 2005;

         o        To issue the note holders  additional  warrants to purchase up
                  to an aggregate of 4,018,867  shares of our common stock at an
                  exercise price of $0.15 per share; and

         o        To apply on a monthly  basis,  50% of our "Excess Cash" toward
                  repayment of the secured indebtedness,  until the indebtedness
                  is paid in full.  Excess Cash is defined to mean,  at any time
                  of  determination,  the amount which is equal to the Company's
                  consolidated revenues minus costs and expenses consisting only
                  of costs of revenues,  sales and marketing costs,  general and
                  administrative  costs, and research and development costs, all
                  of which  are  determined  monthly  in the same  manner  as is
                  reported  in  the   Company's   consolidated   statements   of
                  operations.  Non-cash  expenses are not deducted from revenues
                  in calculating Excess Cash.

See description of warrants issued under Note 5.

5.       STOCKHOLDERS' DEFICIT

         Options and  warrants  representing  common  shares of  92,144,631  and
139,367,564  were  excluded  from  the  average  number  of  common  and  common
equivalent  shares  outstanding  in the  diluted EPS  calculation  for the three
months  ended  March  31,  2003  and  2004,  respectively,   because  they  were
anti-dilutive.


                                       11
<PAGE>


         On March 30, 2004,  in  consideration  for the  agreement to extend the
maturity date of the Company's secured  convertible  promissory notes from March
1, 2004 to September 26, 2004, the Company  agreed to amend the expiration  date
of previously issued warrants to purchase 44,542,718 shares of common stock held
by the note  holders  from May 23,  2004 to October 4, 2005.  In  addition,  the
Company  issued  the note  holders  additional  warrants  to  purchase  up to an
aggregate of 4,018,867 shares of the Company's common stock at an exercise price
of $0.15 per share. The fair value of the previously issued 44,542,718  warrants
and the  4,018,867  new warrants  were  examined at the date of grant based on a
Black-Scholes pricing model with the following inputs for 2004: interest rate of
1.9%;  dividend yield of 0;  volatility  factors of the expected market price of
the Company's common stock of 135%; and the expected life of the warrants of 1.3
and 1.5 years  respectively.  The Company is reflecting the total value of these
warrants in the amount of  $3,847,000,  net of  amortization,  as Debt  Issuance
Costs on the balance  sheet.  This amount will be amortized  on a  straight-line
basis over the extension period of the secured convertible promissory notes.

6.       COMMITMENTS AND CONTINGENCIES

         The Company  continues its obligation under two facility leases.  As of
March 31, 2004, the commitments under these leases were as follows:

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

               2004                    $   69,000             $ 37,000
               2005                        92,000                4,000
               2006                        92,000                    -
               2007                        92,000                    -
            Thereafter                     77,000                    -
                               -------------------      ---------------
                                       $  422,000             $ 41,000
                               ===================      ===============

         Rent  expense was $23,000 and $37,000 for the three  months ended March
31, 2003 and 2004, respectively.

         In March  2004,  in the  Federal  Court of  Australia,  New South Wales
District  Registry,  Brilliant  Digital  Entertainment,  Inc., its  subsidiaries
Altnet  Inc.  and  Brilliant  Digital  Entertainment  Pty.  Limited,  and  Kevin
Bermeister and Anthony Rose, the Chief  Executive  Officer and Chief  Technology
Officer, respectively,  were joined as defendants in the suit by Universal Music
Australia  Pty.  Ltd.  and  other  record  labels  against   Sharman  and  other
defendants,   alleging   infringement  of  the  copyright  in  sound  recordings
controlled by the  plaintiffs.  The plaintiffs  allege that due to the Company's
business  dealings  with  Sharman,  the  Company is  integrally  involved in the
operation  of the Kazaa  Media  Desktop  and  therefore  liable for the  alleged
copyright  infringement  occasioned by its  development  and  distribution.  The
plaintiffs  are seeking  damages  under the  Australian  Copyright  Act of 1968,
recovery of costs and  interest,  and a  permanent  injunction  restraining  the
Company from making copies of,  communicating to the public, or distributing the
Plaintiff's  sound  recordings  without a license.  The Company  believes  these
allegations  are without merit,  and intends to vigorously  defend against these
claims.


                                       12
<PAGE>


7.       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 maximum
number of shares of Common Stock with respect to which  options or rights may be
granted under the 1996 Plan to any executive or other employee during any fiscal
year is one-half of the number of shares reserved for issuance under the amended
1996 Plan  Although any award that was duly granted may  thereafter be exercised
or settled in accordance with its terms, no shares of Common Stock may be issued
pursuant to any award made after September 13, 2006.  Options granted  generally
have a term of 10 years  and  usually  vest  over 4 years at the rate of 25% per
year beginning on the first day in the year subsequent to the year of the grant.

         The Company  accounts  for  employee  stock  options or similar  equity
instruments  in  accordance  with  Statement of Financial  Accounting  Standards
(SFAS) No. 123, "Accounting for Stock-Based Compensation" ("SFAS No. 123"). SFAS
No. 123 defines a  fair-value-based  method of  accounting  for  employee  stock
options or similar equity instruments. This statement gives entities a choice to
recognize related  compensation  expense by adopting the fair-value method or to
measure   compensation   using  the  intrinsic  value  method  under  Accounting
Principles  Board  (APB)  Opinion  No. 25, the  former  standard.  If the former
standard  for  measurement  is  elected,  SFAS  No.  123  requires  supplemental
disclosure to show the effect of using the new measurement criteria. The Company
uses the intrinsic value method prescribed by APB Opinion No. 25. See Note 6 for
supplemental disclosure.

         These pro forma amounts may not be representative of future disclosures
since the  estimated  fair value of the options is amortized to expense over the
options' vesting periods.  The pro forma effect on net loss for the three months
ended March 31, 2004 and 2003 is not  representative  of the pro forma effect on
net loss in future periods  because it reflects  expense for only  three-months'
vesting.   Pro  forma   information  in  future  years  will  also  reflect  the
amortization of any stock options granted in succeeding years. The Company's pro
forma information is as follows:


                                       13
<PAGE>


                                                        THREE MONTHS ENDED
                                                             MARCH 31,
                                                      2003               2004
                                                   ---------          ---------

Net loss, as reported ....................         $(897,000)         $(354,000)
Employee compensation expense ............         $ (39,000)         $ (41,000)
Net loss, pro forma ......................         $(936,000)         $(395,000)
Basic and diluted loss per share,
   as reported ...........................         $   (0.03)         $   (0.01)
Basic and diluted loss per share,
   pro forma .............................         $   (0.03)         $   (0.01)

         The fair value of the options as examined at the date of grant is based
on a  Black-Scholes  model with the following  weighted-average  assumptions for
2004 and 2003, respectively: interest rates of 4.5% and 5.5%; dividend yields of
0% for both  years;  volatility  factors  of the  expected  market  price of the
Company's common stock of 50.0% and 50.0%; and expected life of the options of 3
years for both years.  These  assumptions  resulted in a weighted  average  fair
value of $0.06 and $1.66 per share for stock  options  granted in 2004 and 2003,
respectively.

         The  Black-Scholes  model was developed for use in estimating  the fair
value of traded  options.  The  Company's  employee  stock options have not been
traded. In addition,  the assumptions used in option valuation models are highly
subjective,  particularly  the expected stock price volatility of the underlying
stock.  Because  changes in these  subjective  input  assumptions can materially
affect the fair value estimate,  in management's opinion, the existing models do
not provide a reliable  single  measure of the fair value of its employee  stock
options.

8.       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
March 31, 2004.

         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


                                       14
<PAGE>


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 March 31, 2004.


                                       15
<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, 2003 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 THREE MONTHS ENDED MARCH 31, 2004 AND
MARCH 31, 2003. 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, through our
Altnet, Inc.  subsidiary,  operates a  peer-to-peer-based  content  distribution
network that allows us to securely and efficiently  distribute a content owner's
music,  video,  software  and  other  digital  files to  computer  users via the
Internet.  Using internally developed and licensed  technology,  we have created
technologies including a private, or "closed" peer-to-peer network, which allows
us to distribute a digital file, with  authorization  from the copyright  owner,
directly from one computer user (peer) to another (peer).  Our ability to manage
files  distributed  over  our  private  network,  as well  as our use of  widely
available  digital  rights  management  (or  DRM)  technologies  from  Microsoft
Corporation,   TryMedia  Systems,   Softwrap  Limited  and  others  prevent  the
distribution of unauthorized  files over our network and help to protect against
the  unauthorized  use of a  digital  file  once  it  resides  on an end  user's
computer.  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 over the Altnet network.
We also operate a payment  processing  "gateway" that enables  computer users to
purchase content distributed by Altnet.

         We own 75.5% of the outstanding  capital stock of Altnet and manage all
of its day-to-day operations,  and the remaining 24.5% is owned by Joltid, Ltd.,
the company from whom we license a substantial portion of Altnet's  peer-to-peer
technology.  We have an option,  which expires in May 2005, to purchase Joltid's
remaining  1,102,500  shares of Altnet  common stock in exchange  for  7,000,000
shares of Brilliant's common stock.

         Our revenues are derived principally from marketing services, licensing
and  other  services,  and the  processing,  distribution  and  sale of  digital
content.


                                       16
<PAGE>


         Marketing   services   revenues   are  derived  from  paid  search  and
advertising services.  Under the terms of our agreement with The Excite Network,
Inc., we are paid a non-refundable bounty for the installation of each Excite My
Search toolbar bundled for  distribution  with our Altnet Loyalty Points Manager
on an English  speaking  user's  computer,  and we are paid a percentage  of the
gross  profit  earned as a result of clicks on paid  search  results  by any end
users of these toolbars.  We derive advertising  revenue by selling  advertising
inventory on behalf of Sharman in exchange for a percentage  of revenue  Sharman
receives from its advertising  clients.  Sharman's  clients pay a fee based on a
cost per thousand impressions (CPM) or specified conversions delivered (CPA).

         Licensing and other  services  revenues are derived from our sublicense
of rights to the TruNames patent,  business  development  services,  and payment
processing  services.  Under the terms of our patent  sublicense  agreement with
Sharman,  we  recognize  sublicense  payments  as revenue on a monthly  basis as
earned. We generate fee income for performing business  development services for
Sharman in accordance  with an agreement.  We negotiate  with third parties that
desire to enter into a business  transaction  with Sharman relating to the Kazaa
Media  Desktop (or KMD)  software  application.  We receive a percentage  of the
gross revenue received by Sharman for each transaction entered into based on our
efforts.  We also  generate  fees from  processing  payments for the purchase of
digital content using the Altnet payment processing gateway.

         Digital  content  revenues are derived from  processing  digital  media
content  (music,  PC  games,  software,  movies)  for  placement  on our  Altnet
peer-to-peer network, and by promoting, distributing, and selling the content to
end users of the network.  We charge clients a processing fee to prepare content
for  distribution  on the  network.  The amount of this fee varies  based on the
number  of  files,  the  size of the  files,  digital  encoding  costs,  and the
preparation  of  collateral  marketing  materials,  such as  artwork.  We charge
clients for content  promotions  on a cost per  specified  number of  downloaded
files. A customer typically  pre-purchases an agreed number of downloaded files.
The amounts charged vary based on volume and the complexity of the campaign.  We
charge  clients for  content  sales  based on a revenue  sharing  basis where we
receive an agreed upon percentage of the sales price for each transaction, and a
combination  of  revenue  share and a cost per  specified  number of  downloaded
files.

SIGNIFICANT CHALLENGES AND RISKS

         Altnet is a new business that we are pursuing  based upon our perceived
market opportunity;  yet its business model is unproven. There are no guarantees
that the model will be successful,  however,  we have made significant  progress
towards our goal of proving the  viability  of the  business  model.  Our future
success  will  depend on our  ability  to  overcome  the  following  operational
challenges:

         o        Our ability to acquire  in-demand content from independent and
                  major musical recording and filmed entertainment  companies as
                  well as video game and software application publishers;

         o        Our  ability  to  diversify   our  reliance   upon  one  large
                  distribution partner, Sharman;


                                       17
<PAGE>


         o        Our ability to increase  revenue from our core  business - the
                  distribution and sale of content over the Altnet network;

         o        Our  ability to raise the  funding  necessary  to support  the
                  sales,  marketing,  and research and development  necessary to
                  grow the Altnet business;

         o        Our ability to license our technologies and patents to various
                  parties; and

         o        Our  ability  to  either  pay  or   restructure   our  secured
                  convertible promissory notes and unsecured trade payables.

         We intend to continue to aggressively  pursue content  acquisition with
both  the  major  and  smaller   independent   musical   recording   and  filmed
entertainment  companies  in order to address our content  needs and to increase
revenue from the  distribution  of content.  To date, our efforts in this regard
have been  hampered  by the  litigation  surrounding  our  largest  distribution
partner,  Sharman,  over the legality of the KMD.  Despite our efforts,  we have
been unable to obtain  download  licenses for music files from the major musical
recording  companies,  even though these companies have granted  licenses to our
competitors.  Several of these  musical  recording  companies  have sued us, our
subsidiaries Altnet, Inc. and Brilliant Digital  Entertainment Pty. Limited, and
Kevin  Bermeister  and  Anthony  Rose,  our Chief  Executive  Officer  and Chief
Technology Officer, in the Federal Court of Australia for activities relating to
our business  dealings with Sharman.  There can be no assurance  that we will be
granted such licenses at any time in the future.

         In order to reduce our reliance on a single large distribution partner,
we will continue to pursue other distribution outlets for our products including
peer-to-peer  application providers seeking to commercialize their applications,
web  sites  with  traffic  seeking  an easy way to manage  content  provisioning
solutions,  content  oriented web sites with  targeted  traffic  seeking to sell
content,  and mobile and wireless  companies  seeking to provide  customers with
content via wireless devices.

         We intend to  continue  our pursuit of  additional  capital to fund our
expansion  efforts and to pay both our secured debt holders and unsecured  trade
creditors.  At March 31, 2004,  we were  indebted to our secured note holders in
the amount of $4,108,000,  and our trade payables,  including  related  parties,
were  $5,240,000.  We are also  working  with both our secured  debt holders and
certain of our unsecured trade  creditors to restructure  amounts owed them into
long-term arrangements.  There can be no assurance that we will be successful in
raising additional capital to pay these obligations,  or in restructuring  these
obligations to avoid a payment default.

         The accompanying  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 amount of assets and liabilities  presented in the financial statements
do not purport to represent  realizable or settlement  values.  We have suffered
recurring  operating  losses and at March 31, 2004, had negative working capital
of  approximately  $2,162,000 and a stockholder's  deficit of  approximately  of
$1,072,000.  These factors raise substantial doubt about our ability to continue
as a going  concern.  We  anticipate  that our current cash  reserves,  plus our
expected  generation  of cash  from  existing  operations  in  2004,  may not be
sufficient to fund our anticipated  expenditures.  Consequently,  we may require


                                       18
<PAGE>


additional  equity or debt financing during 2004, the amount and timing of which
will depend in large part on our spending program. The report of our Independent
Certified  Public  Accountants  for the December 31, 2003  financial  statements
included an explanatory paragraph expressing substantial doubt about our ability
to continue as a going concern.

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  values 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.

         Our  critical  accounting  policies  are  described  in  Note  2 to the
consolidated  financial  statements  included in Item 2 of this Form 10-QSB.  We
believe our most critical accounting policies include revenue  recognition,  the
corresponding  accounts  receivable and long-lived asset impairment.  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.  104 (SAB  104) and  AICPA
Statement  of Position  97-2 (SOP 97-2),  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 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.

         Long-lived  assets and intangible  assets with  determinable  lives are
reviewed for impairment  quarterly or whenever events or circumstances  indicate
that the carrying  amounts of assets may not be recoverable  in accordance  with
SFAS No. 144,  "Accounting for the Impairment or Disposal of Long Lived Assets".
We  evaluate  recoverability  of  assets  to be held and used by  comparing  the
carrying amount of an asset to future net undiscounted cash flows to


                                       19
<PAGE>


be generated by the asset.  If such assets are  considered  to be impaired,  the
impairment  to be  recognized  is measured  as the amount by which the  carrying
amount of the assets  exceeds the fair value of the assets.  Such reviews assess
the fair value of the assets  based upon our  estimates of the future cash flows
we expected  the assets to  generate.  In  response  to changes in industry  and
market conditions,  we may be required to strategically realign our resources in
the future, which could result in an impairment of long lived assets.

RESULTS OF OPERATIONS

         REVENUES.  Revenues  increased  328% from $586,000 for the three months
ended March 31, 2003 to $ 2,507,000  for the three  months ended March 31, 2004.
Revenues by groups of similar service were as follows:

          REVENUES                     2003            2004         NET CHANGE
------------------------------      ----------      ----------      ----------
Marketing services ...........      $     --        $1,840,000             100%
Licensing and other services .         186,000         543,000             192%
Distribution and technology ..         229,000            --              (100%)
revenue from related party
Digital content ..............         171,000         124,000             (27%)
                                    ----------      ----------      ----------
Total Revenue ................      $  586,000      $2,507,000             328%
                                    ==========      ==========      ==========

         Marketing services revenue increased to $1,840,000 for the three months
ended March 31, 2004, primarily as a result of revenue earned from our agreement
with The Excite  Network,  Inc. which was entered into in April 2003.  Licensing
and other  services  revenues  increased  to $543,000 for the three months ended
March 31, 2004 from  $186,000 for the three months ended March 31, 2003,  due to
increased patent sublicense  revenue and payment  processing  revenues.  Digital
content  revenue  decreased  from  $171,000 for the three months ended March 31,
2003, to $124,000 for the three months ended 2004 as a result of the decrease in
the sale of digital  content,  primarily PC games,  over  Altnet's  peer-to-peer
network.  Distribution and technology  revenue from a related party was $229,000
during the three  months ended March 31,  2003,  relating to our  contract  with
e-New Media  Company.  We  recognized  none of these  revenues  during the three
months ended March 31, 2004,  as we fulfilled all of our  obligations  under our
contract with e-New Media Company during 2003.

         COST OF REVENUES. Cost of revenues increased from $34,000 for the three
months  ended March 31, 2003 to $324,000  for the three  months  ended March 31,
2004.  This  increase of $290,000 is related to  increased  bandwidth  costs for
increased distribution of digital files over the Altnet network, increased costs
associated  with the  operation  of our payment  gateway  services,  and royalty
payments for licensed technology.

         SALES AND  MARKETING.  Sales and marketing  expenses  increased by 325%
from $89,000 for the three months ended March 31, 2003 to $378,000 for the three
months  ended March 31,  2004.  The  increase of $289,000 in 2004 was  primarily
attributable  to  increases  of $200,000 in  commissions  paid for  securing new
business and $80,000 to support our marketing efforts for the Altnet network.


                                       20
<PAGE>


         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 $913,000, or 133%, from
$686,000 for the three months ended March 31, 2003 to $ 1,599,000  for the three
months  ended  March 31,  2004.  This  increase  is  attributable  to a $360,000
increase in salaries and benefits,  related to personnel  additions  made in mid
2003,  a $250,000  increase  in legal  expenses,  a $70,000  increase  in public
relations  costs,  a $90,000  increase in non-cash  warrant  expense,  a $50,000
increase in consulting services and a $30,000 increase in travel expenses.

         RESEARCH AND  DEVELOPMENT.  Research and development  expenses  include
salaries and benefits of personnel  conducting research and development relating
to our Internet web site, payment gateway and related information database,  and
the development of the Altnet Peer Points Manager  software  application.  These
costs  decreased  from  $209,000  for the three  months  ended March 31, 2003 to
$118,000 for the three months ended March 31, 2004,  as most of the  development
costs  incurred for the  development  of our Peer Points program and our payment
gateway, were incurred in 2003.

         DEPRECIATION.  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.  Depreciation
expense  was $19,000  for the three  months  ended March 31, 2003 as compared to
$13,000 for the three  months ended March 31, 2004,  as the  depreciable  assets
have not materially changed.

         OTHER INCOME AND EXPENSE.  Other income and expense primarily  includes
interest expense. Other income and expense decreased slightly from an expense of
$446,000  for the three  months  ended March 31, 2003 to expense of $429,000 for
the three  months  ended  March 31,  2004.  Interest  expense  is accrued on the
outstanding  convertible  promissory notes and includes $335,000 of fees paid to
convertible  note holders,  in  conjunction  with their  agreement to extend the
maturity  date of the secured  indebtedness,  from December 31, 2003 to March 1,
2004.

LIQUIDITY AND CAPITAL RESOURCES

         As  of  March  31,  2004,  our  cash  and  cash   equivalents   totaled
approximately  $572,000.  This is a decrease of $321,000 as compared to December
31, 2003. As of March 31, 2004 we had a working  capital  deficit of $2,162,000.
Included in this working capital deficit are accounts payable,  accrued expenses
and accrued  expenses to related  parties of  $2,877,000  which are over 90 days
past due.

         We currently satisfy our working capital requirements primarily through
cash flows  generated  from  operations and sales of equity  securities.  We are
seeking  additional  funding and believe that,  if we are  successful in raising
additional capital, this may result in improved operating results.  There can be
no assurance,  however,  that with any additional  financing,  higher cash flows
will be generated by operations.


                                       21
<PAGE>


CASH FLOWS

         Cash flows from operating,  financing and investing  activities for the
three  months  ended March 31,  2004 and 2003 are  summarized  in the  following
table:

               ACTIVITY:                                2003               2004
------------------------------------------             -----              -----
Continuing Operations ....................             $ (80)             $(305)
Investing ................................              --                  (16)
Financing ................................               (75)              --

         During the three months ended March 31, 2004,  we had a net decrease in
cash of $321,000.  The net cash used in operating  activities of $305,000 during
the three  months ended March 31, 2004 was  primarily  the net result of the net
loss of $354,000,  the increase in accounts  receivable  of $358,000,  a $90,000
decrease  in  guaranteed  minimum  payments  and a $29,000  decrease in deferred
revenues. These amounts were offset by the decrease in other assets of $153,000,
and a decrease in notes receivable of $52,000.

         At March 31, 2004, 97% of the accounts  receivable was outstanding from
a single  customer.  Cash necessary to fund operations and for other purposes is
heavily  dependent on the receipts  from this  customer.  If this  customer were
unable to honor its accounts  receivable,  the cash required to fund  operations
and other purposes would not be available and our financial  condition  would be
materially adversely affected.

         We expect a  significant  use of cash  during  2004  fiscal  year as we
continue to develop the business  opportunity for Altnet,  Inc. We are currently
generating  sufficient  cash  flow  on a  monthly  basis  to  meet  our  monthly
obligations;  however,  we are not  generating  sufficient  cash flow to pay our
existing current liabilities and secured debt which is due in September 2004. We
are working with our secured debt holders and unsecured creditors to restructure
our obligations, however there can be no guarantee that we will be successful in
our efforts.  Consequently,  we may require  additional equity or debt financing
during  2004,  the amount  and timing of which will  depend in large part on our
spending program and our success in  restructuring  our secured debt and current
liabilities.  Our previous  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  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 pay our
secured  debt  holders  as their  debt  matures  or trade  creditors  under  our
contractual terms with them, 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.

         In March  2004,  in the  Federal  Court of  Australia,  New South Wales
District  Registry,  Brilliant  Digital  Entertainment,  Inc., our  subsidiaries
Altnet,  Inc.  and  Brilliant  Digital  Entertainment  Pty.  Limited,  and Kevin
Bermeister and Anthony Rose, our Chief Executive


                                       22
<PAGE>


Officer and Chief Technology Officer, respectively, were joined as defendants in
the suit by Universal  Music Australia Pty. Ltd. and other record labels against
Sharman and other  defendants,  alleging  infringement of the copyright in sound
recordings  controlled by the plaintiffs.  The plaintiffs allege that due to our
business dealings with Sharman,  we are integrally  involved in the operation of
the  Kazaa  Media  Desktop  and  therefore  liable  for  the  alleged  copyright
infringement  occasioned by its development and  distribution.  While we believe
these  claims  are  without  merit,  if we are  unable  to  have  these  charges
dismissed,  defending  against  these claims,  and  defending  against any other
actions  brought by these or similarly  situated  plaintiffs in  Australia,  the
United States or other  jurisdictions,  could require a significant  use of cash
during 2004 and beyond. If the legal expenses and other costs of defense are not
covered for by our insurance policies or reimbursed by third parties pursuant to
indemnification  agreements,  the  cash  required  to pay for  these  costs  and
expenses would not be available for other purposes and our results of operations
and financial condition would be materially adversely affected.

CONTRACTUAL OBLIGATIONS

         The following summarizes our contractual  obligations at March 31, 2004
and the effects such obligations are expected to have on liquidity and cash flow
in future periods:

<TABLE>
<CAPTION>
                                               Payments Due by Period
                           --------------------------------------------------------------
                                         Less than       1-3          4-5        After
Contractual Obligations       Total       1 Year        Years        Years      5 Years
-------------------------  ----------   ----------   ----------   ----------   ----------
<S>                        <C>          <C>          <C>          <C>          <C>
Secured convertible
   promissory notes ....   $4,108,000   $4,108,000   $     --     $     --     $     --
Minimum royalty payments   $  810,000   $  360,000   $  450,000   $     --     $     --
Operating lease
   commitments .........   $  463,000   $  106,000   $  188,000   $  169,000   $     --
                           ----------   ----------   ----------   ----------   ----------
Total ..................   $5,381,000   $4,574,000   $  638,000   $  169,000   $     --
                           ==========   ==========   ==========   ==========   ==========
</TABLE>

         At March 31, 2004,  we were indebted to our secured note holders in the
amount of $4,108,000.  This  indebtedness is convertible by the holders into our
common stock at price $0.1203 per share, for a total of 31,141,103 shares of our
common stock at March 31, 2004.  In  connection  with this  financing,  the note
holders  received  warrants to purchase  up to  44,542,718  shares of our common
stock  at  an  exercise  price  of  $0.1353  per  share.  In  October  2002,  in
consideration  of an  agreement  to  extend  the  maturity  date of the  secured
indebtedness  to December  31, 2003,  we issued to the note holders  warrants to
purchase  up to an  aggregate  of  25,226,028  shares of our common  stock at an
exercise price of $0.2091 per share.  In December 2003, in  consideration  of an
agreement to extend the maturity  date of the secured  indebtedness  to March 1,
2004, we paid the holders a $15,000  extension  fee, and increased the principal
amount of the indebtedness by $300,000 in payment of the note holders legal fees
and costs.  Finally,  in March 2004, in  consideration of an agreement to extend
the maturity date of the secured  indebtedness  to September 26, 2004, we agreed
to the following:

         o        To  amend  the   expiration   date  of  warrants  to  purchase
                  44,542,718  shares of common  stock  held by the note  holders
                  from May 23, 2004 to October 4, 2005;


                                       23
<PAGE>


         o        To issue the note holders  additional  warrants to purchase up
                  to an aggregate of 4,018,867  shares of our common stock at an
                  exercise price of $0.15 per share;

         o        To reimburse note holders for $20,000 in legal fees; and

         o        To apply on a monthly  basis,  50% of our "Excess Cash" toward
                  repayment of the secured indebtedness,  until the indebtedness
                  is paid in full.  Excess Cash is defined to mean,  at any time
                  of   determination,   the   amount   which  is  equal  to  our
                  consolidated revenues minus costs and expenses consisting only
                  of costs of revenues,  sales and marketing costs,  general and
                  administrative  costs, and research and development costs, all
                  of which  are  determined  monthly  in the same  manner  as is
                  reported  in  our   consolidated   statements  of  operations.
                  Non-cash   expenses   are  not  deducted   from   revenues  in
                  calculating Excess Cash.

OFF-BALANCE SHEET ARRANGEMENTS

         At March 31,  2004 and  2003,  we did not have any  relationships  with
unconsolidated  entities  or  financial  partnerships,  such as  entities  often
referred to as structured finance or special purpose entities,  which would have
been established for the purpose of facilitating  off-balance sheet arrangements
or other contractually  narrow or limited purposes.  As such, we are not exposed
to any  financing,  liquidity,  market or credit risk that could arise if we had
engaged in such relationships.

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 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.

         RISKS RELATED TO AN INVESTMENT IN OUR COMMON STOCK

         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 March 31, 2004, our cash balance was approximately
$572,000 and we had a working  capital deficit of $2,162,000.  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.


                                       24
<PAGE>


         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 $353,000 for the three months ended March 31, 2004. Since inception,  we
have incurred  significant  losses and negative  cash flow,  and as of March 31,
2004 we had an accumulated  deficit of $70.8 million. 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
significantly exceed our current assets.

         In fiscal 2002, we all but eliminated 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.  Our business model assumes that our growth
and  substantially  all 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.

         WE HAVE A  SUBSTANTIAL  NUMBER  OF  OUTSTANDING  DERIVATIVE  SECURITIES
WHICH,  IF EXERCISED OR CONVERTED INTO COMMON STOCK,  WILL RESULT IN SUBSTANTIAL
DILUTION TO OUR  STOCKHOLDERS.  During 2001, we raised $3.0 million  through the
sale of convertible  promissory  notes and common stock purchase  warrants.  The
holders may convert the  promissory  notes,  which now mature on  September  26,
2004,  and accrued  interest,  at any time into shares of our common  stock at a
price of $0.1203 per share. The warrants issued with the promissory notes and as
consideration for several  extensions of their maturity date entitle the holders
to purchase up to an  aggregate of  73,787,612  shares of our Common Stock at an
exercise  price of  $0.1353375  per share on 44,542,718  shares,  at an exercise
price of $0.2091 on  25,226,028  shares,  and at an exercise  price of $0.15 per
share on 4,018,867  shares,  all which  warrants  expire on October 4, 2005. The
conversion  of the  promissory  notes and the  exercise  of the  warrants  would
increase  the number of shares  outstanding  and result in dilution to our other
stockholders.

         The conversion  price of the secured  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 will be adjusted downward to
equal the price at which we sold the  additional  securities,  and the  exercise
price will be adjusted downward to equal 112.5% of that price. As a consequence,
if we trigger the adjustment  provision for the secured  promissory  notes,  the
holders of the convertible 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


                                       25
<PAGE>


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 those  warrants whose exercise price is subject to adjustment if
we issue  additional  securities at a price below the then  applicable  exercise
price,  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 on September 26, 2004,
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 $0.10 on May 3, 2004, and on assumed closing share
prices of $0.075,  $0.05 and $0.025,  which prices  represent a 25%, 50% and 75%
decline, respectively, in our May 3, 2004 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
42,857,153 shares of our common stock outstanding on May 3, 2004.

Percentage Decline in                          Shares of          Percentage of
     May 3, 2004            Assumed             Common             Outstanding
    Closing Price        Closing Price          Stock             Common Stock
---------------------    -------------       -----------          -------------
         --              $    0.10            93,308,249             68.5%
           25%           $    0.075          124,410,999             74.4%
           50%           $    0.05           186,616,498             81.3%
           75%           $    0.025          373,232,996             89.7%

         Additionally, in consideration of the extension of the maturity date of
our secured  convertible  promissory notes, during the first quarter of 2004, we
issued  warrants to  purchase  4,018,867  shares of common  stock at an exercise
price of $0.15 per  share,  and  amended  the  expiration  date of  warrants  to
purchase 44,542,718 shares of common stock from May 23, 2004 to October 4, 2005.
We  anticipate  that  during  the  remainder  of  2004,  we will  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.  Additionally,  any further  extensions of the
maturity  date of our  convertible  promissory  notes will likely  require us to
issue a substantial number of additional warrants to the note holders.

         The following table illustrates as of May 3, 2004, the number of shares
issued and outstanding as, as well as the number of shares that may be issued in
the future upon conversion of outstanding secured  convertible  promissory notes
and exercise of outstanding options and warrants:


                                       26
<PAGE>

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

Outstanding Common Stock ...................       42,857,153           40.9%
Secured Convertible Promissory Notes,
 with accrued interest .....................       31,744,445           30.3%
Outstanding Warrants(1) ....................        4,752,000            4.5%
Outstanding Options ........................       25,377,418           24.3%
                                                  -----------        --------
  Fully Diluted Shares of Common Stock(2) ..      104,731,016          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 Over the Counter
         Bulletin Board on May 3, 2004, which was $0.10.
2.       This number  excludes (i) 3,433,875  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 May 3, 2004,  and (ii)
         119,632,664  shares  underlying  warrants  that  have  exercise  prices
         ranging from $0.11 to $0.6096 per share, and thus not "in-the-money."

         The following table illustrates as of May 3, 2004, the number of shares
issued and  outstanding,  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:

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

Outstanding Common Stock ............             42,857,153           19.1%
Secured Convertible
  Promissory Notes,
  with accrued interest .............             31,744,445           14.1%
Outstanding Warrants ................            124,384,664           55.4%
Outstanding Options .................             25,377,418           11.4%
                                                 -----------        --------
  Fully Diluted Shares
     of Common Stock ................            224,363,680          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,  with
aggregate  principal  and accrued  interest and fees of  $4,108,000 at March 31,
2004.  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  September  2004,  we  likely  will not have  sufficient  funds to repay  the
indebtedness, which will entitle the holders of


                                       27
<PAGE>


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.

         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 Over the  Counter  Bulletin  Board  (OTCBB),  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  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, and

         o        our  ability  to operate  and  expand our Altnet  peer-to-peer
                  business.


                                       28
<PAGE>


         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 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


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<PAGE>


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  COULD
ADVERSELY AFFECT  OPERATING  RESULTS.  We receive  compensation as the exclusive
representative  of  Sharman  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.  Additionally,  through our
business  development  arrangement with Sharman, we receive compensation for the
sale of advertising  campaigns and other revenue  received by Sharman,  which is
generated as a result of our efforts. We also receive a monthly license fee from
Sharman  in  connection  with its  license  from us of rights  to the  TrueNames
patent.  If we do not maintain our strategic  relationship  with Sharman,  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' KMD.
We rely on computer  users' demand for the KMD 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, Altnet
distributes and sell digital files to users of the KMD. Our business, results of
operations and financial condition could be materially  adversely affected if we
do not maintain our distribution  relationship  with Sharman 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 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 KMD 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
KMD, and (3) Altnet's sale of authorized  digital files to users of the KMD. For
the three months ended March 31, 2004,  we generated  approximately  100% of our
total revenues from


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<PAGE>


activities  dependent upon the  availability  of the KMD to computer  users.  If
there is a disruption in the distribution of the KMD or its use by consumers, we
may not be able to replace this source of revenue in the short term,  or at all.
Sharman,  the KMD, and other peer-to-peer  software products,  currently are the
subject of multiple lawsuits,  including  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 KMD facilitates, contributes to
and encourages copyright  infringement.  To the extent that Sharman is precluded
from  distributing  the KMD as a result of this  litigation,  our  business  and
financial  condition  could  be  materially  and  adversely  affected.  While we
understand  that Sharman is  vigorously  defending  against the claims raised in
this  litigation,  we are unable to determine at this time whether  Sharman will
prevail.

         WE HAVE  BEEN  SUED IN  AUSTRALIAN  FEDERAL  COURT AS A  RESULT  OF OUR
BUSINESS  DEALINGS  WITH  SHARMAN.  In  March  2004,  in the  Federal  Court  of
Australia,  New South Wales District Registry,  Brilliant Digital Entertainment,
Inc., our  subsidiaries  Altnet Inc. and Brilliant  Digital  Entertainment  Pty.
Limited,  and Kevin Bermeister and Anthony Rose, our Chief Executive Officer and
Chief Technology Officer, respectively, were joined as defendants in the suit by
Universal  Music Australia Pty. Ltd. and other record labels against Sharman and
other  defendants,  alleging  infringement of the copyright in sound  recordings
controlled by the  plaintiffs.  The  plaintiffs  allege that due to our business
dealings with Sharman,  we are  integrally  involved in the operation of the KMD
and therefore liable for the alleged  copyright  infringement  occasioned by its
development  and  distribution.  The  plaintiffs  are seeking  damages under the
Australian  Copyright  Act of  1968,  recovery  of  costs  and  interest,  and a
permanent injunction  restraining us from making copies of, communicating to the
public,  or  distributing  their sound  recordings  without a license.  While we
believe these claims are without  merit,  if we are unable to have these charges
dismissed,  defending  against  these  claims  would be  costly,  and an adverse
outcome may result in significant  monetary damages or injunctive relief against
us, all of which would have a material adverse impact on our financial  position
and results of operations.

         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
Altnet  software,  does 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.

         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


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<PAGE>


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.

ITEM 3.  CONTROLS AND PROCEDURES.

         As of March 31, 2004, 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 Exchange Act Rule 13a-14.  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 1.  LEGAL PROCEEDINGS

         In March  2004,  in the  Federal  Court of  Australia,  New South Wales
District  Registry,  Brilliant  Digital  Entertainment,  Inc., our  subsidiaries
Altnet,  Inc.  and  Brilliant  Digital  Entertainment  Pty.  Limited,  and Kevin
Bermeister and Anthony Rose, our Chief  Executive  Officer and Chief  Technology
Officer, respectively,  were joined as defendants in the suit by Universal Music
Australia  Pty.  Ltd.  and  other  record  labels  against   Sharman  and  other
defendants,   alleging   infringement  of  the  copyright  in  sound  recordings
controlled by the  plaintiffs.  The  plaintiffs  allege that due to our business
dealings with Sharman,  we are integrally involved in the operation of the Kazaa
Media  Desktop  and  therefore  liable for the  alleged  copyright  infringement
occasioned by its  development  and  distribution.  The  plaintiffs  are seeking
damages  under  the  Australian  Copyright  Act of 1968,  recovery  of costs and
interest,  and a permanent  injunction  restraining  us from  making  copies of,
communicating to the public,  or distributing  their sound recordings  without a
license.  We  believe  these  allegations  are  without  merit,  and  intend  to
vigorously defend against these claims.

ITEM 2.  CHANGES IN SECURITIES  AND SMALL  BUSINESS  ISSUER  PURCHASES OF EQUITY
         SECURITIES

         In March 2004, in  consideration of an agreement to extend the maturity
date of our secured  convertible  promissory notes to September 26, 2004, we (i)
amended the expiration date of warrants to purchase  44,542,718 shares of common
stock held by the note  holders  from May 23, 2004 to October 4, 2005,  and (ii)
issued the note  holders  additional  warrants to purchase up to an aggregate of
4,018,867 shares of common stock at an exercise price of $0.15 per share,  which
additional  warrants  expire on October 4, 2005.  Each of the  investors  in the
transaction  represented  to us that the investor was an  "accredited  investor"
within the meaning of Rule 501 of Regulation D under the Securities Act of 1933,
and that such investor 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 3.  DEFAULTS UPON SENIOR SECURITIES

         On March 1,  2004,  we  failed  to pay  $4,082,832  of the  outstanding
principal  amount,  accrued  interest,  fees and  costs  that  were then due and
payable to our secured  convertible  note holders pursuant to our senior secured
convertible  promissory  notes.  On March 30, 2004, we entered into an agreement
with the note holders to extend the maturity date of the secured indebtedness to
September  26, 2004. No amount is due the secured note holders as of the date of
this report.


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<PAGE>


ITEM 6.  EXHIBITS AND REPORTS ON FORM 8-K

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

         10.1     Letter  Agreement  Regarding  Extension of Maturity Date dated
                  March 30, 2004 by and among the  Registrant and the holders of
                  Secured  Convertible  Promissory  Note of the  Registrant  set
                  forth on Schedule 1 thereto.

         10.2     Form of Amendment  Number Four to Convertible  Promissory Note
                  dated March 30, 2004 between the  Registrant and the holder to
                  be set forth therein.

         10.3     Form  of  Amendment   Number  Three  to  Secured   Convertible
                  Promissory  Note dated March 30, 2004  between the  Registrant
                  and the holder to be set forth therein.

         10.4     Form of Amendment  No. 2 to Warrant to Purchase  Common Stock,
                  dated March 30, 2004, by and between Registrant and the holder
                  to be set forth therein.

         10.5     Form of Amendment  No. 1 to Warrant to Purchase  Common Stock,
                  dated March 30, 2004, by and between Registrant and the holder
                  to be set forth therein.

         10.6     Form of Warrant,  dated March 30, 2004,  issued in  connection
                  with  extension  of  maturity  date  of  Secured   Convertible
                  Promissory Notes.

         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 5 and 7, filed on January
         9, 2004.

         Current Report on Form 8-K,  reporting Items 5 and 7, filed on February
         17, 2004.

         Current Report on Form 8-K, reporting Items 5 and 7, filed on March 24,
         2004.


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<PAGE>


                                   SIGNATURES

         In accordance  with the  requirements  of the Exchange Act of 1934, the
Registrant  caused  this  report to be signed on its behalf by the  undersigned,
thereunto duly authorized.

                                     BRILLIANT DIGITAL ENTERTAINMENT, INC.


Date: May 14, 2004                     /S/ TYLER TARR
                                     -------------------------------------------
                                     By:    Tyler Tarr
                                     Its:   Chief Financial Officer
                                            (Principal Financial and
                                            Accounting Officer)


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