SECURITIES AND EXCHANGE COMMISSION


Washington, DC 20549







FORM 10-Q





[X]           QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934





For the quarterly period ended December 31, 2010


or





[   ]           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 0-26395





SALON MEDIA GROUP, INC.


(Exact name of Registrant as specified in its charter)





Delaware
94-3228750(State or other jurisdiction of
(IRS Employerincorporation or organization)
Identification Number)





101 Spear Street, Suite 203


San Francisco, CA 94105


(Address of principal executive offices)





(415) 645-9200


(Registrant's telephone number, including area code)




Securities registered pursuant to Section 12(b) of the Act:


None




Securities registered pursuant to Section 12(g) of the Act:


Common Stock, $0.001 Par Value


(Title of Class)





Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Sections 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 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 [  ]




Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  [  ]  No  [X]




Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.




Large accelerated filer o   Accelerated filer oNon-accelerated filer oSmaller reporting company þ




Indicate by check mark whether the Registrant is a shell company as defined by Rule 12b-2 of the act.


Yes [ ]  No [X]




The number of outstanding shares of the Registrant's Common Stock, par value $0.001 per share, on February 11, 2011 was 3,282,576 shares.
















FORM 10-Q


SALON MEDIA GROUP, INC.


INDEX








PagePART I
FINANCIAL INFORMATION
NumberPART I
FINANCIAL INFORMATIONITEM 1:
Condensed Consolidated Financial StatementsCondensed Consolidated Balance Sheets as of December 31, 2010 (unaudited) and March 31, 2010
3Condensed Consolidated Statements of Operations for the three months and nine months ended December 31, 2010 and 2009 (unaudited)
4Condensed Consolidated Statements of Cash Flows for the nine months ended December 31, 2010 and 2009 (unaudited)
5Notes to Condensed Consolidated Financial Statements (unaudited)
6ITEM 2:
Management’s Discussion and Analysis of Financial Condition and Results of Operations
16ITEM 3:
Quantitative and Qualitative Disclosures About Market Risk
21ITEM 4:
Controls and Procedures
22PART II
OTHER INFORMATIONITEM 1:
Legal Proceedings
23ITEM 1A:
Risk Factors
23ITEM 2.
Unregistered Sales of Equity Securities and Use of Proceeds
33ITEM 3.
Defaults upon Senior Securities
33ITEM 4.
Submission of Matters to a Vote of Security Holders
33ITEM 5.
Other Information
33ITEM 6:
Exhibits
33Signatures
34




2





PART I:  FINANCIAL INFORMATION


ITEM 1.  CONDENSED CONSOLIDATED FINANCIAL STATEMENTS





SALON MEDIA GROUP, INC.CONDENSED CONSOLIDATED BALANCE SHEETS(in thousands, except share and par value amounts)December 31,


March 31,2010


2010Assets

(Unaudited)Current assets:Cash and cash equivalents

$
469


$
216Accounts receivable, net


799



706Prepaid expenses and other current assets


33



58Total current assets


1,301



980Property and equipment, net


159



299Goodwill


200



200Other assets


149



148Total assets

$
1,809


$
1,627Liabilities and Stockholders' DeficitCurrent liabilities:Short-term borrowings

$
1,000


$
1,000Related party advances


4,805



2,800Accounts payable and accrued liabilities


1,060



1,253Deferred revenues


242



338Total current liabilities


7,107



5,391Convertible notes payable


2,889



2,687Deferred rent


355



385Capital leases, less current portion


-



4Total liabilities


10,351



8,467Stockholders’ deficit:Preferred stock, $0.001 par value, 5,000,000 sharesauthorized, 9,404 shares issued and outstandingat December 31, 2010 and 9,467 shares issuedand outstanding at March 31, 2010(liquidation value of $25,162 at December 31, 2010)


-



-Common stock, $0.001 par value, 30,000,000 sharesauthorized, 3,282,576 shares issued and outstandingat December 31, 2010 and 2,437,956 shares issued andoutstanding at March 31, 2010


3



2Additional paid-in capital


99,366



99,005Accumulated deficit


(107,911
)


(105,847
)Total stockholders' deficit


(8,542
)


(6,840
)Total liabilities and stockholders' deficit

$
1,809


$
1,627The accompanying notes are an integral part of these condensed consolidated financial statements.





3





SALON MEDIA GROUP, INC.CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS(in thousands, except per share data)(unaudited)  Three Months Ended


Nine Months EndedDecember 31,


December 31,2010


2009


2010


2009Net revenues

$
962


$
1,413


$
3,483


$
3,427Operating expenses:Production and content


756



883



2,432



2,963Sales and marketing


344



1,537



1,190



2,349Information technology support


212



217



704



631General and administrative


308



416



1,029



1,337Total operating expenses


1,620



3,053



5,355



7,280Loss from operations


(658
)


(1,640
)


(1,872
)


(3,853
)Interest  expense


(66
)


(61
)


(192
)


(182
)Net loss attributable to common stockholders

$
(724
)

$
(1,701
)

$
(2,064
)

$
(4,035
)Basic and diluted net loss per share attributableto common stockholders

$
(0.22
)

$
(0.85
)

$
(0.68
)

$
(2.00
)Weighted average shares used in computing basicand diluted net loss per share attributableto common stockholders


3,283



1,996



3,022



2,013The accompanying notes are an integral part of these condensed consolidated financial statements.





4





SALON MEDIA GROUP, INC.CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS(in thousands)(Unaudited)Nine Months EndedDecember 31,2010


2009Cash flows from operating activities:Net loss

$
(2,064
)

$
(4,035
)Adjustments to reconcile net loss to net cash used in operating activities:Loss from retirement of assets, net


2



-Depreciation and amortization


165



169Share-based compensation


235



363Amortization of prepaid advertising rights


-



1,225Changes in assets and liabilities:Accounts receivable


(93
)


(239
)Prepaid expenses and other assets


25



-Accounts payable, accrued liabilities and deferred rent


105



438Deferred revenues


(96
)


(108
)Net cash used in operating activities


(1,721
)


(2,187
)Cash flows from investing activities:Purchase of property and equipment


(27
)


(42
)Net cash used in investing activities


(27
)


(42
)Cash flows from financing activities:Proceeds from related party advances


2,005



2,100Capital lease payments


(4
)


(27
)Net cash provided by financing activities


2,001



2,073Net increase (decrease) in cash and cash equivalents


253



(156
)Cash and cash equivalents at beginning of period


216



371Cash and cash equivalents at end of period

$
469


$
215Supplemental schedule of non-cash financing activity:Amount paid for interest

$
3


$
7Conversion of accrued interest for convertible notes payable

$
202


$
188The accompanying notes are an integral part of these condensed consolidated financial statements.





5




SALON MEDIA GROUP, INC.


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


(amounts in thousands, except share and per share data)


(unaudited)





1.
The Company and Significant Accounting Policies




The Company




Salon Media Group, Inc (“Salon” or the “Company”) is an internet news and social networking company that produces Salon.com, a content Website, and related online communities.  Salon was originally incorporated in July 1995 in the State of California and reincorporated in Delaware in June 1999.  Salon operates in one business segment.




Basis of Presentation





These interim condensed consolidated financial statements are unaudited and have been prepared on the same basis as the annual financial statements and, in the opinion of management, reflect all adjustments, which include only normal recurring adjustments necessary to present fairly Salon's consolidated financial position, consolidated results of operations and consolidated cash flows for the periods presented.  The condensed consolidated balance sheet data as of March 31, 2010 is derived from and should be read in conjunction with the audited financial statements, which are included in Salon’s Annual Report on Form 10-K filed with the Securities and Exchange Commission.  Pursuant to the rules of the Securities and Exchange Commission, these financial statements do not include all disclosures required by generally accepted accounting principles. The results for the three and nine month periods ended December 31, 2010 are not necessarily indicative of the expected results for any other interim period or for the fiscal year ending March 31, 2011.




These condensed consolidated financial statements contemplate the realization of assets and the satisfaction of liabilities in the normal course of business.  Salon has incurred losses and negative cash flows from operations since inception and has an accumulated deficit at December 31, 2010 of $107,910.  In addition, Salon expects to incur a net loss from operations for its year ending March 31, 2011.




The Company’s operating forecast for the remainder of the fiscal year ending March 31, 2011 anticipates continued but reduced operating losses.  Salon estimates it will require between $400 and $500 in additional funding to meet its operating needs for the balance of its fiscal year.  If planned revenues are less than expected, or if planned expenses are more than expected, the cash shortfall may be higher, which will result in a commensurate increase in required financing.  During the current and previous fiscal years, Salon has relied on funding from related parties, whom thus far this year provided $2,005 in cash advances, which includes $470 for the quarter ended December 31, 2010.  The Company remains dependent upon its two largest stockholders for continued financial support while it seeks external financing from potential investors in the form of additional indebtedness or through the sale of equity securities in a private placement.  The Company is working with outside advisors in its efforts to obtain such funding, and explore strategic alternatives.  However, Salon does not currently have an agreement in place to provide any financing, and there is no certainty that Salon will be able to enter into definitive agreements for additional financings, and other strategic alternatives, both internal and external, on commercially reasonable terms, if at all.




Cash and Cash Equivalents




Cash and cash equivalents consist of cash on deposit with banks and investments that are readily convertible into cash and have original maturities of three months or less.





6





SALON MEDIA GROUP, INC.


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


(amounts in thousands, except share and per share data)


(unaudited)





Concentration of Credit Risk




Financial instruments that potentially subject Salon to concentration of credit risk consist primarily of trade accounts receivable.  Salon performs ongoing credit evaluations of its customers, but does not require collateral.  Salon provides an allowance for credit losses that it periodically adjusts to reflect management’s expectation of future losses.





One customer accounted for approximately 13% and 11% of total revenue for the three month periods ended December 31, 2010 and December 31, 2009, respectively.  One customer accounted for approximately 13% of total revenue for the nine month period ended December 31, 2010.  No customer accounted for more than 10% of total revenue for the nine month period ended December 31, 2009.  Two customers accounted for 12% or more of total accounts receivable as of December 31, 2010.  Two customers accounted for 24% or more of total accounts receivable as of December 31, 2009.




Stock-Based Compensation




The Company accounts for stock based compensation using the fair value method of accounting. The estimated fair value of the stock options granted is amortized on a straight-line basis over the vesting period of the stock.




The fair value of each option grant was estimated on the date of grant using the Black-Scholes option pricing model with the following assumptions and fair value per share:




Nine months ended December 31,2010


2009Risk-free interest rates


1.28%



1.72%Expected term (in years)


4



2 - 4Expected volatility


277%



167%Dividend yield


0%



0%




The expected term of the options of four years represents the estimated period of time until exercise and is based on historical experience of similar awards, including the contractual terms, vesting schedules and expectations of future employee behavior.  The expected stock price volatility is based on historical volatility of Salon’s stock.  The risk-free interest rate is based on the implied yield available on U.S. Treasury securities with a term equivalent to the service period of the stock options, or four years.  Salon has not paid dividends in the past.




As of December 31, 2010, the aggregate stock compensation remaining to be amortized to expense was $386.  Salon expects this stock compensation balance to be amortized as follows: $59 during the remainder of fiscal 2011; $193 during fiscal 2012; $108 during fiscal 2013; $23 during fiscal 2014 and $3 during fiscal 2015.  The expected amortization reflects outstanding stock options awards as of December 31, 2010.





7








SALON MEDIA GROUP, INC.


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


(amounts in thousands, except share and per share data)


(unaudited)





Recent Accounting Pronouncements




In September 2009, the FASB ratified Accounting Standards Update (ASU) 2009-13 (ASU 2009-13) (previously Emerging Issues Task Force (EITF) Issue No. 08-1,Revenue Arrangements with Multiple Deliverables (EITF 08-1)). ASU 2009-13 superseded EITF 00-21 and addresses criteria for separating the consideration in multiple-element arrangements. ASU 2009-13 will require companies to allocate the overall consideration to each deliverable by using a best estimate of the selling price of individual deliverables in the arrangement in the absence of vendor-specific objective evidence or other third-party evidence of the selling price. ASU 2009-13 will be effective prospectively for revenue arrangements entered into or materially modified in fiscal years beginning on or after June 15, 2010 and early adoption will be permitted. While we are currently evaluating the potential impact, if any, of the adoption of ASU 2009-13, the Company does not expect the adoption of this guidance to have a material impact on the Company’s consolidated financial statements.




In January 2010, the FASB issued ASU No. 2010-06,Fair Value Measurements and Disclosures (Topic 820): Improving Disclosures about Fair Value Measurements. ASU No. 2010-06 amends ASC 820 and clarifies and provides additional disclosure requirements on the transfers of assets and liabilities between Level 1 (quoted prices in active market for identical assets or liabilities) and Level 2 (significant other observable inputs) of the fair value measurement hierarchy, including the reasons for and the timing of the transfers. Additionally, the guidance requires a roll forward of activities on purchases, sales, issuance, and settlements of the assets and liabilities measured using significant unobservable inputs (Level 3 fair value measurements).   Other than requiring additional disclosures, adoption of this new guidance will not have a material impact on the financial statements.




In December 2010, the FASB issued ASU No. 2010-28 Intangibles-Goodwill & Other (Topic 350): When to Perform Step 2 of the Goodwill Impairment Test for Reporting Units with Zero or Negative Carrying Amounts. ASU 2010-28 amends the goodwill impairment test to address entities with reporting units with zero or negative carrying amounts. For those reporting units, an entity is required to perform Step 2 of the goodwill impairment test if it is more likely than not that, as a result of any adverse qualitative factors, goodwill impairment exists. We are currently evaluating the potential impact on the Company’s consolidated financial statements, if any, of the adoption of ASU 2010-28.





2.     Goodwill





Goodwill is the excess of the purchase price over the fair value of identifiable net assets acquired in a business combination accounted for under the purchase method. In accordance with ASC 360, Goodwill is not amortized but is tested for impairment annually during the Company’s fourth quarter, or when events and circumstance occur indicating that the asset might be impaired.




8





SALON MEDIA GROUP, INC.


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


(amounts in thousands, except share and per share data)


(unaudited)





3.     Borrowing Agreements




Short-term Borrowings




In May 2007, Salon finalized a borrowing agreement with Deutsche Bank Securities, Inc. that allows Salon to borrow up to $1,000 at a rate of prime less 0.25%.  Salon’s obligations under this agreement are guaranteed in their entirety by Salon’s Chairman.  The line of credit has been fully drawn as of December 31, 2010.  Deutsche Bank Securities may demand repayment of amounts borrowed at any time.   Additionally, the Chairman may also choose to terminate his guarantee, which would trigger a demand for repayment.  As of December 31, 2010, accrued interest on bank debt totals $139.  As of December 31, 2010 and 2009, the weighted average interest rate on the Company’s short-term borrowings was 3% at each of these periods.




During the nine months ended December 31, 2010, Salon has received unsecured, interest-free cash advances totaling $2,005 to fund its operations, including $1,065 from its Chairman and $940 from the father of a Director.  During the nine months ended December 31, 2009, Salon received interest-free cash advances totaling $2,100 to fund its operations, including $1,500 from its Chairman and $600 from the father of the former CEO and current Director.  This debt is payable on demand, and is exchangeable into securities to be issued in the next financing raised by the Company from non-related parties.





Convertible notes payable





On April 4, 2008, Salon issued to both its Chairman and the father of Salon’s then CEO a convertible promissory note in exchange for loans with a principal amount of $500, an aggregate of $1,000.  Each note bears an interest rate of 7.50 percent per annum, payable annually, in cash or in kind, and matures on March 31, 2012.  Each note issued on April 4, 2008 may convert at the election of the holder at any time into a number of shares of Salon’s common stock equal to the aggregate amount of the note obligations divided by $1.68.   In addition, in the event the Company obtains third-party financing in excess of $500, the holders of this $1,000 convertible notes payable have a right to exchange these notes for the same instrument issued in such third-party financing. The value of this embedded derivative was determined to be insignificant and no amount has been recorded.





On May 15, 2008, Salon sold and issued to another investor a convertible promissory note with a principal amount of $500 as part of the above-referenced financing transaction.  The note bears an interest rate of 7.50 percent per annum, payable semi-annually, in cash or in kind, and matures on March 31, 2012.  The note may convert at the election of the holder at any time into a number of shares of Salon’s common stock equal to the aggregate amount of the note obligations divided by $1.45.





On October 31, 2008, Salon issued to both its Chairman and the father of Salon’s  then CEO a convertible promissory note in exchange for loans with a principal amount of $500, an aggregate of $1,000, as part of the above financing transactions in which Salon generated gross proceeds of approximately $2,500 as of March 31, 2009.  Each note bears an interest rate of 7.50 percent per annum, payable annually, in cash or in kind, and matures on October 31, 2012.  Each note issued on October 31, 2008 may convert at the election of the holder at any time into a number of shares of Salon’s common stock equal to the aggregate amount of the note obligations divided by $0.6746.





9





SALON MEDIA GROUP, INC.


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


(amounts in thousands, except share and per share data)


(unaudited)




On April 4, 2009, Salon issued to both its Chairman and the father of Salon’s then CEO a convertible promissory interest note in exchange for loans with a principal amount of $38, an aggregate of $75.  Each note bears an interest rate of 7.50 percent per annum, payable annually, in cash or in kind, and matures on March 31, 2012.  Each note issued on April 4, 2009 may convert at the election of the holder at any time into a number of shares of Salon’s common stock equal to the aggregate amount of the note obligations divided by $1.68.





On May 15, 2009, Salon issued to another investor a convertible promissory interest note in exchange for loans with a principal amount of $38.  The note bears an interest rate of 7.50 percent per annum, payable annually, in cash or in kind, and matures on March 31, 2012.  The note issued on May 15, 2009 may convert at the election of the holder at any time into a number of shares of Salon’s common stock equal to the aggregate amount of the note obligations divided by $1.45.





On October 31, 2009, Salon issued to both its Chairman and the father of Salon’s former CEO and current Director each a convertible promissory interest note in exchange for loans with a principal amount of $38, an aggregate of $75.  Each note bears an interest rate of 7.50 percent per annum, payable annually, in cash or in kind, and matures on October 31, 2012.  Each note issued on October 31, 2009 may convert at the election of the holder at any time into a number of shares of Salon’s common stock equal to the aggregate amount of the note obligations divided by $0.6746.





On April 4, 2010, Salon issued to both its Chairman and the father of Salon’s former CEO and current Director each a convertible promissory interest note in exchange for accrued interest with a principal amount of $40, an aggregate of $81.  Each note bears an interest rate of 7.50 percent per annum, payable annually, in cash or in kind, and matures on March 31, 2012.  Each note issued on April 4, 2010 may convert at the election of the holder at any time into a number of shares of Salon’s common stock equal to the aggregate amount of the note obligations divided by $1.68.





On May 15, 2010, Salon issued to another investor a convertible promissory interest note in exchange for accrued interest with a principal amount of $40.  The note bears an interest rate of 7.50 percent per annum, payable annually, in cash or in kind, and matures on March 31, 2012.  The note issued on May 15, 2010 may convert at the election of the holder at any time into a number of shares of Salon’s common stock equal to the aggregate amount of the note obligations divided by $1.45.





On October 31, 2010, Salon issued to both its Chairman and the father of Salon’s former CEO and current Director each a convertible promissory interest note in exchange for accrued interest with a principal amount of $40, an aggregate of $81.  Each note bears an interest rate of 7.50 percent per annum, payable annually, in cash or in kind, and matures on October 31, 2012.  Each note issued on October 31, 2010 may convert at the election of the holder at any time into a number of shares of Salon’s common stock equal to the aggregate amount of the note obligations divided by $0.6746.





In the event Salon, at any time prior to the payment in full of the notes, or conversion thereof, shall (a) issue and sell shares of its common or preferred stock or an instrument convertible into its common or preferred stock or (b) issue and sell debentures or enter into any new indebtedness, then the holders of the first $1,000 in principal of the notes may choose to exchange the outstanding principal balance and accrued interest due under the notes for new securities issued on the same terms and  conditions of the financing.  If Salon completes a financing in excess of $500, then this right of exchange will terminate 30 days following notice of such financing being given to the holders.





10








SALON MEDIA GROUP, INC.


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


(amounts in thousands, except share and per share data)


(unaudited)




As of December 31, 2010, convertible notes payable totaled $2,889, inclusive of $389 in notes issued as payment in kind of accrued interest thereon.  Related parties hold $2,311 of such notes and additional accrued interest of $22 thereon.





4.     Stock-Based Compensation





Salon has adopted certain equity incentive plans as described in Note 7, “Employee Stock Option Plan,” of the notes to consolidated financial statements in Salon’s Annual Report on Form 10-K for the fiscal year ended March 31, 2010.





On May 4, 2009, the Board of Directors of Salon, subject to stockholder approval, increased the shares authorized under the 2004 Stock Option Plan by 4.5 million, from 3.2 million to 7.7 million, such shares eligible for incentive stock options, non-qualified options, or restricted stock.





The following table summarizes activity under Salon’s plans for the nine months ended December 31, 2010:




WeightedOutstanding


Average


AggregateStock


Exercise


IntrinsicOptions


Price


ValueBalance as of April 1, 2010


5,510,000



$0.23Options granted under all plans


304,000



$0.11Exercised


-



-Expired and forfeited


(316,000
)


$0.17Outstanding at December 31, 2010


5,498,000



$0.23



$113,000Exercisable at December 31, 2010


3,134,000



$0.26



-Expected to vest


3,405,000



$0.20



$89,000




The weighted average fair value per share of the stock option awards in the nine months ended December 31, 2010 and 2009 was $0.11 and $0.14, respectively. Substantially all options issued prior to December 2008 were repriced to $0.35 at that time. The weighted average fair value of options vested during the nine months ended December 31, 2010 was $0.22 per share.  No options were exercised during the nine months ended December 31, 2010.




Salon recognized stock based compensation expense of $235,000 and $363,000 during the nine months ended December 31, 2010 and December 31, 2009, respectively.




11





SALON MEDIA GROUP, INC.


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


(amounts in thousands, except share and per share data)


(unaudited)





5.         Net Loss Per Share




Basic loss per share is computed using the weighted average number of shares of common stock outstanding during the period.  Diluted loss per share is computed using the weighted average number of common stock and common stock equivalents outstanding during the period, as follows:




Three Months Ended


Nine Months EndedDecember 31


December 312010


2009


2010


2009Numerator:Net loss attributable to common stockholders

$
(724
)

$
(1,701
)

$
(2,064
)

$
(4,035
)Denominator:Weighted average shares used in computingbasic and diluted net loss per share attributableto common stockholders


3,283,000



1,996,000



3,022,000



2,013,000Basic and diluted net loss per share attributableto common stockholders

$
(0.22
)

$
(0.85
)

$
(0.68
)

$
(2.00
)Antidilutive securities including options,warrants and convertible notes and preferredstock not included in net loss per share calculation


18,269,000



18,693,000



18,269,000



18,693,000





6.        Warrants




During the nine months ended December 31, 2010, one warrant totaling 35,040 shares has expired.  There are no warrants outstanding as of December 31, 2010.





12





SALON MEDIA GROUP, INC.


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


(amounts in thousands, except share and per share data)


(unaudited)





7.     Preferred Stock




The conversion rate and common equivalent shares of Salon’s preferred stock as of December 31, 2010 are as follows:




Per share


CommonShares


Purchase


Conversion


EquivalentPreferred Stock

Outstanding


Price


Rate


SharesSeries A


612


$
4,000



1.792



1,366,275Series B


125


$
4,000



1.483



337,251Series C


6,582


$
800



0.786



6,699,471Series D-1


417


$
1,200



1.690



296,031Series D-2


417


$
1,200



1.953



256,260Series D-3Issued on 12/21/05


209


$
1,200



1.690



148,371Issued on 07/27/06


208


$
1,200



2.163



115,363Series D-4Issued on 07/27/06


42


$
1,200



2.163



23,294Issued on 09/21/06


333


$
1,200



1.571



254,331Issued on 12/18/06


42


$
1,200



0.890



56,636Series D-5Issued on 12/18/06


125


$
1,200



0.890



168,561Issued on 11/19/07


292


$
1,200



1.406



249,121Total


9,404











9,970,965




The Series A, B, C and D preferred stock conversion rates are subject to a downward adjustment antidilution provision under certain circumstances related to subsequent Salon securities issuances. The Company determined that the accounting for such conversion features does not require bifurcation under ASC 815, and accordingly, the requirements of ASC 815 are not applicable.





13





SALON MEDIA GROUP, INC.


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


(amounts in thousands, except share and per share data)


(unaudited)





The holders of the Series D preferred stock are entitled to dividends of 5.0%, as and if declared by the Board of Directors.  In event of a liquidation, the holders of Series D preferred stock and the holders of the Series C preferred stock rank in parity, and are entitled to receive, prior and in preference to any distribution of any assets or property of Salon to the holders of common stock, and the holders of Series A and B preferred stock,  and in the case of the Series D preferred stock, an amount per share equal to $1,200 plus an amount equal to all declared but unpaid dividends, and in the case of the Series C preferred stock, $1,600 per share, plus an amount equal to all declared but unpaid dividends, based on an annual rate of 8%.  If the assets and funds available for distribution are insufficient to permit the payment to the holders of Series C and D preferred stock of their full preferential amounts, then the entire assets and funds of Salon legally available for distribution to stockholders will be distributed among the holders of Series C and D preferred stock ratably in proportion to the full preferential amounts which they are entitled to receive.  After an initial distribution to the holders of Series C and D preferred stock, the holders of the Series A and B preferred stock, who rank in parity, are entitled to receive, prior and in preference to any distribution of any assets or property of Salon to the holders of common stock, an amount per share equal to $8,000 plus an amount equal to all declared but unpaid dividends, based on an annual rate of 8%.  If, after the initial distribution to holders of Series C and D preferred stock, the remaining assets and funds available for distribution are insufficient to permit the payment to the holders of Series A and B preferred stock of the full preferential amounts, then the entire remaining assets and funds of Salon legally available for distribution to stockholders will be distributed among the holders of Series A and B preferred stock ratably in proportion to the full preferential amounts which they are entitled to receive. As of December 31, 2010, no dividend has been declared to the holders of preferred stock.




If, after initial preferential liquidation payments to the holders of Series A, B, C and D preferred stock, any assets remain available for distribution, such assets are to be distributed ratably among the holders of common stock and preferred stock, based on the shares of common stock then held by them and issuable upon conversion of the shares of preferred stock then held by them, until aggregate distributions per share reach $12,000 for the holders of Series A and B preferred stock, $2,400 for the holders of Series C Preferred Stock and $3,600 for the holders of Series D preferred stock.  Salon has currently outstanding 612 shares of Series A preferred stock, 125 shares of Series B preferred stock, 6,582 shares of Series C preferred stock and 2,085 shares of Series D preferred stock.




If, after payment has been made to the holders of common stock and holders of preferred stock mentioned above, any assets remain available for distribution, such assets are to be distributed ratably among the holders of common stock and the holders of Series C preferred stock, based on the number of shares of common stock then held by them and issuable upon conversion of the Series C preferred stock then held by them.  Based on available information, Salon estimates that the holders of Series C preferred stock account for approximately 92% of this group of stockholders.




The holders of preferred stock are entitled to vote together with the holders of Salon’s common stock as though part of that class, and are entitled to vote on all matters and to that number of votes equal to the largest number of whole shares of common stock into which the shares of preferred stock could be converted.  Preferred stockholders as a group own approximately 95% of the outstanding shares of common stock and common stock issuable upon conversion of the shares of preferred stock, all with voting rights.




The aggregate liquidation preferences of all preferred stockholders as of December 31, 2010 were $18,929 excluding the effect of undeclared dividends, and $25,162 including the effect of undeclared dividends.




14




SALON MEDIA GROUP, INC.


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


(amounts in thousands, except share and per share data)


(unaudited)





Neither the Series A, B, C or D preferred stock, the associated warrants, nor the underlying shares of common stock have been registered for sale under the Securities Act of 1933, as amended, and may not be offered or sold in the United States absent registration under such act or an applicable exemption from registration requirements.




On November 29, 2010, certain stockholders abandoned their interest in 63 shares of Salon Series A Preferred Stock, by surrendering their interest to the Company for no consideration.




8.     Common Stock




In June 2010, the Company issued 844,620 shares of common stock to certain executives in lieu of aggregate accrued cash bonuses of approximately $127.




9.     Subsequent Events




There are no events subsequent to December 31, 2010.




15




Item 2.    Management’s Discussion and Analysis of Financial Condition and Results of Operations




This section and other parts of this Form 10-Q contain “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, as amended (“Exchange Act”) that involve risks and uncertainties, including, but not limited to, statements regarding our strategy, plans, objectives, expectations, forecasts, intentions, financial performance, cash-flow breakeven timing, financing, economic conditions, on-line advertising, market performance, subscription service plans, and revenue sources.  Although Salon Media Group, Inc. (“Salon” or the “Company”) believes its plans, intentions and expectations reflected in such forward-looking statements are reasonable, Salon gives no assurance those plans, intentions or expectations will be achieved.  Our actual results may differ significantly from those anticipated or implied in these forward-looking statements as a result of the factors set forth above and in Salon’s public filings.  Salon assumes no obligation to update any forward-looking statements as circumstances change.




Salon’s actual results may differ significantly from those anticipated or implied in these forward-looking statements as a result of the factors set forth below and in “Management's Discussion and Analysis of Financial Conditions and Results of Operations” and "Factors That May Affect Our Future Results and Market Price of Stock."  In this report, the words “anticipates,” “believes,” “expects,” “estimates,” “forecast,” “projection,” “future,” and similar expressions identify forward-looking statements.  Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof.





Overview




Salon is an online news and social networking company and an Internet publishing pioneer.  Salon’s award-winning journalism combines original investigative stories and provocative personal essays along with quick-take commentary and staff-written Weblogs about politics, technology, culture and entertainment.  Committed to interactivity, the Website also hosts two online communities, Table Talk and The Well, and has launched Open Salon, a social network for bloggers.  In its editorial product Salon balances two crucial missions: (1) providing original and provocative content on topics that the mainstream media overlook, and (2) filtering through the media chatter and clutter to help readers find the stories that matter.




This section and other parts of this Form 10-Q should be considered in conjunction with the audited financial statements, which are included in Salon’s Annual Report on Form 10-K filed with the Securities and Exchange Commission.  Matters of interest therein include, but are not limited to, Salon’s disclosure of critical accounting policies.





Sources of Revenue




The most significant portion of Salon’s revenues is derived from advertising from the sale of promotional space on its Website.  The sale of promotional space is generally less than ninety days in duration.  Advertising units sold include “rich media” streaming advertisements, as well as traditional banner and pop-up advertisements.





Salon also derives a significant portion of its revenues from its Salon Premium subscription program.  Paid subscriptions have declined from 15,800 as of March 31, 2010, to approximately 11,800 as of December 31, 2010.  Salon expects this downward trend to continue, as it is placing greater emphasis on its advertising sales to generate revenue.





Salon offers The Well online discussion forums as a monthly subscription service.  Revenue is recognized ratably over the subscription period.  Salon also generates nominal revenue from the licensing of content that previously appeared in Salon’s Website and for hosting links to a third party’s personals/dating Website.




16




Expenses




Production and content expenses consist primarily of salaries and related expenses for Salon’s editorial, artistic, and production staff, online communities’ staff, payments to freelance writers and artists, bandwidth costs associated with serving pages and hosting our online communities on our Website, credit card transaction costs andadserving costs.




Sales and marketing expenses consist primarily of salaries, commissions and related personnel costs, travel, and other costs associated with Salon’s sales force, business development efforts and its subscription service.  It also includes advertising, promotions and other marketing expenses.




Information technology support expenses consist primarily of salaries and related personnel costs associated with the development, testing and enhancement of Salon’s software to manage its Website, and to maintain and enhance the software utilized in managing Salon Premium, as well as supporting marketing and sales efforts.




General and administrative expenses consist primarily of salaries and related personnel costs, accounting and legal fees, and other fees associated with operating a publicly traded company.  Certain shared overhead expenses are allocated to other departments.




Interest and other expenses consist primarily of accrued interest on Salon’s outstanding debt.




In accordance with ASC 718 “Compensation Stock Expense,” Salon’s expenses include stock-based compensation expenses related to stock option and restricted stock grants to employees, non-employee Directors and consultants.





Salon has incurred significant net losses and negative cash flows from operations since its inception.  As of December 31, 2010, Salon had an accumulated deficit of $108 million.  These losses have been funded primarily through the issuance of common stock from Salon’s initial public offering in June 1999, issuances of preferred stock and convertible notes, bank debt, and advances from related parties.





Critical Accounting Policies





The preparation of financial statements in conformity with generally accepted accounting principles requires Salon to utilize accounting policies and make estimates and assumptions that affect our reported amounts.  Salon’s significant accounting policies are described in Note 2 to the consolidated financial statements of Salon’s Annual Report on Form 10-K as filed with the Securities and Exchange Commission.  Salon believes accounting policies and estimates related to revenue recognition, prepaid advertising rights and share-based compensation are the most critical to Salon’s financial statements.  Future results may differ from current estimates if different assumptions or conditions were to prevail.





Revenue Recognition





Salon recognizes revenues once persuasive evidence of an arrangement exists, delivery has occurred, the fee is fixed or determinable and collectibility is reasonably assured.  Revenues are recognized ratably in the period over which Salon’s obligations are fulfilled.  Payments received before Salon’s obligations are fulfilled are classified as “Deferred revenue” in Salon’s consolidated balance sheet.





Advertising revenues, derived from the sale of promotional space on its Website, comprised 78%, and 70% of Salon’s revenues, respectively, for the nine month periods ended December 31, 2010 and 2009.  The duration of the advertisements are generally short-term, usually less than ninety days.  Revenues derived from such arrangements are recognized during the period the advertising space is provided.  Salon’s obligations typically include a guaranteed minimum number of impressions, a set number of Site Pass advertisements viewed, or a set number of days that a Site Pass advertisement will run.  To the extent minimum guaranteed amounts are not achieved, Salon defers recognition of the corresponding revenue until the remaining guaranteed amounts are provided, if mutually agreeable to an advertiser.  If these “make good” impressions are not agreeable to an advertiser, no further revenue is recognized.




17





Salon Premium, a pay-for-online content service, provides unrestricted access to Salon’s content with no banners, pop-ups or site pass advertisements, and includes free magazine subscriptions, free access to Table Talk, an online forum, and the ability to easily download content in text or PDF format, a convenience that enables readers to view Salon’s content when not connected to the Internet.  The subscription duration for Salon Premium is generally one year.  Non-Salon Premium subscribers can gain access to Salon’s content after viewing some form of advertisement.




Salon offers The Well as a monthly subscription service for access to on-line discussion forums.  Revenue is recognized ratably over the subscription period.




Accounting for Share-Based Compensation




Salon accounts for share-based compensation under ASC 718 and recognizes the fair value of stock awards on a straight-line basis over the requisite service period of the award, which is the vesting term of four years.





Salon recognized stock based compensation expense of $235,000 and $363,000 during the nine months ended December 31, 2010 and December 31, 2009, respectively.  As of December 31, 2010, Salon had an aggregate of $386,000 of stock compensation remaining to be amortized to expense over the remaining requisite service period of the underlying awards.  Salon currently expects this stock compensation balance to be amortized as follows: $59,000 during the remainder of fiscal 2011; $193,000 during fiscal 2012; $108,000 during fiscal 2013; $23,000 during fiscal 2014 and $3,000 during fiscal 2015.  The expected amortization reflects only outstanding stock option awards as of December 31, 2010.  Salon expects to continue to issue share-based awards to its employees in future periods.




The full impact of stock based compensation in the future is dependent upon, among other things, the timing of when Salon hires additional employees, the effect of new long-term incentive strategies involving stock awards in order to continue to attract and retain employees, the total number of stock awards granted, the fair value of the stock awards at the time of grant and the tax benefit that Salon may or may not receive from stock-based expenses.  Additionally, stock based compensation requires the use of an option-pricing model to determine the fair value of stock option awards.  This determination of fair value is affected by Salon’s stock price as well as assumptions regarding a number of highly complex and subjective variables.  These variables include, but are not limited to, Salon’s expected stock price volatility over the term of the awards.





Results of Operations for the Three and Nine Months Ended December 31, 2010 Compared to the Three and Nine Months Ended December 31, 2009




Net revenues:




Net revenues decreased 32% to $1.0 million for the three months ended December 31, 2010 from $1.4 million for the three months ended December 31, 2009.  Net revenues increased 2% to $3.5 million for the nine months ended December 31, 2010 from $3.4 million for the nine months ended December 31, 2009.




18





Advertising revenues decreased 34% to $0.7 million for the three months ended December 31, 2010 from $1.1 million for the three months ended December 31, 2009 and increased 13% to $2.7 million for the nine months ended December 31, 2010 from $2.4 million for the nine months ended December 31, 2009.  The decrease in advertising revenues reflects a significant order that was anticipated to be made in our third quarter but was actually placed by the customer in our fourth quarter, and reduced sales productivity due to staff turnover. The number of monthly unique Website visitors for the three months ended December 31, 2010 averaged 5.2 million, a 13% increase from the same period a year ago, as the Company’s efforts to drive increased traffic through its site redesign and more effective use of technology continue to bear fruit.  Salon’s ability to increase the number of monthly unique Website visitors is a significant factor in Salon’s strategy to attract additional advertisers on the Website. Increasing the number of unique Website visitors is critical to Salon, as they facilitate the generation of ad impressions sold to advertisers.





Salon Premium subscription revenues decreased 31% to $0.1 million for the three months ended December 31, 2010 from $0.2 million for the three months ended December 31, 2009, and decreased 33% to $0.4 million for the nine months ended December 31, 2010 from $0.6 million for the nine months ended December 31, 2009.  The decline is attributable to a steady reduction in the number of paid subscribers, from 13,000 to 11,800 during the quarter.  Salon expects this trend to continue as the Company emphasizes increasing advertising income over promoting Premium subscriptions.





Revenues from all other sources decreased 22% from a year ago to $0.1 million for the three months ended December 31, 2010 and decreased 17% from a year ago to $0.4 million for the nine months ended December 31, 2010.  Approximately 73% and 71% of this revenue was derived from The Well, an on-line discussion forum, for the respective three and nine month periods ended December 31, 2010.





Production and content:




Production and content expenses decreased to $0.8 million for the three months ended December 31, 2010, compared to $0.9 million for the three months ended December 31, 2009.  Production and content expenses were $2.4 million for the nine months ended December 31, 2010 compared to $3.0 million for the nine months ended December 31, 2009.  The $0.1 million and $0.6 million savings, respective of the three and nine month periods ended December 31, 2010, reflect lower headcount and reductions in compensation.





Sales and marketing:




Sales and marketing expenses were $0.3 million for the three months ended December 31, 2010, compared to $1.5 million for the same period one year ago.  The $1.2 million or 78% decrease is primarily attributable to reductions in ad credit usage.  Sales and marketing expenses were $1.2 million for the nine months ended December 31, 2010, compared to $2.3 million for the nine months ended December 31, 2009.  The $1.1 million or 49% reduction reflects reductions in ad credit usage, which was fully amortized in the quarter ended December 31, 2009.





Information technology support:




Information technology support expenses were virtually flat at $0.2 million for the three months ended December 31, 2010 and December 31, 2009.  Information technology support expenses were $0.7 million for the nine months ended December 31, 2010 compared to $0.6 million from the same period one year ago.  The $0.1 million or 12% increase reflects increases in staffing compensation, partially offset by decreases in consulting fees.




19





General and administrative:




General and administrative expenses were $0.3 million for the three months ended December 31, 2010 compared to $0.4 million for the three months ended December 31, 2009.  General and administrative expenses were $1.0 million for the nine months ended December 31, 2010 compared to $1.3 million for the nine months ended December 31, 2009.  The $0.1 million and $0.3 million savings, respective of the three and nine month periods ending December 31, 2010, reflect lower salaries and certain administrative and overhead cost reductions.





Interest expense:




Interest expenses, for the three months ended December 31, 2010 were $66,000, compared to approximately $61,000 for the three months ended December 31, 2009.  The increase primarily reflects higher average balances on convertible notes.  Interest expenses for the nine months ended December 31, 2010 were $192,000, compared to $182,000 for the nine months ended December 31, 2009.  The increase is primarily due to higher average balances on convertible promissory notes.




Liquidity and capital resources:




Net cash used in operations was $1.7 million for the nine months ended December 31, 2010 and $2.2 million for the nine months ended December 31, 2009.  The principal uses of cash during the nine months ended December 31, 2010 were to fund the $2.1 million net loss for the period, and $0.1 million increase in accounts receivable, offset by $0.1 million decrease in accounts payable and other liabilities,  and $0.4 million in various working capital items.  The principal uses of cash during the nine months ended December 31, 2009 were to fund the $4.0 million net loss for the period, $0.2 million increase in accounts receivable, offset by $1.2 million in non-cash prepaid advertising amortization and $0.9 million of various working capital items.  The accounts receivable, net as of December 31, 2010 of $0.8 million, representing primarily advertising sales during the period, are expected to be collected within the next four months.




Net cash used in investing activities was immaterial during the nine months ended December 31, 2010 and the nine months ended December 31, 2009.




The net cash from financing activities of $2.0 million for the nine months ended December 31, 2010 and $2.1 million for the nine months ended December 31, 2009, primarily reflect cash advances from related parties.





The Company’s operating forecast for the remainder of the fiscal year ending March 31, 2011 anticipates continued but reduced operating losses.  Salon estimates it will require between $400 and $500 in additional funding to meet its operating needs for the balance of its fiscal year.  If planned revenues are less than expected, or if planned expenses are more than expected, the cash shortfall may be higher, which will result in a commensurate increase in required financing.  During the current quarter and previous fiscal year, Salon has relied on funding from related parties, whom thus far this year provided $2,005 in cash advances. The Company remains dependent upon its two largest stockholders for continued financial support while it seeks external financing from potential investors in the form of additional indebtedness or through the sale of equity securities in a private placement. The Company is working with outside advisors in its efforts to obtain such funding, and explore strategic alternatives. However, Salon does not currently have an agreement in place to provide any financing, and there is no certainty that Salon will be able to enter into definitive agreements for additional financings and other strategic alternatives, both internal and external, on commercially reasonable terms, if at all.




20




Off-Balance-Sheet Arrangements





Salon has no off-balance-sheet arrangements.





Contractual Obligations





As of December 31, 2010, Salon has five outstanding capital leases on computer equipment and does not anticipate entering into similar debt instruments during its remaining fiscal year ending March 31, 2011.  The following summarizes Salon’s contractual obligations as of December 31, 2010, and the effect these contractual obligations are expected to have on Salon’s liquidity and cash flows in future periods (in thousands):




Payments Due By PeriodTotal


1 Year or Less


1 - 3 Years


3 - 5 Years


More than 5 YearsOperating leases

$
1,378


$
511


$
799


$
68


$
-Capital leases


6



6



-



-



-Capital lease interest


1



1



-



-



-Short-term borrowing


5,805



5,805



-



-



-Short-term borrowing interest


138



138



-



-



-Convertible notes


2,889



-



2,889



-



-Convertible notes interest


839



712



127



-



-Total

$
11,056


$
7,173


$
3,815


$
68


$
-





Item 3.  Quantitative and Qualitative Disclosure About Market Risk





Salon maintains all of its cash in immediately available cash deposits at its bank.  These funds are not subject to market risk and no interest is paid on such funds.  In May 2007, Salon entered into a credit agreement with Deutsche Bank Securities, Inc. that allows Salon to borrow up to $1.0 million at a rate of prime less 0.25% which will subject Salon to interest rate risk.  Salon feels that the risk of a rate change is not material as Salon contemplates having a maximum of only $1.0 million of variable rate debt outstanding during its fiscal year ending March 31, 2011.  As of December 31, 2010, Salon has $1.0 million plus accrued interest outstanding under this agreement, payable on demand.  As Salon conducts all of its business in the United States, Salon is not subject to foreign exchange risk.




21





Item 4.  Controls and Procedures





Evaluation of Our Disclosure Controls and Internal Controls




Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, conducted an evaluation of the effectiveness of our disclosure controls and procedures as of the end of the period covered by this quarterly Form 10-Q report (December 31, 2010), as is defined in Rule 13a-15(e) promulgated under the Exchange Act.  Our disclosure controls and procedures are intended to ensure that the information we are required to disclose in the reports that we file or submit under the  Exchange Act is (i) recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission's rules and forms and (ii) accumulated and communicated to our management, including the Chief Executive Officer and Chief Financial Officer, as the principal executive and financial officers, respectively, to allow timely decisions regarding required disclosures.





Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of the end of the period covered by this quarterly Form 10-Q report, our disclosure controls and procedures were effective.





Our management has concluded that the financial statements included in this Form 10-Q present fairly, in all material respects our financial position, results of operations and cash flows for the periods presented in conformity with generally accepted accounting principles.





It should be noted that any system of controls, however well designed and operated, can provide only reasonable, and not absolute, assurance that the objectives of the system will be met.  In addition, the design of any control system is based in part upon certain assumptions about the likelihood of future events.





Changes in Internal Controls Over Financial Reporting





There was no change in our internal controls over financial reporting that occurred during the period covered by this Quarterly Report on Form 10-Q that has materially affected, or is reasonably likely to materially affect, our internal controls over financial reporting.





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PART II: OTHER INFORMATION





Item 1.  Legal Proceedings.





Not applicable.





Item 1A.  Risk Factors.





Factors That May Affect Salon’s Future Results and Market Price of Stock





Salon’s business faces significant risks.  The risks described below may not be the only risks Salon faces.  Additional risks that are not yet known or that are currently immaterial may also impair its business operations or have a negative impact on its stock price.  If any of the events or circumstances described in the following risks actually occurs, its business, financial condition or results of operations could suffer, and the trading price of its common stock could decline. The Risk Factors set forth below have not materially changed from those included in our Annual Report on Form 10-K for the year ended March 31, 2010.





Salon’s projected cash flows may not meet expectations





Salon relies on cash projections to run its business and changes such projections as new information is made available or events occur.  The most significant component of Salon’s cash projections is cash to be generated from advertising sales and, to a lesser extent, cash to be generated from Salon Premium.  Forecasting advertising revenues and resulting cash receipts for an extended period of time is problematic due to the short duration of most advertising sales contracts.  If projected cash inflows and outflows do not meet expectations, Salon’s ability to continue as a going concern may be adversely affected.





If Salon forecasts or experiences periods of limited, or diminishing cash resources, Salon may need to sell additional securities or borrow additional funds.  There is no guarantee that Salon will be able to issue additional securities in future periods or borrow additional funds on commercially reasonable terms to meet its cash needs.  Salon’s ability to continue as a going concern will be adversely affected if it is unable to raise additional cash from sources it has relied upon in the past or new sources.





Salon has relied on related parties for significant investment capital





Salon has been relying on cash infusions from related parties to fund operations.  The related parties are primarily John Warnock, Chairman of the Board of Salon, and William Hambrecht.  William Hambrecht is the father of Salon’s former CEO and current Director, Elizabeth Hambrecht. During the current fiscal year, these related parties have contributed $2.0 million in cash advances to fund Salon’s operations.





Curtailment of cash investments and borrowing guarantees by related parties could detrimentally impact Salon’s cash availability and its ability to fund its operations.




23




Salon’s principal stockholders can exercise a controlling influence over Salon’s business affairs and may make business decisions with which non-principal stockholders disagree and may affect the value of their investment




Based on information available to Salon, the holders of Salon’s Series A, B, C and D preferred stock collectively own approximately 95% of all voting securities. These stockholders therefore own a controlling interest in Salon.  Of this amount, approximately 76% is held by former Directors and related parties, of which approximately 20% is controlled directly or indirectly by William Hambrecht and approximately 37% by Chairman and Director John Warnock.  Therefore, related parties by themselves own a controlling interest in Salon.




If these stockholders were to act together, they would be able to exercise control over all matters requiring approval by other stockholders, including the election of Directors and approval of significant corporate transactions. This concentration of ownership could also have the effect of accelerating, delaying or preventing a change in control of Salon, which could cause Salon’s stock price to decline.




Future sales of significant number of shares of Salon’s common stock by principal stockholders could cause its stock price to decline





Salon’s preferred stockholders can convert their 9,404 shares of preferred stock to approximately 10.0 million shares of common stock at any time.  As Salon’s common stock is normally thinly traded, if these stockholders were to convert their shares of preferred stock to common stock and sell the resulting shares, the per share price of Salon’s common stock may be adversely affected





Salon’s stock has been and will likely continue to be subjected to substantial price and volume fluctuations due to a number of factors, many of which will be beyond its control and may prevent its stockholders from reselling its common stock at a profit




The securities markets have experienced significant price and volume fluctuations.  This market volatility, as well as general economic, market or political conditions, have and may continue to reduce the market price of its common stock, regardless of its operating performance.  In addition, Salon’s stock is thinly traded and operating results could be below the expectations of public market analysts and investors, and in response, the market price of its common stock could decrease significantly.





Salon’s preferred stockholders are entitled to potentially significant liquidation preferences of Salon’s assets over common stockholders in the event of such an occurrence




Salon’s Series A, B, C and D preferred stockholders have liquidation preferences over common stockholders of the first approximately $25 million in potential sales proceeds as of December 31, 2010, which includes the effect of undeclared dividends of $6 million.  If a liquidation event were to occur, and preferred stock dividends were declared, the holders of preferred stock would be entitled to the first $25 million of cash distributions, while the holders of common stock would receive none of this amount.  If a liquidation event were to occur in excess of $25 million and if preferred stock dividends were to be declared, the holders of preferred stock would be entitled to receive a relatively larger distribution than the holders of common stock would be entitled to receive.





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Salon has historically lacked significant revenues and has a history of losses




Salon has a history of significant losses and expects to incur a loss from operations, based on generally accepted accounting principles, for its fiscal year ending March 31, 2011 and potentially in future years.  Once Salon attains profitability, it may not be able to sustain or increase profitability on a quarterly or annual basis in the future. If revenues grow slower than Salon anticipates or operating expenses exceed expectations, financial results will most likely be severely harmed and the ability of Salon to continue its operations will be seriously jeopardized.




Burr, Pilger Mayer, Inc., Salon’s independent registered public accounting firm for the years ended March 31, 2008, March 31, 2009, and March 31, 2010, included a “going-concern” audit opinion on the consolidated financial statements for those years.  The audit opinions report substantial doubt about Salon’s ability to continue as a going concern, citing issues such as the history of losses and absence of current profitability.  As a result of the “going-concern” opinions, Salon’s stock price and investment prospects have been and will continue to be adversely affected, thus limiting financing choices and raising concerns about the realization of value on assets and operations.




Salon Premium memberships have been declining and will most likely continue to decline, adversely affecting revenues and available cash





Salon has been relying on the revenues and cash generated from Salon Premium subscriptions since its implementation in April 2002.  Salon Premium subscriptions grew from nothing to a high of approximately 89,100 as of December 31, 2004.  However, since the high experienced in December 31, 2004, subscriptions have been declining to approximately 15,800 as of March 31, 2010 and to approximately 11,800 as of December 31, 2010.  Salon forecasts that these memberships will continue to decline to approximately 10,800 as of March 31, 2011.  If the decline were to be in excess of anticipated amounts, Salon’s operations and available cash could be adversely affected.




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Salon has depended on advertising sales for much of its revenues, and its inability to maintain or increase advertising revenues could harm its business




Maintaining or increasing Salon’s advertising revenues depends upon many factors, including whether it will be able to:




·
Successfully attract additional audience;




·
successfully sell and market its Website auto start Site Pass or other rich media advertisements;




·
entice non Salon Premium Website visitors to view and advertisers to sell new ad units and formats;




·
maintain a significant number of unique Website visitors and corresponding significant reach of Internet users;




·
maintain a significant number of sellable impressions generated from Website visitors available to advertisers;




·
successfully sell and market its network to advertisers;




·
increase the dollar amount of the advertising orders it receives;




·
increase awareness of the Salon brand;




·
improve the technology for serving advertising on its Website;




·
handle temporary high volume traffic spikes to its Website;




·
accurately measure the number and demographic characteristics of its users; and




·
attract and retain key sales personnel.





Legislative action and potential new accounting pronouncements are likely to cause its general and administrative expenses and other operating expenses to increase




To comply with the Sarbanes-Oxley Act of 2002 and proposed accounting changes by the Securities and Exchange Commission, Salon ultimately may be required to hire additional personnel and utilize additional outside legal, accounting and advisory services, all of which will cause its general and administrative costs to increase.





Hackers may attempt to penetrate Salon’s security system; online security breaches could harm its business





Consumer and supplier confidence in Salon’s Website depends on maintaining relevant security features.  Security breaches also could damage its reputation and expose it to a risk of loss or litigation.  Experienced programmers or “hackers” have successfully penetrated sectors of its systems and Salon expects that these attempts will continue to occur from time to time.  Because a hacker who is able to penetrate network security could misappropriate proprietary information or cause interruptions in its products and services, Salon may have to expend significant capital and resources to protect against or to alleviate problems caused by these hackers.  Additionally, Salon may not have a timely remedy against a hacker who is able to penetrate its network security.  Such security breaches could materially affect Salon.  In addition, the transmission of computer viruses resulting from hackers or otherwise could expose it to significant liability.  Salon’s insurance policies may not be adequate to reimburse it for losses caused by security breaches.  Salon also faces risks associated with security breaches affecting third parties with whom it has relationships.




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With a volatile share price, Salon may be the target of securities litigation, which is costly and time-consuming to defend




In the past, following periods of market volatility in the price of a company’s securities, security holders have instituted class action litigation. Salon’s share price has in the past experienced price volatility, and may continue to do so in the future.  Many companies have been subjected to this type of litigation. If the market value of its common stock experiences adverse fluctuations and it becomes involved in this type of litigation, regardless of the merits or outcome, Salon could incur substantial legal costs and its management’s attention could be diverted, causing its business, financial condition and operating results to suffer.  To date, Salon has not been subjected to such litigation.




Salon’s quarterly operating results are volatile and may adversely affect its common stock price




Salon’s future revenues and operating results, both GAAP and non GAAP, are likely to vary significantly from quarter to quarter due to a number of factors, many of which are outside Salon’s control, and any of which could severely harm Salon’s business. These factors include:




·
Salon’s ability to attract and retain advertisers and subscribers;




·
Salon’s ability to attract and retain a large number of users;




·
the introduction of new Websites, services or products by Salon or by its competitors;




·
the timing and uncertainty of Salon’s advertising sales cycles;




·
the mix of advertisements sold by Salon or its competitors;




·
the economic and business cycle;




·
Salon’s ability to attract, integrate and retain qualified personnel;




·
technical difficulties or system downtime affecting the Internet generally or the operation of Salon’s Website; and




·
the amount and timing of operating costs.




Due to the factors noted above and the other risks discussed in this section, one should not rely on quarter-to-quarter comparisons of Salon’s results of operations as an indication of future performance.  It is possible that some future periods’ results of operations may be below the expectations of public market analysts and investors.  If this occurs, the price of its common stock may decline.




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The controversial content of Salon’s Website may limit its revenues




Salon’s Website contains, and will continue to contain, content that is politically and culturally controversial.  As a result of this content, current and potential advertisers, potential Salon Premium subscribers, or third parties who contemplate aggregating content, may refuse to do business with Salon.  Salon’s outspoken stance on political issues has and may continue to result in negative reactions from some users, commentators and other media outlets.  From time to time, certain advocacy groups have successfully targeted Salon’s advertisers in an attempt to persuade such advertisers to cease doing business with Salon.  These efforts may be a material impediment to Salon’s ability to grow and maintain advertising revenue.




Salon’s promotion of the Salon brand must be successful to attract and retain users as well as advertisers and strategic partners




The success of the Salon brand depends largely on its ability to provide high quality content and services.  If Internet users do not perceive Salon’s existing content and services to be of high quality, or if Salon introduces new content and services or enters into new business ventures that are not favorably perceived by users, Salon may not be successful in promoting and maintaining the Salon brand.  Any change in the focus of its operations creates a risk of diluting its brand, confusing consumers and decreasing the value of its user base to advertisers.  If Salon is unable to maintain or grow the Salon brand, its business could be severely harmed.




Salon needs to hire, integrate and/or retain qualified personnel because these individuals are important to its growth




Salon’s success significantly depends on key personnel.  In addition, because Salon’s users must perceive the content of Salon’s Website as having been created by credible and notable sources, Salon’s success also depends on the name recognition and reputation of its editorial staff.  Due to Salon’s history of losses, Salon may experience difficulty in hiring and retaining highly skilled employees with appropriate qualifications.  Salon may be unable to retain its current key employees or attract, integrate or retain other qualified employees in the future.  If Salon does not succeed in attracting new personnel or retaining and motivating its current personnel, its business could be harmed.





Salon may expend significant resources to protect its intellectual property rights or to defend claims of infringement by third parties, and if Salon is not successful it may lose rights to use significant material or be required to pay significant fees





Salon’s success and ability to compete are significantly dependent on its proprietary content.  Salon relies exclusively on copyright law to protect its content.  While Salon actively takes steps to protect its proprietary rights, these steps may not be adequate to prevent the infringement or misappropriation of its content, which could severely harm its business.  Salon also licenses content from various freelance providers and other third-party content providers.  While Salon attempts to ensure that such content may be freely licensed to it, other parties may assert claims of infringement against it relating to such content.





Salon may need to obtain licenses from others to refine, develop, market and deliver new services.  Salon may not be able to obtain any such licenses on commercially reasonable terms or at all or rights granted pursuant to any licenses may not be valid and enforceable.





In April 1999, Salon acquired the Internet address www.salon.com.  Because www.salon.com is the address of the main home page to its Website and incorporates Salon’s name, it is a vital part of its intellectual property assets.  Salon does not have a registered trademark on the address, and therefore it may be difficult for it to prevent a third party from infringing on its intellectual property rights to the address.  If Salon fails to adequately protect its rights to the Website address, or if a third party infringes its rights to the address, or otherwise dilutes the value of www.salon.com, its business could be harmed.




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Salon’s technology development efforts may not be successful in improving the functionality of its network, which could result in reduced traffic on its Website, reduced advertising revenues, or a loss of Salon Premium subscribers





Salon is constantly upgrading its technology to manage its Website and its Salon Premium program.  In addition, it is creating technology for new products that Salon expects to launch during the current fiscal year.  If these systems do not work as intended, or if Salon is unable to continue to develop these systems to keep up with the rapid evolution of technology for content delivery and subscription management, its Website or subscription management systems may not operate properly, which could harm Salon’s business.  Additionally, software product design, development and enhancement involve creativity, expense and the use of new development tools and learning processes.  Delays in software development processes are common, as are project failures, and either factor could harm Salon’s business.  Moreover, complex software products such as its online publishing and subscription management systems frequently contain undetected errors or shortcomings, and may fail to perform or scale as expected.  Although Salon has tested and will continue to test its systems, errors or deficiencies may be found in these systems that may adversely impact its business.





Salon relies on software, purchased from an independent supplier, to deliver and report some of its advertising, the failure of which could impair its business





Salon uses software, purchased from an independent supplier, to manage and measure the delivery of advertising on its Website.  The software is essential to Salon whenever an advertiser does not stipulate ad serving from a third party such as Doubleclick.  This type of software may fail to perform as expected.  If this software malfunctions, advertisements may not be served correctly on its Website, or if the software does not accurately capture impression information, then Salon’s advertising revenues could be reduced, and its business could be harmed.





Salon may be held liable for content or third party links on its Website or content distributed to third parties





As a publisher and distributor of content over the Internet, including user-generated content, links to third party Websites that may be accessible through Salon.com, or content that includes links or references to a third party’s Website, Salon faces potential liability for defamation, negligence, copyright, patent or trademark infringement and other claims based on the nature, content or ownership of the material that is published on or distributed from its Website.  These types of claims have been brought, sometimes successfully, against online services, Websites and print publications in the past.  Other claims may be based on errors or false or misleading information provided on linked Websites, including information deemed to constitute professional advice such as legal, medical, financial or investment advice.  Other claims may be based on links to sexually explicit Websites.  Although Salon carries general liability and media insurance, its insurance may not be adequate to indemnify Salon for all liabilities imposed.  Any liability that is not covered by its insurance or is in excess of its insurance coverage could severely harm its financial condition and business.  Implementing measures to reduce its exposure to these forms of liability may require Salon to spend substantial resources and limit the attractiveness of Salon’s service to users.





Concerns about transactional security may hinder electronic commerce on Salon’s Website and may expose Salon to potential liability





A significant barrier to sale of subscriptions and electronic commerce is the secure transmission of confidential information over public networks.  Any breach in Salon’s security could expose it to a risk of loss or litigation and possible liability.  Salon relies on encryption and authentication technology licensed from third parties to provide secure transmission of confidential information.  As a result of advances in the capabilities of Internet hackers, or other developments, a compromise or breach of the algorithms Salon uses to protect customer transaction data may occur.  A compromise of Salon’s security could severely harm its business.  A party who is able to circumvent Salon’s security measures could misappropriate proprietary information, including customer credit card information, or cause interruptions in the operation of its Website.




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Salon may be required to expend significant capital and other resources to protect against the threat of security breaches or to alleviate problems caused by these breaches.  Protection may not be available at a reasonable price or at all.





Salon’s internally developed software and software platforms provided by a third party to manage Salon’s subscription business might fail resulting in lost subscription income





Salon’s software to manage its subscription business was developed internally to interface with the software provided by a third party.  The third party’s software provides a gateway to authenticate credit card transactions.  Even though Salon’s system to manage its Salon Premium program is Payment Card Industry (PCI) compliant, if this system were to fail or not function as intended, credit card transactions might not be processed and Salon’s cash resources and revenues would therefore be harmed.





Salon’s systems may fail due to natural disasters, telecommunications failures and other events, any of which would limit user traffic





Substantially all of Salon’s communications hardware and computer hardware operations for its Website are in a facility in Sacramento, California that has been extensively retrofitted to withstand a major earthquake.  Fire, floods, earthquakes, power loss, telecommunications failures, break-ins, supplier failure to meet commitments, and similar events could damage these systems and cause interruptions in its services.  Computer viruses, electronic break-ins or other similar disruptive problems could cause users to stop visiting Salon’s Website and could cause advertisers to terminate any agreements with Salon.  In addition, Salon could lose advertising revenues during these interruptions and user satisfaction could be negatively impacted if the service is slow or unavailable.If any of these circumstances occurred, Salon’s business could be harmed.  Salon’s insurance policies may not adequately compensate it for losses that may occur due to any failures of or interruptions in its systems.  Salon does not presently have a formal disaster recovery plan.





Salon’s Website must accommodate a high volume of traffic and deliver frequently updated information.  It is possible that Salon will experience systems failures in the future and that such failures could harm its business.  In addition, its users depend on Internet service providers, online service providers and other Website operators for access to its Website.  Many of these providers and operators have experienced significant outages in the past, and could experience outages, delays and other difficulties due to system failures unrelated to its systems.  Any of these system failures could harm its business.





Privacy concerns could impair Salon’s business




Salon has a policy against using personally identifiable information obtained from users of its Website and services without the user’s permission.  In the past, the Federal Trade Commission has investigated companies that have used personally identifiable information without permission or in violation of a stated privacy policy.  If Salon uses personal information without permission or in violation of its policy, Salon may face potential liability for invasion of privacy for compiling and providing information to its corporate customers and electronic commerce merchants.  In addition, legislative or regulatory requirements may heighten these concerns if businesses must notify Internet users that the data may be used by marketing entities to direct product promotion and advertising to the user.  Other countries and political entities, such as the European Union, have adopted such legislation or regulatory requirements. The United States may adopt similar legislation or regulatory requirements.  If consumer privacy concerns are not adequately addressed, its business, financial condition and results of operations could be materially harmed.




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Possible state sales and other taxes could adversely affect Salon’s results of operations





Salon does not collect sales or other taxes from individuals who sign up for Salon subscriptions.  During the year ended March 31, 2008, the State of California audited Salon’s sales tax returns and found Salon in compliance with its filings and did not object to the fact that it did not collect sales tax on subscriptions.  However, one or more other states may seek to impose sales tax collection obligations on out-of-state companies, including Salon, which engage in or facilitate electronic commerce.  State and local governments have discussed and made proposals imposing taxes on the sale of goods and services through the Internet.  Such proposals, if adopted, could substantially impair the growth of electronic commerce and could reduce Salon’s ability to derive revenue from electronic commerce.  Moreover, if any state or foreign country were to assert successfully that Salon should collect sales or other taxes on the exchange of merchandise on its network or to tax revenue generated from Salon subscriptions, its financial results could be harmed.





Provisions in Delaware law and Salon’s charter, stock option agreements and offer letters to executive officers may prevent or delay a change of control




Salon is subject to the Delaware anti-takeover laws regulating corporate takeovers.  These anti-takeover laws prevent Delaware corporations from engaging in a merger or sale of more than 10% of its assets with any stockholder, including all affiliates and associates of the stockholder, who owns 15% or more of the corporation’s outstanding voting stock, for three years following the date that the stockholder acquired 15% or more of the corporation’s assets unless:




·
the Board of Directors approved the transaction in which the stockholder acquired 15% or more of the corporation’s assets;





·
after the transaction in which the stockholder acquired 15% or more of the corporation’s assets, the stockholder owned at least 85% of the corporation’s outstanding voting stock, excluding shares owned by directors, officers and employee stock plans in which employee participants do not have the right to determine confidentially whether shares held under the plan will be tendered in a tender or exchange offer; or





·
on or after this date, the merger or sale is approved by the Board of Directors and the holders of at least two-thirds of the outstanding voting stock that is not owned by the stockholder.




A Delaware corporation may opt out of the Delaware anti-takeover laws if its certificate of incorporation or bylaws so provide. Salon has not opted out of the provisions of the anti-takeover laws. As such, these laws could prohibit or delay mergers or other takeover or change of control of Salon and may discourage attempts by other companies to acquire Salon.




Salon’s certificate of incorporation and bylaws include a number of provisions that may deter or impede hostile takeovers or changes of control or management. These provisions include:




·
Salon’s Board is classified into three classes of Directors as nearly equal in size as possible with staggered three year-terms; and





·
special meetings of the stockholders may be called only by the Chairman of the Board, the Chief Executive Officer or the Board of Directors.





These provisions may have the effect of delaying or preventing a change of control.




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Salon’s certificate of incorporation and bylaws provide that it will indemnify officers and Directors against losses that they may incur in investigations and legal proceedings resulting from their services to Salon, which may include services in connection with takeover defense measures. These provisions may have the effect of preventing changes in Salon’s management.




In addition, employment agreements with certain executive officers provide for the payment of severance and acceleration of the vesting of options and restricted stock in the event of termination of the executive officer following a change of control of Salon.  These provisions could have the effect of discouraging potential takeover attempts.


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Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds.





Not applicable.





Item 3.
Defaults Upon Senior Securities.





Not applicable.





Item 4.
Submission of Matters to a Vote of Security Holders.





Removed and reserved.





Item 5.
Other Information.





Not applicable.





Item 6.
Exhibits





(a)      Exhibits.





10.41 (58)
Employment Agreement with Joan Walsh dated November 8, 2010





31.1
Certification of Richard Gingras, Chief Executive Officer of the Registrant pursuant to Section 302, as adopted pursuant to the Sarbanes-Oxley Act of 2002





31.2
Certification of Norman Blashka, Chief Financial Officer of the Registrant pursuant to Section 302, as adopted pursuant to the Sarbanes-Oxley Act of 2002





32.1
Certification of Richard Gingras, Chief Executive Officer of the Registrant pursuant to Section 906, as adopted pursuant to the Sarbanes-Oxley Act of 2002





32.2
Certification of Norman Blashka, Chief Financial Officer of the Registrant pursuant to Section 906, as adopted pursuant to the Sarbanes-Oxley Act of 2002




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Signatures





Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.





SALON MEDIA GROUP, INC.Dated:  February 14, 2011
By:
/s/ Richard GingrasRichard GingrasChief Executive OfficerDated:  February 14, 2011
By:
/s/ Norman BlashkaNorman BlashkaExecutive Vice President andChief Financial Officer