**SECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON, D.C. 20549**

 

**FORM 10-KSB**

 

| **ý**                                            | **ANNUAL  REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**     |
|-------------------------------------------------------|-----------------------------------------------------------------------------------------|
|                                                  |                                                                                    |
| **For  the fiscal year ended December 31, 2002** |
|                                                  |                                                                                    |
| **OR**                                                |
|                                                  |                                                                                    |
| **o**                                                 | **TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE  SECURITIES EXCHANGE ACT OF 1934** |

 

**Commission file number: 0-23000**

 

**SUNLAND ENTERTAINMENT CO., INC.**

(Name of Small BusinessIssuer in its charter)

 

| **DELAWARE**                                                    |   | **95-4217605**                                       |
|-----------------------------------------------------------------|--------|------------------------------------------------------|
| (State or Other  Jurisdiction  of Organization)                 |   | (IRS Employer  Incorporation or  Identification No.) |
|                                                            |   |                                                 |
| **11835 W. OLYMPIC BLVD., SUITE 550,  LOS ANGELES, CALIFORNIA** |   | **90064**                                            |
| (Address of Principal  Executive Offices)                       |   | (Zip Code)                                           |

 

Issuer’s TelephoneNumber, Including Area Code: **310-444-4100**

 

Securities registeredunder Section 12(b) of the Exchange Act: **NONE**

 

Securities registeredunder Section 12(g) of the Exchange Act:

 

**COMMON STOCK, NO PAR VALUE**

(Title of class)

 

Check whether theissuer: (1) filed all reports required to be filed by Section 13 or15(d) of the Exchange Act during the past 12 months (or for such shorterperiod that the issuer was required to file such reports), and (2) hasbeen subject to such filing requirements for past 90 days: Yes  ý   No o

 

Check if there isno disclosure of delinquent filers in response to Item 405 ofRegulation S-B contained in this form, and no disclosure will becontained, to the best of issuer’s knowledge, in definitive proxy orinformation statements incorporated by reference in Part III of thisForm 10-KSB or any amendment to the Form 10-KSB:  ý

 

State issuer’s revenuefor its most recent fiscal year: $1,119,000

 

State theaggregate market value of the voting stock held by non-affiliates computed byreference to the price at which the stock was sold, or the average bid andasked prices of such stock, as of March 31, 2003, a date within the past60 days, is: $189,549

 

State the numberof shares outstanding of each of issuer’s classes of common equity, as ofMarch 31, 2003: 455,017(713,137 shares including 258,120 shares into which the Series A andB Preferred Stock could be converted).

 

Transitional SmallBusiness Disclosure Format: Yes:  o   No:  ý

 

 

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**DocumentsIncorporated By Reference**

 

The following documentsare incorporated by reference into this report: None.

 

**FORWARD-LOOKING STATEMENTS**

 

This reportincludes forward-looking statements with-in the meaning of Section 27A ofthe Securities Act (the “Securities Act”) and Section 21E of theSecurities Exchange Act of 1934, as amended (the “Exchange Act”). We have basedthese statements on our beliefs and assumptions, based on information currentlyavailable to us. These forward-looking statements are subject to risks anduncertainties. Forward-looking statements include the information concerningour possible or assumed future results of operations set forth under thesections entitled “Business” and “Management’s Discussion and Analysis ofFinancial Condition and Results of Operations.”

 

Forward-lookingstatements are not guarantees of performance. Our future results andrequirements may differ materially from those described in the forward-lookingstatements. Many of the factors that will determine these results andrequirements are beyond our control. In addition to the risks and uncertaintiesdiscussed in “Business” and “Management’s Discussion and Analysis of FinancialCondition and Results of Operations,” investors should consider those discussedunder “Risk Factors” and, among others, the following:

 

•     our ability to successfullyimplement our business strategy,

 

•      changing consumer preferences,

 

•      the impact of competition and changes tothe competitive environment on our products and services, and

 

•      other factors detailed from time to timein our filings with the Securities and Exchange Commission.

 

Theseforward-looking statements speak only as of the date of this report. We do notintend to update or revise any forward-looking statements to reflect changes inour business strategy or planned capital expenditures, or to reflect theoccurrence of unanticipated events.

 

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**PART I**

 

**ITEM 1.    BUSINESS**

**Introduction**

 

**General**

 

SunlandEntertainment Co., Inc. (formerly The Harvey Entertainment Company),together with its subsidiaries Sunland Entertainment, Inc. (formerlyHarvey Comics, Inc.), Pepin/Merhi Entertainment Group, Inc., andInferno Acquisition Corp. (collectively, (the “Company”)) owns and exploitsmotion picture product and related intellectual property. Historically, thisincluded a library of widely recognized classic characters (the “Harvey ClassicCharacters”) and a related film library of animated short features (the “HarveyClassic Library”).  The Company is thesuccessor to Harvey Comics, Inc. (“Harvey Comics”) which was founded in 1939by the Harvey family.

 

**Recent Developments**

 

**Purchaseof Pepin/Merhi Entertainment Group, Inc.**

 

EffectiveApril 3, 2000, the Company completed the acquisition of Pepin/MerhiEntertainment Group, Inc. (“PM Entertainment”) to broaden the scope of theCompany’s entertainment operations.  PMEntertainment is a producer and distributor of motion pictures in the UnitedStates home video, television and Internet broadcasting markets as well as inall media in international markets.

 

The purchase priceconsisted of $6,500,000 paid in cash at closing, 36,300 common shares of theCompany with a fair value of $1,668,000 and $2,050,000 in subordinated notes.The Company also assumed existing bank debt with Imperial Bank in the amount ofapproximately $5,300,000.  Additionally,the Company’s subsidiary Inferno Acquisition Corp., purchased from ImperialBank a loan, secured by the motion picture “Inferno” and guaranteed by PMEntertainment.  The Company paid a downpayment of $2,000,000 and obtained a loan in the amount of approximately$4,800,000.  Financial results from theoperations of PM Entertainment are included in the Company’s accompanyingConsolidated Financial Statements from the date of acquisition.  All bank debt acquired in connection withthe purchase of PM Entertainment was completely satisfied at December 31,2001.

 

**ClassicMedia, LLC**

 

InMarch 2001, the Company signed an Asset Sale and Purchase Agreement forthe sale of substantially all of the assets, properties and rights of theHarvey Classic Characters owned by the Company to Classic Media, LLC (“ClassicMedia”).  The sale excluded PMEntertainment and related assets.  InMay 2001, the Company signed an amendment to the Asset Purchase and SaleAgreement to increase the purchase price. The purchase price of $17,000,000 plus the assumption of certainliabilities was paid in cash at closing, which occurred June 22, 2001,after the receipt of a shareholder vote and satisfaction of other customaryclosing conditions.  In connection withthe sale to Classic Media, the Company changed its name to “SunlandEntertainment Co., Inc.”

 

**Reincorporationto Delaware and Reverse Stock-Split**

 

On June 27, 2002,a special meeting of shareholders was held at the Company’s offices, where theproposal to change Sunland’s state of incorporation from California to Delaware and enact a ten-for-onereverse split of the Company’s common and preferred stock were approved.  The Company subsequently changed its stocksymbol to SLDE effective August 9, 2002. The effect of this stock split was reflected in  the financial statements retroactively as ifthe stock split occurred at the beginning of the earliest period reported.

 

**Settlementof Metropolitan Contract**

 

The Company’ssubsidiaries Inferno Acquisition Corp. and PM Entertainment had an ongoing  dispute with Metropolitan Film Exportregarding $2,300,000 due under a licensing contract for the motion picture“Inferno”.  In September 2001, theCompany entered into a settlement agreement with Metropolitan Film Export andThe Motion Picture Bond Company, an insuring agent, for $1,625,000 and receivedthe related payment in October 2001. The difference between the proceeds and accounts receivable balance wasfully provided for and written off in October 2001.  The proceeds from the settlement were used to satisfy the loanfacility with Imperial Bank secured by the motion picture “Inferno”.

 

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**ChangesIn Management**

 

Roger Burlage, theChairman and Chief Executive Officer of the Company, notified the Board ofDirectors that he intends to resign from his position at the expiration of hiscontract in April of this year.  OnJanuary 15, 2003, the Board of Directors of the Company authorized the creationof the Office of the President to provide for a smooth transition during theremainder of Mr. Burlage’s employment term. The Office of the President was created to provide general supervision,direction and control of the Company. Roger Burlage, David Weiner, and Gary Freeman were appointed to serve inthe Office of the President.  Mr. Freemanwas also elected  the Company’s ChiefFinancial Officer and Corporate Secretary.

 

InSeptember 2001, Caroline Stewart, the Company’s former Chief FinancialOfficer and Corporate Secretary resigned all of her positions with the Companyand Monique Green was appointed the Secretary of the Company and ChiefFinancial Officer.  In September 2002,Monique Green resigned all of her positions with the Company.

 

The Company’sprincipal executive offices are located at 11835 W. Olympic Blvd., Suite 550,Los Angeles, California 90064; its phone number is (310) 444-4100.

 

**Sale ofPM Entertainment Library**

 

On April 10, 2003,the Company and its wholly-owned subsidiary, Pepin/Merhi Entertainment Group,Inc., entered into an Asset Purchase Agreement with Film Library AcquisitionCorp. (“Purchaser”) for the sale of our remaining principal asset, PM’s filmlibrary (the “PM Entertainment Library”), for $6,000,000 in cash and theassumption by the Purchaser of all of the operating expenses associated withthe film library (the “Purchase Price”). The transaction is subject to shareholder approval, and we expect toclose by the end of June 2003.  Inaddition, $750,000 of the Purchase Price will be placed in an escrow at Closingand for a period of two years following the Closing, these funds will besubject to potential claims by the Purchaser against us for breaches ofrepresentations and warranties contained in the agreement.  The agreement establishes a cut-off date(the “Cut-Off Date”) for the operation of the PM Entertainment Library for thebenefit of the Company as of January 31, 2003, and as such, upon the Closing ofthe transaction, Purchaser will be entitled to receive the cash flow from thebusiness, net of all direct expenses of the film library and a portion of ourfixed expenses, in each case incurred from February 1, 2003 until the Closing.

 

The PMEntertainment Library currently represents substantially all of our assets andmost of our liabilities, other than our fixed operating expenses.  Thus, as a result of this transaction, afterthe Closing we will have no continuing business operations.  Consequently, the discussion of our resultsof operations should be read in light of the significant changes that willoccur in our business as a result of the Closing, and with the understandingthat our historical results of operations have little or no relevance to ourcontinuing operations.

 

Additionally,pursuant to the terms of our Amended and Restated Certificate of Incorporation,the Closing will trigger the liquidation preference provisions governing theSeries A and B Preferred Stock.  As aresult, the holders of our Series A and B Preferred Stock would be entitled toreceive all of the proceeds from the sale of the PM Entertainment Library.  Discussions with the holders of our Series Aand B Preferred Stock have indicated that these holders would be willing towaive their rights to these proceeds subject to the Company's acquisition ofanother business opportunity although the holders have not definitively agreedto waive their rights and there can be no assurance that these holders willwaive these rights.

 

If our preferredstockholders waive their rights to the liquidation preference described abovewe intend to utilize the proceeds from the sale of the PM Entertainment Libraryfor the possible acquisition of other businesses as opportunities arise.  Although we are actively considering anumber of potential acquisition opportunities, we have not entered into anydefinitive agreement with respect to any specific future acquisitions.  However, we do not intend to purchaseanother film library or to search within any specific kind of industry orbusiness, and may investigate and ultimately acquire a venture that is in itspreliminary or development stage, is already in operation, or in various stagesof its corporate existence and development. Therefore, the discussion of our results of operations should be read inlight of the significant changes that will occur in our business as a result ofthe Closing, and with the understanding that our historical results ofoperations have little or no relevance to our continuing operations.

 

Once the Companyidentifies a particular entity as a potential acquisition or merger candidate,management will seek to determine whether acquisition or merger is warranted,or whether further investigation is necessary. Such determination will generally be based on management’s knowledge andexperience, or with the assistance of outside advisors and consultantsevaluating the preliminary information available to them.  Management may elect to engage outsideindependent consultants to perform preliminary analysis of potential businessopportunities.  In evaluating suchpotential business opportunities, the Company will consider, to the extentrelevant to the specific opportunity, several factors including:

 

•                  potentialbenefits to us and our shareholders;

•                  workingcapital;

•                  financialrequirements and availability of additional financing;

•                  historyof operation, if any;

 

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•                  natureof present and expected competition;

•                  qualityand experience of management;

•                  needfor further research, development or exploration;

•                  potentialfor growth and expansion;

•                  potentialfor profits; and

•                  otherfactors deemed relevant to the specific opportunity.

 

There are certainunidentified risks that cannot be adequately expressed prior to theidentification of a specific business opportunity.  There can be no assurance following consummation of anyacquisition or merger that the business venture will develop into a goingconcern or, if the business is already operating, that it will continue tooperate successfully.  Many potentialbusiness opportunities available to the Company may involve new and untestedproducts, processes or market strategies which may not ultimately provesuccessful.  Please see the sectionbelow entitled “Risks Related to the Sale of the PM Entertainment Library andOur Future Operations.”

 

Pending their ultimateapplication and the determination of our preferred stockholders, the netproceeds from the sale of the PM Entertainment Library will be used for generalcorporate purposes, and will be invested in high quality, short term, interestbearing investments and deposit accounts. Depending upon the nature of any potential future acquisition and therequirement of any use of the proceeds therefore, we may also in the futureconsider distributing any excess proceeds to our Preferred Stockholders as adistribution.

 

**Business**

 

Historically, theCompany’s business strategy involved exploiting the Harvey Classic Charactersthrough filmed entertainment and capitalizing upon the relationship betweenfilmed entertainment, merchandising and other ancillary markets.  The assets, rights and properties pertainingto these activities were sold to Classic Media in June 2001.  Through the Company’s subsidiary, PMEntertainment, the Company has continued its exploitation of motion pictureproduct and related intellectual property by increasing its presence in foreignmarkets.  Due to depressed marketconditions, the Company has decided not to finance new film product.  If the Company does not successfullycomplete the sale of the PM Entertainment Library, the Company will continue tooperate as a scaled-back business focusing on the sale and licensing of thatlibrary.   Although the Companypreviously engaged Houlihan Lokey Howard & Zukin, or “Houlihan,” to explorestrategic alternatives that may have been available to the Company followingthe completion of its transaction with Classic Media, the Company terminatedits agreement with Houlihan in February of 2002.

 

Whether or not theCompany successfully completes the sale of the PM Entertainment Library, theCompany intends to continue exploring its various strategic alternatives,including the acquisition of additional assets, or a merger or sale of theCompany, or its assets.  The Companydoes not intend to limit its search to any specific kind of industry orbusiness.  It may investigate andultimately acquire a venture that is in its preliminary or development stage,is already in operation, or in various stages of its corporate existence anddevelopment.  A potential venture mightneed additional capital or merely desire to have its shares publicly traded.

 

**FilmedEntertainment**

 

Filmed entertainmentincludes direct-to-video films, television movies and television series.Through its subsidiary PM Entertainment, the Company extended its operationsinto the lower budget feature film and video arena. The predecessor of PMEntertainment was an independent entertainment company that produced anddistributed motion pictures into the domestic television and home video marketsand into the international markets for all media.  PM Entertainment’s most valuable assets are its film library ofapproximately 140 motion picture titles and 74 episodes of televisionseries.  The Company previously retainedCinetel Films to act as its sales agent to foreign licensee agreements, VenturaDistribution to handle the distribution of its domestic home video division andother outside sales consultants for the Company’s television properties.   On April 9, 2002, the Company canceled itsSales Agency Agreement with Cinetel, effective August 15, 2002.  Currently, the Company is primarily incharge of all sales and collection activities.

 

**Merchandising**

 

In March 2000, theCompany appointed Felix the Cat Productions, Inc.(“FTCP”), as itsexclusive licensing agent for Latin America. The agreement covered all of theCompany’s Harvey Classic Characters for a term of seven and one-half years.

 

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In June 2000, theCompany appointed Hearst Entertainment as its exclusive licensing agent for theremainder of the world. The agreement covered all of the Company’s HarveyClassic Characters for a term of two years.

 

In June 2001, all ofthe Company’s Harvey Classic Character assets, properties and rights were soldto Classic Media and the Company’s merchandising and licensing division wasdissolved.

 

**IntellectualProperty Assets**

 

The Company’s principalassets are its intellectual property rights in its proprietary PM Entertainmentlibrary consisting of approximately 140 films and 74 television episodes.  The Company has applied for and receivedcopyright and trademark protection in the United States and copyrightprotection in certain foreign countries which are parties to the BerneConvention, on many but not all of its film library.  The Company attempts vigorously to protect against infringementson the rights it holds to its proprietary film library.

 

**Competition**

 

Competition is intense inthe filmed entertainment industry in which the Company operates.  The Company’s licensed products compete withproducts produced and/or distributed by major entertainment companies, as wellas numerous smaller entertainment companies. Many of these competitors have significantly longer operating histories,greater financial resources and larger film catalogs than the Company.  Additionally, the film entertainment marketfor independent films has suffered dramatically over the past year, creating adecreased value on film assets.  Sucheconomic cycles are common and the Company believes as the global economyrebounds, there will be a resurgence in the independent film market as well.

 

**Employees**

 

The Company employsapproximately 3 persons on its full-time staff.  For the Company’s filmed entertainment  productions, the Company hires independent contractors orproduction facilities for creative work on an as-needed basis. None of theCompany’s employees are represented by a union and the Company believesrelations with its employees are good.

 

**FactorsWhich May Affect Future Results**

 

In connection with the“safe harbor” provisions of the Private Securities Litigation Reform Act of1995, the Company wishes to caution that the following important factors, amongothers, in some cases have affected and in the future could affect theCompany’s actual results and could cause such results to differ materially fromthose expressed in forward-looking statements made by or on behalf of theCompany.

 

**Operating Losses.**   TheCompany experienced operating losses for the fiscal years endedDecember 31, 2002 and 2001.  Suchlosses are expected to continue into the 2003 year as a result of the lackof product for release in the entertainment media.  There can be no assurance that the Company can achieve itsbusiness plan, and operating losses are likely to continue into the future.

 

**Risks Related To The Filmed Entertainment Industry.**   Motionpicture production, acquisition and distribution are highly competitivebusinesses.  The Company competes withmajor studios, other independent motion picture and television companies, largediversified entertainment conglomerates and others.  Some of the Company’s competitors are entities that are part oflarger, diversified corporate groups with a variety of other operations,including television networks and cable channels, which can provide superiormeans of distributing their products and stable sources of earnings to offsetfluctuations in the financial performance of their motion picture andtelevision operations.  There is a riskthat some or all of the Company’s motion pictures, if any, will not be commerciallysuccessful, resulting in costs not being recouped or anticipated profits notbeing realized.

 

The television, motionpicture and direct-to-video industries are highly speculative and historicallyhave involved a substantial degree of risk. The success of a trademarked orcopyrighted television program, video production or motion picture depends uponunpredictable and changing factors such as audience acceptance, which may bearlittle or no correlation to the Company’s production and other costs.

 

Audience acceptance ofthe Company’s products represents a response not only to the artisticcomponents of the products, but also to promotion by the distributor, theavailability of alternative forms of entertainment and leisure time activities,general economic conditions and public taste generally, and other intangiblefactors, all of which change

 

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rapidly and cannot be predicted with any certainty.

 

The entertainmentindustry in general, and the motion picture industry in particular, continuesto undergo significant changes, primarily due to technological developments,shifting consumer tastes and the popularity and availability of other forms ofentertainment.  As a result, it isimpossible to predict the overall effect these factors will have on theoperations of the Company.

 

**Fluctuation In Revenue Recognition From Film Licensing.**   TheCompany’s quarterly and yearly operating results may fluctuate in part due tothe manner in which the Company is required to record revenue from film licensingagreements.  Although film licensingagreements typically grant rights for a period of one to five years, revenuesare typically recognized when the license period begins, provided certainconditions are met.  Fluctuations inquarterly and yearly operating results may also arise due to the Company’stiming in entering into film licensing agreements.  Therefore, the Company believes that period-to-period comparisonsof its results from operations are not necessarily an accurate indication offuture performance.

 

**Intellectual Property Rights.**   TheCompany’s principal assets are its intellectual property rights. The Companyhas applied for and received copyright and trademark protection in the UnitedStates, and copyright protection in many foreign countries, on manypublications and other works.  TheCompany endeavors to protect against infringements on the rights it holds.

 

The term of copyrightprotection in the U.S. is limited by statute and trademark rights, whilepotentially of indefinite duration, must be continually used and, depending onthe date of publication, may have to be periodically renewed.

 

The Company believes ithas protectible rights with respect to all of its proprietary film librarysubject to licenses granted by the Company. There is, however, no assurance that claims will not be asserted againstthe Company which, if successful, would have a material adverse effect on theCompany’s business.

 

**Risks Related to the Successful Saleof the PM Entertainment Library and Our Future Operations**

 

**If the sale of the PM Entertainment library is successful,the Company may be subject to substantial risks specific to another business orbusiness opportunity, the specific risks of which the Company cannot currentlyascertain. **If theCompany successfully completes the sale of the PM Entertainment library andsubsequently acquires or merges with another business, it may be subject tosubstantial risks specific to a particular business or business opportunity,the specific risks of which cannot be ascertained until a potential acquisitionor merger candidate has been identified. However, at a minimum, the Company’sproposed business operations may be highly speculative and be subject to thesame types of risks inherent in any new or unproven venture.

 

**If the sale of the PM Entertainment library is successful, wewill have no material assets other than cash, and no source of revenue. **If the Companysuccessfully completes the sale of the PM Entertainment library, it will haveno material assets other than cash and will have no revenues.  It is unlikely that the Company will receiveany revenues until it completes an acquisition or merger.  There can be no assurance that any acquiredbusiness will produce any material revenues for the Company or its stockholdersor that any such business will operate on a profitable basis.

 

**Our Auditors Have Expressed a Going Concern Opinion.**  Even with the Company’s continuing operationof the PM Entertainment library, its independent auditors discuss in theirreport the Company’s ability to continue as a going concern. They include astatement that: “[a]s discussed in Note 1 to the financial statements, theCompany has suffered recurring losses from operations and has an accumulateddeficit.  This raises substantial doubtabout the Company’s ability to continue as a going concern.”  If the Company successfully completes thesale of the PM Entertainment library and is unable to subsequently consummate asuccessful acquisition or merger, the Company may be forced to cease operations.  You are encouraged to read Note 1 to thefinancial statements included in this report.

 

**Discretionary Use of Proceeds. **If the Company successful completes the sale ofthe PM Entertainment library, it will not be engaged in any substantive businessactivities other than looking for and investigating businessopportunities.  Accordingly, managementwill have broad discretion with respect to the potential acquisition of assets,property or business.  There can be noassurance that the Company’s use or allocation of its available cash will allowthe Company to achieve its business objectives.

 

**ITEM2.    PROPERTIES**

 

The principal offices ofthe Company consist of approximately 14,000 square feet of general office spacelocated at

 

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11835 W. Olympic Blvd., Suite 550, LosAngeles, California 90064.  The Companyentered into a seven-year lease for such office space commencing inDecember 1999, with a five-year option to renew.  The Company also leases approximately 9,000 square feet of officespace in Santa Monica pursuant to a ten-year lease entered into inDecember 1993.  The Company hasentirely subleased the Santa Monica space to an unaffiliated person until Julyof 2004.

 

The principal offices ofPM Entertainment consisted of approximately 120,000 square feet of generaloffice, post production and sound stage facilities located in Sunland,California.  In connection with theacquisition of PM Entertainment, the Company entered into a two year lease of thepremises with an option to purchase the facility and surrounding property,which expired March 31, 2002.

 

**ITEM3.    LEGAL PROCEEDINGS**

 

The Company is notcurrently involved in any material legal proceedings.

 

**ITEM4.    SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS**

 

None.

 

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**PART II**

 

**ITEM5.    MARKET FOR ISSUER’S COMMON EQUITY AND RELATEDSHAREHOLDER MATTERS**

 

**MarketPrices**

 

The Company’s commonstock, no par value (the “Common Stock”) is currently traded on the Over-TheCounter Bulletin Board under the symbol “SLDE.OB.”  On June 27, 2002, a special meeting of shareholders was held atthe Company’s offices, where the proposal to enact a ten-for-one reverse splitof the Company’s common  and preferredstock was approved.  The Companysubsequently changed its stock symbol from “SUNE.OB”  to  “SLDE.OB,” effectiveAugust 9, 2002.   The following tablesets forth, for the fiscal quarters indicated, the high and low sale price forthe common stock, as reported on the Over-The-Counter Bulletin Board.

 
| **Quarterly  Period**                      |   | **High** |   | **Low** |   |
|--------------------------------------------|--------|----------|--------|---------|--------|
| Fiscal year ended  December 31, 2001: |   |     |   |    |   |
| First Quarter                              |   | $        | 4.50   |    | $      | 1.30 |   |
| Second Quarter                             |   | $        | 2.20   |    | $      | 1.00 |   |
| Third Quarter                              |   | $        | 2.00   |    | $      | 0.90 |   |
| Fourth Quarter                             |   | $        | 1.20   |    | $      | 0.70 |   |
|                                       |   |     |   |    |   |
| Fiscal year ended  December 31, 2002: |   |     |   |    |   |
| First Quarter                              |   | $        | 1.10   |    | $      | 0.80 |   |
| Second Quarter                             |   | $        | 1.20   |    | $      | 0.70 |   |
| Third Quarter                              |   | $        | 1.00   |    | $      | 0.70 |   |
| Fourth Quarter                             |   | $        | 0.72   |    | $      | 0.45 |   |

 

**Holders**

 

As of March 29,2003, there were approximately 160 holders of record of the Company’s CommonStock.

 

**Dividends**

 

The Company has neverpaid cash dividends on the Common Stock. The Board of Directors expects that the Company will continue to retainany future earnings for use in its business.

 

**EquityCompensation Plan Information**

 

The following table setsforth certain information regarding the Company’s equity compensation plans asof December 31, 2002.

 
|                                                        |   | **Number of  securities to be  issued upon exercise of  outstanding options,  warrants and rights** |       | **Weighted-average  exercise  price of outstanding options,  warrants and rights** |       | **Number of  securities remaining  available for future issuance  under equity compensation plans** |       |
|-------------------------------------------------------------|--------|-----------------------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------|------------|-----------------------------------------------------------------------------------------------------|------------|
|                                                        |   |                                                                                                | ** ** |                                                                               | ** ** |                                                                                                | ** ** |
| Equity  compensation plans approved by security holders     |   | 29,000                                                                                              |       | 75.90                                                                              |       | 5,000                                                                                               |       |
| Equity  compensation plans not approved by security holders |   | 134,000                                                                                             |       | 106.57                                                                             |       | 0                                                                                                   |       |
| Total                                                       |   | 163,000                                                                                             |       | 101.02                                                                             |       | 5,000                                                                                               |       |

 

As a result of arefinancing that took place in 1999, the Company granted options, not coveredby its stockholder approved stock incentive plans, to purchase 134,462 sharesof common stock to certain employees, officers and directors. These optionsvest either on the grant date or over three years from the grant date. Theoptions are exercisable at prices ranging from $90 to $120 per share and expiresix to eight years from their issuance date.

 

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**ITEM6.    MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIALCONDITION AND RESULTS OF OPERATIONS**

 

**Introduction**

 

The Company conducts itsoperations through its wholly-owned subsidiaries, which include SunlandEntertainment, Inc. and PM Entertainment. The Company’s revenues were previously derived from two primary sources: (i) filmedentertainment and (ii) merchandising and licensing.   In June 2001, all of the Company’s HarveyClassic Character assets, properties and rights were sold to Classic Media andthe Company’s merchandising and licensing division was dissolved.   Since that time, the Company’s revenueshave been derived solely from film entertainment.  This Report contains, or incorporates by reference, certainstatements that may be deemed “forward-looking statements” within the meaningof the Private Securities Litigation Reform Act of 1995.  Such statements appear in a number of placesin this Report, including, without limitation, “Management’s Discussion andAnalysis of Financial Condition and Results of Operations”.  These statements are based on currentexpectations, estimates and projections about our business based, in part, onassumptions made by management.  Thesestatements are not guarantees of future performance and involve risks,uncertainties and assumptions that are difficult to predict.

 

**RecentDevelopments**

 

*Sale ofPM Entertainment Library*

 

On April 10, 2003, theCompany and its wholly-owned subsidiary, Pepin/Merhi Entertainment Group, Inc.,entered into an Asset Purchase Agreement with Film Library Acquisition Corp.(“Purchaser”) for the sale of our remaining principal asset, PM’s film library(the “PM Entertainment Library”), for $6,000,000 in cash and the assumption bythe Purchaser of all of the operating expenses associated with the filmlibrary  (the “Purchase Price”).  The transaction is subject to shareholderapproval, and we expect to close by the end of June 2003.  In addition, $750,000 of the Purchase Pricewill be placed in an escrow at Closing and for a period of two years followingthe Closing, these funds will be subject to potential claims by the Purchaseragainst us for breaches of representations and warranties contained in theagreement.  The agreement establishes acut-off date (the “Cut-Off Date”) for the operation of the PM EntertainmentLibrary for the benefit of the Company as of January 31, 2003, and as such,upon the Closing of the transaction, Purchaser will be entitled to receive thecash flow from the business, net of all direct expenses of the film library anda portion of our fixed expenses, in each case incurred from February 1, 2003until the Closing.

 

Additionally, pursuant tothe terms of our Amended and Restated Certificate of Incorporation, the Closingwill trigger the liquidation preference provisions governing the Series A and BPreferred Stock. As a result, the holders of our Series A and B Preferred Stockwould be entitled to receive all of the proceeds from the sale of the PMEntertainment Library. Discussions with the holders of our Series A and BPreferred Stock have indicated that these holders would be willing to waivetheir rights to these proceeds subject to the Company's acquisition of anotherbusiness opportunity although the holders have not definitively agreed to waivetheir rights and there can be no assurance that these holders will waive theserights.

 

If our preferredstockholders waive their rights to the liquidation preference described abovewe intend to utilize the proceeds from the sale of the PM Entertainment Libraryfor the possible acquisition of other businesses as opportunities arise.  Although we are actively considering a numberof potential acquisition opportunities, we have not entered into any definitiveagreement with respect to any specific future acquisitions.  However, we do not intend to purchaseanother film library or to search within any specific kind of industry or business,and may investigate and ultimately acquire a venture that is in its preliminaryor development stage, is already in operation, or in various stages of itscorporate existence and development. Therefore, the discussion of our results of operations should be read inlight of the significant changes that will occur in our business as a result ofthe Closing, and with the understanding that our historical results ofoperations have little or no relevance to our continuing operations.

 

Once the Companyidentifies a particular entity as a potential acquisition or merger candidate,management will seek to determine whether acquisition or merger is warranted,or whether further investigation is necessary. Such determination will generally be based on management’s knowledge andexperience, or with the assistance of outside advisors and consultantsevaluating the preliminary information available to them.  Management may elect to engage outsideindependent consultants to perform preliminary analysis of potential businessopportunities.  In evaluating suchpotential business opportunities, the Company will consider, to the extentrelevant to the specific opportunity, several factors including:

 

•                  potentialbenefits to us and our shareholders;

•                  workingcapital;

•                  financialrequirements and availability of additional financing;

•                  historyof operation, if any;

 

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•                  natureof present and expected competition;

•                  qualityand experience of management;

•                  needfor further research, development or exploration;

•                  potentialfor growth and expansion;

•                  potentialfor profits; and

•                  otherfactors deemed relevant to the specific opportunity.

 

There are certainunidentified risks that cannot be adequately expressed prior to theidentification of a specific business opportunity.  There can be no assurance following consummation of anyacquisition or merger that the business venture will develop into a goingconcern or, if the business is already operating, that it will continue tooperate successfully.  Many potential businessopportunities available to the Company may involve new and untested products,processes or market strategies which may not ultimately prove successful.  Please see the section entitled “RisksRelated to the Sale of the PM Entertainment Library and Our Future Operations.”

 

Pending their ultimateapplication, and the determination of our preferred stockholders, the netproceeds from the sale of the PM Entertainment Library will be used for generalcorporate purposes, and will be invested in high quality, short term, interestbearing investments and deposit accounts. Depending upon the nature of any potential future acquisition and therequirement of any use of the proceeds therefore, we may also in the future considerdistributing any excess proceeds to our Preferred Stockholders as adistribution.

 

**Criticalaccounting policies and estimates**

 

*General*

 

The SEC recently issuedFinancial Reporting Release No. 60, “Cautionary Advice RegardingDisclosure About Critical Accounting Policies” (“FRR60”), suggesting companiesprovide additional disclosure and commentary on those accounting policiesconsidered most critical.  FRR 60considers an accounting policy to be critical if it is important to theCompany’s financial condition and results of operations, and requiressignificant judgment and estimates on the part of management in itsapplication.  For a summary of theCompany’s significant accounting policies, including the critical accountingpolicies discussed below, see the accompanying notes to the consolidatedfinancial statements.

 

The preparation of theCompany’s financial statements in conformity with GAAP requires management tomake estimates, judgments and assumptions that affect the reported amounts ofassets and liabilities, disclosure of contingent assets and liabilities at thedate of the financial statements and the reported amount of expenses during thereporting period.  On an ongoing basis,the Company evaluates its estimates which are based on historical experienceand on various other assumptions that are believed to be reasonable under thecircumstances.  The result of theseevaluations forms the basis for making judgments about the carrying values ofassets and liabilities and the reported amount of expenses that are not readilyapparent from other sources.  Actualresults may differ from these estimates under different assumptions.  The following accounting policies requiresignificant management judgments and estimates:

 

•                  Accounting forthe production and distribution of motion pictures and television programmingis in accordance with SOP 00-2, which requires management’s judgment as itrelates to totals revenues to be received and costs to be incurred throughoutthe life of each program or license period. These judgments are used to determine the amortization of capitalizedprogramming costs associated with revenues earned and any net realizable valueadjustments.

 

•                  The Companyaccounts for its business acquisitions under the purchase method ofaccounting.  The total cost ofacquisitions is allocated to the underlying net assets, based on theirrespective estimated fair values.  Theexcess of the purchase price over the estimated fair value of the tangible netassets acquired is recorded as intangibles. Determining the fair value of assets acquired and liabilities assumedrequires management’s judgment and often involves the use of significantestimates and assumptions, including assumptions with respect to future cashinflows and outflows, discount rates, asset lives, and market multiples, amongother items.

 

•                  The Companyassesses potential impairment of long-lived assets and identifiable intangiblesunder the guidance of SFAS 121 “Accounting for the Impairment ofLong-Lived Assets and for Long-Lived Assets to be Disposed Of.”

 

•                  The Companyadopted SFAS 142 “Accounting For Goodwill and Other Intangible Assets” in thefirst quarter of 2002.  SFAS No. 142requires that goodwill and intangible assets with indefinite useful lives nolonger be

 

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amortized to earnings, but instead be reviewed forimpairment in accordance with this standard. The impairment charge taken in the first quarter of 2002 was recognizedas a cumulative effect of a change in accounting principle.

 

The Company bases its estimateson historical experience and on various other assumptions that are believed tobe reasonable under the circumstances, the results of which form the basis formaking judgments about the carrying values of assets and liabilities that arenot readily apparent from other sources. There can be no assurance that actual results will not differ from theseestimates.

 

**ConsolidatedStatement of Discontinued Operations**

 
|                                                                                                                                        |   | **Year Ended December 31,** |       |
|---------------------------------------------------------------------------------------------------------------------------------------------|--------|----------------------------------|------------|
|                                                                                                                                        |   | **2002**                         |       | **2001** |   |
| Filmed entertainment  revenues                                                                                                              |   | $                                | 1,119,000  |   | $ | 10,894,000 |   |
| Merchandising revenues                                                                                                                      |   | —                           |       | 547,000 |   |
| Total operating  revenues                                                                                                                   |   | 1,119,000                        |       | 11,441,000 |   |
| Film costs                                                                                                                                  |   | 2,135,000                        |       | 8,411,000 |   |
| Other costs of sales                                                                                                                        |   | —                           |       | 93,000 |   |
| Selling, general &  administrative expenses                                                                                             |   | 3,744,000                        |       | 6,240,000 |   |
| Depreciation and other  amortization                                                                                                        |   | 112,000                          |       | 1,749,000 |   |
| Loss from operations                                                                                                                        |   | (4,872,000                       | )          | (5,052,000 | ) |
| Other  income (loss)                                                                                                                        |   | 594,000                          |       | 3,935,000 |   |
| Loss before income  taxes                                                                                                                   |   | (4,278,000                       | )          | (1,117,000 | ) |
| Extraordinary gain                                                                                                                          |   | —                           |       | 293,000 |   |
| Cumulative effect of accounting  changes                                                                                                    |   | (2,861,000                       | )          | (628,000 | ) |
| Net loss                                                                                                                                    |   | (7,139,000                       | )          | (1,452,000 | ) |
| Preferred stock  dividends                                                                                                                  |   | (1,168,000                       | )          | (1,304,000 | ) |
| Excess of carrying  amount on preferred stocks and warrants over fair value transferred to  shareholders                                    |   | —                           |       | 6,579,000 |   |
| Excess of fair value of  Series B stock (less carrying amount and associated beneficial  conversion feature of Series A redeemed) |   | —                           |       | (469,000 | ) |
| Net income (loss)  applicable to common stockholders                                                                                        |   | $                                | (8,307,000 | ) | $ | 3,354,000 |   |
| Basic & Diluted net  income (loss) per share                                                                                            |   | $                                | (18.26     | ) | $ | 7.37 |   |

 

**ResultsFrom Discontinued Operations**

 

*FiscalYear 2002 Compared to Fiscal Year 2001*

 

**Revenues**

 

The Company’s net filmedentertainment revenues were $1,119,000 in 2002 and $10,894,000 in 2001, adecrease of $9,775,000.  The decrease isdue, in part, to the sale of the Company’s library of Harvey Classic Charactersto Classic Media in June 2001 with an effective date of February 1,2001.  In addition, recent eventsoverseas have negatively impacted the international media markets, causingsignificant financial losses to the entertainment industry and furtherdepressing the values of filmed library assets.  Additional decreases in revenue resulted from management’sdecision not to finance new product.    The 2002 revenue primarilyconsists of $445,000 of foreign broadcast license revenues, $285,000 ofdomestic home video revenues,  $194,000of domestic license fee revenues, and $195,000 from other sources, such asmusic royalty revenues.

 

Net merchandisingrevenues were zero and $547,000 in 2002 and 2001, respectively, a decrease of$547,000. The decrease in revenue is due to the sale of the Company’s libraryof Harvey Classic Characters to Classic Media in June 2001. The merchandisingrevenues consisted of new licenses for the worldwide merchandising of theHarvey Classic Characters entered into by Hearst Entertainment on behalf of theCompany in 2001.

 

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**FilmCosts**

 

Costs of sales (includingfilm amortization) relating to filmed entertainment revenues were $2,135,000and $8,411,000 in 2002 and 2001, respectively. The decrease in cost of sales isdue to a decrease in film activity in addition to the sale of the Company’sHarvey Classic Characters to Classic Media in June 2001.

 

**OtherCosts of Sales**

 

Merchandising costs ofsales were zero and $93,000 in 2002 and 2001, respectively.  The decrease in cost of sales is due to thesale of the Harvey Classic Characters in June 2001 and closure of the Company’sin-house merchandising and licensing division in 2000.

 

**Selling,General and Administrative Expenses**

 

Selling, general andadministrative expenses were $3,744,000 and $6,240,000 for 2002 and 2001,respectively.  The decrease in selling,general and administrative expenses of $2,496,000 in 2002 is due to a reductionin staffing and other overhead.  TheCompany has budgeted  for additionaloverhead reductions in the first quarter of 2003.

 

**Depreciationand Amortization**

 

Depreciation andamortization expense was $112,000 and $1,749,000 in 2002 and 2001,respectively.  The $1,637,000 decreaseis due to the Company ceasing the amortization of goodwill as required by theprovisions of  SFAS No. 142 which wasadopted on January 1, 2002.

 

**OtherIncome/(Loss)**

 

Loss on the impairment ofsecurities was $5,000 and $26,000 in 2002 and 2001, respectively.  The loss in 2002 results from an impairmentin the value of Metromedia International Group, Inc. common stock.  The loss in 2001 consists of an impairmentin the value of Tutornet common stock. Tutornet stock was completely writtenoff at June 30, 2001.

 

Gain/(Loss) ondisposition of assets was $(91,000) and $3,913,000 in 2002 and 2001,respectively.   The loss in 2002 is dueto the disposition of fixed assets.  Thegain in 2001 is due primarily to the sale of assets, properties and rights ofthe Company’s library of Harvey Classic Characters and related contractualrights and agreements for $17 million to Classic Media.  This gain was partially offset by losses onthe disposition of fixed assets during 2001.

 

Gains on settlement werezero and $1,650,000 in 2002 and 2001, respectively.  The gains were due to a $250,000 settlement on a licenseagreement, $1,000,000 pursuant to a settlement agreement with formerstockholders of PM Entertainment, and a $400,000 paydown of a loan pursuant toa settlement agreement with The Motion Picture Bond Company.

 

Amortization of deferredfinancing charges was zero and $1,308,000 in 2002 and 2001, respectively. Deferred financing charges relate mainly to a revolving credit facilityentered into with The Chase Manhattan Bank in April 2000. The charges werebeing amortized over the five-year term of the facility.  In June 2001, the Company repaid theamount owing in full and wrote off the remaining deferred financing charges.

 

Interestincome/(expense), net was $139,000 and $(839,000) in 2002 and 2001,respectively.  Interest income in 2002consists primarily from amounts earned on the federal tax refund receivable.  The net expense in 2001 consists of $642,000of interest on The Chase Manhattan Bank credit facility, $38,000 in equipmentfinancing charges, $186,000 of interest on other production loans and waspartially offset by $27,000 of interest income.  See “Liquidity and Capital Resources”.

 

Other income was $551,000and $545,000 in 2002 and 2001, respectively. The income was derived principallyfrom sublease arrangements on leased office space that is no longeroccupied.  The company received $469,000of rent income in 2002, and $443,000 in 2001.

 

**ExtraordinaryGain**

 

Extraordinary gain waszero and $293,000 in 2002 and 2001, respectively. The gain is due to a $293,000settlement on subordinated notes payable to stockholders of the Company.

 

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**CumulativeEffect of Accounting Changes**

 

Effective January 1,2002, the Company changed the accounting for goodwill from an amortizationmethod to an impairment only approach, which resulted in a one-time, non-cashcharge of $2,861,000.

 

Effective January 1,2001, the Company changed its method of accounting for film costs, whichresulted in a one-time non-cash charge of $628,000.

 

**Liquidityand Capital Resources**

 

Net cash providedby/(used in) operating activities was $(67,000) and $2,855,000 in 2002 and2001, respectively. The increase in cash used in operating activities wasprimarily due to a decrease in net income, investment in film inventory, gainson disposition of assets and settlement of debt, prepaids and accountsreceivable, offset by a decrease in the amortization of deferred financingcharges, accounts payable, participations and residuals and deferred revenuebalances.

 

Net cash providedby/(used in) investing activities was zero and $16,075,000 in 2002 and 2001,respectively.  Cash provided byinvesting activities in 2001 resulted from the sale of substantially all of theCompany’s Harvey Classic Character assets, properties and rights owned by theCompany to Classic Media.

 

Net cash providedby/(used in) financing activities was zero and $(18,475,000) in 2002 and 2001,respectively.  Cash used in financingactivities in 2001 is due to the repayment of a credit facility the Companyentered into with The Chase Manhattan Bank credit facility, subordinated notespayable to stockholders and other production loans.

 

In June 2001, theCompany repaid all borrowings under (i) a credit facility entered intowith The Chase Manhattan Bank , (ii) production loans received from TheLewis Horwitz Organization and (iii) on subordinated notes payable to stockholdersof the Company.

 

In March 2001, theCompany signed an Asset Purchase and Sale Agreement with Classic Media for thesale of substantially all of the Company’s Harvey Classic Character assets,properties and rights.  In May 2001,the Company signed an amendment to the Asset Purchase and Sale Agreement toincrease the purchase price.  Theassets, properties and rights sold include the Company’s library of HarveyClassic Characters and certain contractual rights and agreements that relate tothose assets. The purchase price of $17,000,000 plus the assumption of certainliabilities was paid in cash at closing, which occurred on June 22, 2001,after the receipt of a shareholder vote and satisfaction of other customaryclosing conditions.

 

Pursuant to the termsof  Loan and Security Agreements,entered into with the Lewis Horwitz Organization, the Company received loansfrom The Lewis Horwitz Organization, which loans were secured by the accountsreceivable of certain motion pictures. The loans were fully repaid in February 2001.

 

In April 2000, theCompany acquired 100% of the outstanding shares of PM Entertainment.  The purchase price consisted of $6,500,000in cash, 36,300 common shares of the Company with a fair value of $1,668,000, a$2,050,000 subordinated note and assumption of Imperial Bank debt ofapproximately $5,300,000.  In connectionwith the acquisition of PM Entertainment, the Company purchased from ImperialBank a loan, secured by the motion picture “Inferno”, by paying a down paymentof $2,000,000 and obtaining a loan from Imperial Bank in the amount ofapproximately $4,800,000 pursuant to a Loan and Security Agreement.  Loans from Imperial Bank were completelyrepaid by December 31, 2001.

 

At April 3, 2000,the Company entered into a five year, $25,000,000 revolving credit facilitywith The Chase Manhattan Bank to provide operating funds and a portion of theacquisition financing of the PM Entertainment acquisition.  In June 2001, upon the closing of theClassic Media transaction, the Company repaid all borrowings under the Facilityand the Facility was terminated.

 

Management believes thatthe Company’s current and anticipated sources of working capital fromcollection of accounts receivable and new sales of the Company’s remaining filmlibrary are not sufficient to provide the necessary liquidity and financing forthe Company’s operating financial needs as set forth in Management’s currentbusiness plan for the next twelve months. To address previous liquidity issues management sold certain assets,properties and rights owned by the Company to Classic Media.  The assets, properties and rights soldincluded the Company’s library of Harvey Classic Characters and certaincontractual rights and agreements that related to those assets.  The purchase price of

 

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$17 million plus the assumption of certainliabilities was paid in cash at closing, which occurred on June 22, 2001,after the receipt of shareholder vote and satisfaction of other customaryclosing conditions.  Management utilizedthe funds to repay a significant portion of the Company’s debt outstanding,including the borrowings under The Chase Manhattan Bank  credit facility and subordinated notespayable.  On April 10, 2003, the Companyand its wholly-owned subsidiary, Pepin/Merhi Entertainment Group, Inc., enteredinto an Asset Purchase Agreement with Film Library Acquisition Corp. for thesale of PM’s film library.  If theCompany does not successfully complete the sale of the PM EntertainmentLibrary, management will continue to operate the Company as a scaled-backbusiness focusing on the sale of that PM library.

 

Whether or not theCompany successfully completes the sale of the PM Entertainment Library, theCompany intends to continue exploring its various strategic alternatives,including the acquisition of additional assets, or a merger or sale of theCompany, or its assets.  The Companydoes not intend to limit its search to any specific kind of industry or business.  It may investigate and ultimately acquire aventure that is in its preliminary or development stage, is already inoperation, or in various stages of its corporate existence anddevelopment.  A potential venture mightneed additional capital or merely desire to have its shares publicly traded.

 

**Inflationand Seasonality**

 

Inflation has not beenmaterial to the Company during the past five years.

 

**ITEM 7.FINANCIAL STATEMENTS**

 

Pages F-1 through F-21 follow.

 

The following tables setforth supplementary data for each of the years in the two-years endedDecember 31, 2002.

 
|                                                                                 |   | **2002**        |    |
|--------------------------------------------------------------------------------------|--------|-----------------|---------|
|                                                                                 |   | **March 31**    |    | **June 30** |   | **Sept 30** |   | **Dec 31** |   |
|                                                                                 |   | **(unaudited)** |    | **(unaudited)** |   | **(unaudited)** |   | **(unaudited)** |   |
| Revenues                                                                             |   | $               | 218,000 |   | $ | 421,000 |   | $ | 288,000 |   | $ | 192,000 |   |
| Gross Profit (Loss)                                                                  |   | 169,000         |    | 79,000 |   | (328,000 | ) | (936,000 | ) |
| Loss before  extraordinary gain and cumulative effect of accounting principle change |   | (564,000        | )       | (850,000 | ) | (894,000 | ) | (1,970,000 | ) |
| Net Income (Loss)                                                                    |   | (564,000        | )       | (3,711,000 | ) | (894,000 | ) | (1,970,000 | ) |
| Net Income (Loss)  attributable to Common Stock                                      |   | (848,000        | )       | (4,000,000 | ) | (1,189,000 | ) | (2,270,000 | ) |
| *Income (Loss) per share:*                                                           |   |            |    |   |   |   |   |   |   |
| Basic and Diluted                                                                    |   | $               | (1.86   | ) | $ | (8.79 | ) | $ | (2.61 | ) | $ | (5.00 | ) |

 
|                                                                                            |   | **2001**        |      |
|-------------------------------------------------------------------------------------------------|--------|-----------------|-----------|
|                                                                                            |   | **March 31**    |      | **June 30** |   | **Sept 30** |   | **Dec 31** |   |
|                                                                                            |   | **(unaudited)** |      | **(unaudited)** |   | **(unaudited)** |   | **(unaudited)** |   |
| Revenues                                                                                        |   | $               | 6,545,000 |   | $ | 2,951,000 |   | $ | 1,377,000 |   | $ | 568,000 |   |
| Gross Profit                                                                                    |   | 909,000         |      | 1,314,000 |   | 470,000 |   | 244,000 |   |
| Income (Loss) before  extraordinarygain and cumulative effect of change in accounting principle |   | (2,283,000      | )         | 3,502,000 |   | (779,000 | ) | (1,557,000 | ) |
| Net Income (Loss)                                                                               |   | (2,911,000      | )         | 3,795,000 |   | (779,000 | ) | (1,557,000 | ) |
| Net Income (Loss)  attributable to Common Stock                                                 |   | (3,285,000      | )         | 2,950,000 |   | 5,525,000 |   | (1,836,000 | ) |
| *Income (Loss) per share:*                                                                      |   |            |      |   |   |   |   |   |   |
| Basic and Diluted                                                                               |   | $               | (7.20     | ) | $ | 6.50 |   | $ | 12.07 |   | $ | (4.00 | ) |

 

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**ITEM 8.CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIALDISCLOSURE**

 

Not Applicable

 

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**PART III**

 

**ITEM9.    DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROLPERSONS; COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT.**

 

**MANAGEMENT**

 

Set forth below iscertain information with respect to the directors and executive officers of theCompany as of the date of the filing of this report:

 
| **Name**           |   | **Age** |   | **Position**                                                      |   |
|--------------------|--------|---------|--------|-------------------------------------------------------------------|--------|
| Roger A. Burlage   |   | 60      |   | Chairman of the Board, Chief Executive Officer, and  Co-President |   |
| David B. Weiner    |   | 46      |   | Co-President                                                      |   |
| Gary Freeman       |   | 35      |   | Co-President, Chief Financial Officer and Corporate  Secretary    |   |
| William Dallas     |   | 48      |   | Director                                                          |   |
| Michael S. Doherty |   | 49      |   | Director                                                          |   |
| Gary M. Gray       |   | 58      |   | Director                                                          |   |
| Paul Guez          |   | 59      |   | Director                                                          |   |

 

Roger A. Burlage and GaryFreeman currently serve as directors and executive officers of the Company’sprimary wholly owned subsidiary, PM Entertainment.  Directors are currently elected for terms of one year each.

 

The Company’s Bylawsallow the Board to fix the number of directors between five and nine. Thenumber of directors is currently fixed at five.

 

**Roger A. Burlage**has served as Chairman andChief Executive Officer of The Sunland Entertainment Co., Inc. sinceApril 1999.  Mr. Burlage was alsoelected Co-President in January 2003. Until he joined the Company, Mr. Burlage was President ofBurlage/Edell Productions Inc., a film and television production companywhich he formed in February 1998 with his partner Elaine Hastings-Edell,and Chief Executive Officer of Heartland Entertainment, Inc., anindependent film production entity. From March 1996 until July 1997, he served as Chairman andChief Executive Officer of LIVE Entertainment Inc. (“LIVE”), a diversifiedindependent entertainment company, after serving as President and ChiefExecutive Officer since joining LIVE in January 1994.  Mr. Burlage became a Director of LIVEin December 1994, and after LIVE’s sale to a private investor group inJuly 1997 remained with LIVE until February 1998 on a significantlyfull time basis as a transitional Chairman. From 1989 until joining LIVE, Mr. Burlage served as President andChief Executive Officer of Trimark Holdings, Inc. (“Trimark”), anindependent entertainment entity, and most recently was a member of Trimark’sBoard of Directors from April 1998 until April 1999.  Prior to joining Trimark, Mr. Burlageserved in several other capacities in the entertainment industry, includingexecutive positions with New World Pictures, Ltd. and with AVCOCorporation and AVCO Embassy Pictures.

 

**David B. Weiner**was elected Co-President inJanuary  2003.   Mr. Weiner is currently a management consultant with theconsulting firm of W-Net, Inc.  From1993 to 1998, Mr. Weiner served as Vice President, Senior Vice President, andPresident of K-Tel, International, a music and direct marketing company.  Prior to joining K-Tel, International, Mr.Weiner worked in the corporate finance consulting group of  Deloitte and Touche.

 

**Gary Freeman**was elected Co-President,Chief Financial Officer and Corporate Secretary in January 2003.   Mr. Freeman is currently a Vice Presidentwith Kellogg & Andelson, a Southern California based public accountingfirm.   From 1990 to 2000, Mr. Freemanworked at BDO Seidman, LLP in various capacities, including as a partner from1998 to 2000.

 

**William Dallas**was appointed as a Directorof the Company  in March of 2001.  Mr. Dallas also served as a directorfrom May of 2000 through December of 2000. Mr. Dallas is the founder of First Franklin and has served as itsChairman since 1981.  First Franklin is aleading nonprime wholesale lender in the mortgage banking industry.  The firm provides mortgage lenders with awide variety of products and services, focusing on its proprietary risk-basedDirect Access loan programs.  FirstFranklin is a subsidiary of National City Corporation (NYSE:NCC).  Headquartered in San Jose, First Franklinemploys close to 900 professionals in over 30 locations nationwide.  National City Corporation is one of the

 

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nation’s largest commercial banks.  Mr. Dallas has also co-founded twoother banking institutions:  In 1995,Mr. Dallas helped found Heritage Bank of Commerce (NASDAQ HTBC), acommunity business bank serving Silicon Valley; and in 1998, Mr. Dallashelped found California Oaks State Bank in Thousand Oaks.  Mr. Dallas is a Certified MortgageBanker, and is a Board advisor to Factual Data Corporation, a Colorado basedcredit services provider since. Mr. Dallas also presently serves as director for the followingcompanies: Affinity Corporation a private technology company dedicated tomortgage fraud detection, LoanCity.com a provider of mortgage infrastructuretechnology and products based in San Jose, Diversified Capital, a mortgagebrokerage in Northern California, and Finet.com a publicly traded mortgagecompany.  Mr. Dallas accepted thenomination of California Lutheran University, or “CLU,” to be secretary of theBoard of Regents and he teaches Venture Development, a class he created at CLU.

 

**Michael S. Doherty**has been a Director ofthe Company since December 1997. Since November 1999,Mr. Doherty has been President of Doherty, Scotti & Company, LLC,a firm specializing in venture capital and private equity funding fordevelopment stage companies. From February 1999 to October 1999,Mr. Doherty served as Senior Managing Director of Spencer Trask SecuritiesIncorporated. Mr. Doherty served as Managing Director and Director ofPrivae Equity at Cruttenden Roth Incorporated from October 1996 toFebruary 1999. From 1992 to October 1999, he served as Vice Presidentof Arnhold and S. Bleichroeder Inc, a New York-based investment banking,brokerage and asset management firm. Mr. Doherty also serves on the Boardsof several public and private companies, including ACLN Ltd., a marinetransport company, IPAXS, a voice-over Internet Provider and Internet telephonycompany, Xycom, Inc., an industrial automation company and ZyanCommunications, Inc., a provider of digital subscriber line services.

 

**Gary M. Gray**has been a Director of theCompany since 1991 and served as the Chairman of the Board from March 1998to April 1999.  Mr. Gray is aManaging Director of Milestone Capital, Inc., a firm based in Houston,Texas which, in concert with affiliated foreign entities, invests in oracquires control of private companies with operations in the UnitedStates.  Prior to locating in Houston in1997, from 1994 to 1997, Mr. Gray practiced law and provided businessconsulting services to foreign clients from offices based in Oklahoma and, from1991 to 1993, practiced law in New York. Prior to attending Harvard Law School from 1987 to 1990, Mr. Graywas involved in various investment and banking activities, principally inOklahoma.

 

**Paul Guez**has been a Director of  the Company since 1999.  As an investor in many business activities,Mr. Guez is also chairman of the board of DVT 3000, a DVD company, and hasbeen the president of Stone Canyon International, a movie production firm,since 1998.  For the past eleven years,Mr. Guez has been overseeing Azteca Production, a clothing manufacturingcompany that he founded with his brother, Hubert Guez in 1990.  Prior to Azteca, Mr. Guez headed theJAG clothing label, which he purchased in 1984, as well as the Sasson Jeanslabel which he launched in 1976.

 

COMPLIANCE WITH SECTION16(a) OF THE SECURITIES ACT OF 1934

 

Section 16(a) of theSecurities Act of 1934 requires the Company’s directors and executive officers,and persons who own more than ten percent of a registered class of theCompany’s equity securities, to file with the Securities and ExchangeCommission (“SEC”) and the National Association of SecuritiesDealers, Inc. initial reports of ownership and reports of changes inownership of Common Stock and other equity securities of the Company.  Officers, directors and greater thanten-percent shareholders are required by SEC regulations to furnish the Companywith copies of all Section 16(a) forms they file.

 

To the Company’sknowledge, based solely on review of the copies of such reports furnished tothe Company and certain other representations that no other reports wererequired, during the year ended December 31, 2002, all Section 16(a)filing requirements applicable to its officers, directors and greater thanten-percent beneficial owners were complied with.

 

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**ITEM10.    EXECUTIVE COMPENSATION**

 

**EXECUTIVE COMPENSATION AND OTHERREMUNERATION**

 

The following table andrelated footnotes show the compensation paid during the fiscal years endedDecember 31, 2002, 2001 and 2000 to the Company’s Chief ExecutiveOfficer.  No other executive officerthat was serving at the end of the last completed fiscal year (2002) earnedover $100,000.

 

**SUMMARY COMPENSATION TABLE**

 
|                                 |   |      |   |                    |    | **Long Term Compensation**            |   |
|--------------------------------------|--------|-----------|--------|-------------------------|---------|---------------------------------------|--------|
| **Name and  Principal Position**     |   | **Year**  |   | **Annual Compensation** |    | **Common Stock  Underlying  Options** |   | **All Other  Compensation** |   |
| **Salary**                           |   | **Bonus** |
| Roger A. Burlage                     |   | 2002      |   | $                       | 560,314 |                                  | N/A    |   | N/A |   | $ | 7,500 | (1) |
| Chairman, Chief                      |   | 2001      |   | $                       | 543,734 |                                  | N/A    |   | N/A |   | 7,500 | (1) |
| Executive Officer, and  Co-President |   | 2000      |   | $                       | 519,412 |                                  | N/A    |   | N/A |   | $ | 7,500 | (1) |

 

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(1) Represents benefits paid under Mr. Burlage’semployment contract related to country club dues.

 

**OPTION GRANTS IN LAST FISCAL YEAR**

 

The following table andrelated footnotes set forth the number of securities underlying options grantedin the last fiscal year (2002) and held by the Company’s Chief ExecutiveOfficer.

 
| **Name**         |   | **Number of Securities  Underlying Options  Granted** |   | **Percent of Total  Options Granted  to Employees in  Fiscal Year** |   | **Exercise or  Base Price  ($/Share)** |   | **Expiration  Date** |   |
|------------------|--------|-------------------------------------------------------|--------|---------------------------------------------------------------------|--------|----------------------------------------|--------|----------------------|--------|
| Roger A. Burlage |   | 0                                                     |   | N/A                                                                 |   | N/A                                    |   | N/A                  |   |

 

**AGGREGATED OPTION EXERCISES IN THE LAST FISCAL YEAR**

**AND FISCAL YEAR-END OPTION VALUES**

 
| **Name**         |   | **Shares  Acquired on  Exercise (#)** |   | **Value  Realized ($)** |   | **Number of Securities  Underlying Unexercised  Options at 12/31/02** |   | **Value of Unexercised  In-the-Money Options  at 12/31/02** |   |
|------------------|--------|---------------------------------------|--------|-------------------------|--------|-----------------------------------------------------------------------|--------|-------------------------------------------------------------|--------|
| Roger A. Burlage |   | 0                                     |   | N/A                     |   | 64,032                                                                |   | 0                                                           |   |

 

**DIRECTOR COMPENSATION**

 

Directors of the Companywho are neither employees of the Company nor of the Company’s affiliatesreceive $20,000 in cash each year for serving on the Board.

 

Employment and otherarrangements between the Company and any named executive officer are describedin Part III, Item 12, of this Form 10-KSB and are incorporated herein by thisreference.

 

19

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**ITEM11.    SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS ANDMANAGEMENT**

 

The following table setsforth, as of March 31, 2003, certain information regarding the beneficialownership of the Company’s Common Stock by: (i) each person known by theCompany to be the beneficial owner of more than 5% of the outstanding shares ofCommon Stock, Series A Preferred Stock or Series B Preferred Stock,(ii) the Company’s Chief Executive Officer, (iii) each of the Company’sdirectors, (iv) each person who is an executive officer of the Company asof March 31, 2003, and (v) the Company’s current directors andexecutive officers as a group:

 
| **Name and  Address  of Beneficial Owners**                    |   | **Title of Class(1)**                                                        |   | **Number of Shares  and Nature of  Beneficial Ownership** |   | **Percent of  Class(2)** |    |
|----------------------------------------------------------------|--------|------------------------------------------------------------------------------|--------|-----------------------------------------------------------|--------|--------------------------|---------|
| AKA USA Holdings Limited(3)                                    |   | Common Stock                                                                 |   | 105,500                                                   |   | 23.19                    | %       |
| Beneficial Owner                                               |   | Series A Preferred Stock                                                |   | —                                                    |   | —                   |    |
|                                                           |   | Series B Preferred Stock                                                |   | —                                                    |   | —                   |    |
| Ahmad Bin Khalid  Al-Saud (3)                                  |   | Common Stock                                                                 |   | 105,500                                                   |   | 23.19                    | %       |
| Beneficial Owner                                               |   | Series A Preferred Stock                                                |   | —                                                    |   | —                   |    |
|                                                           |   | Series B Preferred Stock                                                |   | —                                                    |   | —                   |    |
| Gary Stein(4)                                                  |   | Common Stock                                                            |   | 35,000                                                    |   | 7.69                     | %       |
| Beneficial Owner                                               |   | Series A Preferred Stock                                                |   | —                                                    |   | —                   |    |
|                                                           |   | Series B Preferred Stock                                                |   | —                                                    |   | —                   |    |
| Dimensional Fund  Advisors Inc.(5)                             |   | Common Stock                                                            |   | 28,560                                                    |   | 6.28                     | %       |
| Beneficial Owner                                               |   | Series A Preferred Stock                                                |   | —                                                    |   | —                   |    |
|                                                           |   | Series B Preferred Stock                                                |   | —                                                    |   | —                   |    |
| Universal Studios,  Inc.(6)                                    |   | Common Stock                                                            |   | 37,450                                                    |   | 8.23                     | %       |
| Beneficial Owner                                               |   | Series A Preferred Stock                                                |   | —                                                    |   | —                   |    |
|                                                           |   | Series B Preferred Stock                                                |   | —                                                    |   | —                   |    |
| Aim Holdings, LLC(7)                                           |   | Common Stock                                                                 |   | 13,109                                                    |   | 0.91                     | %       |
| Beneficial Owner                                               |   | Series A Preferred Stock                                                |   | 647                                                       |   | 12.45                    | %       |
|                                                           |   | Series B Preferred Stock                                                |   | —                                                    |   | —                   |    |
| Sheldon Brody(8)                                               |   | Common Stock                                                                 |   | 10,618                                                    |   | 0.74                | %       |
| Beneficial Owner                                               |   | Series A Preferred Stock                                                |   | 524                                                       |   | 10.08                    | %       |
|                                                           |   | Series B Preferred Stock                                                |   |                                                      |   |                     |    |
| Gerard Guez(9)                                                 |   | Common Stock                                                                 |   | 26,195                                                    |   | 1.80                     | %       |
| Beneficial Owner                                               |   | Series A Preferred Stock                                                |   | 154                                                       |   |  2.96               | %       |
|                                                           |   | Series B Preferred Stock                                                |   | 1,138                                                     |   | 9.30                     | %       |
| Park Financial  Corporation(10)                                |   | Common Stock                                                                 |   | 26,218                                                    |   | 1.80                     | %       |
| Beneficial Owner                                               |   | Series A Preferred Stock                                                |   | 1,293                                                     |   |  24.89              | %       |
|                                                           |   | Series B Preferred Stock                                                |   | —                                                    |   | —                   |    |
| L D B Corporation(11)                                          |   | Common Stock                                                                 |   | 26,218                                                    |   | 1.80                     | %       |
| Beneficial Owner                                               |   | Series A Preferred Stock                                                |   | 129                                                       |   |  2.49               | %       |
|                                                           |   | Series B Preferred Stock                                                |   | 1,164                                                     |   |  9.51               | %       |
| Checchi Family  Trust(12)                                      |   | Common Stock                                                                 |   | 26,220                                                    |   | 1.80                     | %       |
| Beneficial Owner                                               |   | Series A Preferred Stock                                                |   | —                                                    |   | —                   |    |
|                                                           |   | Series B Preferred Stock                                                |   | 1,293                                                     |   | 10.57                    | %       |
| Roger A. Burlage(13)                                           |   | Common Stock                                                                 |   | 73,803                                                    |   | 12.45                    | %       |
| Chairman, Co-President  and C.E.O.                             |   | Series A Preferred Stock                                                |   | 66                                                        |   |  1.27               | %       |
|                                                           |   | Series B Preferred Stock                                                |   | 594                                                       |   | 4.85                     | %       |
| Michael S. Doherty(14)                                         |   | Common Stock                                                                 |   | 8,000                                                     |   | 1.73                     | %       |
| Director                                                       |   | Series A Preferred Stock                                                |   | —                                                    |   | —                   |    |
|                                                           |   | Series B Preferred Stock                                                |   | —                                                    |   | —                   |    |
| Paul Guez(15)                                                  |   | Common Stock                                                                 |   | 109,270                                                   |   | 4.38                     | %       |
| Director                                                       |   | Series A Preferred Stock                                                |   | 765                                                       |   |  14.72              | %       |
|                                                           |   | Series B Preferred Stock                                                |   | 5,635                                                     |   | 46.05                    | %       |
| Gary M. Gray(16)                                               |   | Common Stock                                                                 |   | 12,750                                                    |   | 2.73                     | %       |
| Director                                                       |   | Series A Preferred Stock                                                |   | —                                                    |   | —                   |    |
|                                                           |   | Series B Preferred Stock                                                |   | —                                                    |   | —                   |    |
| William Dallas(17)                                             |   | Common Stock                                                                 |   | 26,218                                                    |   | 1.80                     | %       |
| Director                                                       |   | Series A Preferred Stock                                                |   | 129                                                       |   | 2.49                     | %       |
|                                                           |   | Series B Preferred Stock                                                |   | 1,164                                                     |   | 9.51                     | %       |
| David Weiner(18)                                               |   | Common Stock                                                                 |   | —                                               |   | —                   |    |
| Co-President                                                   |   | Series A Preferred Stock                                                |   | —                                                    |   | —                   |    |
|                                                           |   | Series B Preferred Stock                                                |   | —                                                    |   | —                   |    |
| Gary Freeman(19)                                               |   | Common Stock                                                                 |   | —                                                    |   | —                   |    |
| Co-President, Chief  Financial Officer and Corporate Secretary |   | Series A Preferred Stock   Series B Preferred Stock                |   | —  —                                            |   | —  —           |    |
| All Officers and  Directors a group(20) (7 persons)       |   | Common Stock   Series A Preferred Stock   Series B Preferred Stock |   | 230,041  960   7,392                                      |   | 20.13  18.48   60.42     | %  %  % |

 

20

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(1)          When voting with theshares of Common Stock on an as-converted basis, each share of Series Aand Series B Preferred Stock is entitled to 14.815 votes (the number ofshares of Common Stock into which each share is convertible).  The Series A Preferred Stock isentitled to elect two of the Company’s five directors and is otherwise entitledto vote on all matters (including the election of remaining directors) togetherwith holders of Series B Preferred Stock and Common Stock voting as aclass on an as-converted basis.  TheSeries B Preferred Stock is entitled to vote on all matters (including theelection of remaining directors) together with holders of Series APreferred Stock and Common Stock voting as a class on an as-converted basis.

 

(2)          The percent of CommonStock owned is calculated using the sum of (A) the number of shares ofCommon Stock owned, (B) the number of shares of Common Stock issuable uponconversion of the beneficial owner’s Series A Preferred Stock andSeries B Preferred Stock, and (C) the number of warrants and optionsof the beneficial owner that are exercisable within 60 days, as thenumerator, and the sum of (X) the total number of shares of Common Stockoutstanding (455,017), (Y) the number of shares of Common Stock issuableupon conversion of the beneficial owner’s Series A Preferred Stock andSeries B Preferred Stock, and (Z) the number of warrants and options ofthe beneficial owner that are exercisable within 60 days, as thedenominator. The percent of Series A Preferred Stock owned is calculatedusing the number of shares of Series A Preferred Stock beneficially ownedas the numerator and the total number of shares of Series A PreferredStock outstanding on March 31, 2003 (5,195) as the denominator. Thepercent of Series B Preferred Stock owned is calculated using the numberof shares of Series B Preferred Stock beneficially owned as the numeratorand the total number of shares of Series B Preferred Stock outstanding onMarch 31, 2003 (12,235) as the denominator.

 

(3)          Includes shares held byAKAUSA and Mr. Al-Saud. The United States mailing address of AKAUSA andthe United States address of Mr. Ahmad Bin Khalid Al-Saud is 3535 N. W.58th Street, Suite 950, Oklahoma City, Oklahoma 73112. AKAUSA is a CaymanIslands corporation, 100% of whose stock is owned by Mr. Ahmad Bin KhalidAl-Saud, a citizen and resident of Saudi Arabia*.*45,500 shares are held inAKAUSA’s name, and 60,000 shares are held in Mr. Al-Saud’s name. However,since Mr. Al-Saud owns 100% of AKAUSA, all voting power is held byMr. Al-Saud.

 

(4)          The address of GaryStein is 301 E. 48th Street #20F, New York, NY 10017.

 

(5)          The address ofDimensional Fund Advisors Inc. is 1299 Ocean Avenue, 11th Floor,Santa Monica, CA 90401.

 

(6)          The address of UniversalStudios, Inc. is 100 Universal City Plaza, Universal City, California91608.

 

(7)          The address of AimHoldings, LLC is 315 North Swall Drive, Unit 302, Beverly Hills, California90211. Percent of class of Common Stock includes 9,580 shares of Series APreferred Stock (as-converted); and exercisable options/warrants to purchase3,529 shares of Common Stock within 60 days.

 

(8)          The address of  Sheldon Brody is 86 Fox Hedge Road, SaddleRiver, New Jersey 07458. Percent of class of Common Stock includes 7,760 sharesof Series A Preferred Stock (as-converted); and exercisableoptions/warrants to purchase 2,859 shares of Common Stock within60 days.

 

(9)          The address of GerardGuez is 3151 East Washington Boulevard, Los Angeles, California 90023. Percentof class of Common Stock includes 2,274 shares of Series A Preferred Stock(as-converted); 16,861 shares of Series B Preferred Stock (as-converted);and exercisable options/warrants to purchase 7,059 shares of Common Stockwithin 60 days.

 

(10)    The address of Park FinancialCorporation is 1800 Moler Road, Columbus, Ohio 43207. Percent of class ofCommon Stock includes 19,159 shares of Series A Preferred Stock(as-converted); and exercisable options/warrants to purchase 7,059 shares ofCommon Stock within 60 days.

 

21

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(11)    The address of LDB Corporationis 444 Sidney Baker South, Kerrville, Texas 78028. Percent of class of CommonStock includes 1,916 shares of Series A Preferred Stock (as-converted);17,243 shares of Series B Preferred Stock (as-converted); and exercisableoptions/warrants to purchase 7,059 shares of Common Stock within 60 days.

 

(12)    The address of the ChecchiFamily Trust is 920 Manhattan Beach Blvd., #1, Manhattan Beach, California90266. Percent of class of Common Stock includes 19,161 shares ofSeries B Preferred Stock (as-converted); and exercisable options/warrantsto purchase 7,059 shares of Common Stock within 60 days.

 

(13)    The address of  Roger Burlage is c/o Sunland EntertainmentCo., Inc., 11835 W. Olympic, Suite 550, Los Angeles, California90064.  Percent of class of Common Stockincludes 977 shares of Series A Preferred Stock (as-converted); 8,794shares of Series B Preferred Stock (as-converted); and exercisableoptions/warrants to purchase 64,032 shares of Common Stock within60 days.

 

(14)    The address of Michael Dohertyis c/o Sunland Entertainment Co., Inc., 11835 W. Olympic, Suite 550, LosAngeles, California 90064. Percent of class of Common Stock includesexercisable options/warrants to purchase 8,000 shares of Common Stock within60 days.

 

(15)    The address of Paul Guez isc/o Sunland Entertainment Co., Inc., 11835 W. Olympic, Suite 550, LosAngeles, California 90064. Percent of class of Common Stock includes11,330 shares of Series A Preferred Stock (as-converted);83,478 shares of Series B Preferred Stock (as-converted) andexercisable options/warrants to purchase 14,462 shares of Common Stockwithin 60 days.

 

(16)    The address of Gary Gray isc/o Milestone Capital Inc., 1800 West Loop South, Suite 1075, Houston,Texas 77027. Percent of class of Common Stock includes exercisableoptions/warrants to purchase 12,750 shares of Common Stock within60 days.

 

(17)    The address of William Dallasis c/o Sunland Entertainment Co., Inc., 11835 W. Olympic, Suite 550, LosAngeles, California 90064. Percent of class of Common Stock includes 1,916shares of Series A Preferred Stock (as-converted); 17,243 shares of Series BPreferred Stock (as-converted); and exercisable options/warrants to purchase7,059 shares of Common Stock within 60 days.

 

(18)    The address of  David Weiner is c/o Sunland EntertainmentCo., Inc., 11835 W. Olympic, Suite 550, Los Angeles, California 90064. Mr.Weiner was appointed Co-President in January 2003.  Mr. Weiner does not currently own any Sunland securities orwarrants/options to purchase Sunland securities.

 

(19)    The address of  Gary Freeman is c/o Sunland EntertainmentCo., Inc., 11835 W. Olympic, Suite 550, Los Angeles, California 90064. Mr.Freeman was appointed Co-President, Chief Financial Officer and CorporateSecretary in January 2003.  Mr. Freemandoes not currently own any Sunland securities or warrants/options to purchaseSunland securities.

 

(20)    Includes the beneficialownership of Messrs. Burlage, Doherty, Guez, Gray, Dallas, Weiner andFreeman.  Total Voting Power calculationincludes the total number of options/warrants of such persons exercisable within60 days 106,302 held by such persons to purchase shares of Common Stock.Assuming that none of such persons exercises within 60 days any of suchhis or her respective options or warrants, the Total Voting Power of the groupis approximately 21%.

 

**EquityPlan Compensation Information**

 

The Equity PlanCompensation Information identified in Part II, Item 5, above is incorporatedinto this Part III, Item 11, by this reference.

 

**ITEM 12.CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS**

 

CERTAIN RELATIONSHIPS ANDRELATED TRANSACTIONS

 

The Company has enteredinto certain relationships and transactions with related parties. Suchrelationships and transactions include, without limitation, the following:

 

22

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**EMPLOYMENTAGREEMENTS WITH EXECUTIVE OFFICERS AND DIRECTORS.**

 

The Company entered intoan employment agreement with Roger A. Burlage, dated April 7, 1999 whichprovides that he will serve as the Company’s Chairman and Chief Executive for aterm of four years. Mr. Burlage is entitled to an annual salary of$500,000, with minimum annual increases of 7.5%. Mr. Burlage is alsoeligible to receive a discretionary bonus as determined by the Board. As partof the agreement, Mr. Burlage was granted warrants to purchase 40,000shares of the Company’s Common Stock at exercise prices ranging from $90.00 to$120.00 per share, and  was to receiveup to an additional 20,000 warrants at his election under certain circumstanceswithin one year of the effective date of his employment agreement which did notoccur.  One half of the originalwarrants vested upon Mr. Burlage signing the agreement and the balancevest over a three-year period, with 25% vesting on the first anniversary, and12.5% vesting on each of the second and third anniversaries of the agreement.Mr. Burlage is also entitled to be reimbursed for up to $7,500 per yearfor country club dues, and to receive all other benefits generally available tothe Company’s other officers, including participation in stock incentive,retirement, medical, dental and accidental benefit plans, life and disabilityinsurance and vacation. If Mr. Burlage’s position is eliminated as aresult of a merger or consolidation of the Company, Mr. Burlage will beentitled to terminate his employment within three months of such event and toreceive all salary, benefits and emoluments in effect as such date through theremainder of his four-year term.  InJanuary of 2003, Mr. Burlage notified the Board of Directors that he intends toresign from his position at the expiration of his contract in April of thisyear.  On January 15, 2003, the Board ofDirectors authorized the creation of the Office of the President to provide fora smooth transition during the remainder of Mr. Burlage’s employment term.

 

The Company entered intoa settlement agreement with Eric S. Mischel, the Company’s formerPresident and Chief Operating Officer, dated December 15, 2000. Theagreement commenced on January 1, 2001 and terminates on April 25,2003. The agreement terminated Mr. Mischel’s previous employment agreementwith the Company as of January 1, 2001, and provides thatMr. Mischel, on a part time basis, was to assist the Company in developingthe BUNNY, RICHIE RICH, HOT STUFF, and the WALTER MILLER projects for a periodof one year, as well as the  Hearstlicensing and merchandising deals. The Company was to pay a $134,365 annualconsulting fee to Mr. Mischel for his services. If the Company was sold toa third party during the term of the agreement, the Company was to payMr. Mischel an amount equal to $313,500 less the amounts previously paidto Mischel. Payment is to be made within 5 days of the consummation of thesale. If the acquiring entity fails to pay the foregoing amount,Mr. Mischel was entitled to receive $627,000 less the amounts previouslypaid to Mischel. As of January 1, 2001, all of Mr. Mischel’s unvestedwarrants were cancelled, and all of his stock options became fully vested andwere exercisable for one year after the date Mr. Mischel ceases to provideservices under the settlement agreement. However, all of these options expiredon January 2, 2002. The exercise price of all of Mr. Mischel’soptions was to be $8.00 per share. The Company was to provide health insurancecoverage to Mr. Mischel until the earlier of April 25, 2003, or suchtime as Mr. Mischel became eligible for health insurance by a newemployer. In addition, The Company and Mr. Mischel released each otherfrom any and all, known or unknown, claims, arising during the period ofMr. Mischel’s employment, relating to his employment or termination.

 

**ITEM 13.EXHIBITS, LIST AND REPORTS ON FORM 10-KSB**

 
| **Exhibit  Number** |   | **Description**                                                                                                                                                                                                                                                                                                                                                                   |
|---------------------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 2.1                 |   | Stock Purchase Agreement dated as of April 3,  2000, by and among The Harvey Entertainment Company, Richard J. Pepin, Joseph  T. Merhi, and George Shamieh (incorporated by reference to Exhibit 2 of  the Company’s Form 8-K dated April 14, 2000)                                                                                                      |
| 2.2                 |   | Asset Purchase and Sale Agreement dated  March 7, 2001, by and between The Harvey Entertainment Company, Harvey  Comics, Inc. and BHP Productions, Inc., on the one hand, and  Classic Media, LLC, on the other hand and Exhibits A, B, and C thereto  (incorporated by reference to Exhibit 2 of the Company’s Form 8-K  dated March 7, 2001) |
| 2.3                 |   | Amendment to Asset Purchase and Sale Agreement dated  as of May 4, 2001 by and among the Harvey Entertainment Company, Harvey  Comics, Inc., BHP Productions, Inc. and Harvey Entertainment, Inc. as  consented to by Classic Media, LLC (incorporated by reference to  Exhibit 2 of the Company’s Form 8-K dated May 9, 2001.                           |
| 3.1(i)              |   | Second Amended and Restated Articles of  Incorporation of the Company (incorporated herein by reference to  Exhibit 3.1 of Company’s Registration Statement No. 33-63363-LA)                                                                                                                                                                                       |
| 3.2(i)              |   | First Amendment to Second Amended and Restated  Articles of Incorporation of the Company (incorporated herein by reference to  Exhibit 3.2 of Company’s Registration Statement No. 33-63363-LA)                                                                                                                                                                    |
| 3.3(i)              |   | Certificate of Determination filed with the  California Secretary of State of April 15, 1999 (incorporated by  reference to Exhibit 3.1 of the Company’s Form 8-K dated  April 26, 1999)                                                                                                                                                                 |

 

23

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| 3.4(i)  |   | Certificate of Determination for Series B  Convertible Preferred Stock of The Harvey Entertainment Company (incorporated  by reference to Exhibit 3(i) of the Company’s Form 8-K dated  June 2, 2000)                                             |
|---------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3.5(ii) |   | Second Restated and Amended Bylaws of the Company  (incorporated herein by reference to Exhibit 3.3 of Company’s  Registration Statement No. 33-63363-LA)                                                                                                        |
| 3.6(ii) |   | First Amendment to Second Restated and Amended  Bylaws of the Company (incorporated herein by reference to Exhibit 3.4  of Company’s Registration Statement No. 33-63363-LA)                                                                                     |
| 4.1     |   | Form of Stock Certificate (incorporated herein by  reference to Exhibit 4 of Company’s Registration Statement No. 33-63363-LA)                                                                                                                                   |
| 10.1    |   | Registration Agreement, dated as of December 7,  1990, by and among the Company, AKAUSA and MCA (incorporated herein by  reference to Exhibit 10.11 of Company’s Registration Statement  No. 33-63363-LA)                                                   |
| 10.2    |   | Shareholders Agreement, dated as of December 7,  1990, by and among the Company, AKAUSA and MCA (incorporated herein by  reference to Exhibit 10.12 of Company’s Registration Statement  No. 33-63363-LA)                                                   |
| 10.3    |   | 1993 Stock Option Plan and Stock Option Agreements  (incorporated herein by reference to Exhibit 10.41 of Company’s  Registration Statement No. 33-63363-LA)                                                                                                     |
| 10.4    |   | Special Salary Reduction Stock Option Plan of 1993  and Stock Option Agreements (incorporated herein by reference to  Exhibit 10.42 of Company’s Registration Statement No. 33-63363-LA)                                                                         |
| 10.5    |   | Profit Sharing Plan and Trust Adoption Agreement  (incorporated herein by reference to Exhibit 10.43 of Company’s  Registration Statement No. 33-63363-LA)                                                                                                       |
| 10.6    |   | Office Lease between Company and 100 Wilshire  Associates dated December 8, 1993 (incorporated herein by reference to  the Company’s Annual Report on Form 10-KSB for the year ended  December 31, 1993)                                                    |
| 10.7    |   | 1994 Stock Option Plan (incorporated by reference to  the Company’s 1994 definitive Proxy Statement)                                                                                                                                                                       |
| 10.8    |   | Sublease Agreement dated as of November 14,  1995 between the Company and Travelers Management, Inc., a California  corporation (incorporated herein by reference to the Company’s Annual Report  on Form 10-KSB for the year ended December 31, 1995) |
| 10.9    |   | Stock Option Agreement dated as of July 13,  1995 between the Company and Jeffrey A. Montgomery (incorporated herein  by reference to the Company’s Annual Report on Form 10-KSB for the year  ended December 31, 1995)                                |
| 10.10   |   | Stock Option Agreement dated as of July 13,  1995 between the Company and Gregory M. Yulish (incorporated herein by  reference to the Company’s Annual Report on Form 10-KSB for the year  ended December 31, 1995)                                    |
| 10.11   |   | Warrant Agreement with Arnhold and S. Bleichroeder  dated January 16, 1997 (incorporated herein by reference to the  Company’s Annual Report on Form 10-KSB for the year ended  December 31, 1996)                                                          |
| 10.12   |   | Warrant Agreement with Michael Doherty dated  January 16, 1997 (incorporated herein by reference to the Company’s  Annual Report on Form 10-KSB for the year ended December 31, 1996)                                                                       |
| 10.13   |   | The Harvey Entertainment Company 1997 Stock Option  Plan (incorporated herein by reference to the Company’s 1997 definitive Proxy  Statement)                                                                                                                              |
| 10.14   |   | Stock Option Agreement dated April 17, 1997  between the Company and Gregory M. Yulish (incorporated herein by reference  to the Company’s Annual report on Form 10-KSB for the year ended  December 31, 1997)                                              |
| 10.15   |   | Stock Option Agreement dated April 17, 1997  between the Company and Jeffrey A. Montgomery (incorporated herein by  reference to the Company’s Annual report on Form 10-KSB for the year  ended December 31, 1997)                                          |
| 10.16   |   | Employment Agreement dated as of October 1996  between the Company and Charles Day (incorporated herein by reference to the  Company’s Quarterly Report on Form 10-QSB for the quarter ended  March 31, 1998)                                               |
| 10.17   |   | Stock Option Agreement dated as of October 1996  between the Company and Charles Day (incorporated herein by reference to the  Company’s Quarterly Report on Form 10-QSB for the quarter ended  March 31, 1998)                                             |
| 10.18   |   | Amendment dated December 19, 1997 to Employment  Agreement dated as of October 1996 between the Company and Charles Day  (incorporated herein by reference to the Company’s Quarterly Report on  Form 10-QSB for the quarter ended March 31, 1998)     |
| 10.19   |   | Stock Option Agreement dated December 19, 1997  between the Company and Charles Day (incorporated herein by reference to the  Company’s Quarterly Report on Form 10-QSB for the quarter ended  March 31, 1998)                                              |
| 10.20   |   | Stock Option Agreement dated February 27, 1998  between the Company and Don Gold (incorporated herein by reference to the  Company’s Quarterly Report on Form 10-QSB for the quarter ended  March 31, 1998)                                                 |
| 10.21   |   | Warrant Agreement dated March 23, 1998 between  the Company and Anthony J. Scotti, Michael S. Hope and Leonard Breijo  (incorporated herein by reference to the Company’s Quarterly Report on  Form 10-QSB for the quarter ended March 31, 1998)            |
| 10.22   |   | Stock Option Agreement Director dated April 13,  1998 between the Company and Gary M. Gray (incorporated herein by  reference to the Company’s Quarterly Report on Form 10-QSB for the  quarter ended March 31, 1998)                                  |
| 10.23   |   | Stock Option Agreement Services dated April 13,  1998 between the Company and Anthony J. Scotti (incorporated herein by  reference to the Company’s Quarterly Report on Form 10-QSB for the  quarter ended March 31, 1998)                                  |

 

24

----

 
| 10.24 |   | Stock Option Agreement Services dated April 13,  1998 between the Company and Michael S. Hope (incorporated herein by reference  to the Company’s Quarterly Report on Form 10-QSB for the quarter ended  March 31, 1998)                                                                             |
|-------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 10.25 |   | Stock Option Agreement Services dated April 13,  1998 between the Company and Leonard Breijo (incorporated herein by reference  to the Company’s Quarterly Report on Form 10-QSB for the quarter ended  March 31, 1998)                                                                              |
| 10.26 |   | Stock Purchase Agreement dated as of April 7,  1999 by and among the Company, Michael R. Burns, Roger A. Burlage, Ken  Slutsky and The Kushner-Locke Company (incorporated by reference to Exhibit 10.1  of the Company’s Form 8-K dated April 26, 1999)                                        |
| 10.27 |   | Warrant Agreement dated as of April 26, 1999  among the Company, Roger A. Burlage, Michael R. Burns, The Kushner-Locke  Company, Al Checchi and Ken Slutsky (incorporated by reference to  Exhibit 10.2 of the Company’s Form 8-K dated April 26, 1999)                                         |
| 10.28 |   | Registration Rights Agreement dated as of  April 26, 1999 by and among the Company, The Kushner-Locke Company,  Roger A. Burlage, Michael R. Burns, Al Checchi and Ken Slutsky (incorporated  by reference to Exhibit 10.3 of the Company’s Form 8-K dated  April 26, 1999)                     |
| 10.29 |   | Registration Rights Agreement dated as of  April 26, 1999 by and between The Kushner-Locke Company and the Company  (incorporated by reference to Exhibit 10.4 of the Company’s Form 8-K  dated April 26, 1999)                                                                                 |
| 10.30 |   | Employment Agreement dated as of April 5, 1999  by and between the Company and Roger A. Burlage (incorporated by reference to  Exhibit 10.5 of the Company’s Form 8-K dated April 26, 1999)                                                                                                     |
| 10.31 |   | Employment Agreement dated as of April 26, 1999  between the Company and Ronald B. Cushey (incorporated by reference to  Exhibit 10.61 of the Company’s Quarterly Report on Form 10-QSB for  the quarter ended June 30, 1999)                                                              |
| 10.32 |   | Employment Agreement dated as of April 26, 1999  between the Company and Eric S. Mischel (incorporated by reference to  Exhibit 10.62 of the Company’s Quarterly Report on Form 10-QSB for  the quarter ended June 30, 1999)                                                                    |
| 10.33 |   | Warrant Agreement dated as of June 30, 1999  between the Company and Paul Guez (incorporated by reference to  Exhibit 10.64 of the Company’s Quarterly Report on Form 10-QSB for  the quarter ended June 30, 1999)                                                                              |
| 10.34 |   | Registration Rights Agreement dated as of  June 30, 1999 by and between the Company and Paul Guez (incorporated by  reference to Exhibit 10.65 of the Company’s Quarterly Report on  Form 10-QSB for the quarter ended June 30, 1999)                                                           |
| 10.35 |   | Employment Agreement dated as of October 4,  1999 between the Company and Glenn Weisberger (incorporated by reference to  Exhibit 10.66 of the Company’s Quarterly Report on Form 10-QSB for  the quarter ended September 30, 1999)                                                             |
| 10.36 |   | [INTENTIONALLY LEFT BLANK.]                                                                                                                                                                                                                                                                                              |
| 10.37 |   | Settlement and Mutual Release Agreement dated as of  March 13, 2000 among the Company and Dorothy Oriolo, Donald Oriolo, Joan  Gersh and Joseph Donald Oriolo (incorporated by reference to  Exhibit 10.73 of the Company’s Annual Report on Form 10-KSB for the  year ended December 31, 1999) |
| 10.38 |   | Lease Agreement dated September 22, 1999  between the Company and Douglas Emmett Realty Fund 1997, a California limited  partnership (incorporated by reference to Exhibit 10.76 of the Company’s  Annual Report on Form 10-KSB for the year ended December 31, 1999)                           |
| 10.39 |   | Employment Agreement dated as of April 1, 2000,  by and among The Harvey Entertainment Company, Pepin/Merhi Entertainment  Group, Inc., and George Shamieh (incorporated by reference to  Exhibit 10.77 of the Company’s Form 8-K dated April 14, 2000)                                    |
| 10.40 |   | Lease Agreement dated as of April 1, 2000, by  and between Pepin/Merhi Entertainment Group, Inc. and Pepin Merhi  Shamieh, LLC (incorporated by reference to Exhibit 10.78 of the  Company’s Form 8-K dated April 14, 2000)                                                                |
| 10.41 |   | Sale and Assignment Agreement dated as of  April 3, 2000, by and among Inferno Acquisition Corp., Imperial Bank,  and Natexis Banque (incorporated by reference to Exhibit 10.79 of the  Company’s Form 8-K dated April 14, 2000)                                                               |
| 10.42 |   | Loan and Security Agreement dated as of  April 3, 2000, by and among Inferno Acquisition Corp., Imperial Bank and  Natexis Banque (incorporated by reference to Exhibit 10.80 of the  Company’s Form 8-K dated April 14, 2000)                                                                  |
| 10.43 |   | Continuing Guaranty dated as of April 3, 2000,  by The Harvey Entertainment Company in favor of Imperial Bank and Natexis  Banque (incorporated by reference to Exhibit 10.81 of the Company’s  Form 8-K dated April 14, 2000)                                                                  |

 

25

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| 10.44 |   | Credit, Security, Guaranty and Pledge Agreement  dated as of April 3, 2000 among the Company, the other Borrowers  referred to therein, the Guarantors referred to therein, the Lenders referred  to therein and The Chase Manhattan Bank as Administrative Agent and Issuing  Bank (incorporated by reference to Exhibit 10.82 of the Company’s  Quarterly Report on Form 10-QSB for the quarter ended March 31,  2000.) |
|-------|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 10.45 |   | [INTENTIONALLY LEFT BLANK.]                                                                                                                                                                                                                                                                                                                                                                                                                        |
| 10.46 |   | [INTENTIONALLY LEFT BLANK.]                                                                                                                                                                                                                                                                                                                                                                                                                        |
| 10.47 |   | Settlement agreement dated May 24, 2000, by and  among The Harvey Entertainment Company and Ronald B. Cushey (incorporated by  reference to Exhibit 10.85 of the Company’s Form 10-KSB dated  April 16, 2001)                                                                                                                                                                                                                  |
| 10.48 |   | Amendment to employment agreement dated  January 1, 2001, by and among The Harvey Entertainment Company and Glenn  R. Weisberger (incorporated by reference to Exhibit 10.86 of the Company’s  Form 10-KSB dated April 16, 2001)                                                                                                                                                                                               |
| 10.49 |   | Settlement agreement dated December 15, 2000,  by and among The Harvey Entertainment Company and Eric S. Mischel  (incorporated by reference to Exhibit 10.87 of the Company’s Form 10-KSB  dated April 16, 2001)                                                                                                                                                                                                              |
| 10.50 |   | Agency Agreement dated February 1, 2001, by and  among The Harvey Entertainment Company and Cinetel Films, Inc.  (incorporated by reference to Exhibit 10.88 of the Company’s Form 10-KSB  dated April 16, 2001)                                                                                                                                                                                                          |
| 10.51 |   | Agency Agreement dated May 2, 2000, by and  among The Harvey Entertainment Company and Hearst Entertainment (incorporated  by reference to Exhibit 10.89 of the Company’s Form 10-KSB dated  April 16, 2001)                                                                                                                                                                                                                   |
| 10.52 |   | Securities Purchase Agreement dated July 2,  2001 by and among Sunland Entertainment, Inc. and SHO Investments, LLC  (incorporation by reference to Exhibit 10.52 of the Company’s Form 10-KSB for  the year ended December 31, 2001)                                                                                                                                                                                                    |
| 16    |   | Letter of Deloitte & Touche LLP re: change  in certifying accountant (incorporated by reference to Exhibit 16 of the  Company’s Form 8-K dated June 25, 1999)                                                                                                                                                                                                                                                         |
| 21    |   | List of subsidiaries of Company (incorporated herein  by reference to Exhibit 22 of Company’s Registration Statement  No. 33-63363-LA)                                                                                                                                                                                                                                                                                              |
| 24.1  |   | Power of Attorney (included on the signature page to  this Form 10-KSB).                                                                                                                                                                                                                                                                                                                                                                           |
| 99.1  |   | Certification of the Company’s Chief Executive  Officer, pursuant to 18 U.S.C. Section 1350 as Adopted Pursuant to Section  906 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                                                                            |
| 99.1  |   | Certification of the Company’s  Chief Financial Officer, pursuant to 18  U.S.C. Section 1350 as Adopted Pursuant to Section 906 of the Sarbanes-Oxley  Act of 2002.                                                                                                                                                                                                                                                                      |

 

**ITEM 14.       CONTROLS AND PROCEDURES**

 

Within 90 days prior tothe filing of this report, members of the Company’s management, including theCompany’s Chief Executive Officer, Roger Burlage, and Chief Financial Officer,Gary Freeman, evaluated the effectiveness of the design and operation of theCompany’s disclosure controls and procedures pursuant to Exchange Act Rule13a-14.  Based upon that evaluation, Mr.Burlage and Mr. Freeman believe that, as of the date of the evaluation, theCompany’s disclosure controls and procedures are effective in making known tothem material information relating to the Company (including its consolidatedsubsidiaries) required to be included in this report.

 

Disclosure controls andprocedures, no matter how well designed and implemented, can provide onlyreasonable assurance of achieving an entity’s disclosure objectives.  The likelihood of achieving such objectivesis affected by limitations inherent in disclosure controls and procedures.  These include the fact that human judgmentin decision-making can be faulty and that breakdowns in internal control canoccur because of human failures such as simple errors or mistakes orintentional circumvention of the established process.

 

There were no significantchanges in the Company’s internal controls or in other factors that couldsignificantly affect these internal controls, known to Mr. Burlage or Mr.Freeman, after the date of the most recent evaluation.

 

26

----

 

**Signatures**

 

In accordance withSection 13 or 15(d) of the Exchange Act, the Issuer has caused this reportto be signed on its behalf by the undersigned, thereunto duly authorized.

 

Sunland Entertainment Company, Inc.

 
| Date: April 15, 2003 | By:    | /s/   GARY  FREEMAN                                                  |
|----------------------|--------|--------------------------------------------------------------------------------|
|                 |   | Name: Gary Freeman                                                             |
|                 |   | *Title: Chief Financial Officer  (Principal Financial and  Accounting Officer* |

 

**POWER OF ATTORNEY**

 

Eachperson whose signature appears below constitutes and appoints Roger Burlage andGary Freeman, and each of them, as his true and lawful attorneys-in-fact andagents with full power of substitution and resubstitution, for him and hisname, place and stead, in any and all capacities, to sign any or all amendmentsto this Annual Report on Form 10-KSB and to file the same, with all exhibitsthereto, and other documents in connection therewith, with the Securities andExchange Commission, granting unto said attorneys-in-fact and agents, and eachof them, full power and authority to do and perform each and every act andthing requisite and necessary to be done in and about the foregoing, as fullyto all intents and purposes as he might or could do in person, hereby ratifyingand confirming all that said attorneys-in-fact and agents, or either of them,or their substitutes, may lawfully do or cause to be done by virtue hereof.

 

In accordance with theExchange Act, this report has been signed below by the following person onbehalf of the registrant and in the capacities and on the date indicated:

 
| **SIGNATURE**                       |   | **TITLE**                                                        |   | **DATE**       |
|-------------------------------------|--------|------------------------------------------------------------------|--------|----------------|
|                                |   |                                                             |   |           |
| /s/   ROGER  BURLAGE      |   | Chairman of the Board  of Directors  Chief Executive Officer and |   | April 15, 2003 |
| Roger Burlage                       |   | Co-President  (Principal Executive Officer)                      |   |           |
|                                |   |                                                             |   |           |
| /s/   GARY  FREEMAN       |   | Chief Financial Officer                                          |   | April 15, 2003 |
| Gary Freeman                        |   | (Principal Financial  and  Accounting Officer)                   |   |           |
|                                |   |                                                             |   |           |
| /s/   WILLIAM  DALLAS     |   | Director                                                         |   | April 15, 2003 |
| William Dallas                      |   |                                                             |   |           |
|                                |   |                                                             |   |           |
| /s/   MICHAEL  S. DOHERTY |   | Director                                                         |   | April 15, 2003 |
| Michael S. Doherty                  |   |                                                             |   |           |
|                                |   |                                                             |   |           |
| /s/   GARY M.  GRAY       |   | Director                                                         |   | April 15, 2003 |
| Gary M. Gray                        |   |                                                             |   |           |
|                                |   |                                                             |   |           |
| /s/   PAUL  GUEZ          |   | Director                                                         |   | April 15, 2003 |
| Paul Guez                           |   |                                                             |   |           |

 

27

----

 

Certification of CEO Pursuant toSecurities Exchange Act Rules 13a-14 and 15d-14as Adopted Pursuant toSection 302 of the Sarbanes-Oxley Act of 2002

 

I, Roger Burlage, certify that:

 

1.             Ihave reviewed this annual report on Form 10-KSB of Sunland Entertainment Co.,Inc.;

 

2.             Basedon my knowledge, this annual report does not contain any untrue statement of amaterial fact or omit to state a material fact necessary to make the statementsmade, in light of the circumstances under which such statements were made, notmisleading with respect to the period covered by this annual report;

 

3.             Basedon my knowledge, the financial statements, and other financial informationincluded in this annual report, fairly present in all material respects thefinancial condition, results of operations and cash flows of the registrant asof, and for, the periods presented in this annual report;

 

4.             Theregistrant’s other certifying officers and I are responsible for establishingand maintaining disclosure controls and procedures (as defined in Exchange ActRules 13a-14 and 15d-14) for the registrant and we have:

 

a)             designedsuch disclosure controls and procedures to ensure that material informationrelating to the registrant, including its consolidated subsidiaries, is madeknown to us by others within those entities, particularly during the period inwhich this annual report is being prepared;

 

b)            evaluatedthe effectiveness of the registrant’s disclosure controls and procedures as ofa date within 90 days prior to the filing date of this annual report (the“Evaluation Date”); and

 

c)             presentedin this annual report our conclusions about the effectiveness of the disclosurecontrols and procedures based on our evaluation as of the Evaluation Date;

 

5.             Theregistrant’s other certifying officers and I have disclosed, based on our mostrecent evaluation, to the registrant’s auditors and the audit committee ofregistrant’s board of directors (or persons performing the equivalentfunction):

 

a)             allsignificant deficiencies in the design or operation of internal controls whichcould adversely affect the registrant’s ability to record, process, summarizeand report financial data and have identified for the registrant’s auditors anymaterial weaknesses in internal controls; and

 

b)            anyfraud, whether or not material, that involves management or other employees whohave a significant role in the registrant’s internal controls; and

 

6.             Theregistrant’s other certifying officers and I have indicated in this annualreport whether or not there were significant changes in internal controls or inother factors that could significantly affect internal controls subsequent tothe date of our most recent evaluation, including any corrective actions withregard to significant deficiencies and material weaknesses.

 
| Date:  | April 14, 2003                           |   |
|--------|------------------------------------------|--------|
|   |  /s/ Roger  Burlage                 |   |
|   | Roger Burlage                            |
|   | Co-President and Chief Executive Officer |

 

28

----

 

Certification of CFOPursuant toSecurities Exchange Act Rules 13a-14 and 15d-14as Adopted Pursuant toSection 302 of the Sarbanes-Oxley Act of 2002

 

I, Gary Freeman, certify that:

 

1.             Ihave reviewed this annual report on Form 10-KSB of Sunland Entertainment Co.,Inc.;

 

2.             Basedon my knowledge, this annual report does not contain any untrue statement of amaterial fact or omit to state a material fact necessary to make the statementsmade, in light of the circumstances under which such statements were made, notmisleading with respect to the period covered by this annual report;

 

3.             Basedon my knowledge, the financial statements, and other financial informationincluded in this annual report, fairly present in all material respects thefinancial condition, results of operations and cash flows of the registrant asof, and for, the periods presented in this annual report;

 

4.             Theregistrant’s other certifying officers and I are responsible for establishingand maintaining disclosure controls and procedures (as defined in Exchange ActRules 13a-14 and 15d-14) for the registrant and we have:

 

a)             designedsuch disclosure controls and procedures to ensure that material informationrelating to the registrant, including its consolidated subsidiaries, is madeknown to us by others within those entities, particularly during the period inwhich this annual report is being prepared;

 

b)            evaluatedthe effectiveness of the registrant’s disclosure controls and procedures as ofa date within 90 days prior to the filing date of this annual report (the“Evaluation Date”); and

 

c)             presentedin this annual report our conclusions about the effectiveness of the disclosurecontrols and procedures based on our evaluation as of the Evaluation Date;

 

5.             Theregistrant’s other certifying officers and I have disclosed, based on our mostrecent evaluation, to the registrant’s auditors and the audit committee ofregistrant’s board of directors (or persons performing the equivalent function):

 

a)             allsignificant deficiencies in the design or operation of internal controls whichcould adversely affect the registrant’s ability to record, process, summarizeand report financial data and have identified for the registrant’s auditors anymaterial weaknesses in internal controls; and

 

b)            anyfraud, whether or not material, that involves management or other employees whohave a significant role in the registrant’s internal controls; and

 

6.             Theregistrant’s other certifying officers and I have indicated in this annualreport whether or not there were significant changes in internal controls or inother factors that could significantly affect internal controls subsequent tothe date of our most recent evaluation, including any corrective actions withregard to significant deficiencies and material weaknesses.

 
| Date:  | April 14, 2003                                  |   |
|--------|-------------------------------------------------|--------|
|   |  /s/ Gary  Freeman                         |   |
|   | Gary Freeman                                    |
|   | Chief Financial Officer and Corporate Secretary |
|        |                                                 |        |  |  |

 

29

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**ITEM7.    FINANCIAL STATEMENTS**

 

**SUNLAND ENTERTAINMENT CO., INC. AND SUBSIDIARIES**

 

**TABLE OF CONTENTS**

 
|                                                                                             | PAGE         |
|--------------------------------------------------------------------------------------------------|--------------|
| REPORTS OF  INDEPENDENT ACCOUNTANTS                                                              | F-2 to F-3   |
| CONSOLIDATED FINANCIAL  STATEMENTS AS OF AND FOR THE YEARS ENDED DECEMBER 31, 2002 AND 2001 |         |
| Consolidated Balance Sheets                                                                      | F-4 to F-5   |
| Consolidated  Statements of Operations                                                           | F-6          |
| Consolidated  Statements of Stockholders’ Equity                                            | F-7          |
| Consolidated  Statements of Cash Flows                                                           | F-8 to F-9   |
| Notes to  Consolidated Financial Statements                                                      | F-10 to F-21 |

 

F-1

----

 

**REPORT OF INDEPENDENT ACCOUNTANTS**

 

To the Board of DirectorsSunland Entertainment Co., Inc

Los Angeles, CA

 

We have audited theaccompanying consolidated balance sheet of Sunland Entertainment Co. andsubsidiaries as of December 31, 2002 and the related consolidated statements ofoperations, stockholders’ equity and cash flows for the year then ended.  These financial statements are theresponsibility of the Company’s management. Our responsibility is to express an opinion on these financialstatements based on our audit.

 

We conducted our audit inaccordance with auditing standards generally accepted in the United States ofAmerica.  Those standards require thatwe plan and perform the audit to obtain reasonable assurance about whether thefinancial statements are free of material misstatement.  An audit includes examining, on a testbasis, evidence supporting the amounts and disclosures in the financialstatements.  An audit also includesassessing the accounting principles used and significant estimates made bymanagement, as well as evaluating the overall financial statementpresentation.  We believe that our auditprovides a reasonable basis for our opinion.

 

In our opinion, theconsolidated financial statements referred to above present fairly, in allmaterial respects, the financial position of Sunland Entertainment Co. andsubsidiaries as of December 31, 2002 and the results of their operations andtheir cash flows for the year then ended in conformity with accountingprinciples generally accepted in the United States of America.

 

The accompanyingfinancial statements have been prepared assuming that the Company will continueas a going concern.  As discussed inNote 1 to the financial statements, the Company has suffered recurring lossesfrom operations and has an accumulated deficit.  This raises substantial doubt about the Company’s ability tocontinue as a going concern. Management’s plans in regard to these matters are also described in Note1.  The financial statements do not includeany adjustments that might result from the outcome of this uncertainty.

 

 

 

Singer Lewak Greenbaum& Goldstein LLP

 

Los Angeles, California

March 12, 2003, exceptfor

Note 1, as to which thedate is

April 10, 2003

 

F-2

----

 

**REPORT OF INDEPENDENT ACCOUNTANTS**

 

To the Board of Directors and Stockholders of

Sunland Entertainment Co., Inc.:

 

In our opinion, theaccompanying consolidated balance sheet and the related consolidated statementof operations, of stockholders’ equity and of cash flows present fairly, in allmaterial respects, the financial position of The Sunland EntertainmentCo., Inc. and its subsidiaries at December 31, 2001, and the resultsof  operations and  cash flows for year ended December 31,2001 in conformity with accounting principles generally accepted in the UnitedStates of America. These financial statements are the responsibility of theCompany’s management; our responsibility is to express an opinion on thesefinancial statements based on our audit. We conducted our audit of thesestatements in accordance with auditing standards generally accepted in theUnited States of America, which require that we plan and perform the audit toobtain reasonable assurance about whether the financial statements are free ofmaterial misstatement. An audit includes examining, on a test basis, evidencesupporting the amounts and disclosures in the financial statements, assessingthe accounting principles used and significant estimates made by management,and evaluating the overall financial statement presentation. We believe thatour audit provides a reasonable basis for our opinion.

 

As discussed inNote 1 to the consolidated financial statements, management is currentlyexploring strategic alternatives available to the Company which would involvethe possible merger, consolidation, acquisition, sale or other transactioninvolving all or a substantial part of the business, assets or equity of theCompany.

 

Also discussed inNote 1 to the consolidated financial statements, the Company changed itsmethod of film accounting on January 1, 2001.

 

**PricewaterhouseCoopersLLP**

Century City, California

March 29, 2002

 

F-3

----

 

**SUNLAND ENTERTAINMENT CO., INC. AND SUBSIDIARIES**

 

**CONSOLIDATEDBALANCE SHEETS**

 
|                                                                                                                                                                                                       |   | **Years Ended December 31,** |      |
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|-----------------------------------|-----------|
|                                                                                                                                                                                                       |   | **2002**                          |      | **2001** |   |
| **ASSETS**                                                                                                                                                                                                 |   |                              |      |   |   |
| Cash and cash  equivalents                                                                                                                                                                                 |   | $                                 | 1,976,000 |   | $ | 2,043,000 |   |
| Marketable securities                                                                                                                                                                                      |   | —                            |      | 5,000 |   |
| Accounts receivable,  net of allowance for doubtful accounts of $720,000 and $907,000 in 2002 and  2001, respectively and net of a returns reserve of $39,000 and $111,000 in  2002 and 2001, respectively |   | —                            |      | 4,544,000 |   |
| Prepaid expenses and  other assets                                                                                                                                                                         |   | 520,000                           |      | 696,000 |   |
| Income tax receivable                                                                                                                                                                                      |   | 7,000                             |      | 590,000 |   |
| Film inventory, net of  accumulated amortization of $14,389,000 and $12,477,000 in 2002 and 2001,  respectively                                                                                            |   | —                            |      | 4,660,000 |   |
| Fixed assets, net of  accumulated depreciation of $1,106,000 and $994,000 in 2002 and 2001,  respectively                                                                                                  |   | 86,000                            |      | 289,000 |   |
| Goodwill, net of  accumulated amortization of $4,537,000 and $1,676,000 in 2002 and 2001,  respectively                                                                                                    |   | —                            |      | 2,861,000 |   |
| Net assets from  discontinued operations                                                                                                                                                                   |   | 3,781,000                         |      | — |   |
| TOTAL ASSETS                                                                                                                                                                                               |   | $                                 | 6,370,000 |   | $ | 15,688,000 |   |

 

See accompanying notes toconsolidated financial statements.

 

F-4

----

 

**SUNLAND ENTERTAINMENT CO., INC. AND SUBSIDIARIES**

 

**CONSOLIDATED BALANCE SHEETS**

 
|                                                                                                                                                                                                                                                                                                                                        |   | **Years Ended December 31,** |      |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|-----------------------------------|-----------|
|                                                                                                                                                                                                                                                                                                                                        |   | **2002**                          |      | **2001** |   |
| **LIABILITIES AND STOCKHOLDERS’ EQUITY**                                                                                                                                                                                                                                                                                               |   |                              |      |   |   |
| LIABILITIES:                                                                                                                                                                                                                                                                                                                                |   |                              |      |   |   |
| Accounts payable and  accrued expenses                                                                                                                                                                                                                                                                                                      |   | $                                 | 423,000   |   | $ | 856,000 |   |
| Participations and  residuals payable                                                                                                                                                                                                                                                                                                       |   | —                            |      | 1,623,000 |   |
| Deferred revenue                                                                                                                                                                                                                                                                                                                            |   | —                            |      | 123,000 |   |
| TOTAL LIABILITIES                                                                                                                                                                                                                                                                                                                           |   | 423,000                           |      | 2,602,000 |   |
| COMMITMENTS AND  CONTINGENCIES                                                                                                                                                                                                                                                                                                              |   |                              |      |   |   |
| Series A  Convertible Preferred Stock, $1,000 stated value, 30,000 shares authorized,  5,200 and 4,800 shares issued and outstanding at December 31, 2002 and  December 31, 2001, respectively, liquidation preference of $5,186,000  and $4,838,000 at December 31, 2002 and December 31, 2001,  respectively     |   | 4,326,000                         |      | 3,978,000 |   |
| STOCKHOLDERS’ EQUITY:                                                                                                                                                                                                                                                                                                                  |   |                              |      |   |   |
| Preferred stock, $10  par value, 300,000 shares authorized (30,000 shares designated as  Series A Convertible Preferred Stock and 30,000 shares designated as  Series B Convertible Preferred Stock)                                                                                                                              |   | —                            |      | — |   |
| Series B  Convertible Preferred Stock, $1,000 stated value, 30,000 shares authorized,  12,200 and 11,400 shares issued and outstanding at December 31, 2002 and  December 31, 2001, respectively, liquidation preference of $12,235,000  and $11,415,000 at December 31, 2002 and December 31, 2001,  respectively |   | 12,235,000                        |      | 11,415,000 |   |
| Common stock, no par  value, 3,000,000 shares authorized, 455,000 issued and outstanding at  December 31, 2002 and December 31, 2001, respectively                                                                                                                                                                                |   | 23,936,000                        |      | 23,936,000 |   |
| Additional paid in  capital                                                                                                                                                                                                                                                                                                                 |   | 2,523,000                         |      | 2,523,000 |   |
| Accumulated deficit                                                                                                                                                                                                                                                                                                                         |   | (37,073,000                       | )         | (28,766,000 | ) |
| Total stockholders’  equity                                                                                                                                                                                                                                                                                                            |   | 1,621,000                         |      | 9,108,000 |   |
| TOTAL LIABILITIES AND  STOCKHOLDERS’ EQUITY                                                                                                                                                                                                                                                                                            |   | $                                 | 6,370,000 |   | $ | 15,688,000 |   |

 

See accompanying notes toconsolidated financial statements.

 

F-5

----

 

#### **SUNLAND ENTERTAINMENT CO., INC. AND SUBSIDIARIES**

**CONSOLIDATEDSTATEMENTS OF DISCONTINUED OPERATIONS**

 
|                                                                                                                                                                                                                                               |   | **Twelve Months Ended  December 31,** |       |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|---------------------------------------|------------|
|                                                                                                                                                                                                                                               |   | **2002**                              |       | **2001** |   |
| OPERATING REVENUES                                                                                                                                                                                                                                 |   |                                  |       |   |   |
| Filmed entertainment                                                                                                                                                                                                                               |   | $                                     | 1,119,000  |   | $ | 10,894,000 |   |
| Merchandising and  licensing                                                                                                                                                                                                                       |   | —                                |       | 547,000 |   |
| Net operating revenues                                                                                                                                                                                                                             |   | 1,119,000                             |       | 11,441,000 |   |
| COST OF REVENUES                                                                                                                                                                                                                                   |   |                                  |       |   |   |
| Film costs                                                                                                                                                                                                                                         |   | 2,135,000                             |       | 8,411,000 |   |
| Other costs of sales                                                                                                                                                                                                                               |   | —                                |       | 93,000 |   |
| Total cost of revenues                                                                                                                                                                                                                             |   | 2,135,000                             |       | 8,504,000 |   |
| GROSS PROFIT                                                                                                                                                                                                                                       |   | (1,016,000                            | )          | 2,937,000 |   |
| OPERATING EXPENSES                                                                                                                                                                                                                                 |   |                                  |       |   |   |
| Selling, general and  administrative expenses                                                                                                                                                                                                      |   | 3,744,000                             |       | 6,240,000 |   |
| Depreciation and  amortization                                                                                                                                                                                                                     |   | 112,000                               |       | 1,749,000 |   |
| Total operating  expenses                                                                                                                                                                                                                          |   | 3,856,000                             |       | 7,989,000 |   |
| LOSS FROM OPERATIONS                                                                                                                                                                                                                               |   | (4,872,000                            | )          | (5,052,000 | ) |
| Loss on impairment of  marketable securities                                                                                                                                                                                                       |   | (5,000                                | )          | (26,000 | ) |
| Gain/(Loss) on  disposition of assets                                                                                                                                                                                                              |   | (91,000                               | )          | 3,913,000 |   |
| Gain on settlement                                                                                                                                                                                                                                 |   | —                                |       | 1,650,000 |   |
| Amortization of  deferred financing charges                                                                                                                                                                                                        |   | —                                |       | (1,308,000 | ) |
| Interest  income/(expense), net                                                                                                                                                                                                                    |   | 139,000                               |       | (839,000 | ) |
| Other income                                                                                                                                                                                                                                       |   | 551,000                               |       | 545,000 |   |
| LOSS FROM DISCONTINUED  OPERATIONS BEFORE INCOME TAXES, EXTRAORDINARY ITEM AND CUMULATIVE EFFECT OF  ACCOUNTING PRINCIPLE CHANGES                                                                                                                  |   | (4,278,000                            | )          | (1,117,000 | ) |
| Income Taxes                                                                                                                                                                                                                                       |   | —                                |       | — |   |
| LOSS FROM DISCONTINUED  OPERATIONS BEFORE EXTRAORDINARY ITEM AND CUMULATIVE EFFECT OF ACCOUNTING  PRINCIPLE CHANGES                                                                                                                                |   | (4,278,000                            | )          | (1,117,000 | ) |
| Extraordinary gain                                                                                                                                                                                                                                 |   | —                                |       | 293,000 |   |
| Cumulative effect of  accounting changes                                                                                                                                                                                                           |   | (2,861,000                            | )          | (628,000 | ) |
| NET LOSS                                                                                                                                                                                                                                           |   | (7,139,000                            | )          | (1,452,000 | ) |
| Preferred stock  dividends                                                                                                                                                                                                                         |   | (1,168,000                            | )          | (1,304,000 | ) |
| Excess of carrying  amount of Series A and Series B convertible preferred stock and warrants over  fair value transferred to shareholders                                                                                                          |   | —                                |       | 6,579,000 |   |
| Excess of fair value of  Series B convertible preferred stock issued less the carrying amount of  Series A convertible preferred stock redeemed and the associated beneficial  conversion feature on Series A convertible preferred stock redeemed |   | —                                |       | (469,000 | ) |
| NET INCOME/(LOSS)  APPLICABLE TO COMMON STOCKHOLDERS                                                                                                                                                                                               |   | $                                     | (8,307,000 | ) | $ | 3,354,000 |   |
| LOSS PER SHARE OF  COMMON STOCK BEFORE EXTRAORDINARY GAIN AND CUMULATIVE EFFECT OF ACCOUNTING  PRINCIPLE CHANGES—Basic and diluted                                                                                                            |   | $                                     | (9.40      | ) | $ | (2.45 | ) |
| Extraordinary gain                                                                                                                                                                                                                                 |   | —                                |       | 0.64 |   |
| Cumulative effect on  accounting change                                                                                                                                                                                                            |   | (6.29                                 | )          | (1.38 | ) |
| Preferred stock  dividends                                                                                                                                                                                                                         |   | (2.57                                 | )          | (2.87 | ) |
| Preferred stock and  warrant redemption                                                                                                                                                                                                            |   | —                                |       | 14.46 |   |
| Beneficial conversion  feature                                                                                                                                                                                                                     |   | —                                |       | (1.03 | ) |
| NET INCOME/(LOSS) PER  SHARE OF COMMON STOCK—Basic and diluted                                                                                                                                                                                |   | $                                     | (18.26     | ) | $ | 7.37 |   |
| WEIGHTED AVERAGE SHARES  OUTSTANDING—Basic and diluted                                                                                                                                                                                        |   | 455,000                               |       | 455,000 |   |

 

See accompanying notes toconsolidated financial statements.

 

F-6

----

 

**SUNLAND ENTERTAINMENT CO., INC. AND SUBSIDIARIES**

**CONSOLIDATEDSTATEMENTS OF STOCKHOLDERS’ EQUITY**

**YEARS ENDED DECEMBER 31, 2002 AND 2001**

 
|                                |   | **Series B Preferred** |       | **Common  Stock** |       | **Additional  Paid in  Capital** |       | **Deficit** |       |       |   |
|-------------------------------------|--------|------------------------|------------|-------------------|------------|----------------------------------|------------|-------------|------------|------------|--------|
|                                |   | **Shares**             | ** ** | **Amount**        | ** ** | **Shares**                       | ** ** | **Amount**  | ** ** |       |   | **Total** | ** ** |
| BALANCE, DECEMBER 31,  2000         |   | 8,911                  |       | $                 | 8,911,000  |                             | 455,000    |        | $          | 23,936,000 |   | $ | 3,942,000 |   | $ | (32,119,000 | ) | $ | 4,670,000 |   |
| Issuance of warrants                |   |                   |       |              |       |                             |       |        |       |       |   |   |   |   |   |
| Issuance of common  stock           |   |                   |       |              |       |                             |       |        |       |       |   |   |   |   |   |
| Conversion of preferred  stock      |   | 7,478                  |       | 7,478,000         |       |                             |       |        |       | (738,000   | )      |   |   | 6,740,000 |   |
| Stock dividends  declared           |   | 784                    |       | 784,000           |       |                             |       |        |       |       |   | (1,304,000 | ) | (519,000 | ) |
| Excess on fair value of  conversion |   |                   |       |              |       |                             |       |        |       |       |   | (470,000 | ) | (470,000 | ) |
| Stock Repurchase                    |   | (5,758                 | )          | (5,758,000        | )          |                             |       |        |       | (681,000   | )      | 6,579,000 |   | 140,000 |   |
| Net loss                            |   |                   |       |              |       |                             |       |        |       |       |   | (1,452,000 | ) | (1,452,000 | ) |
| BALANCE, DECEMBER 31,  2001         |   | 11,415                 |       | 11,415,000        |       | 455,000                          |       | 23,936,000  |       | 2,523,000  |   | (28,766,000 | ) | 9,108,000 |   |
| Stock dividends  declared           |   | 820                    |       | 820,000           |       |                             |       |        |       |       |   | (1,168,000 | ) | (348,000 | ) |
| Net loss                            |   |                   |       |              |       |                             |       |        |       |       |   | (7,139,000 | ) | (7,139,000 | ) |
| BALANCE, DECEMBER 31,  2002         |   | 12,235                 |       | $                 | 12,235,000 |                             | 455,000    |        | $          | 23,936,000 |   | $ | 2,523,000 |   | $ | (37,073,000 | ) | $ | 1,621,000 |   |

 

See accompanying notes toconsolidated financial statements.

 

F-7

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**SUNLAND ENTERTAINMENT CO., INC. AND SUBSIDIARIES**

**CONSOLIDATEDSTATEMENTS OF CASH FLOWS**

 
|                                                                                                                                                                        |   | **Years Ended December 31** |       |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|-----------------------------|------------|
|                                                                                                                                                                        |   | **2002**                    |       | **2001** |   |
| CASH FLOWS FROM  OPERATING ACTIVITIES:                                                                                                                                      |   |                        |       |   |   |
| Loss before extraordinary  item and cumulative effect of accounting principle changes                                                                                       |   | $                           | (4,278,000 | ) | $ | (1,117,000 | ) |
| Adjustments to  reconcile net loss before extraordinary gain and cumulative effect of changes  in accounting method to net cash provided by/(used in) operating activities: |   |                        |       |   |   |
| Depreciation and  amortization                                                                                                                                              |   | 112,000                     |       | 1,749,000 |   |
| Amortization of film  inventory                                                                                                                                             |   | 1,912,000                   |       | 6,876,000 |   |
| Gain/(Loss) on  disposition of assets, net                                                                                                                                  |   | 91,000                      |       | (3,913,000 | ) |
| Gain on settlement                                                                                                                                                          |   | —                      |       | (1,650,000 | ) |
| Amortization of deferred  financing charges                                                                                                                                 |   | —                      |       | 1,308,000 |   |
| Changes in operating  assets and liabilities, net of effects from acquisition/disposition of  business:                                                                     |   |                        |       |   |   |
| Marketable securities                                                                                                                                                       |   | 5,000                       |       | 21,000 |   |
| Accounts receivable,  net                                                                                                                                                   |   | 3,073,000                   |       | 7,230,000 |   |
| Prepaid expenses and  other assets                                                                                                                                          |   | 176,000                     |       | (99,000 | ) |
| Income taxes receivable                                                                                                                                                     |   | 583,000                     |       | (50,000 | ) |
| Addition to film costs                                                                                                                                                      |   | —                      |       | (563,000 | ) |
| Accounts payable and  accrued expenses                                                                                                                                      |   | (433,000                    | )          | (1,773,000 | ) |
| Participations and  residuals payable                                                                                                                                       |   | (1,284,000                  | )          | (1,750,000 | ) |
| Deferred revenue                                                                                                                                                            |   | (24,000                     | )          | (3,414,000 | ) |
| Net cash provided  by/(used in) operating activities                                                                                                                        |   | (67,000                     | )          | 2,855,000 |   |
| CASH FLOWS FROM  INVESTING ACTIVITIES:                                                                                                                                      |   |                        |       |   |   |
| Expenditures for fixed  assets                                                                                                                                              |   | —                      |       | (14,000 | ) |
| Net proceeds from  divesture                                                                                                                                                |   | —                      |       | 16,089,000 |   |
| Net cash provided  by/(used in) investing activities                                                                                                                        |   | —                      |       | 16,075,000 |   |
| CASH FLOWS FROM  FINANCING ACTIVITIES:                                                                                                                                      |   |                        |       |   |   |
| Repayment of bank loans                                                                                                                                                     |   | —                      |       | (17,975,000 | ) |
| Purchase of preferred  stock                                                                                                                                                |   | —                      |       | (500,000 | ) |
| Net cash (used  in)/provided by financing activities                                                                                                                        |   | —                      |       | (18,475,000 | ) |
| NET INCREASE/(DECREASE)  IN CASH AND CASH EQUIVALENTS                                                                                                                       |   | (67,000                     | )          | 455,000 |   |
| CASH AND CASH  EQUIVALENTS, Beginning of period                                                                                                                             |   | 2,043,000                   |       | 1,588,000 |   |
| CASH AND CASH  EQUIVALENTS, End of period                                                                                                                                   |   | $                           | 1,976,000  |   | $ | 2,043,000 |   |

 

See accompanying notes toconsolidated financial statements

 

F-8

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**SUNLAND ENTERTAINMENT CO., INC. AND SUBSIDIARIES**

 

**CONSOLIDATED STATEMENTS OF CASH FLOWS**

 
|                                                  |   | **Years Ended  December 31,** |    |
|-------------------------------------------------------|--------|-------------------------------|---------|
|                                                  |   | **2002**                      |    | **2001** |   |
| **SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:** |   |                          |    |   |   |
| Cash received/(paid)  during the period for:          |   |                          |    |   |   |
| Interest                                              |   | $                             | 139,000 |   | $ | (1,172,000 | ) |
| Income taxes                                          |   | $                             | (6,800  | ) | $ | (46,000 | ) |

 

**NON-CASHFINANCING ACTIVITY:**

 

See Notes 2 and 6 for disclosure of non-cash financingactivities.

 

F-9

----

 

**SUNLAND ENTERTAINMENT CO., INC. AND SUBSIDIARIES**

**NOTESTO CONSOLIDATED FINANCIAL STATEMENTS**

**YEARS ENDED DECEMBER 31, 2002 AND 2001**

 

**1.    SUMMARYOF SIGNIFICANT ACCOUNTING POLICIES**

 

***Background and Operations***—SunlandEntertainment Co., Inc. (“Sunland”) (formerly the Harvey EntertainmentCompany (“Harvey”), together with its subsidiaries SunlandEntertainment, Inc. (formerly Harvey Comics, Inc.), Pepin/MerhiEntertainment Group, Inc. and Inferno Acquisition Corp. (collectively,(the “Company”) is incorporated in the state of  Delaware and is primarily engaged in the exploitation of motionpicture product and related intellectual property. Prior to the sale of theHarvey assets to Classic Media, LLC (“Classic Media”), as discussed below, theCompany was the successor to Harvey Comics, Inc. which was founded in 1939by the Harvey family.  In 1989, Harvey’spredecessor purchased Harvey Comics, Inc. to exploit its intellectualproperty related to the well know characters *Casper the Friendly Ghost, Richie Rich,Baby Huey, Wendy the Good Little Witch*, and *Hot Stuff*.  In 1993 the Company completed its initialpublic offering of common stock.  InApril 2000, the Company acquired Pepin/Merhi EntertainmentGroup, Inc. (“PM Entertainment”), a producer and distributor of motionpicture product.  In March 2001,the Company signed an Asset Purchase and Sale Agreement for the sale ofsubstantially all of the assets, properties and rights of the Harvey Classic Charactersowned by the Company to Classic Media. In May 2001, the Company signed an amendment to the Asset Purchaseand Sale Agreement to increase the purchase price. The purchase price of$17,000,000 plus the assumption of certain liabilities was paid in cash atclosing, which occurred in June 2001. In connection with the sale to Classic Media, the Company changed itsname to “Sunland Entertainment Co., Inc.” Through the Company’s subsidiary, PM Entertainment, the Company hascontinued its exploitation of motion picture product and related intellectualproperty by increasing its presence in foreign markets.  Due to depressed market conditions, theCompany has decided not to finance new film product.  The Company will continue to operate as a scaled-back businessfocusing on sales of existing PM Entertainment library.  Although the Company previously engagedHoulihan Lokey Howard & Zukin, or “Houlihan,” to explore strategicalternatives that may have been available to the Company following thecompletion of its transaction with Classic Media, the Company terminated itsagreement with Houlihan in February of 2002. The Company intends to continue exploring its various strategicalternatives, including the acquisition of additional assets, or a merger orsale of the Company, or its assets.

 

On April 10, 2003, theCompany and PM Entertainment entered into an Asset Purchase Agreement with FilmLibrary Acquisition Corp. (“Purchaser”) for the sale of our remaining principalasset, PM’s film library (the “PM Entertainment Library”), for $6,000,000 incash and the assumption by the Purchaser of all of the operating expensesassociated with the film library  (the“Purchase Price”).  The transaction issubject to shareholder approval, and we expect to close by the end of June2003.  In addition, $750,000 of thePurchase Price will be placed in an escrow at Closing and for a period of twoyears following the Closing, these funds will be subject to potential claims bythe Purchaser against us for breaches of representations and warrantiescontained in the agreement.  Theagreement establishes a cut-off date (the “Cut-Off Date”) for the operation ofthe PM Entertainment Library for the benefit of the Company as of January 31,2003, and as such, upon the Closing of the transaction, Purchaser will beentitled to receive the cash flow from the business, net of all direct expensesof the film library and a portion of our fixed expenses, in each case incurredfrom February 1, 2003 until the Closing.

 

The following summarizesthe assets sold and the liabilities assumed as of December 31, 2002 prior toclosing under the Asset Purchase Agreement:

 
|                              |   | **PRIOR TO  SALE** |      | **SALE  TRANSACTION** |   | **SUBSEQUENT  TO SALE** |   |
|-----------------------------------|--------|--------------------|-----------|-----------------------|--------|-------------------------|--------|
| Cash                              |   | $                  | 1,976,000 |                  | $      | —                  |   | $ | 1,976,000 |   |
| Accounts receivable               |   | 1,471,000          |      | (1,471,000            | )      | —                  |   |
| Prepaid expenses and other assets |   | 520,000            |      | —                |   | 520,000                 |   |
| Income tax receivable             |   | 7,000              |      | —                |   | 7,000                   |   |
| Film Inventory                    |   | 2,748,000          |      | (2,748,000            | )      | —                  |   |
| Fixed assets (net)                |   | 86,000             |      | —                |   | 86,000                  |   |
| Total assets                      |   | 6,808,000          |      | (4,219,000            | )      | 2,589,000               |   |
| Accounts payable and accruals     |   | 423,000            |      | —                |   | 423,000                 |   |
| Participations and residuals      |   | 339,000            |      | (339,000              | )      | —                  |   |
| Deferred revenues                 |   | 99,000             |      | (99,000               | )      | —                  |   |
| Total liabilities                 |   | 861,000            |      | (438,000              | )      | 423,000                 |   |
| Net assets                        |   | $                  | 5,947,000 |                  | $      | 3,781,000               |   | $ | 2,166,000 |   |

 

F-10

----

 

The PM EntertainmentLibrary currently represents substantially all of our assets and most of ourliabilities, other than our fixed operating expenses.  Thus, as a result of this transaction, after the Closing we willhave no continuing business operations. Consequently, the discussion of our results of operations should be readin light of the significant changes that will occur in our business as a resultof the Closing, and with the understanding that our historical results ofoperations have little or no relevance to our continuing operations.

 

We intend to utilize theproceeds from the sale of the PM Entertainment Library for the possibleacquisition of other businesses as opportunities arise.  Although we are actively considering anumber of potential acquisition opportunities, we have not entered into anydefinitive agreement with respect to any specific future acquisitions.  However, we do not intend to purchaseanother film library or to search within any specific kind of industry orbusiness, and may investigate and ultimately acquire a venture that is in itspreliminary or development stage, is already in operation, or in various stagesof its corporate existence and development. Therefore, the discussion of our results of operations should be read inlight of the significant changes that will occur in our business as a result ofthe Closing, and with the understanding that our historical results ofoperations have little or no relevance to our continuing operations.

 

There are certainunidentified risks that cannot be adequately expressed prior to theidentification of a specific business opportunity.  There can be no assurance following consummation of anyacquisition or merger that the business venture will develop into a goingconcern or, if the business is already operating, that it will continue tooperate successfully.  Many potentialbusiness opportunities available to the Company may involve new and untestedproducts, processes or market strategies which may not ultimately provesuccessful.  Please see the sectionentitled “Risks Related to the Sale of the PM Entertainment Library and OurFuture Operations.”

 

Pending their ultimateapplication, the net proceeds from the sale of the PM Entertainment Librarywill be used for general corporate purposes, and will be invested in highquality, short term, interest bearing investments and deposit accounts.  Depending upon the nature of any potentialfuture acquisition and the requirement of any use of the proceeds therefore, wemay also in the future consider distributing any excess proceeds to ourPreferred Stockholders as a distribution. If the Company does not successfully complete the sale of the PMEntertainment library, the Company will continue to operate as a scaled-backbusiness focusing on the sales of that library.

 

Whether or not theCompany successfully completes the sale of the PM Entertainment library, theCompany intends to continue exploring its various strategic alternatives, includingthe acquisition of additional assets, or a merger or sale of the Company, orits assets.  The Company does not intendto limit its search to any specific kind of industry or business.  It may investigate and ultimately acquire aventure that is in its preliminary or development stage, is already inoperation, or in various stages of its corporate existence anddevelopment.  A potential venture mightneed additional capital or merely desire to have its shares publicly traded.

 

***Going Concern*** — The accompanyingfinancial statements have been prepared assuming that the Company will continueas a going concern.  The Company hassuffered recurring losses from operations since its inception and has anaccumulated deficit of $37,073,000 at December 31, 2002.

 

The consolidatedfinancial statements do not include any adjustments relating to therecoverability and classification of recorded asset amounts or amounts andclassifications of liabilities that might be necessary should the Company beunable to continue its existence.  Therecovery of the Company’s assets is dependent upon continued operations of theCompany.

 

In addition, theCompany’s recovery is dependent upon future events, the outcome of which isindeterminable.  The Company intends tocontinue exploring its various strategic alternatives, including theacquisition of additional assets, or a merger or sale of the Company, or itsassets.

 

***Reincorporation toDelaware and Reverse Stock-Split***— On June 27, 2002, aspecial meeting of shareholders was held at the Company’s offices, where theproposal to change Sunland’s state of incorporation from California to Delawareand enact a ten-for-one reverse split of the Company’s common and preferredstock were approved.  The Companysubsequently changed its stock symbol to SLDE effective August 9, 2002.  The effect of this stock split was reflectedin  the financial statementsretroactively as if the stock split occurred at the beginning of the earliestperiod reported.

 

***Basis of Presentation and Principles of Consolidation***—Theconsolidated financial statements reflect the financial position, results ofoperations and cash flows of the Company and its wholly ownedsubsidiaries.  The Company has elected

 

F-11

----

 

to present an unclassified balance sheet.  All significant intercompany accounts and transactions have beeneliminated on consolidation.

 

***Cumulative Effect of Change in  Accounting Principles—***On June 12,2000, the Accounting Standards Executive Committee of the American Institute ofCertified Public Accountants issued Statement of Position 00-2 “Accounting byProducers or Distributors of Films” (“SOP 00-2”).  SOP 00-2 establishes new film accounting standards, includingchanges in revenue recognition and accounting for advertising, development andoverhead costs.  EffectiveJanuary 1, 2001, the Company adopted SOP 00-2, and as a result, recorded aone-time, non-cash charge of $628,000, or $0.14 per share.  This charge has been reflected in theCompany’s Consolidated Statement of Operations as a cumulative effect ofaccounting change, effective January 1, 2001.  The adoption of SOP 00-2 did not have a material impact on theCompany’s current and future years’ revenues and operating results.

 

During the second quarterof 2002, in accordance with SFAS No. 142, the Company determined that itsgoodwill was impaired.  As a result, aone-time, non-cash charge of $2,861,000 was recorded to write-off the remainingbalance of goodwill on the Company’s balance sheet.  In accordance with the transitional guidance of  SFAS No.142, the charge is reflected in theCompany’s Consolidated Statement of Operations as a cumulative effect ofaccounting principle change.

 

***Use of Estimates***—The preparation offinancial statements in conformity with generally accepted accountingprinciples requires management to make estimates and assumptions that affectthe reported amounts of assets and liabilities and disclosure of contingentassets and liabilities at the date of the financial statements and the reportedamounts of revenues and expenses during the reporting period.  Actual results could differ from thoseestimates.

 

***Cash and Cash Equivalents***—The Companyconsiders investments with original maturities of 90 days or less to becash equivalents.

 

***Film Costs—***The Company accounts forfilm costs in accordance with SOP 00-2. Film inventory is stated at the lowerof cost, net of accumulated amortization, or estimated net realizablevalue.  Film inventory consists ofdirect production costs, production overhead and capitalized interest.

 

Amortization isdetermined using the individual film forecast method, whereby costs accumulatedin the development and production of a film are amortized in the proportionthat the current gross revenue bears to management’s estimate of the remainingtotal gross revenues expected to be derived from all sources.  Revenue estimates on a film-by-film basisare reviewed periodically by management and are revised, if warranted, based onmanagement’s appraisal of current market conditions.  Where applicable, unamortized inventory is written down to netrealizable value using a discounted cash flows model based on this appraisal.

 

Included in filminventory are development costs, which represents expenditures directly attributableto projects, which are incurred prior to their production.  Such inventory items are capitalized and,upon commencement of production, are charged to the production.  Development costs not charged to theproduction are written off when the project is abandoned or when more thanthree years has passed from the first expenditure.

 

Estimated liabilities forparticipations and residuals are amortized in the same manner as film inventorycosts. Based on management’s estimate*,*$305,000of the accrued participations and residuals at December 31, 2002 will bepaid during the year ending December 31, 2003.

 

***Fixed Assets***—Fixed assets are statedat cost and are depreciated using the straight-line method over three to tenyear estimated lives.  Leasehold improvementsare amortized over the shorter of the lease term or the estimated life of theimprovement.

 

***Goodwill***—Goodwill represents theexcess of the consideration paid for PM Entertainment in 2000 over theestimated fair value of net assets acquired. In 2001, the Company reduced the useful life of goodwill from ten yearsto a remaining period of three years commencing from January 2001.  The decision to reduce the useful life ongoodwill related to the PM Entertainment acquisition was made due to a change inthe Company’s business plan, resulting from a change in economic conditionsoccurring subsequent to the acquisition of PM Entertainment, not to finance newproduct and to operate as a scaled-back business focusing on sales of the PMEntertainment library.

 

During the second quarterof 2002, in accordance with SFAS No. 142, the Company determined that itsgoodwill was

 

F-12

----

 

impaired.  As a result, aone-time, non-cash charge of $2,861,000 was recorded to write-off the remainingbalance of goodwill on the Company’s balance sheet.  In accordance with the transitional guidance of  SFAS No.142, the charge is reflected in theCompany’s Consolidated Statement of Operations as a cumulative effect ofaccounting principle change.

 

***Revenue Recognition***—Revenue isrecognized in accordance with the provisions of SOP 00-2.  The majority of the Company’s licensingagreements for motion picture product and related merchandising call fornonrefundable guaranteed fees, which are recognized as revenue when the licenseperiod begins, provided certain other conditions have been met pursuant to thecriteria specified in SOP 00-2. Additional revenues in excess of non-refundable guaranteed fees arerecognized when earned based on receipt of royalty statements.  Payments received under licensing agreementsfor which the product is not yet available are recorded as deferred revenue.

 

The Company recognizesrevenue related to sales of motion picture product on videocassette and DigitalVideo Disk upon shipment of the product. At the time it recognizes the revenue, the Company estimates returns andrecords a corresponding reduction of revenue.

 

***Concentration of Credit Risk***—Financialinstruments that potentially subject the Company to a concentration of creditrisk consist of cash and cash equivalents and accounts receivable.  The Company maintains its cash and cashequivalents with high credit quality financial institutions; at times, suchbalances with any one financial institution may exceed FDIC insuredlimits.  Concentration of credit riskassociated with accounts receivable is limited due to the large number ofcustomers, as well as their dispersion across geographic areas.  The Company performs ongoing creditevaluations of its customers and generally does not require collateral.  Although the Company has a diversifiedcustomer base, a substantial portion of its debtors’ ability to honor theircontracts is dependent upon financial conditions in the filmed entertainmentindustry. Currently, 55% of the Company’s receivables are derived from a singleforeign licensee in South America.

 

***Income Taxes***—The Company recordsincome taxes in accordance with the provisions of SFAS No. 109,“Accounting for Income Taxes.”  Thestandard requires, among other provisions, an asset and liability approach torecognize deferred tax liabilities and assets for the expected future taxconsequences of temporary differences between the financial statement carryingamounts and tax basis of assets and liabilities.  Valuation allowances are provided if, based upon the weight ofavailable evidence, it is more likely than not that some or all of the deferredtax assets will not be realized.

 

***Stock-Based Compensation—***The Companyaccounts for stock-based employee compensation arrangements in accordance withthe provisions of Accounting Principles Board (“APB”) No. 25, “Accountingfor Stock Issued to Employees,” and related interpretations and complies withthe disclosure requirements of Statement of Financial Accounting Standards(“SFAS”) No. 123, “Accounting for Stock-Based Compensation.”  Under APB No. 25, compensation cost, ifany, is recognized over the respective vesting period based on the difference,if any, on the date of grant, between the fair value of the Company’s commonstock and the grant price.  The Companyaccounts for stock issued to non-employees in accordance with the provisions ofSFAS No. 123 and EITF 96-18, “Accounting for Equity Instruments that areissued to other than Employees for Acquiring, or in Conjunction with Selling,Goods or Services.”

 

***Net Income (Loss) Per Share***—TheCompany computes net income (loss) per share in accordance with SFASNo. 128, “Earnings per Share,” and Securities and Exchange CommissionStaff Accounting Bulletin No. 98 (“SAB 98”).  Under the provisions of SFAS No. 128and SAB 98, basic and diluted net loss per share is computed by dividingthe net loss available to common stockholders for the period by the weightedaverage number of shares of common stock outstanding during the period.  Common equivalent shares related to stockoptions, warrants and convertible preferred stock have been excluded from thecomputation because their effect is anti-dilutive.

 

***Financial Instruments***—InJune 1998, the Financial Accounting Standards Board (“FASB”) issued SFASNo. 133, “Accounting for Derivative Instruments and HedgingActivities.”  In June 1999, theFASB delayed the effective date of the standard, which is now effective for theCompany’s fiscal year beginning January 1, 2001. If the Company entersinto derivative transactions in the future, SFAS No. 133 will require theCompany to record all derivatives on its balance sheet at fair value.  Changes in derivative fair values will eitherbe recognized in earnings as offsets to the changes in fair value of relatedhedged assets, or deferred and recorded as a component of accumulated othercomprehensive income until the hedged transactions occur and are recognized inearnings.  The ineffective portion of ahedging derivative’s change in fair value will be immediately recognized inearnings.  The impact of SFASNo. 133 on the Company’s financial statements will depend on a variety offactors, including the extent of the Company’s future hedging activities, thetypes of hedging instruments used and the effectiveness of suchinstruments.  There was no impact ofadopting SFAS No. 133 on the Company’s financial statements.

 

F-13

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The Company’s financialinstruments consist of cash and cash equivalents, marketable securitiesclassified as available for sale, accounts receivable, accounts payable,accrued expenses and notes payable.  Thecarrying values of cash and cash equivalents, accounts receivable, accountspayable, accrued expenses and notes payable are representative of their fairvalues due to their short-term maturities. Marketable securities classified as available for sale are stated atfair value in accordance with SFAS No. 115, “Accounting for CertainInvestments in Debt and Equity Securities.”

 

***New Accounting Guidance***— In April2002, the FASB issued SFAS No. 145, “Rescission of FASB Statements No. 4, 44,and 64, Amendment of FASB Statement No. 13, and Technical Corrections.”  SFAS No. 145 updates, clarifies, andsimplifies existing accounting pronouncements. This statement rescinds SFAS No. 4, which required all gains and lossesfrom extinguishment of debt to be aggregated and, if material, classified as anextraordinary item, net of related income tax effect.  As a result, the criteria in APB No. 30 will now be used toclassify those gains and losses.  SFASNo. 64 amended SFAS No. 4 and is no longer necessary as SFAS No. 4 has beenrescinded.  SFAS No. 44 has beenrescinded as it is no longer necessary. SFAS No. 145 amends SFAS No. 13 to require that certain leasemodifications that have economic effects similar to sale-leaseback transactionsbe accounted for in the same manner as sale-lease transactions.  This statement also makes technicalcorrections to existing pronouncements.  The Company does not expect adoption of SFAS No. 145 to have amaterial impact, if any, on its financial position or results of operations.

 

In June 2002, the FASBissued SFAS No. 146, “Accounting for Costs Associated with Exit or DisposalActivities.”  This statement addressesfinancial accounting and reporting for costs associated with exit or disposalactivities and nullifies Emerging Issues Task Force (“EITF”) Issue No. 94-3,“Liability Recognition for Certain Employee Termination Benefits and Other Coststo Exit an Activity (including Certain Costs Incurred in aRestructuring).”  This statementrequires that a liability for a cost associated with an exit or disposalactivity be recognized when the liability is incurred.  Under EITF Issue 94-3, a liability for anexit cost, as defined, was recognized at the date of an entity’s commitment toan exit plan.  The provisions of thisstatement are effective for exit or disposal activities that are initiatedafter December 31, 2002 with earlier application encouraged.  The Company does not expect adoption of SFASNo. 146 to have a material impact, if any, on its financial position or resultsof operations.

 

In October 2002, the FASBissued SFAS No. 147, “Acquisitions of Certain Financial Institutions.”  SFAS No. 147 removes the requirement in SFASNo. 72 and Interpretation 9 thereto, to recognize and amortize any excess ofthe fair value of liabilities assumed over the fair value of tangible andidentifiable intangible assets acquired as an unidentifiable intangible asset.This statement requires that those transactions be accounted for in accordancewith SFAS No. 141, “Business Combinations,” and SFAS No. 142, “Goodwill andOther Intangible Assets.”  In addition,this statement amends SFAS No. 144, “Accounting for the Impairment or Disposalof Long-Lived Assets,” to include certain financial institution-relatedintangible assets.  The Company does notexpect adoption of SFAS No. 147 to have a material impact, if any, on itsfinancial position or results of operations.

 

In December 2002, theFASB issued SFAS No. 148, “Accounting for Stock-Based Compensation - Transitionand Disclosure,” an amendment of SFAS No. 123. SFAS No. 148 provides alternative methods of transition for a voluntarychange to the fair value based method of accounting for stock-based employeecompensation.  In addition, SFAS No. 148amends the disclosure requirements of SFAS No. 123 to require more prominentand more frequent disclosures in financial statements about the effects ofstock-based compensation.  Thisstatement is effective for financial statements for fiscal years ending afterDecember 15, 2002.  SFAS No. 148 willnot have any impact on the Company’s financial statements as management doesnot have any intention to change to the fair value method.

 

**2.    ACQUISITIONOF PEPIN/MERHI ENTERTAINMENT GROUP, INC.**

 

In April 2000, theCompany acquired 100% of the outstanding shares of PM Entertainment forapproximately $6,500,000 in cash, 36,300 common shares of the Company with afair value of $1,668,000 and a $2,050,000 subordinated note.  The acquisition was accounted for under thepurchase method of accounting, and accordingly, the results of the acquisitionof PM Entertainment are included with the results of the Company from the dateof acquisition. The Company acquired net assets with a fair value of$6,100,000. Goodwill of $4,118,000 was amortized on a straight line basis,initially over a ten year period from the acquisition date to a revised periodof three years, commencing from January 1, 2001.  During the second quarter of 2002, inaccordance with SFAS No. 142, the Company determined that its goodwill wasimpaired.  As a result, a one-time,non-cash charge of $2,861,000 was recorded to write-off the remaining balanceof goodwill on the Company’s balance sheet. In accordance with the transitional guidance of SFAS No. 142, the chargeis reflected in the Company’s Consolidated Statement of Operations as acumulative effect of accounting principle change.

 

F-14

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**3.    MARKETABLESECURITIES**

 

During 2000, the Companyreceived approximately 68,000 common shares of Tutornet.com, Inc.(“Tutornet”) with a fair value of $500,000 for the licensing of certaincharacter rights for use on Tutornet’s website.  During 2001, the market value of the securities was approximately$26,000 and a loss impairment of $474,000 was taken as the reduction in valuewas not deemed temporary. During 2002, the value of the stock decreasedfurther, resulting in the Company writing off the remaining $26,000.

 

**4.    FILMINVENTORY**

 

Film inventory consistsof the following at December 31, 2002 and 2001:

 

|                                            |   | **2002** |      | **2001** |   |
|-------------------------------------------------|--------|----------|-----------|----------|--------|
| Films released, net of accumulated amortization |   | $        | 2,748,000 |     | $      | 4,660,000 |   |
| Films in development                            |   | —   |      | —   |   |
| Total film inventory                            |   | $        | 2,748,000 |     | $      | 4,660,000 |   |

 

Approximately $1,072,000of released film inventory is expected to be amortized during the next twelvemonths. As discussed in Note 1, management plans to operate the Company asa scaled back business while they consider various strategic alternatives.Therefore, the Company estimates that approximately 80% of unamortized costs ofreleased films at December 31, 2002 will be amortized within the nextthree years.

 

**5.  FIXED ASSETS**

 

Fixed assets are comprisedof the following at December 31, 2002 and 2001.

 

|                                                          |   | **2002**  |    | **2001**  |   |
|---------------------------------------------------------------|--------|-----------|---------|-----------|--------|
| Furniture, fixtures, equipment and post production  equipment |   | $         | 715,000 |      | $      | 806,000 |   |
| Leasehold improvements                                        |   | 477,000   |    | 477,000   |   |
|                                                          |   | 1,192,000 |    | 1,283,000 |   |
| Less accumulated  depreciation                                |   | (1,106,00 | )       | (994,000  | )      |
|                                                          |   | $         | 86,000  |      | $      | 289,000 |   |

 

**6.    INCOMETAX**

 

The income tax (benefit)expense for the years ended December 31, 2002 and 2001 consist of thefollowing:

 

|                        |   | **2002**   |   | **2001** |   |
|-----------------------------|--------|------------|--------|----------|--------|
| Current                     |   | $          | — |     | $      | — |   |
| Deferred                    |   | 2,427,000  |   | 254,000  |   |
| Valuation allowance         |   | (2,427,000 | )      | (254,000 | )      |
| Provision for income  taxes |   | $          | — |     | $      | — |   |

 

Income tax (benefit)expense computed at the statutory federal income tax rate of 34% and theprovision for income tax (benefit) expense in the financial statements for theyears ended December 31, 2002 and 2001 differ as follows:

 

F-15

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|                                     |   | **2002**  |        | **2001** |   |
|------------------------------------------|--------|-----------|-------------|----------|--------|
| Provision computed at the statutory rate |   | $         | (2,427,000) |     | $      | (494,000) |   |
| Change in valuation  allowance           |   | 2,427,000 |        | 254,000  |   |
| Other                                    |   | —    |        | 240,000  |   |
| Income tax provision  (benefit)          |   | $         | —      |     | $      | — |   |

 

The following are the components of the Company’sdeferred tax assets and (liabilities) at December 31, 2002 and 2001:

 

|                                    |   | **2002**   |        | **2001**   |   |
|-----------------------------------------|--------|------------|-------------|------------|--------|
| Federal net operating loss carryforward |   | $          | 6,622,000   |       | $      | 4,977,000 |   |
| State net operating  loss carryforward  |   | 1,229,000  |        | 847,000    |   |
| Accounts receivable                     |   | 752,000    |        | 856,000    |   |
| Equity based charges                    |   | 457,000    |        | 457,000    |   |
| Capital loss  carryforward              |   | 2,328,000  |        | 2,328,000  |   |
| Film inventory                          |   | 1,453,000  |        | 1,453,000  |   |
| Goodwill                                |   | 1,024,000  |        | —     |   |
| Total deferred tax  asset               |   | 13,865,000 |        | 10,918,000 |   |
| Film rights                             |   | (1,687,000 | )           | (1,687,000 | )      |
| Deferred state taxes                    |   | (498,000   | )           | (498,000   | )      |
| Total deferred tax  liability           |   | (2,185,000 | )           | (2,185,000 | )      |
| Valuation allowance                     |   | $          | (11,680,000 | )          | $      | (8,733,000 | ) |
| Net deferred tax  asset/(liability)     |   | $          | —      |       | $      | — |   |

 

AtDecember 31, 2002, the Company has a net operating loss carryforward ofapproximately $19,400,000 and $14,400,000 for federal and state income taxpurposes, respectively. These net operating loss carryforwards begin to expirein 2018 and 2003, respectively. The net operating losses can be carried forwardto offset future taxable income, if any. Realization of the above carryforwards may be subject to utilizationlimitations, which may inhibit the Company’s ability to use these carryforwardsin the future.  At December 31,2001 realizable income tax benefits from the Company’s cumulative tax losseshave been reported as an income tax receivable of $590,000.

* *

**7.    DEBT**

 

EffectiveApril 2000, the Company entered into a five year, $25,000,000 revolvingcredit facility (the “Facility”) with The Chase Manhattan Bank (the “Bank”) toprovide operating funds and a portion of the acquisition financing of the PMEntertainment acquisition.  Borrowingsunder the Facility were limited to $15,000,000 until additional participantlenders were added to the Facility, at which time the borrowings availablewould have increased, up to a maximum of $25,000,000. Borrowings under theFacility were determined under a borrowing base calculation, which includedcertain allowable accounts receivable, film and intellectual property rights,and were collateralized by substantially all of the assets of the Company.  Upon the closing of the Classic Mediatransaction, in June 2001, the Company repaid all borrowings under theFacility, the Facility was terminated, and the unamortized deferred financingcharges of $1,308,000 were written off.

 

The purchase price of PMEntertainment included $2,050,000 subordinated notes payable to stockholders ofthe Company to be paid over five future quarterly periods.  Interest was payable on the notes at a rateof 10% per annum. In June 2001, the Company entered into a settlementagreement on the subordinated notes payable and recognized an extraordinarygain of $293,000.

 

In connection with theacquisition of PM Entertainment, the Company purchased from Imperial Bank aloan, collateralized by the right to exploit the motion picture “Inferno”.  In consideration for acquiring this loanreceivable, the Company paid Imperial Bank $2,000,000 and issued the bank thepromissory note in the amount of approximately $4,800,000 pursuant to a Loanand Security Agreement.  Interest ispayable on the loan at the prime rate and the loan matured on December 31,2001.  The balance outstanding on theloan was $1,640,000 at September 30, 2001. In September 2001, theCompany entered into a settlement agreement with Metropolitan Film Exportregarding amounts due

 

F-16

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under a licensing contract for the related motion picture and TheMotion Picture Bond Company, an insuring agent, for $1,625,000 and received therelated payment in October 2001. The difference between the proceeds andaccounts receivable balance was fully provided for and written off. Theproceeds from the settlement were used to completely satisfy $1,640,000 balanceoutstanding on the loan facility with Imperial Bank.

 

**8.    TEMPORARYEQUITY**

 

In April 1993, theCompany authorized 300,000 shares of convertible preferred stock and in Apriland September 1999 designated 30,000 shares as Series A PreferredStock.  As part of a refinancing thatoccurred in 1999, the Company issued 19,049 shares of Series A PreferredStock.

 

The Company recorded adeduction for the beneficial conversion feature associated with the issuance ofSeries A Preferred Stock based on the fair value of the underlying commonstock at the date of issuance. The deduction was recorded ratably over asix-month period from April 1999 to October 1999, during whichSeries A Preferred Stock could not be converted into the Company’s commonstock.

 

The Series APreferred Stock is presented as temporary equity, on the Company’s balancesheet, and is not included in stockholders’ equity, since, under certaincircumstances beyond the control of the Company, the holders of Series APreferred Stock may redeem the shares in consideration for cash.  In order to increase stockholders’ equity,in May 2000, the Company allowed holders of Series A Preferred Stockto exchange a portion of their shares for an equivalent number of shares ofSeries B Convertible Preferred Stock. As described more fully in Note 9, Series B Preferred Stockhas substantially similar characteristics to those of Series A PreferredStock, but is classified as permanent equity. In May 2000, 8,460 shares of Series A Preferred Stock wereexchanged for an equivalent number of Series B Preferred shares.  In May 2001, approximately 7,500 shares ofSeries A Convertible Preferred Stock were exchanged for Series BConvertible Preferred Stock.  InJuly 2001, the Company purchased 550 shares of Series APreferred Stock from an affiliate of a company owned by a preferredshareholder, who is also a director of the Company.  See Note 9 for additional discussion.

 

The Series APreferred Stock has the following characteristics:

 

*Voting:*   Theholders of Series A Preferred Stock are entitled to elect two directors tothe Company’s Board of Directors and are entitled to the number of votes equalto the number of shares of common stock into which the Series A PreferredStock is then convertible.  On all othermatters, including the election of the other Company directors, holders of theSeries A Preferred Stock vote (on an as-converted basis) together withcommon stockholders and holders of Series B Preferred Stock (voting in anas-converted basis) as one class.

 

*Dividends:*   Theholders of the convertible preferred stock are entitled to receive dividendsequal to $70 per share per annum paid quarterly. At the Company’s election, thequarterly dividends may be settled by the issuance of additional Series APreferred Stock. During 2002, the Company has settled dividend obligations withrespect to its Series A Preferred Stock by issuing of 348 (2001:520)shares of additional Series A Preferred Stock.

 

*Liquidation Preference:*   Inthe event of any liquidation, dissolution or winding up of the affairs of theCompany, the holders of the Company’s outstanding Series A Preferred Stockshall receive for each share an amount equal to the sum of $1,000 per share,respectively, payable in preference and priority to any payments made to theholders of the then outstanding common stock.

 

Liquidation is deemed toinclude the Company’s sale of all or substantially all of its assets or theacquisition of the Company by another entity by means of merger orconsolidation resulting from the transfer of 50% or more of the Company’svoting power.

 

Additionally, the Companymay redeem, at its liquidation amount, Series A Preferred Stock five yearsfollowing the date the shares were issued.

 

*Conversion:*   Eachshare of Series A Preferred Stock, at the option of the holder, isconvertible at any time into a number of shares of common stock as determinedby dividing the Original Issue Price of Series A Preferred Stock by theConversion Price, as defined, in effect at the time. The Original Issue Priceof Series A Preferred Stock is $1,000 per share. The initial ConversionPrice of Series A Preferred Stock is $67.5 and is subject to adjustment inaccordance with anti-dilution provisions contained in the Company’s Articles ofIncorporation.  At December 31,2002, the Series A Preferred Stock is

 

F-17

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convertible into 77,000 shares of the Company’s common stock(2001:72,000).

 

**9.    STOCKHOLDERS’EQUITY**

 

**Convertible Preferred Stock**

 

In May 2000, theCompany designated 30,000 shares of authorized Preferred Stock as Series BPreferred Stock.  As described inNote 8, the Company issued 8,460 shares of Series B Preferred Stockin exchange for an equivalent number of shares of Series A PreferredStock.

 

The Series BPreferred Stock has substantially similar characteristics to those ofSeries A Preferred Stock, as described in Note 8 above. The liquidationprovisions of Series B Preferred Stock differ from those of Series APreferred Stock in that a liquidation event is not deemed to include theCompany’s sale of all or substantially all of its assets or the acquisition ofthe Company by another entity by means of merger or consolidation resultingfrom the transfer of 50% or more of the Company’s voting power.  At December 31, 2002, the Series BPreferred Stock is convertible into 181,000 shares of the Company’s commonstock (2001: 169,000).  During 2001, theCompany has settled dividend obligations with respect to its Series BPreferred Stock by issuing 820 shares of additional Series B PreferredStock (2001: 784).

 

In July 2001, theCompany entered into a Securities Purchase Agreement to purchase from an affiliateof a company owned by a preferred shareholder, who is also a director of theCompany (i) 550 shares of the Company’s Series A ConvertiblePreferred Stock together with dividends accrued thereon, (ii) 4,950 sharesof the Company’s Series B Convertible Preferred Stock together withdividends accrued thereon and (iii) 38,824 common stock purchase warrantswith exercise prices ranging from $90 to $120 per share. Consideration of$500,000 cash was paid at closing of the transaction. The liquidation value ofthe purchased Convertible Preferred Stock was approximately $6,398,000.  The carrying amount of the securitiespurchased exceeded the cash consideration paid by approximately $6,579,000.

 

**Warrants**

 

As partial considerationfor entering into a revolving credit facility, the Company granted warrants toa bank to purchase 12,600 shares of common stock at $67.50 per share. Thesewarrants, which had a fair value of $320,000 at the date of grant, are fullyvested and expire ten years from their issuance date.  The Company recorded the fair value of these warrants as deferredfinancing costs to be expensed on a straight-line basis over the terms of therelated revolving credit facility.

 

As part of the 1999Refinancing, the Company granted warrants to purchase 134,462 shares of commonstock at prices ranging between $90 to $120 per share. The warrants had a fairvalue of $2,360,000 at the date of grant, are fully vested and expire six toeight years from their issuance date.

 

During 1999, the Companygranted warrants to non-employees in consideration for services rendered. Thesewarrants, to purchase 2,500 shares of common stock, are fully vested,exercisable at prices ranging from $66.90 to $120.00 and expire six to tenyears from their issuance date.

 

Warrants to purchase35,200 shares of the Company’s common stock, granted to various partiesprior to 1999, remain unexercised. These warrants, exercisable at price rangesfrom $100.00 to $134.80, are fully vested and expire on various dates throughMarch 2003.

 

 

**10.  COMMITMENTSAND CONTINGENCIES**

 

***Leases***—The Company leases officespace and office equipment under operating leases expiring through 2006. Futureminimum lease payments due under non-cancelable operating leases atDecember 31, 2002 are as follows:

 

F-18

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| 2003                          |   | $       | 734,000   |   |
|-------------------------------|--------|---------|-----------|--------|
| 2004                          |   | 594,000 |      |
| 2005                          |   | 389,000 |      |
| 2006                          |   | 400,000 |      |
| Total minimum lease  payments |   | $       | 2,117,000 |   |

 

The Company has enteredinto certain sublease arrangements for leased office space no longer occupied.The term of the sublease expires in July of**2004.

 

Rent expense charged tooperations in 2002 was $755,000 (2001:$1,200,000). Rent income from subleasearrangements in 2002 was $469,000 (2001: $443,000). Future minimum rentalincome under sublease arrangements is $449,000 for the fiscal year 2002*.*

 

***Litigation***—The Company is party tolegal proceedings, which are routine and incidental to the business. TheCompany believes the results of such litigation will not have a materialadverse effect on the Company’s financial condition or results of operations.

 

***Employment Agreement***— The Companyentered into an employment agreement with Roger A. Burlage, dated April 7,1999 which provides that he will serve as the Company’s Chairman and ChiefExecutive for a term of four years. Mr. Burlage is entitled to an annual salary of $500,000, withminimum annual increases of 7.5%. Mr. Burlage is also eligible to receive a discretionary bonus asdetermined by the Board.  As part of theagreement, Mr. Burlage was granted warrants to purchase 40,000 shares ofthe Company’s Common Stock at exercise prices ranging from $90.00 to $120.00per share, and was to receive up to an additional 20,000 warrants at hiselection under certain circumstances within one year of the effective date ofhis employment agreement which did not occur. One half of the original warrants vested upon Mr. Burlage signingthe agreement and the balance vest over a three-year period, with 25% vestingon the first anniversary, and 12.5% vesting on each of the second and thirdanniversaries of the agreement. Mr. Burlage is also entitled to be reimbursed for up to $7,500 peryear for country club dues, and to receive all other benefits generally availableto the Company’s other officers, including participation in stock incentive,retirement, medical, dental and accidental benefit plans, life and disabilityinsurance and vacation.  IfMr. Burlage’s position is eliminated as a result of a merger or consolidationof the Company, Mr. Burlage will be entitled to terminate his employmentwithin three months of such event and to receive all salary, benefits andemoluments in effect as such date through the remainder of his four-yearterm.   In January of 2003, Mr. Burlagenotified the Board of Directors that he intends to resign from his position atthe expiration of his contract in April of this year.  On January 15, 2003, the Board of Directors authorized thecreation of the Office of the President to provide for a smooth transitionduring the remainder of Mr. Burlage’s employment term.

 

**11.  EMPLOYEEBENEFIT PLANS**

 

***Stock Opiton Plans*** — The Company’semployee stock option plans (the “Plans”) provide for the grant ofnon-statutory or incentive stock options to the Company’s employees, officers,directors or consultants.

 

The Company’s Board ofDirectors administers the Plans, selects the individuals to whom options willbe granted, determines the number of options to be granted, and the term andexercise price of each option. Stock options granted pursuant to the terms ofthe Plans generally cannot be granted with an exercise price of less than 100%of the fair market value on the date of the grant (110% for awards issued to a10% or more shareholder).  The term ofthe options granted under the Plans cannot be greater than 10 years;5 years for a 10% or more shareholder. Options vest at varying ratesgenerally over five years. An aggregate of 105,000 shares were reserved underthe Plans, of which 5,000 shares were available for future grant at December 31,2002.

 

As a result of therefinancing that took place in 1999, the Company granted options, not coveredby the Plans described above, to purchase 134,462 shares of common stock tocertain employees, officers and directors. These options vest either on the grantdate or over three years from the grant date. The options are exercisable atprices ranging from $90 to $120 per share and expire six to eight years fromtheir issuance date.

 

The following tablesummarizes activity in the Company’s stock option plans (including optionsissued as part of the 1999 refinancing) during the years endedDecember 31, 2002 and 2001:

 

F-19

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|                          |   | **Number of  Shares** |   | **Weighted Average  Price  Per Share** |   |
|-------------------------------|--------|-----------------------|--------|----------------------------------------|--------|
| Balance, December 31, 2000    |   | 176,000               |   | $                                      | 98.70  |   |
| Canceled                      |   | (4,000                | )      | 61.70                                  |   |
|                          |   |                  |   |                                   |   |
| Balance, December 31,  2001   |   | 172,000               |   | $                                      | 96.10  |   |
| Canceled                      |   | (9,000                | )      | 8.00                                   |   |
|                          |   |                  |   |                                   |   |
| Balance at December 31,  2002 |   | 163,000               |   | $                                      | 101.02 |   |

 

The following summarizespricing and term information for options issued to employees and directorswhich are outstanding as of December 31, 2002:

 
|                                 |   | **Options Outstanding**                        |   | **Options Exercisable**                             |   |
|--------------------------------------|--------|------------------------------------------------|--------|-----------------------------------------------------|--------|
| **Range of Exercise Prices**         |   | **Number  Outstanding  at December 31,  2002** |   | **Weighted  Average  Remaining  Contractual  Life** |   | **Weighted  Average  Exercise  Price** |   | **Number  Exercisable  at December 31,  2002** |   | **Weighted  Average  Exercise  Price** |   |
| $45.00 -   50.00 |   | 6,000                                          |   | 7.15                                                |   | $ | 34.91 |   | 6,000 |   | $ | 34.91 |   |
| 66.90                                |   | 2,000                                          |   | 6.38                                                |   | 66.90 |   | 2,000 |   | 66.90 |   |
| 67.50 -   72.50  |   | 14,000                                         |   | 5.90                                                |   | 68.86 |   | 14,000 |   | 68.86 |   |
| 88.10 -   90.00  |   | 44,000                                         |   | 2.32                                                |   | 89.97 |   | 43,000 |   | 89.97 |   |
| 95.00                                |   | 1,000                                          |   | 4.38                                                |   | 95.00 |   | 1,000 |   | 95.00 |   |
| 105.00                               |   | 2,000                                          |   | 5.38                                                |   | 105.00 |   | 2,000 |   | 105.00 |   |
| 110.00 - 126.90            |   | 94,000                                         |   | 3.92                                                |   | 115.63 |   | 90,000 |   | 115.66 |   |
| $45.00 - 126.90            |   | 163,000                                        |   | 3.81                                                |   | $ | 101.02 |   | 158,000 |   | $ | 100.57 |   |

 

Had compensation cost forstock-based compensation been determined based on the fair value at the grantdates in accordance with the method delineated in Statement of AccountingStandards No. 123, the Company’s net loss and loss per share for the year endedDecember 31, 2002 would not have been materially different than currentlyreported in the Company’s Consolidated Statements of Operations.

 

**12.  EARNINGSPER SHARE**

 

The following table setsforth common stock equivalents (potential common stock) that are not includedin the net income (loss) per share calculation above because their effect wouldbe anti-dilutive for the periods indicated:

 

|                                        |   | **Year Ended December 31,** |   |
|---------------------------------------------|--------|-----------------------------|--------|
|                                        |   | **2002**                    |   | **2001** |   |
| Weighted average common  stock equivalents: |   |                        |   |   |   |
| Series A Preferred  Stock                   |   | 77,000                      |   | 72,000 |   |
| Series B Preferred  Stock                   |   | 181,000                     |   | 169,000 |   |
| Stock options                               |   | 144,000                     |   | 151,000 |   |
| Warrants                                    |   | 182,000                     |   | 182,000 |   |

 

**13.  GEOGRAPHICINFORMATION**

 

The Company operates inone segment: the exploitation of motion picture product and relatedintellectual property.

 

Worldwide sales bygeographic area for the years ended December 31, 2002 and 2001 are asfollows:

 

F-20

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|        |   | **2002** |      | **2001**  |   |
|-------------|--------|----------|-----------|-----------|--------|
| U.S./Canada |   | $        | 572,000   |      | $      | 6,787,000 |   |
| Asia        |   | 159,000  |      | 487,000   |   |
| Europe      |   | 183,000  |      | 3,516,000 |   |
| Other       |   | 205,000  |      | 651,000   |   |
|        |   | $        | 1,119,000 |      | $      | 11,441,000 |   |

 

At December 31,2002, the amount owing from one customer approximated 55% of the total accountsreceivable.

 

**14.  RELATEDPARTIES**

 

In April 2000, theCompany entered into a 2-year lease agreement with an entity owned bystockholders of the Company, which expired March 31, 2002. The lease isclassified as an operating lease. Rent expense under the operating lease in2002 was $150,000 (2001: $600,000).

 

**15.  CONTROLSAND PROCEDURES**

 

Within 90 days prior tothe date of this report, we carried out an evaluation, under the supervisionand with the participation of our Chief Executive Officer and Chief FinancialOfficer, of the effectiveness of the design and operation of our disclosurecontrols and procedures. Based on this evaluation, our Chief Executive Officerand Chief Financial Officer concluded that our disclosure controls andprocedures are effective in timely alerting them to material informationrequired to be included in our periodic SEC reports. It should be noted thatthe design of any system of controls is based in part upon certain assumptionsabout the likelihood of future events, and there can be no assurance that anydesign will succeed in achieving its stated goals under all potential futureconditions, regardless of how remote.

 

In addition, we reviewedour internal controls, and there have been no significant changes in ourinternal controls or in other factors that could significantly affect thosecontrols subsequent to the date of their last evaluation.

 

F-21

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