**UNITEDSTATES SECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON, D.C. 20549**

 

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# **FORM10-Q**

 

**ý****        QUARTERLYREPORT UNDER SECTION 13 OR 15(d) OFTHE SECURITIES EXCHANGE ACT OF 1934**

 

**FOR THEQUARTERLY PERIOD ENDED SEPTEMBER 27, 2003**

 

**OR**

 

**o****        TRANSITIONREPORT UNDER SECTION 13 OR 15(d) OFTHE SECURITIES EXCHANGE ACT OF 1934**

 

**FOR THE TRANSITION PERIODFROM           TO           **

 

**COMMISSION FILE NUMBER 0-25507**

 

**iPARTYCORP.**

(EXACT NAME OFREGISTRANT AS SPECIFIED IN ITS CHARTER)

 

| **DELAWARE**                                                             |   | **76-0547750**                               |
|--------------------------------------------------------------------------|--------|----------------------------------------------|
| (STATE OR OTHER  JURISDICTION OF  INCORPORATION OR ORGANIZATION)         |   | (I.R.S. EMPLOYER  IDENTIFICATION NO.)        |
|                                                                     |   |                                         |
| **1457 VFW PARKWAY  WEST ROXBURY, MASSACHUSETTS**                        |   | **02132**                                    |
| (ADDRESS OF  PRINCIPAL EXECUTIVE OFFICES)                                |   | (ZIP CODE)                                   |
|                                                                     |   |                                         |
| **(617) 323-0822**                                                       |
| (REGISTRANT’S  TELEPHONE NUMBER, INCLUDING AREA CODE)               |
|                                                                     |   |                                         |
| SECURITIES  REGISTERED UNDER SECTION 12(b) OF THE EXCHANGE ACT:          |
|                                                                     |   |                                         |
| **COMMON STOCK, $.001 PAR VALUE**                                        |   | **AMERICAN STOCK EXCHANGE**                  |
| (TITLE OF EACH  CLASS)                                                   |   | (NAME OF EACH  EXCHANGE ON WHICH REGISTERED) |
|                                                                     |   |                                         |
| SECURITIES  REGISTERED UNDER SECTION 12(g) OF THE EXCHANGE ACT: **NONE** |

 

Indicate by check markwhether the registrant: (1) has filed all reports required to be filed bySection 13 or 15(d) of the Exchange Act during the past 12 months (or for suchshorter period that the registrant was required to file such reports), and (2)has been subject to such filing requirements for the past 90 days.  Yes ýNo o

 

Indicate by check markwhether the registrant is an accelerated filer (as defined in Rule 12b-2 of theExchange Act).  Yes oNo ý

 

Indicate the number ofshares outstanding of each of the issuer’s classes of common stock as of thelatest practicable date.

 

The number of shares ofthe Registrant’s common stock outstanding as of November 5, 2003:  18,502,745.

 

 

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**iParty Corp.Quarterly Report on Form 10-Q**

**Table of Contents**

 
| PART 1         | FINANCIAL INFORMATION                                                                                                       |
|----------------|-----------------------------------------------------------------------------------------------------------------------------|
|           |                                                                                                                        |
| Item 1.        | Financial Statements  (Unaudited)                                                                                           |
|           | Consolidated Balance Sheets  – September 27, 2003 and December 28, 2002                                                |
|           | Consolidated  Statements of Operations – Three months and nine months ended September 27,  2003 and September 28, 2002 |
|           | Consolidated  Statements of Cash Flows – Nine months ended September 27, 2003 and September  28, 2002                  |
|           | Notes to  Consolidated Financial Statements                                                                                 |
|           |                                                                                                                        |
| Item 2.        | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                                 |
|           |                                                                                                                        |
| Item  3.       | Quantitative  and Qualitative Disclosures About Market Risk                                                                 |
|           |                                                                                                                        |
| Item 4.        | Controls and  Procedures                                                                                                    |
|           |                                                                                                                        |
| PART II        | OTHER INFORMATION                                                                                                           |
|           |                                                                                                                        |
| Item 6.        | Exhibits and  Reports on Form 8-K                                                                                           |
|           |                                                                                                                        |
| SIGNATURES     |
|           |                                                                                                                        |
| CERTIFICATIONS |
|           |                                                                                                                        |
| Exhibit Index  |
|           |                                                                                                                        |
| Ex. 31.1       | Certification of Chief  Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act                                 |
|           |                                                                                                                        |
| Ex. 31.2       | Certification of Chief  Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act                                 |
|           |                                                                                                                        |
| Ex. 32.1       | Certification of Chief  Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002                         |
|           |                                                                                                                        |
| Ex. 32.2       | Certification of Chief  Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002                         |

 

1

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**PART I - FINANCIAL INFORMATION**

 

Item 1. Financial Statements

 

**iPARTYCORP.**

**CONSOLIDATED BALANCE SHEETS**

 
|                                                                                                                                                                                                                            |   | **Sep 27,  2003** |       | **Dec 28,  2002** |   |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|-------------------|------------|-------------------|--------|
|                                                                                                                                                                                                                            |   | **(Unaudited)**   |       | **Restated**      |   |
|                                                                                                                                                                                                                            |   |              |       | **(Note 1)**      |   |
| **ASSETS**                                                                                                                                                                                                                      |   |              |       |              |   |
| Current assets:                                                                                                                                                                                                                 |   |              |       |              |   |
| Cash and cash equivalents                                                                                                                                                                                                       |   | $                 | 2,360,428  |              | $      | 2,326,343 |   |
| Restricted cash                                                                                                                                                                                                                 |   | 653,789           |       | 371,952           |   |
| Accounts receivable                                                                                                                                                                                                             |   | 546,451           |       | 445,988           |   |
| Inventory, net                                                                                                                                                                                                                  |   | 12,369,018        |       | 8,916,664         |   |
| Prepaid expenses and other assets                                                                                                                                                                                               |   | 383,537           |       | 294,370           |   |
| Total current assets                                                                                                                                                                                                            |   | 16,313,223        |       | 12,355,317        |   |
| Property and equipment, net                                                                                                                                                                                                     |   | 1,457,167         |       | 1,128,897         |   |
| Other assets                                                                                                                                                                                                                    |   | 236,783           |       | 331,669           |   |
| Total assets                                                                                                                                                                                                                    |   | $                 | 18,007,173 |              | $      | 13,815,883 |   |
|                                                                                                                                                                                                                            |   |              |       |              |   |
| **LIABILITIES, CONVERTIBLE PREFERRED  STOCK AND STOCKHOLDERS’ DEFICIT**                                                                                                                                                    |   |              |       |
| Current liabilities:                                                                                                                                                                                                            |   |              |       |              |   |
| Accounts payable                                                                                                                                                                                                                |   | $                 | 6,270,231  |              | $      | 2,752,311 |   |
| Accrued expenses                                                                                                                                                                                                                |   | 2,051,951         |       | 1,867,496         |   |
| Current portion of capital lease obligations                                                                                                                                                                                    |   | 71,456            |       | 237,080           |   |
| Borrowings under line of credit                                                                                                                                                                                                 |   | 6,223,191         |       | 3,476,738         |   |
| Total current liabilities                                                                                                                                                                                                       |   | 14,616,829        |       | 8,333,625         |   |
|                                                                                                                                                                                                                            |   |              |       |              |   |
| Long-term liabilities:                                                                                                                                                                                                          |   |              |       |              |   |
| Capital lease obligations, net of current portion                                                                                                                                                                               |   | 1,025             |       | 3,173             |   |
| Other liabilities                                                                                                                                                                                                               |   | 434,622           |       | 678,932           |   |
| Total long-term liabilities                                                                                                                                                                                                     |   | 435,647           |       | 682,105           |   |
|                                                                                                                                                                                                                            |   |              |       |              |   |
| Commitments and contingencies                                                                                                                                                                                                   |   |              |       |              |   |
|                                                                                                                                                                                                                            |   |              |       |              |   |
| Convertible preferred stock - $.001 par value;  10,000,000 shares authorized,                                                                                                                                                   |   |              |       |              |   |
| Series A convertible preferred stock - 1,000,000  shares authorized, issued and outstanding (aggregate liquidation value of  $1,000,000 at September 27, 2003)                                                                  |   | 1,000,000         |       | 1,000,000         |   |
| Series B convertible preferred stock – 1,150,000 shares  authorized; 633,638 and 684,799 shares issued and outstanding in 2003 and  2002, respectively (aggregate liquidation value of $12,672,760 at September  27, 2003) |   | 9,428,533         |       | 10,189,809        |   |
| Series C convertible preferred stock – 100,000  shares authorized, issued and outstanding (aggregate liquidation value of  $2,000,000 at September 27, 2003)                                                               |   | 1,492,000         |       | 1,492,000         |   |
| Series D convertible preferred stock – 250,000  shares authorized, issued and outstanding (aggregate liquidation value of  $5,000,000 at September 27, 2003)                                                               |   | 3,652,500         |       | 3,652,500         |   |
| Series E convertible preferred stock - 533,333  shares authorized; 389,439 and 466,667 shares issued and outstanding in 2003  and 2002, respectively (aggregate liquidation value of $1,460,396 at  September 27, 2003)         |   | 1,460,396         |       | 1,750,000         |   |
| Series F convertible preferred stock - 114,286  shares authorized, issued and outstanding (aggregate liquidation value of  $500,000 at September 27, 2003)                                                                      |   | 500,000           |       | 500,000           |   |
| Total convertible preferred stock                                                                                                                                                                                               |   | 17,533,429        |       | 18,584,309        |   |
|                                                                                                                                                                                                                            |   |              |       |              |   |
| Stockholders’ deficit:                                                                                                                                                                                                     |   |              |       |              |   |
| Common stock - $.001 par value; 150,000,000 shares  authorized; 18,489,876 and 16,996,570 shares issued and outstanding in 2003  and 2002, respectively                                                                         |   | 18,490            |       | 16,997            |   |
| Additional paid-in capital                                                                                                                                                                                                      |   | 47,219,248        |       | 46,168,101        |   |
| Accumulated deficit                                                                                                                                                                                                             |   | (61,816,470       | )          | (59,969,254       | )      |
| Total stockholders’ deficit                                                                                                                                                                                                |   | (14,578,732       | )          | (13,784,156       | )      |
|                                                                                                                                                                                                                            |   |              |       |              |   |
| Total liabilities, convertible preferred stock and  stockholders’ deficit                                                                                                                                                  |   | $                 | 18,007,173 |              | $      | 13,815,883 |   |
|                                                                                                                                                                                                                                 |        |                   |            |                   |        |  |  |  |  |

 

The accompanying Notesare an integral part of these Consolidated Financial Statements.

 

2

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**iPARTYCORP.**

**CONSOLIDATED STATEMENTS OF OPERATIONS**

**(Unaudited)**

 
|                                 |   | **For the  three months ended** |       | **For the  nine months ended** |   |
|--------------------------------------|--------|---------------------------------|------------|--------------------------------|--------|
|                                 |   | **Sep 27,  2003**               |       | **Sep 28,  2002**              |   | **Sep 27,  2003** |   | **Sep 28,  2002** |   |
| Revenues                             |   | $                               | 11,878,460 |                           | $      | 10,901,242 |   | $ | 35,971,592 |   | $ | 34,571,758 |   |
| Operating costs:                     |   |                            |       |                           |   |   |   |   |   |
| Cost of products sold                |   | 7,060,170                       |       | 6,635,891                      |   | 21,151,729 |   | 20,956,836 |   |
| Marketing and sales                  |   | 4,435,844                       |       | 3,865,553                      |   | 12,461,185 |   | 11,026,078 |   |
| General and administrative           |   | 1,352,719                       |       | 1,329,195                      |   | 4,033,860 |   | 4,040,634 |   |
| Special charge                       |   | —                          |       | 201,465                        |   | — |   | 201,465 |   |
|                                 |   |                            |       |                           |   |   |   |   |   |
| Operating loss                       |   | (970,273                        | )          | (1,130,862                     | )      | (1,675,182 | ) | (1,653,255 | ) |
|                                 |   |                            |       |                           |   |   |   |   |   |
| Interest expense, net                |   | (64,454                         | )          | (74,742                        | )      | (172,034 | ) | (223,349 | ) |
|                                 |   |                            |       |                           |   |   |   |   |   |
| Net loss                             |   | $                               | (1,034,727 | )                              | $      | (1,205,604 | ) | $ | (1,847,216 | ) | $ | (1,876,604 | ) |
|                                 |   |                            |       |                           |   |   |   |   |   |
| Loss per share:                      |   |                            |       |                           |   |   |   |   |   |
| Basic and diluted                    |   | $                               | (0.06      | )                              | $      | (0.07 | ) | $ | (0.11 | ) | $ | (0.12 | ) |
|                                 |   |                            |       |                           |   |   |   |   |   |
| Weighted-average shares outstanding: |   |                            |       |                           |   |   |   |   |   |
| Basic and diluted                    |   | 17,654,824                      |       | 16,399,768                     |   | 17,343,233 |   | 15,948,021 |   |

** **

The accompanying Notesare an integral part of these Consolidated Financial Statements.

 

3

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**iPARTYCORP.**

**CONSOLIDATED STATEMENTS OF CASH FLOWS**

**(Unaudited)**

 
|                                                                         |   | **For the  nine months ended** |       |
|------------------------------------------------------------------------------|--------|--------------------------------|------------|
|                                                                         |   | **Sep 27,  2003**              |       | **Sep 28,  2002** |   |
|                                                                         |   |                           |       |   |   |
| **Operating activities:**                                                    |   |                           |       |   |   |
|                                                                         |   |                           |       |   |   |
| Net loss                                                                     |   | $                              | (1,847,216 | ) | $ | (1,876,604 | ) |
| Adjustments to reconcile net loss to net cash used  in operating activities: |   |                           |       |   |   |
| Depreciation and amortization                                                |   | 386,022                        |       | 426,779 |   |
| Non-cash portion of special charge                                           |   |                           |       | 171,465 |   |
| Deferred rent                                                                |   | 5,691                          |       | 94,593 |   |
| Changes in operating assets and liabilities:                                 |   |                           |       |   |   |
| Accounts receivable                                                          |   | (100,463                       | )          | 9,915 |   |
| Inventory                                                                    |   | (3,452,354                     | )          | (2,099,077 | ) |
| Prepaid expenses and other assets                                            |   | 5,719                          |       | (1,110 | ) |
| Accounts payable                                                             |   | 3,517,920                      |       | 2,574,115 |   |
| Accrued expenses and other liabilities                                       |   | (65,546                        | )          | (563,341 | ) |
| Net cash used in operating activities                                        |   | (1,550,227                     | )          | (1,263,265 | ) |
|                                                                         |   |                           |       |   |   |
| **Investing activities:**                                                    |   |                           |       |   |   |
|                                                                         |   |                           |       |   |   |
| Purchase of property and equipment                                           |   | (714,292                       | )          | (710,495 | ) |
| Decrease (increase) in restricted cash                                       |   | (281,837                       | )          | 154,754 |   |
| Net cash used in investing activities                                        |   | (996,129                       | )          | (555,741 | ) |
|                                                                         |   |                           |       |   |   |
| **Financing activities:**                                                    |   |                           |       |   |   |
|                                                                         |   |                           |       |   |   |
| Net borrowings under line of credit                                          |   | 2,746,453                      |       | 1,958,767 |   |
| Principal payments on capital lease obligations                              |   | (167,772                       | )          | (203,828 | ) |
| Proceeds from exercise of stock options                                      |   | 1,760                          |       | 4,688 |   |
| Net cash provided by financing activities                                    |   | 2,580,441                      |       | 1,759,627 |   |
|                                                                         |   |                           |       |   |   |
| **Net increase (decrease) in cash and  cash equivalents**                    |   | 34,085                         |       | (59,379 | ) |
|                                                                         |   |                           |       |   |   |
| **Cash and cash equivalents,  beginning of period**                          |   | 2,326,343                      |       | 2,399,084 |   |
|                                                                         |   |                           |       |   |   |
| **Cash and cash equivalents, end of  period**                                |   | $                              | 2,360,428  |   | $ | 2,339,705 |   |
|                                                                         |   |                           |       |   |   |
| Supplemental disclosure of non-cash financing  activities:                   |   |                           |       |   |   |
|                                                                         |   |                           |       |   |   |
| Conversion of Series B convertible preferred stock  to common stock          |   | $                              | 761,276    |   | $ | 1,217,219 |   |
| Conversion of Series E convertible preferred stock  to common stock          |   | 289,604                        |       | — |   |
| Total conversion of convertible preferred stock to  common stock             |   | $                              | 1,050,880  |   | $ | 1,217,219 |   |
|                                                                         |   |                           |       |   |   |
| Acquisition of assets under capital lease                                    |   | $                              | —     |   | $ | 7,881 |   |

 

The accompanying Notes arean integral part of these Consolidated Financial Statements.

 

4

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**iPARTYCORP.**

**NOTESTO CONSOLIDATED FINANCIAL STATEMENTS**

**September27, 2003**

**(Unaudited)**

 

**1.  BASIS OF PRESENTATION AND SIGNIFICANTACCOUNTING POLICIES**:

 

*InterimFinancial Information*

 

**Theinterim consolidated financial statements as of September 27, 2003 have beenprepared by the Company pursuant to the rules and regulations of the Securitiesand Exchange Commission (the “SEC”) for interim financial reporting.  These consolidated statements are unauditedand, in the opinion of management, include all adjustments (consisting ofnormal recurring adjustments and accruals) necessary to present fairly the consolidatedbalance sheets, consolidated operating results, and consolidated cash flows forthe periods presented in accordance with generally accepted accountingprinciples.  The consolidated balancesheet at December 28, 2002 has been derived from the restated auditedconsolidated financial statements at that date.  Operating results for the three months and nine months endedSeptember 27, 2003 and September 28, 2002 may not be indicative of the resultsfor the entire year due, in part, to the seasonality of the Company’sbusiness.  Historically, higher revenuesand operating income have been experienced in the second and fourth fiscalquarters.  Certain information andfootnote disclosures normally included in financial statements prepared inaccordance with generally accepted accounting principles have been omitted inaccordance with the rules and regulations of the SEC.  These consolidated financial statements should be read inconjunction with the restated audited consolidated financial statements, andaccompanying notes, included in the Company’s Annual Report on Form 10-KSB/Afor the year ended December 28, 2002.**

 

*Restatement of Financial Information*

 

In connection with the Company’s filing of Form 10-Qfor its second quarter ended June 28, 2003, the Company filed an amended Form10-Q for its first quarter ended March 29, 2003 and an amended Form 10-KSB forits fiscal year ended December 28, 2002 to restate its balance sheets topresent its Series A - F convertible preferred stock outside of permanentstockholders’ deficit as a result of the application of Emerging Issues Task Force (“EITF”) Topic No. D-98*,Classification and Measurement of Redeemable Securities.*  The effect of this restatement was to reducepreviously reported total stockholders’ equity by the carrying values of therespective convertible preferred shares outstanding of $18,584,309 at December28, 2002.  The supplemental disclosureof non-cash financing activities has been reclassified on the accompanyingconsolidated statements of cash flows for the nine months ended September 28,2002 to reflect the conversion of convertible preferred stock at their carryingvalues.  This reclassification did notimpact the Company’s results of operations or actual cash flows.

 

*Principlesof Consolidation*

 

The consolidatedfinancial statements include the accounts of iParty Corp. and its wholly-ownedsubsidiaries after elimination of all significant intercompany transactions andbalances.

 

*RevenueRecognition*

 

The Company’s revenue isderived principally from retail sales at the store level.  Revenue is recognized at the point of salefor retail sales and all customer discounts are recorded as a reduction ofrevenue.

 

*Useof Estimates*

 

The preparation offinancial statements in conformity with accounting principles generallyaccepted in the United States requires management to make estimates andassumptions that affect the reported amounts of assets and liabilities anddisclosure of contingent assets and liabilities at the date of the financialstatements and the

 

 

5

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reported amounts of revenue and expenses during the reportingperiod.  Actual results could differfrom these estimates.

 

*Cash and Cash Equivalents andRestricted Cash*

 

The Company usescontrolled disbursement banking arrangements as part of its cash managementprogram.  Outstanding checks, which wereincluded in accounts payable, totaled $695,248 at September 27, 2003 and$68,419 at September 28, 2002.  The Companyhad sufficient funds available to fund the outstanding checks when they werepresented for payment.

 

Restricted cashrepresents money deposited in blocked accounts established for the benefit ofand under the control of Wells Fargo Retail Finance, the Company’s lender underits line of credit, and constitutes collateral for amounts outstanding underthe Company’s line of credit.

 

*Inventory and RelatedAllowance for Obsolete and Excess Inventory*

 

Inventory consists ofparty supplies and is valued at the lower of market or weighted-average cost,which approximates FIFO (first-in, first-out). Inventory has been reduced by an allowance for obsolete and excessinventory, which is based on management’s review of inventory on hand comparedto estimated future sales.

 

*NetLoss per Share*

 

Basic net loss per shareis computed by dividing net loss by the weighted-average number of commonshares outstanding.  Diluted net lossper share is the same as basic net loss per share for the three-month andnine-month periods ended September 27, 2003 and September 28, 2002 since theCompany recognized a net loss in each period.

 

As of September 27, 2003,there were 41,147,752 potential additional common share equivalentsoutstanding, including 19,198,352 shares upon the conversion of immediatelyconvertible preferred stock, 13,563,212 shares upon the exercise of warrantswith a weighted-average exercise price of $1.43 and 8,386,188 shares upon theexercise of stock options with a weighted-average exercise price of $0.99, butnot included in the above calculation as their effect would have been anti-dilutive.

 

*StockOption Compensation Expense*

 

The Company accounts forits stock option compensation agreements with employees under the provisions ofAccounting Principles Board (“APB”) Opinion No. 25, *Accounting for Stock Issued toEmployees*.  The Company hasadopted the disclosure-only provisions of Statement of Financial AccountingStandards (“SFAS”) No. 123, *Accounting for Stock-Based Compensation*.

 

The Company has computedthe value of options using the Black-Scholes option pricing model prescribed bySFAS No. 123.  The weighted-average fairvalue of the options granted was $0.34 per share during the third quarter offiscal 2003 and $0.28 per share during the third quarter of fiscal 2002, usingthe following assumptions:  no dividendyield, volatility of 125% in 2003 and 2002, a risk-free interest rate of 4.67%to 5.38% in the third quarter of fiscal 2003 and 5.15% to 5.63% in the thirdquarter of fiscal 2002 and an expected life of five years from the date of thegrant.  Had compensation cost for theCompany’s stock option plan been determined based upon the fair value at thegrant date for awards under the plan consistent with the methodology prescribedunder SFAS 123, the Company’s net loss and net loss per share would have beenthe following pro forma amounts:

 

6

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|                                 |   | **For the  three months ended** |       | **For the  nine months ended** |   |
|--------------------------------------|--------|---------------------------------|------------|--------------------------------|--------|
|                                 |   | **Sep 27,  2003**               |       | **Sep 28,  2002**              |   | **Sep 27,  2003** |   | **Sep 28,  2002** |   |
| Net loss, as reported                |   | $                               | (1,034,727 | )                              | $      | (1,205,604 | ) | $ | (1,847,216 | ) | $ | (1,876,604 | ) |
|                                 |   |                            |       |                           |   |   |   |   |   |
| Stock option compensation expense    |   | (145,341                        | )          | (162,306                       | )      | (362,538 | ) | (562,279 | ) |
|                                 |   |                            |       |                           |   |   |   |   |   |
| Pro forma net loss                   |   | $                               | (1,180,068 | )                              | $      | (1,367,910 | ) | $ | (2,209,754 | ) | $ | (2,438,883 | ) |
|                                 |   |                            |       |                           |   |   |   |   |   |
| Loss per share:                      |   |                            |       |                           |   |   |   |   |   |
| Basic and diluted, as reported       |   | $                               | (0.06      | )                              | $      | (0.07 | ) | $ | (0.11 | ) | $ | (0.12 | ) |
|                                 |   |                            |       |                           |   |   |   |   |   |
| Basic and diluted, pro forma         |   | $                               | (0.07      | )                              | $      | (0.08 | ) | $ | (0.13 | ) | $ | (0.15 | ) |
|                                 |   |                            |       |                           |   |   |   |   |   |
| Weighted-average shares outstanding: |   |                            |       |                           |   |   |   |   |   |
| Basic and diluted                    |   | 17,654,824                      |       | 16,399,768                     |   | 17,343,233 |   | 15,948,021 |   |

 

*Accountingfor the Impairment of Long-Lived Assets*

 

In accordance with SFASNo. 144, *Accounting for the Impairment orDisposal of Long-Lived Assets*,**the Company performs an impairmentreview quarterly.

 

*Reclassifications*

 

Certainreclassifications have been made to prior year’s amounts to conform to thecurrent year presentation.

 

**2.  SEGMENT REPORTING:**

 

SFAS No. 131, *Disclosuresabout Segments of an Enterprise and Related Information*, establishesstandards for the way business enterprises report information about operatingsegments in annual financial statements and requires that those enterprisesreport selected information about operating segments in interim financialreports issued to stockholders.

 

Operating segmentsrepresent components of the Company’s business that are evaluated regularly bymanagement in assessing performance and resource allocation.  Management evaluates a segment’s performancebased upon net revenue, operating loss and net loss.  In the past the Company had determined that its reportablesegments consisted of a retail stores operation and an Internet operation.  In the third quarter of fiscal 2003 theInternet operation’s consolidated net revenue was less than 1% of the Company’sconsolidated net revenue, its reported loss was less than 2% of the Company’sconsolidated loss and its assets were less than 1% of the Company’sconsolidated assets.  The Company doesnot expect these amounts to return to over 10% of the respective consolidatedtotals.  Therefore, the Company has notreported Internet operating segment information.

 

**3.  LIQUIDATION FEATURE OF SERIES A-FCONVERTIBLE PREFERRED STOCK**

** **

The holders ofSeries A-F convertible preferred stock have the right to a liquidationpreference which may be exercised under certain events outside of the Company’scontrol.  In accordance with EITF TopicD-98, the Company has included the respective equity securities outside ofpermanent stockholders’ deficit in the accompanying balance sheets as ofSeptember 27, 2003 and December 28, 2002 at their respective carryingvalues.  In certain cases, warrants wereissued, which the Company allocated value to and included in additional paid incapital.  In the event such aliquidation event occurs, the difference between the carrying value of theconvertible preferred stock and their liquidation value will be accreted.  This amount was $5.1 million on September27, 2003.

 

7

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The Companyconcluded that SFAS No. 150, *Accounting for Certain Financial Instruments withCharacteristics of both Liabilities and Equity*, does not apply toits convertible preferred stock.  As aresult of this conclusion, the Company will continue to present its convertiblepreferred stock as temporary equity in accordance with EITF Topic D-98 so longas the redemption of these securities is not solely within the control of theCompany.

 

**4.  NEW ACCOUNTING PRONOUNCEMENTS:**

 

In June 2002, theFinancial Accounting Standards Board (the “FASB”) issued SFAS No. 146, *Accounting for Costs Associated with Exit or DisposalActivities*.  SFAS No. 146addresses financial accounting and reporting for costs associated with exit ordisposal activities and rescinds EITF Issue No. 94-3, *Liability Recognition for Certain Employee TerminationBenefits and Other Costs to Exit an Activity (including Certain Costs Incurredin a Restructuring)*.  ThisStatement requires that a liability for a cost associated with an exit ordisposal activity be recognized when the liability is incurred.  The provisions of SFAS No. 146 are effectivefor exit and disposal activities that are initiated after December 31,2002.  The adoption of SFAS No. 146 didnot have a material impact on the Company’s consolidated financial position orconsolidated results of operations.

 

In December 2002, theFASB issued SFAS No. 148 , *Accounting forStock-Based Compensation – Transition and Disclosure, an amendment of FASBStatement No. 123*.  SFAS No.148 amends SFAS No. 123 to provide alternative methods of transition for anentity that voluntarily changes to the fair value based method of accountingfor stock-based employee compensation. SFAS 148 also amends the disclosure provisions of SFAS No. 123 torequire prominent disclosure about the effects on reported net income of anentity’s accounting policy decisions with respect to stock-based employeecompensation.  SFAS No. 148 also amendsAPB Opinion No. 28*, Interim FinancialReporting,* to require disclosure about those effects in interimfinancial statements.  The Companycurrently does not intend to voluntarily change from the intrinsic value methodto the fair value method of accounting for stock-based employeecompensation.  The Company is providingthe required disclosure about the effects on reported net loss of itsaccounting policy decisions with respect to stock-based employee compensationwith its interim financial statements for the three-month and nine-monthperiods ended September 27, 2003 in Note 1 to the interim financial statements.

 

In January 2003, the EITFissued EITF No. 02-16, *Accounting by a Customer (Including a Reseller) forCertain Consideration Received from a Vendor*, which states that cashconsideration received from a vendor is presumed to be a reduction of theprices of the vendor’s products or services and should, therefore, becharacterized as a reduction of cost of sales when recognized in the statementof operations.  That presumption isovercome when the consideration is either a reimbursement of specific,incremental, identifiable costs incurred to sell the vendor’s products, or apayment for assets or services delivered to the vendor.  The adoption of EITF Issue No. 02-16 in 2003did not have a material impact on the Company’s results of operations.

 

In November 2002, theEITF finalized its consensus on EITF Issue 00-21, *Revenue Arrangements with MultipleDeliverables*, which provides guidance on the timing and method ofrevenue recognition for sales arrangements that include the delivery of morethan one product or service.  EITF 00-21is effective prospectively for arrangements entered into in fiscal periodsbeginning after June 15, 2003.  UnderEITF 00-21, revenue must be allocated to all deliverables regardless of whetheran individual element is incidental or perfunctory.  The Company adopted EITF 00-21 in the third quarter of 2003 andits adoption did not have a material impact on the Company’s financialstatements.

 

In January 2003, the FASBissued Interpretation No. 46, *Consolidation of Variable Interest Entities, anInterpretation of ARB No. 51* (“FIN 46”).  FIN 46 requires certain variableinterest entities to be consolidated by the primary beneficiary of the entityif the equity investors in the entity do not have the characteristics of acontrolling financial interest or do not have sufficient equity at risk for theentity to finance its activities without additional subordinated financialsupport from other parties.  FIN 46 iseffective for all new variable interest entities created or acquired afterJanuary 31, 2003.  For variable interestentities created or acquired prior to February 1, 2003, the provisions ofFIN 46 must be applied for the first interim or annual period beginningafter December 15, 2003.  TheCompany is currently in the process of evaluating the impact of FIN 46 and hasnot yet determined the impact on its results of operations or financialposition.

 

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**Item 2.  Management’s Discussion and Analysis**

 

This information shouldbe read in conjunction with the unaudited consolidated financial statements andrelated notes included in Item 1 of this Quarterly Report on Form 10-Q and theaudited consolidated financial statements and related notes and Item 6,Management’s Discussion and Analysis, contained in our Annual Report on Form10-KSB/A for the fiscal year ended December 28, 2002.

 

Certain statements inthis Form 10-Q constitute or incorporate “forward-looking statements” withinthe meaning of the Private Securities Litigation Reform Act of 1995, Section27A of the Securities Act of 1933, as amended, and Section 21E of theSecurities Exchange Act of 1934, as amended (the “statutory safeharbors”).  The words we “anticipate,”“believe,” “estimate,” “expect,” “plan,” “intend” and other similar expressionsare intended to identify these forward-looking statements, but are not theexclusive means of identifying them.  Wedesire to avail ourselves of the statutory safe harbors and are thereforeincluding this special note to enable us to do so.  Forward-looking statements included in this Form 10-Q orhereafter included in other publicly available documents filed with theSecurities and Exchange Commission, reports to our stockholders and otherpublicly available statements issued or released by us involve known andunknown risks, uncertainties, and other factors which could cause our actualresults, performance (financial or operating) or achievements to differ fromthe future results, performance (financial or operating) or achievementsexpressed or implied by such forward looking statements.  Such future results are based upon our bestestimates based upon current conditions and the most recent results ofoperations.  Various risks,uncertainties and contingencies could cause our actual results, performance or achievements to differ materially from thoseexpressed in, or implied by, these statements, including, but not limited to,the following: **the effects of adverse changes in overall economicconditions, the success or failure of our efforts to implement our businessstrategy; our inability to obtain additional financing, if required;third-party suppliers’ failure to fulfill their obligations to us; unseasonableweather; intense competition; the availability of retail store space onreasonable lease terms; the failure of our systems or those of our third-partysuppliers; general economic developments affecting consumer confidence orspending patterns, particularly in the New England region; compliance withevolving federal securities and accounting regulations applicable to publicly-tradecompanies listed on the American Stock Exchange; and government regulation ofthe Internet.**

 

**Overview**

 

We believe that iParty isa leading brand in the party industry in the markets we serve and is a leadingresource for consumers in those markets seeking party goods, party planningadvice and information.  iParty is amulti-channel retailer that operates 37 retail stores and licenses theoperation of an Internet site at www.iparty.com.  Our website was launched in February 1999.  On August 15, 2000 our wholly-ownedsubsidiary, iParty Retail Stores Corp., purchased assets consisting of 33 storeleases, fixtures and inventory from The Big Party Corporation.  This enabled us to establish a retail storesoperation and to become a multi-channel retailer for party goods.  In the third quarter of fiscal 2003 and forthe nine months ended September 23, 2003 over 99% of our consolidated netrevenue was derived from our retail stores operation.

 

Our retail storesoperation is supplemented by an Internet operation, which provides convenienceto those customers who choose to shop over the Internet.  On July 8, 2003 weoutsourced our Internet business to a third party under a licensing arrangementin exchange for royalties based upon party goods sold.  Royalties under the licensing arrangementamounted to less than 1% of our consolidated net revenue in the thirdquarter.  Revenues under the previousmodel amounted to less than 1% of our consolidated net revenue for the ninemonths ended September 23, 2003.  We donot expect the royalty amounts to exceed 1% of consolidated net revenueprospectively on an annual basis.

 

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**Resultsof Operations**

 

Fiscal year 2003 has 52weeks and ends on December 27, 2003. Fiscal year 2002 had 52 weeks and ended on December 28, 2002.

 

The third quarter offiscal year 2003 had 13 weeks and ended on September 27, 2003.  The third quarter of fiscal year 2002 had 13weeks and ended on September 28, 2002.

 

**Threemonths ended September 27, 2003 compared to three months ended September 28,2002**

 

*Revenue*

 

Revenue for the thirdquarter of fiscal 2003 was $11,878,460, an increase of $977,218, or 9.0%compared to the third quarter of the prior fiscal year.  Revenue includes the selling price of partygoods sold, net of returns and discounts, which is recognized at the point ofsale.

 

Sales for the thirdquarter of fiscal 2003 included sales from one store that opened in September2002, two stores that opened in September 2003 and an increase of 6.1% incomparable store sales, which are defined as sales from those stores open forat least one full year.  Sales werestrong in our Halloween, juvenile birthday, summer, wedding and babycategories.  Our Halloween category,where we have chosen to expand the assortment of items being carried throughoutthe year, realized particularly strong increases in sales.

 

*Costof products sold*

 

Cost of products sold forthe third quarter of fiscal 2003 was 59.4% of revenue, a decrease as apercentage of revenue of 1.5 percentage points from the third quarter of theprior fiscal year.  Cost of productssold consists of the cost of merchandise sold to customers, store occupancycosts and warehousing costs.  Thisdecrease as a percentage of revenues was largely attributable to improvedvendor terms and pricing and to the leverage we gained on store occupancy costsfrom our comparable store sales increase.

 

*Marketingand sales expense*

 

Marketing and salesexpense for the third quarter of fiscal 2003 was $4,435,844, or 37.3% ofrevenue, an increase of $570,291 from the third quarter of the prior fiscalyear.  As a percentage of revenue,marketing and sales expense increased by 1.8 percentage points from the priorfiscal year.  Marketing and salesexpense consists primarily of store payroll and related expenses for personnelengaged in marketing and selling activities and advertising, public relationsand promotional expenditures.

 

The increase in marketingand sales expense as a percentage of revenue was largely attributable toincreases in advertising and store pre-opening costs, which includes storepayroll, supplies and services required to set up a new store, associated withthe two new stores that opened this September. Spending on advertising as a percentage of revenue increased 0.6percentage points, primarily related to a new TV and radio advertising campaignintended to raise iParty’s brand recognition in our retail markets.  Store pre-opening costs as a percentage ofrevenue increased 0.7 percentage points, reflecting opening dates that occurredlate in the quarter for the two new stores that opened this September.

 

*Generaland administrative expense*

 

General andadministrative (“G&A”) expense for the third quarter of fiscal 2003 was$1,352,719, or 11.4% of revenue, an increase of $23,524 and a decrease as apercentage of revenue of 0.8 percentage points from the third quarter of theprior fiscal year.  G&A expenseconsists of payroll and related expenses for executive, merchandising, financeand administrative personnel, as well as information technology, professionalfees and other general corporate expenses.

 

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The amount spent onG&A was relatively consistent from the third quarter of fiscal 2002 to thethird quarter of fiscal 2003.

 

*Specialcharge*

 

We recorded a specialcharge in the third quarter of fiscal 2002 in the amount of $201,465 due to theoverissuance of 590,327 common shares upon the conversion of certain shares ofour convertible preferred stock and the subsequent sale of such common sharesinto the public market.  Thisoverissuance resulted from a previously incorrect application of theanti-dilution provisions applicable to our Series B, C and D convertible preferredstock.  The special charge for the threemonths ended September 28, 2002 in the amount of $201,465 included a non-cashcharge of $171,465 for the recognition of the overissued shares.

 

*Interestexpense, net*

 

Interest expense, net inthe third quarter of fiscal 2003 was $64,454, a decrease of $10,288 from thethird quarter of fiscal 2002.  Thedecrease in interest expense, net was attributable to the subsequent expirationof certain capital leases in place during the third quarter of fiscal 2002.

 

*Income taxes*

 

We have not provided abenefit for income taxes for the third quarter of fiscal 2003 or the thirdquarter of fiscal 2002 due to the uncertainty of future taxable income.

 

At the end of fiscal 2002we had estimated net operating loss carryforwards of approximately $24.6million, which were fully reserved for, and expire through fiscal 2021.  In accordance with Section 382 of theInternal Revenue Code, the use of these carryforwards will be subject to annuallimitations based upon certain ownership changes of our stock that may occur.

 

*Net loss*

 

Netloss in the third quarter of fiscal 2003 was $1,034,727, or $0.06 per basic anddiluted share, compared to $1,205,604, or $0.07 per basic and diluted share, inthe third quarter of fiscal 2002.

 

**Ninemonths ended September 27, 2003 compared to nine months ended September 28,2002**

 

*Revenue*

 

Revenue for the firstnine months of fiscal 2003 was $35,971,592, an increase of $1,399,834, or 4.0%compared to the first nine months of the prior fiscal year.  Revenue includes the selling price of partygoods sold, net of returns and discounts, which is recognized at the point ofsale.

 

Sales for the first ninemonths of fiscal 2003 included sales from one store that opened in March 2002,one store that opened in September 2002, two stores that opened in September2003 and an increase of 0.8% in comparable store sales, which are defined assales from those stores open for at least one full year.  Early in the year unusually cold and snowyweather in our key markets and the war in Iraq had an adverse affect on oursales.  Throughout much of the firstnine months of the year low consumer confidence contributed to a weak retailenvironment.  Our sales trends improvedduring the third quarter as we introduced a new advertising campaign and beganto enter the Halloween selling season.

 

*Costof products sold*

 

Cost of products sold forthe first nine months of fiscal 2003 was 58.8% of revenue, a decrease as apercentage of revenue of 1.8 percentage points from the first nine months ofthe prior fiscal year.  Cost of productssold consists of the cost of merchandise sold to customers, store occupancycosts and warehousing costs.

 

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This decrease as apercentage of revenues was largely attributable to improved vendor terms andpricing.

 

*Marketingand sales expense*

 

Marketing and salesexpense for the first nine months of fiscal 2003 was $12,461,185, or 34.6% ofrevenue, an increase of $1,435,107 from the first nine months of the priorfiscal year.  As a percentage of revenue,marketing and sales expense increased by 2.7 percentage points from the priorfiscal year.  Marketing and salesexpense consists primarily of store payroll and related expenses for personnelengaged in marketing and selling activities and advertising, public relationsand promotional expenditures.

 

The increase in marketingand sales expense as a percentage of revenue was largely attributable toincreases in store payroll and other store selling related expenses andadvertising.  Store payroll and associatedfringe benefits costs as a percentage of revenue increased 0.8 percentagepoints as we maintained our commitment to provide superior customer service bycontinuing to staff our stores accordingly even though comparable store salesdeclined during much of the period. Store communications expense increased by 0.5 percentage points due tothe installation of a new wide area network (“WAN”) intended to improveperformance and reliability and support the implementation of new storesystems.  Retail operations managementexpense increased by 0.4 percentage points due to additions to the fieldmanagement staff.

 

*Generaland administrative expense*

 

G&A expense for thefirst nine months of fiscal 2003 was $4,033,860, or 11.2% of revenue, adecrease of $6,774 and a decrease as a percentage of revenue of 0.5 percentagepoints from the first nine months of the prior fiscal year.  G&A expense consists of payroll andrelated expenses for executive, merchandising, finance and administrativepersonnel, as well as information technology, professional fees and othergeneral corporate expenses.

 

The amount spent onG&A was relatively consistent from the first nine months of fiscal 2002 tothe first nine months of fiscal 2003.

 

*Specialcharge*

 

We recorded a specialcharge in the third quarter of fiscal 2002 due to the overissuance of commonshares upon the conversion of certain shares of our convertible preferred stockand the subsequent sale of such common shares into the public market.  This overissuance resulted from a previouslyincorrect application of the anti-dilution provisions applicable to our SeriesB, C and D convertible preferred stock. The special charge in the amount of $201,465 included a non-cash chargeof $171,465 for the recognition of the overissued shares.

 

*Interestexpense, net*

 

Interest expense, net in the first nine monthsof fiscal 2003 was $172,034, a decrease of $51,315 from the first nine monthsof fiscal 2002.  The decrease ininterest expense was attributable to the subsequent expiration of certaincapital leases in place during the first nine months of fiscal 2002.

 

*Income taxes*

 

We have not provided abenefit for income taxes for the first nine months of fiscal 2003 or the firstnine months of fiscal 2002 due to the uncertainty of future taxable income.

 

At the end of fiscal 2002we had estimated net operating loss carryforwards of approximately $24.6million, which were fully reserved for, and expire through fiscal 2021.  In accordance with Section 382 of the InternalRevenue Code, the use of these carryforwards will be subject to annuallimitations based upon certain ownership changes of our stock that may occur.

 

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*Net loss*

 

Netloss in the first nine months of fiscal 2003 was $1,847,216, or $0.11 per basicand diluted share, compared to $1,876,604, or $0.12 per basic and dilutedshare, in the first nine months of fiscal 2002.

 

**Liquidityand Capital Resources**

 

Our operating activitiesused $1,550,227 in cash in the first nine months of fiscal 2003.  This use of cash was predominantly due toour net loss, offset by depreciation and amortization.  There was also an increase in inventory thatwas offset by an increase in accounts payable. Our operating activities used $1,263,265 in cash in the first ninemonths of fiscal 2002.

 

We invested cash inproperty and equipment totaling $714,292 and $710,495 in the first nine monthsof fiscal 2003 and 2002, respectively. The cash invested in each period was predominantly for fixed assetsassociated with the two new stores that opened during each of these twoperiods.

 

Our financing activitiesprovided $2,580,441 in net cash in the first nine months of fiscal 2003 and$1,759,627 in the first nine months of fiscal 2002.  To fund the cash used in operations, we increased the netborrowings under our line of credit to $6,223,191 at September 27, 2003compared to $3,476,738 at December 28, 2002.

 

We have a line of creditwith Wells Fargo Retail Finance.  On May23, 2002 we amended our existing line of credit (the “line”).  The amendment extended the term of the linethrough July 31, 2004, reduced the minimum interest rate and eliminated certainfinancial covenants.  Interest on the amendedline of credit is payable at the greater of the bank’s base rate plus 1%, or6.5%.  Borrowings outstanding atSeptember 27, 2003 accrued interest at 6.5%. The amended line allows for borrowings equal to the lesser of$7,500,000, or the borrowing base, as defined. Our inventory and other assets secure our line of credit.  The amended line of credit generallyprohibits the payment of any dividends or other distributions to any of ourclasses of capital stock.

 

The amounts outstandingunder our line of credit as of September 27, 2003 and December 28, 2002 were$6,223,191 and $3,476,738, respectively. The outstanding balances under our line of credit are classified ascurrent liabilities in the accompanying consolidated balance sheets, since weare required to apply daily lock-box receipts to reduce the amount outstandingand the term of the line of credit expires on July 31, 2004.  At September 27, 2003, we had approximately$1,177,717 of additional availability under the line of credit.

 

The amended agreementincludes a financial covenant, which requires us to maintain a minimum availabilityunder the line of credit in the amount of $300,000 at the end of eachmonth.  At September 27, 2003, we werein compliance with this financial covenant.

 

In 2000 we purchased inventory, fixed assets andthe leases of 33 retail stores from the Big Party, (“the seller”) inconsideration of cash and assumption of certain liabilities.  In addition, we agreed to pay the seller, nolater than March 31, 2004, an amount equivalent to the greater of $250,000, or apercentage of the aggregate operating results of the 33 acquiredlocations.  In connection with ourpurchase accounting in 2000, we accrued the guaranteed amount of $250,000.  As of September 27, 2003, we had $250,000included in accrued expenses in the accompanying consolidated balance sheets,which reflects our current estimate of the liability.

 

Our prospective cash flows are subject tocertain trends, events and uncertainties, including demands for capital tosupport growth, economic conditions, and contractual matters.  We expect our capital expenditures for 2003to be primarily related to new stores, store improvements and technologyadvancements in support of growth and operational enhancement.

 

Contractual obligations at September 27, 2003,including leases signed for stores yet to open, were as follows:

 

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|                                             |   | **Payments  Due By Period** |       |
|--------------------------------------------------|--------|-----------------------------|------------|
|                                             |   |                        |       | **2 - 3** |   | **4 - 5** |   | **After** |   |   |   |
|                                             |   | **1 Year**                  |       | **Years** |   | **Years** |   | **5 Years** |   | **Total** |   |
| Line of credit                                   |   | $                           | 6,223,191  |   |   |   |   |   |   |   | $ | 6,223,191 |   |
| Capital lease obligations                        |   | 71,456                      |       | 1,025 |   | — |   | — |   | 72,481 |   |
| Operating leases (including retail space leases) |   | 5,824,485                   |       | 11,073,740 |   | 6,873,913 |   | 9,311,513 |   | 33,083,651 |   |
| Earn-out agreement included in accrued expenses  |   | 250,000                     |       | — |   | — |   | — |   | 250,000 |   |
| Total contractual obligations                    |   | $                           | 12,369,132 |   | $ | 11,074,765 |   | $ | 6,873,913 |   | $ | 9,311,513 |   | $ | 39,629,323 |   |
|                                                  |        |                             |            |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

Our present line of credit agreement expires onJuly 31, 2004.  We are currentlynegotiating an amendment to this agreement that would extend the expirationdate for a minimum of two years under terms and conditions that are generallyconsistent with our current line of credit. We expect to complete the amendment during the fourth quarter of2003.  We believe, based on our currentoperating plan and the expected amendment to the line of credit, thatanticipated revenues from operations and borrowings available under our line ofcredit will be sufficient to fund our operations and working capitalrequirements for the next 12 months.  Inthe event that the our operating plan changes or proves inaccurate due todecreased revenues, unanticipated expenses, increased competition, unfavorableeconomic conditions, or other unforeseen circumstances or we are unable toobtain an amendment to our line of credit, our liquidity may be negatively impacted.  Accordingly, we would be required to adjustour expenditures to conserve working capital, seek alternative forms offinancing, including other bank financing proposals, or raise additionalcapital to fund operations.  There canbe no assurance, however, that, should we require additional financing, suchfinancing will be available on terms and conditions acceptable to us.

 

**Seasonality**

** **

**Due to the seasonality of ourbusiness, sales and operating income are typically higher in our second andfourth quarters.  Our business is highlydependent upon sales of Easter, graduation and summer merchandise in the secondquarter and sales of Halloween and Christmas merchandise in the fourth quarter.**

** **

**Geographic Concentration**

** **

**Weoperate a total of 37 stores, 34 of which are located in New England.  As a result, a severe or prolonged regionalrecession or regional changes in demographics, employment levels, population,weather patterns, real estate market conditions or other factors specific tothe New England region may adversely affect us more than a company that is moregeographically diverse.**

 

**Effectsof Inflation**

 

We do not view theeffects of inflation to have a material effect upon our business.

 

**CriticalAccounting Policies and Estimates**

 

Management’s discussionand analysis of the financial condition and results of operations is based uponthe consolidated financial statements, which have been prepared in accordancewith accounting principles generally accepted in the United States.  The preparation of these financialstatements requires us to make estimates and judgments that affect the reportedamounts of assets, liabilities, revenues and expenses and related disclosure ofassets and liabilities.  These estimatesand judgments are based on historical experience, knowledge of currentconditions and beliefs of what could occur in the future given availableinformation.  We consider the followingaccounting policies to be both those most important to the portrayal of our conditionand those that require the most subjective judgment.  If actual results differ significantly from our estimates andprojections, there could be a material effect on our financial statements.

 

*RevenueRecognition*

 

Our revenue is derivedprincipally from retail sales at the store level.  We recognize revenue at the point of sale for retail sales andall customer discounts are recorded as a reduction of revenue.  Revenues and royalties

 

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derived under our Internet business and licensing arrangement are lessthan 1% of our consolidated net revenues and are immaterial to our consolidatednet revenues.

 

*Inventory and RelatedAllowance for Obsolete and Excess Inventory*

 

Inventory consists ofparty supplies and is valued at the lower of market or weighted-average cost,which approximates FIFO (first-in, first-out). Inventory has been reduced by an allowance for obsolete and excessinventory, which is based on our review of inventory on hand compared to estimatedfuture sales.  If actual market conditionsare less favorable than our projections, additional reserves may be required.

 

*StockOption Compensation Expense*

 

We account for our stockoption compensation agreements with employees under the provisions of APBOpinion No. 25, *Accounting for Stock Issued to Employees*.  We have adopted the disclosure-onlyprovisions of SFAS No. 123, *Accounting for Stock-Based Compensation*.

 

*Accountingfor the Impairment of Long-Lived Assets*

 

In accordance with SFASNo. 144, *Accounting for the Impairment orDisposal of Long-Lived Assets*,**we perform an impairment reviewquarterly.  If actual market conditionsare less favorable than our projections, future write-offs may be necessary.

 

*IncomeTaxes*

 

We record a valuation allowance against ourdeferred tax assets because of the uncertainty as to their realizability.  Should we determine that we would be able torealize our deferred tax assets in the future an adjustment to the deferred taxassets would increase income in the period such determination was made.

 

***Liquidation Feature of Series A-F Convertible PreferredStock***

 

The holders of Series A-Fconvertible preferred stock have the right to a liquidation preference, whichmay be exercised under certain events outside of our control.  In accordance with EITF Topic D-98, we haveincluded the respective equity securities outside of permanent stockholders’deficit in the accompanying balance sheets as of September 27, 2003 andDecember 28, 2002 at their respective carrying values.

 

**Factors That May Affect Future Results**

 

Various risks,uncertainties and contingencies could cause our actual results, performance orachievements to differ materially from those expressed in, or implied by,statements included in this report, including, but not limited to, thefollowing:  **the effects of adverse changes inoverall economic conditions, the success or failure of our efforts to implementour business strategy; our inability to obtain additional financing, ifrequired; third-party suppliers’ failure to fulfill their obligations to us;unseasonable weather; intense competition; the availability of retail storespace on reasonable lease terms; the failure of our systems or those of ourthird-party suppliers; general economic developments affecting consumerconfidence or spending patterns, particularly in the New England region;compliance with evolving federal securities and accounting regulationsapplicable to publicly-trade companies listed on the American Stock Exchange;and government regulation of the Internet.**

 

**Item3.  Quantitative and QualitativeDisclosures About Market Risk**

 

Therehas been no material change in our market risk exposure since the filing of ourAnnual Report on Form 10-KSB/A.

 

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**Item4.  Controls and Procedures**

 

(a) *Evaluation of Disclosure Controls andProcedures.** *Ourmanagement, with the participation of our Chief Executive Officer, or CEO, andChief Financial Officer, or CFO, evaluated the effectiveness of our disclosurecontrols and procedures (as defined in Rules 13a-15(e) and 15d-15(e) underthe Securities Exchange Act) as of September 27, 2003.  In designing and evaluating our disclosurecontrols and procedures, our management recognized that any controls and procedures,no matter how well designed and operated, can provide only reasonable, and notabsolute, assurance of achieving their objectives, and our managementnecessarily applied its judgment in evaluating the cost-benefit relationship ofpossible controls and procedures.  Basedon this evaluation, our CEO and CFO concluded that, as of September 27, 2003,our disclosure controls and procedures were (1) designed to ensure thatmaterial information relating to us, including our consolidated subsidiaries,is made known to our CEO and CFO by others within those entities, particularlyduring the period in which this report was being prepared and(2) effective, in that they provide reasonable assurance that informationrequired to be disclosed by us in the reports that we file or submit under theSecurities Exchange Act is recorded, processed, summarized and reported withinthe time periods specified in the Securities and Exchange Commission’s rulesand forms.

 

(b)  *Changes in Internal Controls.*No change inour internal controls over financial reporting (as defined inRules 13a-15(f) and 15d-15(f) under the Securities Exchange Act) occurredduring the fiscal quarter ended September 27, 2003 that has materiallyaffected, or is reasonably likely to materially affect, our internal controlsover financial reporting.

 

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**PART II – OTHER INFORMATION**

 

 

**Item6.  Exhibits and Reports on Form 8-K**

 

(a) Exhibits

 

31.1               Certification ofChief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act.

31.2               Certification ofChief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act.

32.1               Certification ofChief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act.

32.2               Certification ofChief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act.

 

(b) Reports on Form 8-K

 

On August 6, 2003 wefurnished a Current Report on Form 8-K under Item 9 (pursuant to Item 12)containing a press release announcing our financial results for the fiscalquarter ended June 28, 2003.

 

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**SIGNATURES**

 

Pursuant to therequirements of the Securities Exchange Act of 1934, the registrant has dulycaused this report to be signed on its behalf by the undersigned, thereuntoduly authorized.

 
|   | iPARTY CORP. |
|--------|--------------|
|   |         |   |   |
|   | By:          |   | /s/ SAL PERISANO |   |   |
|   |         | Sal Perisano |   |
|   |         | Chairman of the  Board and Chief Executive Officer |   |
|   |         | (Principal  Executive Officer) |   |
|   |         |   |   |
|   | By:          |   |   |
|   |         |   | /s/ PATRICK  FARRELL |   |   |
|   |         | Patrick Farrell |   |
|   |         | President and  Chief Financial Officer |   |
|   |         | (Principal Financial  and Accounting Officer) |   |

 

Dated:  November 12, 2003

 

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