**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON,D.C. 20549**

**FORM 10-Q**

**(Mark One)**

**x**                              QUARTERLYREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACTOF 1934

**Forthe quarterly period ended February 28, 2005**

**or**

**o**                                 TRANSITIONREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACTOF 1934

**Forthe transition period from                      to                      **

**Commissionfile number 0-27046**

**TRAFFIX, INC.**

(Exact name of registrantas specified in its charter)

| **Delaware**                                                     | **22-3322277**                        |
|------------------------------------------------------------------|---------------------------------------|
| (State or other  jurisdiction of  incorporation or organization) | (I.R.S. Employer  Identification No.) |
| **One Blue Hill Plaza  Pearl River, New York**                   | **10965**                             |
| (Address of  principal executive offices)                        | (Zip Code)                            |

**(845) 620-1212**

Registrant’s telephonenumber, including area code:

Indicate by check markwhether the Registrant (1) has filed all reports required to be filed by Section 13or 15(d) of the Securities Exchange Act of 1934 during the preceding 12months (or for such shorter period that the Registrant was required to filesuch reports), and (2) has been subject to such filing requirements forthe past 90 days.

Yes xNo o

Indicate by check markwhether the Registrant is an accelerated filer (as defined in Rule 12b-2of the Exchange Act).

Yes oNo x

Thenumber of shares outstanding of the Registrant’s common stock is 13,996,904 (asof 04/12/05).

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**TRAFFIX,INC.**

**INDEX TO QUARTERLY REPORT ON FORM 10-Q**

**FILED WITH THE SECURITIES AND EXCHANGE COMMISSION**

**QUARTER ENDED FEBRUARY 28, 2005**

**ITEMS IN FORM 10-Q**
|                  | ** **                                                                                  | ** ** | **Page** | ** ** |
|------------------|---------------------------------------------------------------------------------------------|------------|----------|------------|
| **Part I**  | **Financial Information**                                                                   |       |     |       |
| Item 1.          | Financial  Statements                                                                       |       | 1        |       |
| Item 2.          | Management’s  Discussion and Analysis of Financial Condition and Results of Operations |       | 20       |       |
| Item 3.          | Quantitative and Qualitative Disclosures About  Market Risk                                 |       | None     |       |
| Item 4.          | Controls  and Procedures                                                                    |       | 37       |       |
| **Part II** | **Other Information**                                                                       |       | 38       |       |
| Item 1.          | Legal  Proceedings                                                                          |       | 38       |       |
| Item 2.          | Unregistered Sales of Equity Securities and Use of  Proceeds                                |       | None     |       |
| Item 3.          | Defaults Upon Senior Securities                                                             |       | None     |       |
| Item 4.          | Submission of Matters to a Vote of Security Holders                                         |       | None     |       |
| Item 5.          | Other  Information                                                                          |       | None     |       |
| Item 6.          | Exhibits                                                                                    |       | 40       |       |
| **Signatures**   |                                                                                        | 41         |     |

 

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**FORWARD LOOKING INFORMATION**

This Quarterly Report on Form 10-Q includes“forward-looking statements” within the meaning of Section 27A of theSecurities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Whenused herein, words like “intend”, “anticipate”, “believe”, “ estimate”, “plan”or “expect”, as they relate to us, are intended to identify forward-lookingstatements. We believe that the assumptions and expectations reflected in suchforward-looking statements are reasonable, based on information available to uson the date of this Quarterly Report, but no assurances can be given that theseassumptions and expectations will prove to have been correct or that we willtake any action that we may presently be planning. We are not undertaking topublicly update or revise any forward-looking statement if we obtain newinformation or upon the occurrence of future events or otherwise.

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**TRAFFIX, INC. ANDSUBSIDIARIESCONSOLIDATED BALANCE SHEETS**
| ** **                                                                                                                              | ** ** | **February 28,** | ** ** | **November 30,** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------|------------|-----------------------|------------|
| ** **                                                                                                                              | ** ** | **2005**              | ** ** | **2004**              | ** ** |
| ** **                                                                                                                              | ** ** | **(Unaudited)**       | ** ** | ** **            | ** ** |
| **Assets**                                                                                                                              | ** ** | ** **            | ** ** | ** **            | ** ** |
| Current assets:                                                                                                                         | ** ** | ** **            | ** ** | ** **            | ** ** |
| Cash and cash equivalents                                                                                                               |       | $                     | 6,835,032  |                  | $          | 7,553,285 |   |
| Marketable securities                                                                                                                   |       | 26,425,426            |       | 28,251,348            |       |
| Accounts receivable, trade, net of allowance for  doubtful accounts of $759,985 at February 28, 2005 and $691,229 at November  30, 2004 |       | 6,481,147             |       | 4,744,220             |       |
| Deferred income taxes                                                                                                                   |       | 981,924               |       | 1,206,096             |       |
| Prepaid expenses and other current assets                                                                                               |       | 947,365               |       | 923,069               |       |
| **Total current assets**                                                                                                                |       | 41,670,894            |       | 42,678,018            |       |
| Property and equipment, at cost, net of accumulated  depreciation                                                                       |       | 2,187,471             |       | 2,381,364             |       |
| Goodwill                                                                                                                                |       | 6,225,576             |       | 4,231,054             |       |
| Other  intangibles, net                                                                                                                 |       | 3,669,212             |       | 2,371,411             |       |
| Deferred income  taxes                                                                                                                  |       | 296,663               |       | 296,663               |       |
| **Total assets**                                                                                                                        |       | $                     | 54,049,816 |                  | $          | 51,958,510 |   |
| **Liabilities**                                                                                                                         |       |                  |       |                  |       |
| Current liabilities:                                                                                                                    |       |                  |       |                  |       |
| Accounts payable                                                                                                                        |       | $                     | 4,410,728  |                  | $          | 3,673,789 |   |
| Accrued expenses                                                                                                                        |       | 3,356,090             |       | 3,450,798             |       |
| Reserve for customer chargebacks                                                                                                        |       | 387,340               |       | 377,535               |       |
| Due to related parties                                                                                                                  |       | 335,704               |       | 311,341               |       |
| Income taxes payable                                                                                                                    |       | 184,807               |       | 306,333               |       |
| **Total current liabilities**                                                                                                           |       | 8,674,669             |       | 8,119,796             |       |
| Deferred income taxes                                                                                                                   |       | 316,279               |       | 316,279               |       |
| **Total liabilities**                                                                                                                   |       | 8,990,948             |       | 8,436,075             |       |
| Minority interest                                                                                                                       |       | 97,645                |       | —                |       |
| Commitments and  contingencies (Notes 2 and 7)                                                                                          |       |                  |       |                  |       |
| **Shareholders’ equity**                                                                                                           |       |                  |       |                  |       |
| Preferred stock—$.001 par value; 1,000,000 shares  authorized; none issued and outstanding                                         |       | —                |       | —                |       |
| Common stock—$.001  par value; authorized 50,000,000 shares; issued 13,751,007 shares and  13,510,605 shares, respectively         |       | 13,751                |       | 13,510                |       |
| Additional  paid-in capital                                                                                                             |       | 42,623,055            |       | 41,309,652            |       |
| Retained earnings                                                                                                                       |       | 1,675,558             |       | 1,052,277             |       |
| Accumulated other  comprehensive income                                                                                                 |       | 648,859               |       | 1,146,996             |       |
| **Total shareholders’ equity**                                                                                                     |       | 44,961,223            |       | 43,522,435            |       |
| **Total liabilities and shareholders’ equity**                                                                                     |       | $                     | 54,049,816 |                  | $          | 51,958,510 |   |

 

The acompanying notes are an integral part of these financial statements

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**TRAFFIX, INC. ANDSUBSIDIARIESCONSOLIDATED STATEMENTS OF INCOME(UNAUDITED)**
| ** **                                     | ** ** | **Three Months Ended** | ** ** |
|------------------------------------------------|------------|----------------------------------|------------|
| ** **                                     | ** ** | **February 28,**            | ** ** | **February 29,** | ** ** |
| ** **                                     | ** ** | **2005**                         | ** ** | **2004** | ** ** |
| Net revenue                                    |       | $                                | 13,275,816 |   | $ | 7,170,294 |   |
| Cost of sales                                  |       | 8,414,370                        |       | 3,805,954 |   |
| **Gross profit**                               |       | 4,861,446                        |       | 3,364,340 |   |
| Selling expenses                               |       | 817,175                          |       | 447,930 |   |
| General and  administrative expenses           |       | 3,761,245                        |       | 2,859,577 |   |
| Bad debt expense                               |       | 85,225                           |       | (46,457 | ) |
| **Income from operations**                     |       | 197,801                          |       | 103,290 |   |
| Other income  (expense):                       |       |                             |       |   |   |
| Interest income and dividends                  |       | 187,823                          |       | 108,732 |   |
| Realized gains on marketable securities        |       | 585,268                          |       | 11,023 |   |
| Realized gain on prior year sale of subsidiary |       | 195,000                          |       | 195,000 |   |
| Other non-operating income(expense)            |       | (8,710                           | )          | 46,193 |   |
| Minority interest in income of subsidiary      |       | (97,645                          | )          |   |   |
| **Income before provision for income taxes**   |       | 1,059,537                        |       | 464,238 |   |
| Provision for income taxes                     |       | 436,256                          |       | 111,347 |   |
| **Net income**                                 |       | $                                | 623,281    |   | $ | 352,891 |   |
| Basic income per  share (Note 3):              |       |                             |       |   |   |
| Net income                                     |       | $                                | 0.05       |   | $ | 0.03 |   |
| Weighted average shares outstanding            |       | 13,597,621                       |       | 12,960,105 |   |
| Diluted income  per share (Note 3):            |       |                             |       |   |   |
| Net income                                     |       | $                                | 0.04       |   | $ | 0.03 |   |
| Weighted average  shares outstanding           |       | 14,249,901                       |       | 13,551,989 |   |

 

The accompanying notes are an integral part of these financial statements

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**TRAFFIX, INC. ANDSUBSIDIARIESCONSOLIDATED STATEMENTS OF CASH FLOWS(UNAUDITED)**
| ** **                                                                                   | ** ** | **Three Months Ended** | ** ** |
|----------------------------------------------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                                                   | ** ** | **February 28,**            | ** ** | **February 29,** | ** ** |
| ** **                                                                                   | ** ** | **2005**                         | ** ** | **2004** | ** ** |
| Cash flows from  operating activities:                                                       | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Net income                                                                                   |       | $                                | 623,281    |   | $ | 352,891 |   |
| Adjustments to  reconcile net income to net cash (used in) provided by operating activities: |       |                             |       |   |   |
| Depreciation and amortization                                                                |       | 450,108                          |       | 322,638 |   |
| Reserve for customer chargebacks                                                             |       | 9,805                            |       | 134,932 |   |
| Provision for uncollectible accounts                                                         |       | 85,225                           |       | (46,457 | ) |
| Deferred income taxes                                                                        |       | 448,856                          |       | (42,532 | ) |
| Net gains on sale of marketable securities                                                   |       | (585,268                         | )          | (11,023 | ) |
| Gain on sale of subsidiary                                                                   |       | (195,000                         | )          | (195,000 | ) |
| Minority interest                                                                            |       | 97,645                           |       | — |   |
| Changes in assets  and liabilities of business, net of assets and liabilities acquired:      |       |                             |       |   |   |
| Accounts receivable                                                                          |       | (1,822,152                       | )          | (21,074 | ) |
| Prepaid expenses and other current assets                                                    |       | (24,296                          | )          | 293,175 |   |
| Accounts payable                                                                             |       | 736,939                          |       | 228,952 |   |
| Income taxes payable                                                                         |       | (28,988                          | )          | 153,416 |   |
| Due (from)/to related parties                                                                |       | (64,271                          | )          | 99,845 |   |
| Other, principally accrued expenses                                                          |       | (94,703                          | )          | (445,337 | ) |
| **Net cash (used in) provided by operating  activities**                                     |       | (362,819                         | )          | 824,426 |   |
| Cash flows from  investing activities:                                                       |       |                             |       |   |   |
| Purchases of securities                                                                      |       | (56,961,191                      | )          | (74,608,242 | ) |
| Proceeds from sales of securities                                                            |       | 58,745,503                       |       | 74,591,290 |   |
| Proceeds from the sale of a subsidiary                                                       |       | 195,000                          |       | 195,000 |   |
| Payment for asset acquisition, net of cash received                                          |       | (2,832,500                       | )          | — |   |
| Capital expenditures                                                                         |       | (47,774                          | )          | (19,378 | ) |
| **Net cash (used in) provided by investing activities**                                      |       | (900,962                         | )          | 158,670 |   |
| Cash flows from  financing activities:                                                       |       |                             |       |   |   |
| Dividends paid                                                                               |       | —                           |       | (1,037,803 | ) |
| Proceeds from stock options exercised                                                        |       | 538,827                          |       | 178,169 |   |
| **Net cash provided by (used in) financing  activities**                                     |       | 538,827                          |       | (859,634 | ) |
| Effect of exchange rate changes on cash and cash  equivalents                                |       | 6,701                            |       | (2,570 | ) |
| Net (decrease) increase in cash and cash equivalents                                         |       | (718,253                         | )          | 120,892 |   |
| Cash and cash equivalents, beginning of period                                               |       | 7,553,285                        |       | 9,939,657 |   |
| **Cash  and cash equivalents, end of period**                                                |       | $                                | 6,835,032  |   | $ | 10,060,549 |   |

 

See Notes 2 and 7 for asummary of noncash investing activities.

The accompanying notes are an integral part of these financial statements

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**TRAFFIX, INC. ANDSUBSIDIARIESCONSOLIDATED STATEMENT OF SHAREHOLDERS’ EQUITYFOR THE THREE MONTHS ENDED FEBRUARY 28, 2005(UNAUDITED)**
| ** **                                                     | ** ** | ** **            | ** ** | ** **              | ** ** | ** **     | ** ** | ** **        | ** ** | **Accumulated**        | ** ** | ** ** | ** ** |
|----------------------------------------------------------------|------------|-----------------------|------------|-------------------------|------------|----------------|------------|-------------------|------------|------------------------|------------|------------|------------|
| ** **                                                     | ** ** | ** **            | ** ** | ** **              | ** ** | **Additional** | ** ** | ** **        | ** ** | **Other**              | ** ** | **Total**  | ** ** |
| ** **                                                     | ** ** | **Common Stock** | ** ** | **Paid-in**             | ** ** | **Retained**   | ** ** | **Comprehensive** | ** ** | **Shareholders’** | ** ** |
| ** **                                                     | ** ** | **Shares**            | ** ** | ** Amounts ** | ** ** | **Capital**    | ** ** | **Earnings**      | ** ** | **Income(Loss)**       | ** ** | **Equity** | ** ** |
| **Balance, November 30, 2004**                            |       | 13,510,605            |       |                    | $          | 13,510         |       |              | $          | 41,309,652             |       | $          | 1,052,277  |   |   | $ | 1,146,996 |   |   |   | $ | 43,522,435 |   |   |
| Net income for the three months ended  February 28, 2005  |       |                  |       |                    |       |           |       |              |       | 623,281                |       |       |       |   |   |   | 623,281 |   |   |
| Unrealized losses on available-for-sale securities             |       |                  |       |                    |       |           |       |              |       |                   |       |       | (41,614    | ) |   |   | (41,614 | ) |   |
| Reclassifiacation adjustment for gains realized in  net income |       |                  |       |                    |       |           |       |              |       |                   |       |       | (360,584   | ) |   |   | (360,584 | ) |   |
| Foreign Currency Translation adjustment                        |       |                  |       |                    |       |           |       |              |       |                   |       |       | (95,939    | ) |   |   | (95,939 | ) |   |
| Stock option exercises                                         |       | 126,581               |       |                    | 127        |           |       | 538,700           |       |                   |       |       |       |   |   |   | 538,827 |   |   |
| Tax benefit from exercise of stock options                     |       |                  |       |                    |       |           |       | 92,537            |       |                   |       |       |       |   |   |   | 92,537 |   |   |
| Common stock issued in connection with asset  acquisition      |       | 113,821               |       |                    | 114        |           |       | 682,166           |       |                   |       |       |       |   |   |   | 682,280 |   |   |
| **Balance,  February 28, 2005**                           |       | 13,751,007            |       |                    | $          | 13,751         |       |              | $          | 42,623,055             |       | $          | 1,675,558  |   |   | $ | 648,859 |   |   |   | $ | 44,961,223 |   |   |

 

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**TRAFFIX, INC. ANDSUBSIDIARIESNOTES TO FINANCIAL STATEMENTS (UNAUDITED)**

**1.   GENERAL**

The accompanying consolidated financial statements areunaudited; however, in the opinion of management, these financial statementsare presented in conformity with accounting principles generally accepted inthe United States of America. The accompanying unaudited consolidated financialstatements reflect all adjustments which are, in the opinion of management,necessary for a fair presentation of the financial position and operatingresults for the interim periods presented and are of a normal and recurringnature. In the preparation of these financial statements, management isrequired to make estimates and assumptions that affect the reported amounts ofassets and liabilities and disclosure of contingent assets and liabilities atthe date of the financial statements and revenues and expenses during theinterim periods reported. Actual results could differ from those estimates.Principally, estimates are used in accounting for accruals for fulfillmentredemptions, reserves for uncollectible receivables, reserves for dataqualification allowances, recoverability of long-lived assets, and therealizability of deferred tax assets. Additionally, the Company has potentialexposure resulting from pending and/or threatened litigation for which theCompany currently does not provide a loss provision. Management’s estimates andassumptions are continually reviewed against actual results with the effects ofany revisions being reflected in the results of operations at that time. Theaccompanying unaudited consolidated financial statements should be read inconjunction with the audited consolidated financial statements and notesthereto, together with management's discussion and analysis of financialcondition and results of operations, contained in the Company's Annual Reporton Form 10-K for the fiscal year ended November 30, 2004. The results ofoperations for the three month period ended February 28, 2005 are notnecessarily indicative of the results to be expected for the subsequentquarters or the full fiscal year ending November 30, 2005.Certainprior year amounts in the unaudited consolidated financial statements have beenreclassified to conform with the current year presentation.

During the three monthsended February 28, 2005 and February 29, 2004, options for 126,581 shares and53,036 shares of the Company’s common stock, respectively, were exercised byits employees and directors. Tax benefits of $92,537 and $37,019 in the threemonths ended February 28, 2005 and February 29, 2004, respectively,resulting from the exercise of these options, were recorded as an increase toadditional paid-in capital and a reduction of income taxes currently payable.

**Recent Accounting Pronouncements**

In December 2004, the FASB issued SFAS No. 123 (R),Share Based Payments, which replaces SFAS 123, Accounting for Stock-BasedCompensation, and supersedes APB Opinion No. 25, Accounting for Stock Issued toEmployees, and amends SFAS No. 95, Statement of Cash Flows. SFAS No. 123 (R)requires all share-based payments to employees, including grants of employeestock options, to be recognized in the income statement based on their fairvalues. As such, pro forma disclosure in lieu of expensing is no longer analternative. The new standard is effective in the first interim or annualreporting period beginning after June 15, 2005. The Company is currentlyassessing the impact that the Statement may have on its financial statements.

In December 2004, the FASBissued SFAS 153, Exchanges of Nonmonetary Assets, which amends APB Opinion No.29. The guidance in APB 29, Accounting for Nonmonetary Transactions, is basedon the principle that exchanges of nonmonetary assets should be measured basedon the fair value of the assets exchanged. The amendment made by SFAS 153eliminates the exception for exchanges of similar productive assets andreplaces it with a broader exception for exchanges of nonmonetary assets thatdo not 

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havecommercial substance. The provisions of the statement are effective forexchanges taking place in fiscal periods beginning after June 15, 2005. TheCompany does not believe the adoption of this Statement will have a materialimpact on its financial statements.

**2.   SIGNIFICANTACCOUNTING POLICIES**

**RevenueRecognition, Variable Costs, Allowances, Accounts Receivable and Bad Debts**

*Revenue*

The Company currently earnsthe material portion of its revenue from the E-commerce segment and deems thatthis reliance will increase in future fiscal periods. This revenue primarilyresults from marketing agreements with its marketing partners and corporatecustomers. These marketing agreements satisfy the “existence of pervasiveevidence of an arrangement” required under the current revenue recognitionrules under Staff Accounting Bulletin (SAB)101. The provisions of eachagreement determine the (a) pricing characteristics of the revenue generatingactivity, the specific type of revenue activity (i.e. on-line dating membership,website advertising activity, email marketing promotion and terms of LECrecurring billed products), and (b) the method of the Company’s deliveryobligations to, and acceptance obligations of, its clients and customers, with(a) and (b) satisfying the criterion of SAB 101, that “sales price is fixed ordeterminable” and “delivery has occurred”. As a function of the Company’s clientand customer acceptance process, the Company reviews bank and creditreferences, business financial statements and personal financial statementsand/or obtains corporate officer guarantees (if appropriate), all of whichsatisfy the SAB 101 criteria, “collectibility is reasonably assured”. Based onthe revenue recognition criterion discussed above, the Company believes itrecognizes revenue when it is realizable and earned.

*Deferred Revenue*

The Company’s on-linedating service is a membership based arrangement, with membership offeringsranging from one month subscriptions to plans with annual terms. The one monthmembership plans form the bulk of its subscription sales. Deferred revenue isrecorded net of estimated cancellations and is amortized over the life of themembership as it is earned.

*Contra revenue*

At the time revenue isrecognized, the Company provides for an estimate for contractually specifieddata qualification allowances, when required under the governing marketingagreement. Such data qualification allowances may include allowances for dataduplications, invalid addresses, age and country of origin restrictions, andare recorded in a contra-revenue account. The Company’s revenues are adjustedin later fiscal periods if actual allowances vary from amounts previouslyestimated. Historically, variances between actual allowances and previously estimatedallowances have been immaterial. If events were to occur that would cause dataqualification actual allowances to vary significantly from those originallyestimated and reflected in the financial statements, the Company could suffermaterial deterioration in future fiscal period gross margins, and, therefore, itsprofitability, cash flows and capital resources could be adversely affected.

*Cost of Sales*

Certain revenue relatedobligations are recorded at the time revenue is recognized. They include costspayable to other on-line, as well as off-line, media companies for generatingregistered users and consumer data for the Company, database fee sharing costsunder third-party database use agreements, email message delivery costs,contingent-based prize indemnification coverage (i.e., sweepstakes payoutindemnification), estimated premium fulfillment costs related to the respectivepromotion (if applicable) and all other variable costs directly associated withcompleting our obligations relative to the revenue 

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beingrecognized, all of which satisfy the criteria regarding the concept of “otherthan a perfunctory, or inconsequential ongoing obligation” as specified in SAB101. If the Company’s actual premium fulfillment estimates vary from that whichwere accrued at the time of recording the related revenue the Company takes theadditional cost, or benefit, to the accrual adjustment in the fiscal periodthat the variance is determinable.

*Accounts Receivableand Bad Debt Allowances*

Revenue recognition is also subject to provisionsbased on the probability of collection of the related trade accountsreceivable. The Company continuously evaluates the potential of thecollectibility of trade accounts receivable by reviewing such factors as deteriorationin the operating results, financial condition, or bankruptcy filings of itscustomers. As a result of this review process, the Company records bad debtprovisions to adjust the related receivable carrying amount to an estimatedrealizable value. Provisions for bad debts are also recorded due to the reviewof other factors, including the length of time the accounts receivable are pastdue, historical experience and other factors obtained during the conduct ofcollection efforts. If circumstances change regarding the Company’s specificcustomers on an individual basis, or if demand for Internet direct marketingsoftens, or if the U.S. economy stumbles, its estimates for bad debt provisionscould be further increased, which could adversely affect the Company’s operatingmargins, profitability, cash flows and capital resources.

Accounts receivableconsist of trade accounts receivable from the Company’s Corporate Customerbase, with extension of credit varying between 30 to 90 days, with the majorityat 30 days, and as such, do not bear interest. Corporate Customers with creditbalances, generally resulting from prepayments, are classified as deferredrevenue, and included in “Accrued expenses” on the Company’s balance sheets.Additionally, accounts receivable from Local Exchange Carriers (such as for theLEC segment) and credit card companies (such as for the on-line dating service)are due to the Company.

*AccountsReceivable by major category consisted of the following at February 28, 2005and February 29, 2004*
| ** **                                                                                                          | ** ** | **February 28,  2005** | ** ** | **February 29,  2004** | ** ** |
|---------------------------------------------------------------------------------------------------------------------|------------|-----------------------------|------------|-----------------------------|------------|
| Accounts Receivable  from:                                                                                          |       |                        |       |                        |       |
| Corporate Clients                                                                                                   |       | $                           | 5,638,576  |                        | $          | 3,008,859 |   |
| Consumers via Credit Card Merchant arrangements,  Third Party Billing companies and Local Exchange Carriers  (LECs) |       | 842,571                     |       | 1,135,619                   |       |
| Total Accounts  Receivable                                                                                          |       | $                           | 6,481,147  |                        | $          | 4,144,478 |   |

 

Followingare the changes in the allowance for doubtful accounts for the three monthsended February 28, 2005 and February 29, 2004:
| ** ** | ** ** | **Beginning  Balance** | ** ** | **Additions  to  allowance** | ** ** | **Write-offs  net of  recoveries** | ** ** | **Ending  Balance** | ** ** |
|------------|------------|------------------------|------------|------------------------------|------------|-----------------------------------------|------------|---------------------|------------|
| 2005       |       | $                      | 691,230    |                         |       | 85,225                                  |       |                | (16,470    | ) | $ | 759,985 |   |
| 2004       |       | $                      | 872,604    |                         |       | 9,606                                   |       |                | (56,062    | ) | $ | 826,148 |   |

 

**Transactionswith Major Customers and other Revenue Concentrations**

During the three month period ended February 28, 2005,no one single customer equaled or exceeded 10% of the Company’s consolidatednet revenue. During the three-month period ended February 29, 2004, the Companyhad one customer in its E-commerce segment accounting for approximately $1.0million, or 

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13.5% of consolidated netrevenues. Regarding the Company’s current customer base, no single customer hadnet revenues that equaled or exceeded 8% of consolidated net revenues for thethree month period ended February 28, 2005.

In the three months endedFebruary 28, 2005, 17.2% of the Company’s revenue was derived from itsproprietary products (14.6% from iMatchUp.com, the Company’s online datingsite, and 2.6% from its LEC Billed Product segment’s proprietary products).

**Stock-based Compensation**

Pursuantto Statement of Financial Accounting Standard ("SFAS") No. 123,Accounting for Stock-Based Compensation, as amended by SFAS No. 148, theCompany will continue to use the intrinsic value method of accounting for itsemployee and director stock-based compensation awards until its adoption ofSFAS 123R. Accordingly, the Company has not recognized compensation expense forits noncompensatory employee and director stock option awards. As recommendedby SFAS No. 123, the fair values of options were estimated using theBlack-Scholes option-pricing model. Option vesting periods have historicallybeen three years, except for grants to non-employee members of the Board of Directors,which fully vest at the time of grant. The Company’s adjusted net income andadjusted earnings per share had it elected to adopt the fair value approach ofSFAS No. 123 in the current fiscal year, which charges earnings for theestimated difference between the strike price and the fair value of the stockoptions, would have been as follows:
| ** **                                                                                                          | ** ** | **Three months ended**  | ** ** |
|---------------------------------------------------------------------------------------------------------------------|------------|-----------------------------------|------------|
| ** **                                                                                                          | ** ** | ** February 28, ** | ** ** | **February 29,** | ** ** |
| ** **                                                                                                          | ** ** | **2005**                          | ** ** | **2004** | ** ** |
| Net income                                                                                                          |       |                              | $          | 623,281 |   |   |   | $ | 352,891 |   |   |
| Less: Total  stock-based compensation expense determined under fair value based method,  net of related tax effects |       |                              | (113,627   | ) |   |   | (72,606 | ) |   |
| Pro forma Net  income, as adjusted                                                                                  |       |                              | $          | 509,654 |   |   |   | $ | 280,285 |   |   |
| Basic net income per  share:                                                                                        |       |                              |       |   |   |   |   |   |   |
| As reported                                                                                                         |       |                              | $          | 0.05 |   |   |   | $ | 0.03 |   |   |
| Pro forma                                                                                                           |       |                              | $          | 0.04 |   |   |   | $ | 0.02 |   |   |
| Diluted net income per  share:                                                                                      |       |                              |       |   |   |   |   |   |   |
| As reported                                                                                                         |       |                              | $          | 0.04 |   |   |   | $ | 0.03 |   |   |
| Pro forma                                                                                                           |       |                              | $          | 0.04 |   |   |   | $ | 0.02 |   |   |

 

The pro forma amountsshown above, regarding stock based compensation, are not necessarilyrepresentative of the impact on net income in future periods.

**Income Taxes**

Quarterly income taxes arecalculated in accordance with the interim financial reporting requirements asset forth in the Accounting Principal Board’s Opinion 28. Such Opinionconsiders interim quarterly periods as an integral part of the annual period,with interim quarterly tax periods reflecting the estimated annual effectivetax rate. The Company believes that it has adequately provided for tax-relatedmatters. The Company is subject to examination by taxing authorities in variousjurisdictions. Matters raised upon audit may involve substantial amounts.Management considers it unlikely that resolution of any such matters would havea material adverse effect upon the Company’s consolidated financial statements.

8

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**Non-cashInvesting and Financing Activities**

Non-cash investing andfinancing activities are excluded from the consolidated statement of cashflows. For the three months ended February 28, 2005, non-cash activitiesincluded the following items:

**Investing Activities:**
| ***Asset  Acquisition of Hot Rocket (Also see notes 7 and 8)*** | ** ** | ** ** | ** ** |
|-----------------------------------------------------------------|------------|------------|------------|
| Fair Value of assets acquired                                   |       | $          | 3,603,411  |   |
| Cash paid to Seller                                             |       | $          | 2,832,500  |   |
| Stock Issued                                                    |       | 682,280    |       |
| Transaction costs                                               |       | 88,631     |       |
| Total Purchase Price                                            |       | $          | 3,603,411  |   |

 

**License Acquisition**

On March 24, 2004, the Company entered into alicense agreement with LiveOnTheNet.com Inc. The agreement allows the Companyto market to consumers under its own brand name (Click Help), a softwareprogram, which enables home PC users to access customer service operators whoprovide real-time support for questions related to their personal computers.

The total cost of thesoftware license was $200,000, payable by a $35,000 down payment and elevenmonthly installments of $15,000, due on the first of the month, commencing April 1,2004. As of February 28, 2005, the Company has fully satisfied its paymentobligations under this license agreement, which is being amortized on thestraight-line basis over a five year period.

**3.**   EarningsPer Share

Thefollowing table sets forth the reconciliation of the weighted average shares used for basic anddiluted earnings per share:
| ** **                                                                             | ** ** | **Three Months Ended** | ** ** |
|----------------------------------------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                                             | ** ** | **February 28,**            | ** ** | **February 29,** | ** ** |
| ** **                                                                             | ** ** | **2005**                         | ** ** | **2004** | ** ** |
| Denominator:                                                                           |       |                             |       |   |   |
| Denominator for basic earnings per share—weighted  average  shares                |       | 13,597,621                       |       | 12,960,105 |   |
| Effect of  dilutive securities:                                                        |       |                             |       |   |   |
| Stock options                                                                          |       | 652,280                          |       | 591,884 |   |
| Denominator for  diluted earnings per share—adjusted weighted average shares |       | 14,249,901                       |       | 13,551,989 |   |

 

Options to purchase881,250 and 981,750 shares of common stock for the three months ended February 28,2005 and February 29, 2004, respectively, were outstanding but were notincluded in the computation of diluted earnings per share because their effectwould be anti-dilutive.

9

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**4.**   ComprehensiveIncome (Loss)

TheCompany presents foreign currency translation adjustments and unrealized gainsand losses on its marketable securities (net of tax, when applicable) as acomponent of “comprehensive income (loss)” and are presented below:
| ** **                                                                                                   | ** ** | **Three Months Ended**  | ** ** |
|--------------------------------------------------------------------------------------------------------------|------------|-----------------------------------|------------|
| ** **                                                                                                   | ** ** | ** February 28, ** | ** ** | ** February 29, ** | ** ** |
| ** **                                                                                                   | ** ** | **2005**                          | ** ** | **2004** | ** ** |
| Net income                                                                                                   |       |                              | $          | 623,281 |   |   |   | $ | 352,891 |   |   |
| Other  comprehensive income (loss) , net of tax:                                                             |       |                              |       |   |   |   |   |   |   |
| Foreign currency  translation adjustment                                                                     |       |                              | (95,939    | ) |   |   | (109,590 | ) |   |
| Unrealized gain  from available-for-sale securities, arising during the period, net of income  taxes of $-0- |       |                              | (41,614    | ) |   |   | 221,165 |   |   |
| Add:  reclassifiaction adjustment for for gains realized in net income, net of tax  effect of $224,684       |       |                              | (360,584   | ) |   |   | — |   |   |
| Comprehensive income                                                                                         |       |                              | $          | 125,144 |   |   |   | $ | 464,466 |   |   |

 

**5.**   Advertisingand Marketing

The Company’s advertisingand marketing costs, incurred in the advertising and marketing of the Company’s,and its clients’, products, services and promotional offers, have historicallybeen comprised of (1) costs associated with the transmission of emailmarketing messages, both from internal sources and external third-partyvendors, (2) costs associated with the purchase of on-line consumer data(including registered users to the Company’s websites, and its clients’websites), and (3) email and website program promotional and creativedevelopment costs. During the year ended November 30, 2004, as a result ofthe acquisition of SendTraffic.com,Inc., the Company included the costs of itssearch engine marketing activities in its advertising and marketing costaccounts. During fiscal periods prior to July 1, 2004, the Companyincurred immaterial search engine marketing costs. Advertising and marketingcosts are charged to operations (1) at the time of the email transmission,(2) upon receipt of the qualified consumer data, (3) at the time thepromotional and creative services are provided, and/or (4) at the time thesearch engine marketing media purchases are incurred, respectively, and areincluded as a component of cost of sales. Total advertising and marketing costsincluded in cost of sales for the three months ended February 28, 2005 andFebruary 29, 2004 were approximately $8,179,000 and $3,433,000,respectively.

**6.**   Segment Information

Segments are defined ascomponents of an enterprise for which separate financial information isavailable that is evaluated regularly by the chief operating decision maker(s) indeciding how to allocate resources and in assessing performance. Disclosure isalso required about products and services, geographic areas and majorcustomers. The Company’s segments operate principally in the United States witha presence in Canada. The Canadian presence contributed an immaterial amount toconsolidated net revenue and net income. The Company’s two principle operatingsegments are: (a) E-commerce and (b) LEC Billed Products. The balanceof the Company’s operations, immaterial individually and in the aggregate, areincluded as part of Corporate. This business segment delineation is consistentwith the Company’s management and financial reporting structure based onproducts and services. The Company evaluates performance based on many factors,with the primary criteria being each segment’s adjusted EBITDA, which isdefined as net income excluding (i) special charges, (ii) interestexpense, (iii) interest and dividend income, (iv) net gains (losses)on the sale of marketable securities, (v) permanent impairment charges tolong-lived assets, (vi) other nonoperating income, (vii) minorityinterest (income)loss, (viii) depreciation, (ix) amortization and (x) incometaxes. The Company shares a common workforce and office headquarters, whichprecludes an allocation of all overhead components. Overhead items that are 

10

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specificallyidentifiable to a particular segment are applied to such segment and all otheroverhead costs are included in Corporate. The following tables set forth theCompany’s financial results, by management’s performance criteria, by operatingsegment. All presented revenues are from nonintersegment sources, and,therefore, no intersegment elimination applies.

***Segment Data—NetRevenue***
| ** **               | ** ** | **Three Months Ended** | ** ** |
|--------------------------|------------|----------------------------------|------------|
| ** **               | ** ** | **February 28,**            | ** ** | **February 29,** | ** ** |
| ** **               | ** ** | **2005**                         | ** ** | **2004** | ** ** |
| E-commerce               |       | $                                | 12,924,931 |   | $ | 7,046,701 |   |
| LEC Billed  Products     |       | 350,885                          |       | 123,593 |   |
| **Consolidated  totals** |       | $                                | 13,275,816 |   | $ | 7,170,294 |   |

 

***Segment Data—GrossProfit***
| ** **               | ** ** | **Three Months Ended** | ** ** |
|--------------------------|------------|----------------------------------|------------|
| ** **               | ** ** | **February 28,**            | ** ** | **February 29,** | ** ** |
| ** **               | ** ** | **2005**                         | ** ** | **2004** | ** ** |
| E-commerce               |       | $                                | 4,685,641  |   | $ | 3,550,717 |   |
| LEC Billed  Products     |       | 175,805                          |       | (186,377 | ) |
| **Consolidated  totals** |       | $                                | 4,861,446  |   | $ | 3,364,340 |   |

 

***Segment Data—AdjustedEBITDA****
| ** **                 | ** ** | **Three Months Ended** | ** ** |
|----------------------------|------------|----------------------------------|------------|
| ** **                 | ** ** | **February 28,**            | ** ** | **February 29,** | ** ** |
| ** **                 | ** ** | **2005**                         | ** ** | **2004** | ** ** |
| E-commerce                 |       | $                                | 1,480,068  |   | $ | 1,555,466 |   |
| LEC Billed  Products       |       | 150,658                          |       | (280,878 | ) |
| **Total  Adjusted EBITDA** |       | $                                | 1,630,726  |   | $ | 1,274,588 |   |

----

*       Adjusted EBITDA is net income excluding corporate levelgeneral and administrative costs (including the exclusion of Corporate leveldepreciation and amortization), special charges, interest expense, interest anddividend income, net gains (losses) on the sale of marketable securities,realized gains on subsidiary sales, permanent impairment charges to long livedassets, other nonoperating income (expense), minority interest (income) loss,depreciation, amortization and income taxes.

***Segment Data—Depreciationand Amortization***
| ** **                               | ** ** | **Three Months Ended** | ** ** |
|------------------------------------------|------------|----------------------------------|------------|
| ** **                               | ** ** | **February 28,**            | ** ** | **February 29,** | ** ** |
| ** **                               | ** ** | **2005**                         | ** ** | **2004** | ** ** |
| E-commerce                               |       |                             | $          | 416,113 |   |   |   | $ | 268,955 |   |   |
| LEC Billed  Products                     |       |                             | —     |   |   |   | — |   |   |
| **Total Depreciation and  Amortization** |       |                             | $          | 416,113 |   |   |   | $ | 268,955 |   |   |

 

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***Segment Data—Reconciliation of reportable segment's adjustedEBITDA to consolidated income before taxes***
| ** **                                                                             | ** ** | **Three Months Ended** | ** ** |
|----------------------------------------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                                             | ** ** | **February 28,**            | ** ** | **February 29,** | ** ** |
| ** **                                                                             | ** ** | **2005**                         | ** ** | **2004** | ** ** |
| ***Adjusted  EBITDA—by segment***                                                 | ** ** | ** **                       | ** ** | ** ** | ** ** |
| E-commerce                                                                             |       | $                                | 1,480,068  | ** ** | $ | 1,555,466 |   |
| LEC Billed Products                                                                    |       | 150,658                          | ** ** | (280,878 | ) |
| **Total  Adjusted EBIDTA**                                                             |       | $                                | 1,630,726  | ** ** | $ | 1,274,588 |   |
| ***Items  effecting adjusted EBITDA in arriving at consolidated income before taxes*** |       | ** **                       | ** ** |   |   |
| Corporate (expense)                                                                    |       | $                                | (1,016,812 | **)** | $ | (902,343 | ) |
| Depreciation and  amortization (expense)                                               |       | (416,113                         | **)**      | (268,955 | ) |
| Interest income and  dividends                                                         |       | 187,823                          | ** ** | 108,732 |   |
| Realized gains on  marketable securities                                               |       | 585,268                          | ** ** | 11,023 |   |
| Realized gain on sale of  subsidiary                                                   |       | 195,000                          | ** ** | 195,000 |   |
| Other non-operating  income(expense)                                                   |       | (8,710                           | **)**      | 46,193 |   |
| Minority interest in  income of subsidiary                                             |       | (97,645                          | **)**      | — |   |
| **Total  items effecting Adjusted EBITDA**                                             |       | (571,189                         | **)**      | (810,350 | ) |
| **Consolidated income before taxes**                                                   |       | $                                | 1,059,537  | ** ** | $ | 464,238 |   |

 

**7.   AssetAcquisitions and Asset Dispositions**

**Acquisition**

On January 21, 2005, the Company, through itswholly owned subsidiary, Hot Rocket Acquisition Corp., acquired all of theintangible assets of Hot Rocket Marketing Inc. and Clockwork Advertising Inc.(collectively “Hot Rocket”), corporations in the business of buying and sellingperformance based on-line advertising space for third parties. The Companybelieves that the Hot Rocket acquisition broadens its reach into the Internetdirect marketing arena, potentially allowing for expanded client relationshipsand various other synergistic possibilities, such as adding value to theCompany’s core operations by the enhancement of the Company’s current anddeveloping marketing programs.

The purchase price was approximately $3.6 million andwas comprised of $2.8 million in cash, $0.7 million (or 113,821 shares) of theCompany’s common stock and transaction fees approximating $0.1 million. Basedon an internal preliminary valuation, the reported purchase price includesapproximately $2.1 million of goodwill and $1.5 million of identifiableintangibles. The Company is currently having a valuation prepared by anindependent valuation firm.

Under Statement of Accounting Standards No.142, “Goodwill &Intangible Assets”, goodwill is not amortized. Instead, the amount of goodwillis reviewed for impairment on an annual basis. The identifiable intangiblesacquired from Hot Rocket consist of employment contracts and internallydeveloped software, which will be amortized on a straight-line basis overestimated useful lives of five and three years, respectively. It is expectedthat the entire goodwill value will be deductible for tax purposes based on thenature of the asset acquisition. The entire amount of the identifiableintangibles and goodwill are a component of the Company’s E-commerce segment.

In addition to the initialcost of the acquisition, we agreed to pay Hot Rocket a contingent purchaseprice of up to $12.5 million if Hot Rocket generates an aggregate of $27 millionin EBITDA (as quantified in the Agreement) over the four year period followingthe closing. The Company anticipates the contingent payments made, if any, willbe treated as additional purchase price and included as an addition togoodwill. At February 28, 2005, the Company has determined that at thecurrent rate of growth recognized by Hot Rocket, it is probable that the firsttier of contingent payment will be attained within the first measurementperiod, which ends February 28, 2006. As of February 28, 2005, theCompany is not 

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liablefor any contingent payments and, therefore, has not accrued any at this time.The Company will continue to asses its liability under the Hot Rocketcontingent payment arrangement in each successive quarter, and will recordadditional purchase price through increased goodwill, if and when a liabilityis realized. For any interim period accrual of additional purchase pricearising out of the contingent arrangement, the Company presently deems that itwill be settled in cash, but retains the right to settle the final payment witha blend of cash and stock, with stock not to exceed 50% of the total paymentand to make as much of such payments in cash as is necessary to keep all shareissuances to Hot Rocket at a maximum of 19.9% of the Company’s outstandingstock.

**HotRocket Pro Forma Information**

The Hot Rocket acquisitionclosed on January 21, 2005 and, as such, the results of its operations areincluded in the Company’s consolidated results from that date through February 28,2005. The first pro forma disclosure set forth below provides the details asthough the business combination had been completed as of December 1, 2004.The pro forma adjustments serve to: (1) eliminate intercompany transactionsduring the pre-acquisition period; (2) record amortization expense for thepre-acquisition period; (3) provide for income tax expense at Traffix’marginal tax rate as applicable to the February 28, 2005 quarter appliedto Hot Rocket’s adjusted pre tax income; and (4) increase the weightedaverage shares outstanding as if the acquisition shares were issued on December 1,2004.
| ** **                                  | ** ** | **Traffix**        | ** ** | **Hot Rocket**                                                           | ** ** | ** **         | ** ** | ** **         | ** ** |
|---------------------------------------------|------------|--------------------|------------|-------------------------------------------------------------------------------|------------|--------------------|------------|--------------------|------------|
| ** **                                  | ** ** | **Form 10Q**  | ** ** | **for period**                                                           | ** ** | **Pro forma** | ** ** | **Pro forma** | ** ** |
| ** **                                  | ** ** | **@ 2-28-05** | ** ** | **    12-1 to 1-20-05    ** | ** ** | **adjustments**    | ** ** | **Traffix**        | ** ** |
| Net revenue                                 |       | $                  | 13,275,816 |                                                                          |       | $                  | 1,315,245  | (1)                |       | $ | (50,755 | ) | $ | 14,540,306 |   |
| Income from operations                      |       | 197,801            |       |                                                                          | 324,326    | (2)                |       | (63,934            | )          | 458,193 |   |
| Income before provision  for income taxes   |       | 1,059,537          |       |                                                                          | 324,326    | (2)                |       | (63,934            | )          | 1,319,929 |   |
| Net income                                  |       | 623,281            |       |                                                                          | 324,326    | (3)                |       | (162,883           | )          | 784,724 |   |
| Diluted income per share                    |       | $                  | 0.04       |                                                                          |       |               |       |               |       |   | $ | 0.05 |   |
| Diluted weighted average shares outstanding |       | 14,249,901         |       |                                                                          | 64,499     | (4)                |       | —             |       | 14,314,400 |   |
|                                             |            |                    |            |                                                                               |            |                    |            |                    |            |  |  |  |  |  |  |

 

Thepro forma disclosure set forth below provides the details as though thebusiness combination had been completed as of the beginning of the three monthperiod commencing January 1, 2004. The Hot Rocket entity had a businessyear which ended December 31. Both the month of December 2003, andthe period January 1, 2004 to March 31, 2004, did not include anymaterial, or non-recurring items requiring separate disclosure in the pro formainformation. The pro forma adjustments serve to: (1) eliminate intercompanytransactions; (2) record amortization expense for the three months ended March 31,2004; (3) provide for income tax expense at Traffix’ marginal tax rate asapplicable to the February 29, 2004 quarter applied to Hot Rocket’sadjusted pre tax income; and (4) increase the weighted average sharesoutstanding as if the acquisition shares were issued on December 1, 2003.
| ** **                                   | ** ** | **Traffix**        | ** ** | **Hot Rocket**                                     | ** ** | ** **         | ** ** | ** **         | ** ** |
|----------------------------------------------|------------|--------------------|------------|---------------------------------------------------------|------------|--------------------|------------|--------------------|------------|
| ** **                                   | ** ** | **Form 10Q**  | ** ** | **for period**                                     | ** ** | **Pro forma** | ** ** | **Pro forma** | ** ** |
| ** **                                   | ** ** | **@ 2-29-04** | ** ** | **  1-1-04 to 3-31-04  ** | ** ** | **adjustments**    | ** ** | **Traffix**        | ** ** |
| Net revenue                                  |       | $                  | 7,170,294  |                                                    |       | $                  | 3,583,751  | (1)                |       | $ | (52,960 | ) | $ | 10,701,085 |   |
| Income from  operations                      |       | 103,290            |       |                                                    | 1,974,406  | (2)                |       | (112,824           | )          | 1,964,872 |   |
| Income before  provision for income taxes    |       | 464,238            |       |                                                    | 1,976,475  | (2)                |       | (112,824           | )          | 2,327,889 |   |
| Net income                                   |       | 352,891            |       |                                                    | 1,976,475  | (3)                |       | (821,011           | )          | 1,508,355 |   |
| Diluted income  per share                    |       | $                  | 0.03       |                                                    |       |               |       |               |       |   | $ | 0.11 |   |
| Diluted weighted average  shares outstanding |       | 13,551,989         |       |                                                    | 113,821    | (4)                |       | —             |       | 13,665,810 |   |
|                                              |            |                    |            |                                                         |            |                    |            |                    |            |  |  |  |  |  |  |

 

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**Fiscal year ended November 30, 2004 AssetAcquisitions**
| **Details of Acqusition** | ** ** | ** ** | ** ** | **SendTraffic.com** | ** ** |
|-------------------------------------|------------|------------|------------|---------------------|------------|
| Fair Value of  assets acquired      |       |       | $          | 6,043,206           |       |   |
| Liabilities  assumed                |       |       | (1,240,788 | )                   |       |
| Stock issued                        |       |       | (1,107,953 | )                   |       |
| Cash paid                           |       |       | $          | 3,694,465           |       |   |
| Less: cash acquired                 |       |       | (196,812   | )                   |       |
| Net cash paid for  acquisition      |       |       | $          | 3,497,653           |       |   |

 

During the fiscal yearended November 30, 2004, the Company entered into an Asset AcquisitionAgreement for the acquisition of the assets of SendTraffic.com, Inc. (SendTraffic). Send Traffic warranted that certain financial information containedin its unaudited June 30, 2004 balance sheet was accurate, and if suchfinancial information ultimately proved post-closing to have been inaccurate,Send Traffic would return to the Company any shortfall. In order to ensurecompliance with such warranty, the Company retained in escrow $250,000 of thepurchase price. On November 24, 2004, the Company signed an AdjustmentAgreement with the principals of Send Traffic regarding the final determinationof the June 30, 2004 balance sheet. In accordance with the AdjustmentAgreement’s “Cash Adjustment” clause, the Company received $300,000 in cashfrom the Send Traffic principals, $250,000 of which came from the escrowwithheld at closing, and an additional $50,000 of which was received on November 30,2004. Additionally, under the Adjustment Agreement’s “Share Adjustment” clause,the Send Traffic principals returned 57,142 shares to the Company, which servedto reduce the total shares issued in the asset acquisition to 176,799 shares,as compared to the original issuance of 233,941 shares.

**PriorFiscal Year Asset Dispositions**

During the fiscal year ended November 30, 2003,the Company sold its majority-owned subsidiary, Montvale Management LLC (“Montvale”)to Mortgage Industry Consultants, LLC (“MIC”) for $1.6 million, plus itsinvestment. Traffix had obtained its 51% interest in September of 1999through an initial investment of approximately $50,000. Pursuant to the termsof the sale, the Company received $1 million in cash at closing on March 7,2003. Additionally, it received a note from the Purchaser for $600,000, payablein 24 monthly installments of $25,000. All payments under the note have beenreceived and the Company is currently preparing the appropriate releases. TheCompany has also received approximately $299,000, representing its GAAP basiscapital account in such majority-owned subsidiary as at November 30, 2002.

Based on management’s initial assessment of Montvale’sfuture cash flows post-closing, after taking into consideration Montvale’sincreased obligations with respect to the note obligations due the Company, theCompany had deemed it prudent to defer recognition of income on the unpaidportion of the note. From March 2003, the month of the Montvaledisposition, to February 11, 2005, the date of receipt of the finalinstallment, the cost recovery method was used in the recognition of therelated Montvale installment income.

The Company also enteredinto a two-year Media Purchase Agreement whereby it agreed to provide certainmedia lead generation and related services to the continuing owners of Montvalefor consideration of $40,000 per month over the term of the agreement. As of April 10,2005, all required installments were received under the Media PurchaseAgreement.

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**8.   Goodwilland Identifiable Intangibles Assets**

The gross carrying valueof goodwill and the gross carrying value and accumulated amortization of otherintangibles are as follows:
| ** **                                   | ** ** | **As of February 28, 2005** | ** ** | **As of November 30, 2004** | ** ** |
|----------------------------------------------|------------|--------------------------------------------|------------|-------------------------------------------------|------------|
| ** **                                   | ** ** | **Gross**                                  | ** ** | ** **                                      | ** ** | **Gross** | ** ** | ** ** | ** ** |
| ** **                                   | ** ** | **Carrying**                               | ** ** | **Accumulated**                                 | ** ** | **Carrying** | ** ** | **Accumulated** | ** ** |
| ** **                                   | ** ** | **Amount**                                 | ** ** | **Amortization**                                | ** ** | **Amount** | ** ** | **Amortization** | ** ** |
| Amortizable intangible assets:               |       |                                       |       |                                            |       |   |   |   |   |
| *GroupLotto identifiable intangibles:*       |       |                                       |       |                                            |       |   |   |   |   |
| GroupLotto Site Brand  Recognition           |       | $                                          | 722,922    |                                            | $          | 522,371 |   | $ | 722,922 |   | $ | 486,225 |   |
| GroupLotto Database                          |       | 433,754                                    |       | 313,422                                         |       | 433,754 |   | 291,735 |   |
| Intellectual Property  Assets                |       | 289,169                                    |       | 208,948                                         |       | 289,169 |   | 194,490 |   |
| Marketing Right License  Fee                 |       | 200,000                                    |       | 40,000                                          |       | 200,000 |   | 30,000 |   |
| *Infiknowledge identifiable intangibles(1):* |       |                                       |       |                                            |       |   |   |   |   |
| Internet Game Suite                          |       | 249,859                                    |       | 159,884                                         |       | 258,109 |   | 152,328 |   |
| Intellectual Property  Assets                |       | 187,394                                    |       | 119,913                                         |       | 193,582 |   | 114,246 |   |
| Market Position Acquired                     |       | 208,216                                    |       | 133,237                                         |       | 215,091 |   | 126,940 |   |
| *Thanksmuch identifiable intangibles:*       |       |                                       |       |                                            |       |   |   |   |   |
| Profiled customer data                       |       | 50,000                                     |       | 48,472                                          |       | 50,000 |   | 44,305 |   |
| Restrictive Covenants                        |       | 10,000                                     |       | 7,378                                           |       | 10,000 |   | 6,878 |   |
| *SendTraffic identifiable intangibles:*      |       |                                       |       |                                            |       |   |   |   |   |
| Employment Contracts                         |       | 660,592                                    |       | 88,079                                          |       | 660,592 |   | 55,049 |   |
| Software                                     |       | 963,951                                    |       | 197,703                                         |       | 963,951 |   | 123,564 |   |
| *Hot Rocket identifiable intangibles*        |       |                                       |       |                                            |       |   |   |   |   |
| Employment Contracts                         |       | 569,394                                    |       | 12,337                                          |       | — |   | — |   |
| Software                                     |       | 1,012,257                                  |       | 36,554                                          |       | — |   | — |   |
| Total amortizable  intangible assets         |       | $                                          | 5,557,508  |                                            | $          | 1,888,298 |   | $ | 3,997,170 |   | $ | 1,625,760 |   |
| Unamortized intangible assets:               |       |                                       |       |                                            |       |   |   |   |   |
| *Goodwill—Infiknowledge*                |       | $                                          | 824,900    |                                            |       |   | $ | 852,138 |   |   |   |
| *Goodwill—SendTraffic*                  |       | 3,089,180                                  |       |                                            |       | 3,089,180 |   |   |   |
| *Goodwill—Hot Rocket*                   |       | 2,021,760                                  |       |                                            |       |   |   |   |   |
| *Goodwill—Thanksmuch*                   |       | 289,736                                    |       |                                            |       | 289,736 |   |   |   |
| Total Goodwill                               |       | $                                          | 6,225,576  |                                            |       |   | $ | 4,231,054 |   |   |   |

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(1)          TheInfiknowledge identifiable intangibles and unamortizable goodwill carryingvalue changes as a result of the effects of foreign currency exchangetranslation.

The amortizable intangibles listed above are deemed tohave a finite life of five years, or less, from the date of acquisition; thestraight-line method of amortization has been applied to such assets incalculating their respective amortization. The Internet and E-commerceindustries, within which the Company conducts the majority of its business andhas extensive experience, are dynamic and constantly evolving business arenas. Basedon its experience in these industries, the Company evaluated the nature of eachof the components of the identifiable intangible assets and determined thatthree to five-year useful lives, with corresponding straight-line amortization,was the most accurate available means of estimating such assets’ finite lives.In future fiscal periods, if facts or circumstances arise that indicate thefive-year useful life assigned to such assets was, in fact, inaccurate, theCompany will make the appropriate adjustments at that time. All goodwill isincluded in the Company’s E-commerce segment.

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The amortization expense related to acquiredamortizable identifiable intangible assets have been recorded from the dates ofthe respective acquisitions.

Thefuture intangible amortization expense for the next five fiscal years isestimated to be as follows:
| ** **                                             | ** ** | **2005** | ** ** | **2006** | ** ** | **2007**  | ** ** | **2008** | ** ** | **2009** | ** ** |
|--------------------------------------------------------|------------|----------|------------|----------|------------|-----------|------------|----------|------------|----------|------------|
| *GroupLotto Identifiable  intangible amortization:*    |       |     |       |     |       |      |       |     |       |     |       |
| GroupLotto Site  Brand Recognition                     |       | $        | 144,595    |     | $          | 92,103    |       | $        | —     |     | $          | — |   | $ | — |   |
| GroupLotto  Database                                   |       | 86,757   |       | 55,262   |       |      |       | —   |       |     |       |
| Intellectual  Property Assets                          |       | 57,838   |       | 36,842   |       |      |       | —   |       |     |       |
| Marketing Right  License Fee                           |       | 40,000   |       | 40,000   |       | 40,000    |       | 40,000   |       | 10,000   |       |
| *Total  Group’s amortization*                     |       | $        | 329,190    |     | $          | 224,207   |       | $        | 40,000     |     | $          | 40,000 |   | $ | 10,000 |   |
| *Infiknowledge Identifiable intangible  amortization:* |       |     |       |     |       |      |       |     |       |     |       |
| Cost allocated                                         |       |     |       |     |       |      |       |     |       |     |       |
| Internet Game  Suite                                   |       | $        | 47,596     |     | $          | 47,596    |       | $        | 1,532      |     | $          | 450 |   | $ | 357 |   |
| Intellectual  Property Assets                          |       | 35,697   |       | 35,697   |       | 1,149     |       | 337      |       | 268      |       |
| Market Position  Acquired                              |       | 39,663   |       | 39,663   |       | 1,277     |       | 375      |       | 298      |       |
| *Total  Group’s amortization*                     |       | $        | 122,956    |     | $          | 122,956   |       | $        | 3,958      |     | $          | 1,162 |   | $ | 923 |   |
| *ThanksMuch Identifiable intangible amortization:*     |       |     |       |     |       |      |       |     |       |     |       |
| Profiled customer  data                                |       | $        | 5,695      |     | $          | —    |       | $        | —     |     | $          | — |   | $ | — |   |
| Restrictive  Covenants                                 |       | 2,000    |       | 1,122    |       | —    |       | —   |       | —   |       |
| *Total  Group’s amortization*                     |       | $        | 7,695      |     | $          | 1,122     |       | $        | —     |     | $          | — |   | $ | — |   |
| *SendTraffic Identifiable intangible amortization:*    |       |     |       |     |       |      |       |     |       |     |       |
| Employment  Contracts                                  |       | $        | 132,118    |     | $          | 132,118   |       | $        | 132,119    |     | $          | 132,118 |   | $ | 77,069 |   |
| Software                                               |       | 296,554  |       | 296,554  |       | 234,897   |       | 12,382   |       | —   |       |
|                                                   |       | $        | 428,672    |     | $          | 428,672   |       | $        | 367,016    |     | $          | 144,500 |   | $ | 77,069 |   |
| *Hot Rocket Identifiable intangible amortization:*     |       |     |       |     |       |      |       |     |       |     |       |
| Employment  Contracts                                  |       | $        | 97,746     |     | $          | 113,879   |       | $        | 113,879    |     | $          | 113,879 |   | $ | 113,879 |   |
| Software                                               |       | 289,618  |       | 337,419  |       | 337,419   |       | 47,801   |       | —   |       |
|                                                   |       | $        | 387,364    |     | $          | 451,298   |       | $        | 451,298    |     | $          | 161,680 |   | $ | 113,879 |   |
| **Summary**                                            |       |     |       |     |       |      |       |     |       |     |       |
| *GroupLotto  Identifiable intangibles:*                |       | $        | 329,190    |     | $          | 224,207   |       | $        | 40,000     |     | $          | 40,000 |   | $ | 10,000 |   |
| *Infiknowledge  Identifiable intangibles:*             |       | 122,956  |       | 122,956  |       | 3,958     |       | 1,162    |       | 923      |       |
| *ThanksMuch  Identifiable intangibles:*                |       | 7,695    |       | 1,122    |       | —    |       | —   |       | —   |       |
| *Hot  Rocket Identifiable intangibles:*                |       | 387,364  |       | 451,298  |       | 451,298   |       | 161,680  |       | 113,879  |       |
| *SendTraffic  Identifiable intangibles:*               |       | 428,672  |       | 428,672  |       | 367,016   |       | 144,500  |       | 77,069   |       |
| *Total Identifiable  intangible amortization*          |       | $        | 1,275,877  |     | $          | 1,228,255 |       | $        | 862,272    |     | $          | 347,342 |   | $ | 201,871 |   |   |
|                                                        |            |          |            |          |            |           |            |          |            |          |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

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**9.   IncomeTaxes**

The Company’s income tax provision for the threemonths ended February 28, 2005 was approximately $436,000, which includes$390,000 of expense related to current year operations and approximately$46,000 of period expense related to an increase in the Company’s estimatesrelated to tax audits.

The effective income tax rate for the three monthsended February 28, 2005 was 41.2%. It differs from the Company’s estimatedannual effective income tax rate of 39.9% described below, due primarily toprojected consistent contingent tax liability adjustments made to a projectedincreasing pre-tax income environment.

*EstimatedAnnual Effective Income Tax Rate.  *The estimated annualeffective income tax rate for 2005 differs from the U.S. federal statutoryincome tax rate of 34% as follows:
| ** **                                         | ** ** | **Fiscal Year  2005(1)** | ** ** | **Fiscal Year  2004(2)** | ** ** |
|----------------------------------------------------|------------|-------------------------------|------------|-------------------------------|------------|
| Income tax  expense at U.S. federal statutory rate |       |                          | 34.0       | %                             |       |   | 34.0 | % |   |
| State income  taxes, net of U.S. federal impact    |       |                          | 2.2        |                          |       |   | 2.2 |   |   |
| Impact of foreign  operations                      |       |                          | 1.3        |                          |       |   | 1.2 |   |   |
| Change in  contingent tax liabilities              |       |                          | (0.3       | )                             |       |   | (16.0 | ) |   |
| Other, including  non-deductible expenses          |       |                          | 2.7        |                          |       |   | 2.6 |   |   |
|                                               |       |                          | 39.9       | %                             |       |   | 24.0 | % |   |

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(1)          Estimated annualeffective income tax rate for fiscal year 2005.

(2)          Projected annualeffective income tax rate used for the three months ended February 29,2004.

The “State income taxes,net of U.S. federal impact” item above primarily reflects franchise tax andminimum tax expense, net of related federal benefit, which the Company expectsfor the year. The Company currently has a significant valuation allowanceagainst state net operating loss carryforwards, and a full valuation allowanceagainst capital loss carryforwards. The annual estimated effective tax rate for2005 does not include any anticipated benefit from additional current yearstate tax losses, nor does it anticipate any benefit from the use of capitallosses carryovers.

**10.   Litigation**

We are subject to legalproceedings, lawsuits and other claims, brought by: (1) consumers of ourproducts and services; (2) our clients; (3) consumers of our clients’products and services; and (4) others bringing claims that arise in thenormal course of our business. Legal proceedings are subject to numerousuncertainties rendering the prediction of their outcome difficult. As a resultof such uncertainty, we are unable to estimate the ultimate outcome of any ofthe subsequently mentioned claims, and, accordingly, no provision for loss hasbeen recorded. We believe that individually, and in the aggregate, the ultimatesettlement of the subsequently mentioned claims should not have a materialadverse effect on our consolidated financial position, results of operations orcash flows.

*Plasmanet*

On November 21, 2002,Plasmanet, Inc., one of our competitors, commenced an action allegingpatent infringement and misappropriation of trade secrets entitled *Plasmanet, Inc. v. Apax Partners, Inc., etal.,* Case No. 02 Civ 9290 (S.D.N.Y.). The complaint soughtinjunctive relief and unspecified money damages. We asserted counterclaims,inter alia, to declare Plasmanet’s patent invalid. In December 2003, thecomplaint was dismissed with prejudice with respect to Plasmanet’s patentinfringement claim and our counterclaims, and without prejudice with respect tothe misappropriation of trade secrets claim. Such 

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misappropriationclaim was reasserted by Plasmanet in New York court (Sup. Ct. N.Y. Co., January 27,2004, Index No. 60021-04). We filed a motion to dismiss this claimwhich the court granted. Judgment was entered dismissing the state law claimsand the period in which to appeal has expired such that the action has beenconcluded.

*Qwest*

Qwest Communications, Inc. notified us of anindemnification claim relating to a class action filed against Qwest inMinnesota, *Bindner v. LCI InternationalTelecom Corp. et al.*, District Court of Minnesota, County of Sibley,Case No. C0-00-242 (the “Class Action”). In that action,plaintiffs claimed that from September 1998 to July 1999, they weremisled when they were solicited to change their long distance carrier to Qwest.They asserted that they were not told that they would have to stay at certainhotels and pay their regular rates as part of a promotion involving freeairline tickets. We introduced the promotion (“Fly Free America”) to Qwest, andwere retained by Qwest to operate the telemarketing campaign pursuant to ourAgreement. In or about May 2000, we and Qwest entered into an agreementterminating the Agreement and settling the amount due us (the “May 2000Agreement”). The Agreement and the May 2000 Agreement contain languagethat Qwest claims obligates us to indemnify Qwest for the losses it sustainedby reason of this class action. We maintain that we have no liability in thematter.

Fraud claims in the Class Action were dismissed,leaving breach of contract and false advertising claims. The court certifiedthe class and Qwest, without our consent, agreed to settle the Class Action.The court approved the settlement agreement, stated that there was no findingof any liability against Qwest, and approved the attorneys’ fees for plaintiffs’counsel. No appeal was taken so that the Class Action has been concluded.

In November 2002, we commenced an arbitrationagainst Qwest to recover certain amounts held in escrow that were due uspursuant to the May 2000 Agreement. In December 2002, Qwest filedcounterclaims in the arbitration relating to the Fly Free America program.Qwest asserts that in connection with the Class Action, we must indemnifyit for $3.4 million in Qwest attorneys’ fees; $600,000 in fees for counselto the plaintiffs in the Class Action; and $500,000 in settlement paymentsto Class members. Qwest also seeks reimbursement of approximately$3.1 million it paid us pursuant to the May 2000 Agreement. InitiallyQwest also sought to recover approximately $1.5 million of fines andpenalties it claimed it paid to various attorneys general; Qwest has now withdrawnthat claim.

A panel of arbitrators wasappointed in December 2003. The panel established a schedule forsubstantive motions and for hearings in June 2004. The arbitrators alsoprovided for exchanges of information in the arbitration subject to Qwest’sright to seek to prevent such exchanges. Qwest moved to prevent exchanges ofinformation and this application was granted. Qwest moved for summary judgmentwith respect to its indemnification counterclaim. That motion was denied. Webelieve that there is no merit to Qwest’s counterclaims and intend vigorouslyto defend against them, as well as to pursue our claims for payments due to usunder the May 2000 Agreement. The arbitration hearing has been rescheduledfor the week of June 20, 2005.

*Columbia House/Rydel*

In or about August 2002, Columbia House, one ofour clients, notified us of an indemnification claim relating to a class actionfiled against Columbia House, among others, in Illinois, *Rydel v. Comtrad Industries, Inc. et al.*,Circuit Court of Cook County, Illinois, No. 02 CH 13269. In that action,plaintiff claims to have received unsolicited commercial e-mail from, amongothers, Columbia House, in violation of Illinois law, and asserts two basicclaims against Columbia House, one for violation of Illinois’ Consumers FraudStatute, the second for violation of Illinois’ Electronic Mail Act. ColumbiaHouse advised us that it believes that the email in question was not approvedby Columbia House when it was 

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sent, and asserted a claimfor indemnification against us pursuant to our contract. We and Columbia Houseagreed to defer resolution of the indemnification claim (and reserved each ofour respective rights). Columbia House is defending against the class action.Its motion to dismiss was granted as to the Consumer Fraud claim, but denied asto the Electronic Mail Act claim. The plaintiff has appealed the partialdismissal.

In or about January 2003, we were named as adefendant in the *Rydel* classaction. In an additional count in the complaint, the plaintiff asserted that weviolated the Illinois Consumer Fraud and Deceptive Business Practices Act byproviding to a co-defendant a list of consumers who had consented to receivecommercial e-mails when, the complaint alleges, they had not. The complaint soughtinjunctive relief and unspecified damages. Our motion to dismiss the claim asagainst us was granted in June 2003, and the plaintiff filed an appeal.

In late 2004, the appellate court affirmed thedecision below, so that the claim against us is dismissed; the Consumer Fraudclaim against Columbia House is dismissed; and the Electronic Mail Act claimagainst Columbia House remains. The plaintiff has asked the appellate court toreconsider its decision and all parties await a ruling. We believe that there isno merit to plaintiff’s claims, and, in the event the dismissal of the claimagainst us is reversed, we intend to vigorously defend against it.

As stated above, we areunable to determine the ultimate outcomes of any of the foregoing claims ordemands, and, accordingly, no provision for loss has been recorded in thefinancial statements included in this Report.

**10.   SubsequentEvents**

On March 10, 2005, the Company paid a dividend of$1,098,381 arising from a late February 2005 declaration by its Board ofDirectors. The record date establishing the dividend payable was March 1,2005.

On April 10, 2005, the Board of Directorsdeclared a dividend from the Company’s retained earnings of $0.08 per share onthe outstanding shares of its common stock for the quarter ended February 28,2005. Such dividend is payable on or about May 10, 2005 to holders of recordof such shares at the close of business on May 1, 2005. The Company cangive no assurance that its Board will declare any dividends in future fiscalperiods. Any further declarations will depend upon the Company’s performance,the level of its then current and retained earnings, if any, available capitaland projected capital requirements necessary for operations, and otherpertinent factors. You should not rely on any prior approvals of the Company’s Boardas an indicator of its intent to approve the declaration of any dividends inthe future.

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**Item 2.**                        Management’sDiscussion and Analysis of Financial Condition and Results of Operations

The matters discussed inthe following Management’s Discussion and Analysis of Financial Condition andResults of Operations contains forward-looking statements and informationrelating to the Company that are based on the current beliefs, expectations andestimations of Management, as well as assumptions made by and informationcurrently available to the Company. When used in this Management’s Discussionand Analysis, and elsewhere in this Form 10-Q, the words “anticipate”, “believe”,“estimate”, “continue”, and “expect” variations of such words and similarexpressions, as they relate to the Company, are intended to identifyforward-looking statements. Such statements are not guarantees of futureperformance, but reflect the current views of the Company’s management withrespect to future events and are subject to certain risks, uncertainties andassumptions, which could cause the actual results to differ materially fromthose reflected in the forward-looking statements. These forward-lookingstatements are made pursuant to the safe harbor provisions of the PrivateSecurities Litigation Reform Act of 1995.

**Overview**

We are a leading Internet media and marketing companythat uses our on-line media network to generate leads and sales for ourcorporate clients. We provide complete end-to-end marketing solutions forcompanies seeking to increase sales and customers through on-line marketingprograms. The services we offer include the development of a complete creativepromotion to be used to market the client’s product to consumers, broadcastinga promotion on-line in order to generate new customers for the client, deliveryof data files from the results of campaigns, creating and hosting thecustomized websites or web pages necessary to effect the consumertransaction that drives the client’s sales and generating comprehensivereporting in order for the client to analyze the effectiveness of a promotion.We use the media of our websites, as well as email, search engines and otheron-line media to generate the customers, sales and leads for our clients, andfor our own product and service offers. We are paid by our clients primarily ona success-based model, in that we receive a fee for every lead, customer orsale generated for the client.

In addition to our third party client-based revenue,we generate revenue directly from consumers from our own products and services.In Fiscal 2003, we expanded our line of direct-to-consumer products andservices to include Internet based services, such as *iMatchUp.com*,our on-line dating service included in our E-commerce segment, which revenuesare included in our E-commerce segment, and TXNet/WorldWebAccess, our ISP, VOIPand email products, which comprise our LEC Billed Products segment. DuringFiscal 2004, we introduced Click-Help, an addition to our LEC Billed Productsuite that offers 24/7 technical assistance to the home PC user, under arecurring monthly billing plan. We discontinued new customer acquisitions forour LEC Billed Products segment during the fourth quarter of Fiscal 2004. Wecontinue to expend effort to effectively seek out other products that fit theLEC billing mode that exhibit the potential for acceptable economic returns.LEC Billed Products do not have any long-lived assets associated with thesegment. These “direct to consumer” generated products and services accountedfor approximately $0.4 million, or 3% of our revenue during the three monthsended February 28, 2005, as compared to approximately $1.5 million, or 21%of our net revenue during the three months ended February 29, 2004.

We also generate revenuesfrom the sales and rentals (for use both on-line and off-line) of ourproprietary, profiled databases, which are included in our E-commerce segment.

**Background**

From our inception in 1993(under the name “Quintel Communications, Inc.”) through 1999, we generatedthe bulk of our revenue from direct marketing using the traditional media oftelevision, postal mail and telemarketing. In 2000, we repositioned our directmarketing business to the on-line media of the 

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Web.Applying the direct marketing disciplines honed from our years of operating inthe “off-line” media arena, we have been able to provide enhancedresponse-based results in a cost-efficient and scaleable manner via on-linemarketing.

**On-Line Marketing**

We own and operate a variety of Internet websitesfeaturing specialized content such as downloadable music, recipes, greetingcards, automobile information, DVD promotions, and on-line dating. We generatetraffic to our websites from advertising on third party Internet media (i.e.,search engines, email and banner advertisements) and through cross-marketingwithin our own on-line media. Our Web properties and our marketing activitiesare designed to generate real-time response-based marketing results for ourcorporate clients. When visiting our on-line properties, consumers are giventhe opportunity to purchase, sign-up for, ask to be contacted regarding, orsimply indicate an interest in, hundreds of offers for various products andservices. Specifically, through these interactive Web properties we generate avariety of transactional results ranging from (a) Web traffic, (b) inboundtelemarketing calls, (c) outbound telemarketing leads, (d) demographically/psychographicallyprofiled lists of consumers, (e) highly-targeted customized response-basedleads, (f) completed applications for products, and (g) sales ofproducts and services.

*Websites.  *Weown and operate a variety of websites with a broad range of content. Virtuallyall of our websites generate revenue from client advertisements. Theadvertisements are served across all of our websites using ourinternally-developed technology that serves ads to website visitors using analgorithm that takes into account a number of factors, including informationsupplied by the visitor upon registration (e.g, gender, age and zip code), aswell as the price paid by our customer to serve the ad.

The websites feature content ranging from music fordownloads to sweepstakes. We recently launched *EZ-Tracks.com*,a site that features over thirty thousand songs available for free and legaldownloading, as well as other content such as musical greeting cards and adownloadable version of the Bible in audio format. We have a games website thatoffers a variety of free parlor-style games, such as backgammon and checkers. Wealso recently launched a website that features thousands of cooking recipes, *reciperewards.com*.

Our PrizeDistributors, Inc. sponsored group ofwebsites offers consumers the opportunity to win up to $1 million daily in ourfree, on-line sweepstakes. The sweepstakes prizes are indemnified by anindependent, third-party agency. In order to play, each consumer must providecomplete and accurate registration information and agree to receive (“opt-in”)marketing messages from us and our marketing partners.

We own and operate several other websites such as *AtlasCreditGroup.com*, *TheBargainSpot.com*,*AltasAutomotiveGroup.com*, *Take 1 Entertainment.com*, *prizecade.com*and *jewelclaimcenter.com*. Each of thesesites is designed to appeal to a specific consumer interest category that wematched with client promotions that appeal to such interest category.

*Email Marketing.  *Eachprogram that we market for our clients can be implemented not only through thewebsites, but also, and often, through email marketing. We currently market toa vast database, which includes consumer data that is either owned by us or ismanaged by us under our revenue share arrangements whereby we recognize thegross revenue as earned and bear the payment obligation to the list owner,irrespective of receipt of payment from our clients.

*Results Analysis.  *Evenafter campaigns are fully implemented, we continually analyze the marketingresults to gauge whether the campaigns are continuing to generate adequateresults for the client, whether the media is being utilized cost-efficiently,and to determine whether new and different copy is yielding 

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better overall results.These are traditional direct-marketing disciplines that we apply, and that webelieve, distinguish us from many of our competitors in the on-line marketingindustry.

*Syndication.  *Afterwe develop a campaign that works efficiently on our own media, we sometimes “syndicate”the program to third-party media. Typically, we have expended time, media andother costs in developing certain campaigns. In exchange for this investedeffort, we obtain the right to market those campaigns to other on-line mediacompanies. We believe that with syndicated offers we can leverage campaigns wehave developed so that in future fiscal periods we can generate additionalrevenue with reduced costs and risks associated with such business extension.

**PRODUCTS ANDSERVICES**

We introduced several new businesses during Fiscal2003, and further expanded those new business units in Fiscal 2004, includingan on-line dating program (“*iMatchup.com*”)included in our E-commerce segment, and Internet-based service products such asa PC home user technical support service, an ISP service and email accountsthat are LEC Billed (“Click-Help”, “TxNET” and “WorldWideAccess, Inc.”).These new business units are designed as monthly recurring billing programs,such as membership to *iMatchUp.com*.Revenue from these businesses is generated primarily from billing consumersdirectly. *Imatchup.com* became a significant sourceof revenue for us in 2004, and continues to be a significant source of revenueas represented by its $1.9 million, or 15% contribution to consolidated netrevenue for the three months ended February 28, 2005, as compared to $1.4million, or 19% contribution during the comparable prior year fiscal period.

Our expansion in, anddependence on, our on-line direct marketing efforts, coupled with the potentialfor state and/or federal legislation limiting our ability to contact consumerson-line should all be considered when referring to our current fiscal year’sresults, as well as prior years’ historical results, in evaluating thepotential for our future operations, cash flows, and financial position.

**GOVERNMENTREGULATION**

As a direct-to-consumer marketing company we aresubject to a variety of federal, state and local laws and regulations designedto protect consumers that govern certain of our marketing practices.

Federal legislation was signed into law, effective January 1,2004, pre-empting all existing and pending state e-mail marketing legislation.The CAN-SPAM Act of 2003 requires that certain “opt-out” procedures, including,but not limited to, a functioning return e-mail address (and a time limit often (10) days to comply with all opt-out requests sent by consumers), beincluded in commercial e-mail marketing. The CAN-SPAM Act prohibits the sendingof e-mail containing false, deceptive or misleading subject lines, routinginformation, headers and/or return address information. The CAN-SPAM Act doesnot permit consumers to file suit against e-mail marketers for violation ofsuch Act. We believe that this may benefit us, as individuals will be morelimited in their ability to file frivolous suits against us, as they have inthe past. The Federal Trade Commission (“FTC”) is empowered by the CAN-SPAM Actto enact regulations that would implement certain provisions of the CAN-SPAMAct such as standardized subject line labeling, a “bounty” system to compensateconsumers for being the first to report a spammer and a potential “do-not-spamregistry.” Under its subject line labeling authority, the FTC has requiredsexually oriented material to include the warning “Sexually-Explicit.” On December 16,2004, the FTC adopted rule provisions, effective March 28, 2005, toassist in determining whether the purpose of an e-mail is commercial. Onlycommercial and transactional messages are regulated by the CAN-SPAM Act.Generally, if the recipient of the e-mail would interpret the subject line orbody of the e-mail to be primarily commercial, then the e-mail is subject tothe CAN-SPAM Act and its implementing regulations. If any subsequentregulations are promulgated by the FTC that limit our ability to market ouroffers, we 

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could potentially realizea material adverse impact in future fiscal period net revenue growth, and,therefore, profitability and cash flows could be adversely affected.

Under its rule-making authority, the FederalCommunications Commission (“FCC”) in August 2004 adopted rules prohibitingsending of unsolicited commercial e-mails to wireless phones and pagers. To assistin compliance with the rules, the FCC published on February 7, 2005 a listof mail domain names associated with wireless devices. Senders were giventhirty (30) days to come into compliance. Thereafter, it has become illegal tosend unsolicited commercial e-mail to a domain address on the list unless thesubscriber has given prior express authorization. The effect of these rules isto create a “double opt-in” requirement for each sender of mail (advertiser andpublisher). The practical consequence of these requirements on senders ofcommercial e-mail is that conducting compliant campaigns will necessitate thesuppression of the domains listed in the FCC’s list. In short, we, in order tocomply with the latest regulations, are required to suppress the domains listedin the FCC’s list of wireless domains. Additionally, since domain suppressionwill now be required as a practical matter by law, any campaigns that havedomain suppression lists will have those lists included with the regular e-mailsuppression lists. Our Publishers will be required to suppress the domain listsassociated with each campaign in the same manner that they already suppress thee-mail address lists. Although these new regulations do not have a materialadverse impact on our current operations, there can be no assurance that theywill not have a material adverse impact on our future operations.

Legislation has been passed at the state level(currently, only the California and Utah bills have been signed into law) andcompeting bills are pending at the federal level which are intended to regulate“spyware” and, to a limited extent, the use of “cookies”. “Spyware” has notbeen precisely defined in existing and pending legislation, but is generallyconsidered to include software which is installed on consumers’ computers anddesigned to track consumers’ activities and collect and possibly disseminateinformation, including personally identifiable information, about thoseconsumers without their knowledge and consent. We do not provide or use “spyware”in our marketing practices, but there is the risk that the definition ofspyware may be broadly interpreted to include legitimate ad-serving softwareand/or cookie technology that is currently provided or used by us. Anti-spywarelegislation has: 1) generally included a limited exemption for the use ofcookies; and 2) focused on providing consumers with notification and the optionto accept or decline the installation of spyware software. However, there canbe no assurance that future legislation will not incorporate more burdensomestandards by which the use of cookies will not be exempted and softwaredownloading onto consumers’ computers will not be more strictly enforced. Ifmore restrictive legislation is adopted, we may be required to develop newtechnology and/or methods to provide our services or discontinue services insome jurisdictions altogether.

At present, the laws andregulations governing the Internet remain largely unsettled, even in areaswhere there has been legislative and/or regulatory action. It is uncertain asto how long it will take to determine the extent to which existing lawsincluding, but not limited to, those relating to intellectual property,advertising, sweepstakes and privacy, apply to the Internet and Internet marketing.Recently, however, growing public concern regarding privacy and the collection,distribution and use of Internet user information has led to increased federaland state scrutiny, as well as regulatory activity concerning data collectionand associated use practices. The application of existing laws, the adoption ormodification of laws or regulations in the future, together with increasedregulatory scrutiny on issues such as advertising, sweepstakes, data collectionand privacy, could materially and adversely affect our business, prospects,results of operations and financial condition and could potentially expose usand/or our clients to fines, litigation, cease and desist orders and civil andcriminal liability.

**TRANSACTIONS WITH MAJOR CUSTOMERS**

Transactions with majorcustomers and related economic dependence information is set forth (1) followingour discussion of Liquidity and Capital Resources, (2) in our discussionof Critical 

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AccountingPolicy and Accounting Estimate Discussion (immediately following (1) previouslymentioned) and (3) under the heading “Transactions with Major Customers”in Note 2 to the Consolidated Financial Statements included herein.

**SEGMENT INFORMATION**

During the three month period ended February 28,2005 and February 29, 2004, we generated revenue from the followingsegments: E-Commerce and LEC Billed Products. The E-Commerce segment currentlyrepresents the core of our business operations. Revenue in the E-commercesegment is generated primarily from marketing of third-party products andservices on our websites, through email, and through our two recently acquiredsubsidiaries from search engine optimization services and from internetadvertising agency revenue. The LEC Billed Products segment consists of ourproprietary LEC billed products, marketed under the brands Click-Help, TXNetISP and WorldWebAccess, Inc. These products were introduced during Fiscal2003 and 2004.

Segment information is setforth in Note 6 to the Consolidated Financial Statements referred to in theFinancial Statements and Supplementary Data section included herein.

**RESULTS OFOPERATIONS**

The following is adiscussion of our results of operations for the three month periods ended February 28,2005 and February 29, 2004. It should be read in conjunction with our Form 10-Kas filed for the year ended November 30, 2004, the notes thereto and otherfinancial information included elsewhere in this report.

**THREE MONTHS ENDED FEBRUARY 28,2005 AND FEBRUARY 29, 2004**

Our net revenues, on asegmental basis, and with disclosure of the components of the individualsegments, for each of the three-month periods ended February 28, 2005 and February 29,2004, are detailed in the following tables:

**SEGMENT DATA—NET REVENUES, BYSEGMENT, BY COMPONENT**
| ** **                                   | ** ** | **Three Months Ended** | ** ** | **Change**            | ** ** | **Change**   | ** ** |
|----------------------------------------------|------------|----------------------------------|------------|-----------------------|------------|--------------|------------|
| ** **                                   | ** ** | **February 28,**            | ** ** | **February 29,** | ** ** | **Inc(Dec)** | ** ** | **Inc(Dec)** | ** ** |
| ** **                                   | ** ** | **2005**                         | ** ** | **2004**              | ** ** | **$$$**      | ** ** | **%%%** | ** ** |
| **E-Commerce  components**                   |       |                             |       |                  |       |         |       |   |   |   |   |
| *iMatchUp.com*  dating sites                 |       | $                                | 1,933,514  |                  | $          | 1,396,611    |       | $ | 536,903 |   |   | 38 | % |   |
| Web advertising                              |       | 5,664,254                        |       | 3,589,722             |       | 2,074,532    |       |   | 58 | % |   |
| Search Engine  Marketing revenues            |       | 1,454,649                        |       | —                |       | 1,454,649    |       |   | 100 | % |   |
| Internet  Advertising Agency Revenue         |       | 854,529                          |       |                  |       | 854,529      |       |   | 100 | % |   |
| Email marketing  programs                    |       | 2,149,409                        |       | 1,401,321             |       | 748,088      |       |   | 53 | % |   |
| Data sales and  rentals                      |       | 388,936                          |       | 359,411               |       | 29,525       |       |   | 8 | % |   |
| Sales of jewelry  and gifts                  |       | 24,779                           |       | 100,855               |       | (76,076      | )          |   | –75 | % |   |
| Internet game  development and other         |       | 454,861                          |       | 198,781               |       | 256,080      |       |   | 129 | % |   |
| **Total  E-commerce**                        |       | 12,924,931                       |       | 7,046,701             |       | 5,878,230    |       |   | 83 | % |   |
| **LEC Billed Product components**            |       |                             |       |                  |       |         |       |   |   |   |   |
| Click-Help, WWA and TXNet LEC Products  |       | 350,885                          |       | 123,593               |       | 227,292      |       |   | 184 | % |   |
| **Total  LEC Billed Products**               |       | 350,885                          |       | 123,593               |       | 227,292      |       |   | 184 | % |   |
| **Total Consolidated Net Revenue**           |       | $                                | 13,275,816 |                  | $          | 7,170,294    |       | $ | 6,105,522 |   |   | 85 | % |   |

 

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Net Revenue increased approximately $6.1 million, or85%, to $13.3 million for the three months ended February 28, 2005, from$7.2 million in the prior year’s comparable period. The E-commerce segment’score business grew organically, primarily driven by an expansion in ourcustomer base, and accounted for approximately $3.6 million of the consolidatedrevenue increase. Supplementing the core E-commerce growth was $1.5million in revenue earned from our July 1, 2004 SendTraffic acquisitionand $0.8 million in revenue earned from our January 21, 2005 Hot Rocketacquisition. Both Search Engine revenue (SendTraffic) and sales of performancebased on-line advertising space (Hot Rocket) are shown after intercompanyeliminations. Additional increases in net revenue came from our LEC BilledProduct segment, which increased $0.2 million, to $0.3 million resulting fromdecreased cancellation rates on our mature customer base.

Our cost of sales during the three months ended February 28,2005 and February 29, 2004 were comprised of (1) direct and indirectmarketing costs associated with the acquisition and retention of consumers forour marketing programs, including direct response email marketing costs,website registrations, customer profiles, other customer acquisition costs(such as outbound telemarketing), search engine marketing costs, promotionaland creative costs, and premium fulfillment costs, and (2) the relatedcontingent-based sweepstakes indemnification expense, billing and collectionfees and customer service costs.

Our cost of sales, on a segmental basis, and withdisclosure of the components of the individual segments, for each of thethree-month periods ended February 28, 2005 and February 29, 2004,are set forth below:
| ** **                                                                                               | ** ** | **Three Months Ended** | ** ** | **Change**            | ** ** | **Change**   | ** ** |
|----------------------------------------------------------------------------------------------------------|------------|----------------------------------|------------|-----------------------|------------|--------------|------------|
| ** **                                                                                               | ** ** | **February 28,**            | ** ** | **February 29,** | ** ** | **Inc(Dec)** | ** ** | **Inc(Dec)** | ** ** |
| ** **                                                                                               | ** ** | **2005**                         | ** ** | **2004**              | ** ** | **$$$**      | ** ** | **%%%** | ** ** |
| **E-commerce**                                                                                           |       |                             |       |                  |       |         |       |   |   |   |   |
| **Advertising, promotion and  fulfillment costs**                                                        |       |                             |       |                  |       |         |       |   |   |   |   |
| Email marketing  and related delivery costs                                                              |       | $                                | 1,197,837  |                  | $          | 874,691      |       | $ | 323,146 |   |   | 37 | % |   |
| Website registrations,  customer profiles, search and all other related customer acquisition  costs |       | 6,418,430                        |       | 2,502,548             |       | 3,915,882    |       |   | 156 | % |   |
| Promotional,  creative and other costs                                                                   |       | 98,784                           |       | 56,232                |       | 42,552       |       |   | 76 | % |   |
| Purchases of  on-line advertising space                                                                  |       | 463,784                          |       | —                |       | 463,784      |       |   | 100 | % |   |
| **Total E-commerce Advertising**                                                                         |       | $                                | 8,178,835  |                  | $          | 3,433,471    |       | $ | 4,745,364 |   |   | 138 | % |   |
| **Service Bureau fees**                                                                                  |       |                             |       |                  |       |         |       |   |   |   |   |
| Contingent based  prize indemnification costs                                                            |       | $                                | 60,455     |                  | $          | 62,513       |       | (2,058 | ) |   | –3 | % |   |
| **Total E-commerce Cost of Sales**                                                                       |       | $                                | 8,239,290  |                  | $          | 3,495,984    |       | $ | 4,743,306 |   |   | 136 | % |   |
| **LEC  Billed Products**                                                                                 |       |                             |       |                  |       |         |       |   |   |   |   |
| **Service Bureau fees**                                                                                  |       |                             |       |                  |       |         |       |   |   |   |   |
| Service  provision, billing and collection fees                                                          |       | $                                | 175,080    |                  | $          | 309,970      |       | (134,890 | ) |   | –44 | % |   |
| **Total LEC Billed Product Cost of Sales**                                                               |       | $                                | 175,080    |                  | $          | 309,970      |       | $ | (134,890 | ) |   | –44 | % |   |
| **Consolidated  Cost of Sales**                                                                          |       | $                                | 8,414,370  |                  | $          | 3,805,954    |       | $ | 4,608,416 |   |   | 121 | % |   |

 

Cost of sales on a consolidated basis increased $4.6million, or 121%, to $8.4 million for the three months ended February 28,2005 from $3.8 million in the comparable prior year period.

The primary factor contributing to the increase inconsolidated costs of sales was related to a net increase of approximately $4.7million in costs incurred by our E-commerce segment in the generation of itsincreased revenues. The E-commerce segment recognized an increase of $3.9million, or 156% in its media purchases, which include website registrations,customer profiles, search engine costs and all other on-line customerprocurement costs. The specific increase in search engine marketing costsamounted to approximately $1.1 million, and did not have a comparable cost inthe prior year’s fiscal period. During the 

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three months ended February 28,2005 cost of revenue also included approximately $0.5 million in direct purchasesof on-line advertising space, which is resold on a performance return basis byour Hot Rocket subsidiary, which was acquired on January 21, 2005.

Additionally, the E-commerce segment increase in thecost of sales from our core revenue generating activities resulted from anincrease of $0.3 million, or 37%, in email marketing costs (which includescertain operating costs necessary to handle the email operations business ofour Infiknowledge subsidiary) to promote the segment’s revenue generating opportunitiesdirectly related to email promotions and to cause potential (as well as repeat)customers to visit the Company’s websites, and, once there, to register andbecome customer profiles available to be marketed in current and future fiscalperiods. See “—Consolidated Gross Profit, by Segment” for a discussion ofanticipated future revenue recognition as a result of current period costsincurred.

The cost of sales related to our LEC Billed Productsegment declined approximately $0.1 million, or 44%, when compared to the prioryear’s comparable period. LEC costs are principally comprised of billing,collection and customer service costs. We terminated our marketing effortsduring the fourth quarter of Fiscal 2004 regarding the acquisition of new LECsegment customers, which is the reason for the comparative period decline inLEC Billed Product segment cost of revenues.

Our grossprofit in terms of dollars, on a segmental basis, and our gross profitpercentage, on a segmental basis, for each of the three-month periods ended February 28,2005 and February 29, 2004, are set forth below:

**CONSOLIDATED GROSS PROFIT, BYSEGMENT**
| ** **              | ** ** | **Three Months Ended** | ** ** | **Change**            | ** ** | **Change**   | ** ** |
|-------------------------|------------|----------------------------------|------------|-----------------------|------------|--------------|------------|
| ** **              | ** ** | **February 28,**            | ** ** | **February 29,** | ** ** | **inc(dec)** | ** ** | **inc(dec)** | ** ** |
| ** **              | ** ** | **2005**                         | ** ** | **2004**              | ** ** | **$$$**      | ** ** | **%%%** | ** ** |
| E-commerce              |       | $                                | 4,685,641  |                  | $          | 3,550,717    |       | $ | 1,134,924 |   |   | 32 | % |   |
| LEC Billed Products     |       | 175,805                          |       | (186,377              | )          | 362,182      |       |   | 100 | % |   |
| **CONSOLIDATED TOTALS** |       | $                                | 4,861,446  |                  | $          | 3,364,340    |       | $ | 1,497,106 |   |   | 44 | % |   |

 

**CONSOLIDATED GROSS PROFITPERCENTAGES, BY SEGMENT**
| ** **                                | ** ** | ** **                       | ** ** | ** **            | ** ** | **Absolute**   | ** **  | **Relative** | ** ** |
|-------------------------------------------|------------|----------------------------------|------------|-----------------------|------------|----------------|-------------|--------------|------------|
| ** **                                | ** ** | **Three Months Ended** | ** ** | **percentage**        | ** ** | **percentage** | ** **  |
| ** **                                | ** ** | **February 28,**            | ** ** | **February 29,** | ** ** | **change**     | ** **  | **change**   | ** ** |
| ** **                                | ** ** | **2005**                         | ** ** | **2004**              | ** ** | **inc(dec)**   | ** **  | **inc(dec)** | ** ** |
| E-commerce                                |       |                             | 36.3       | %                     |       |           | 50.4        | %            |       |   | –14.1 | % |   |   | –28.1 | % |   |
| LEC Billed Products                       |       |                             | 50.1       | %                     |       |           | –150.8 | %            |       |   | 200.9 | % |   |   | 100.0 | % |   |
| **CONSOLIDATED GROSS PROFIT  PERCENTAGE** |       |                             | 36.6       | %                     |       |           | 46.9        | %            |       |   | –10.3 | % |   |   | –21.9 | % |   |

 

Consolidated Gross Profit (“Gross Margin”) as apercentage of net revenue was 36.6% during the three months ended February 28,2005, compared to 46.9% in the prior year’s comparable period, representing anabsolute percentage point decrease of 10.3%, or a 21.9% decrease on a relativebasis.

The decline in gross profit percentage is primarilyattributable to three factors: (1) increased website registration,customer profile, search engine marketing and other third party online customeracquisition costs for our websites, with all such costs being charged tooperations when incurred; (2) our shift in resource allocation in responseto regulatory changes whereby we migrated a portion of our marketing effortsfrom higher margin email revenue to lower margin site based revenue; and (3) thegross profit contribution from our SendTraffic subsidiary (resulting from our June 30,2004 asset acquisition) during the three months ended February 28, 2005,which was approximately 21% (after consolidation and inter-company profiteliminations), and was significantly less than the historically recognizedgross profit of 

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our core business. Additionally,the impact on gross profit from our iMatchUp.com dating sites results from ourexpensing of customer acquisition costs during the period we acquire a freeiMatchUp.com membership account, while the recognition of the revenue isdependent upon whether or not the free account converts to a paying membership.The period that a free account may convert to a billable account ranges fromone week after acquisition, to as long as two years, and longer, after itsinitial month of acquisition, based on available historical conversion tobillable experience. Therefore, predicated on stabilized acquisition costs infuture fiscal periods, we expect that the future conversions of free membershipacquisitions to billable members, as well as anticipated renewal revenues fromsuch acquired customers, should allow us to report improved gross profitmargins attributable to such memberships in our E-commerce segment in futurefiscal periods.

Our Selling Expenses foreach of the three months ended February 28, 2005 and February 29,2004 are presented, on a segmental basis, and with the components of theindividual segments, in the tables set forth below:

**SegmentData—Consolidated Selling Expenses, by Segment, by Component**
| ** **                                 | ** ** | **Three Months Ended** | ** ** | **Change—**      | ** ** | **Change—** | ** ** |
|--------------------------------------------|------------|----------------------------------|------------|-----------------------|------------|------------------|------------|
| ** **                                 | ** ** | **February 28,**            | ** ** | **February 29,** | ** ** | **inc(dec)**     | ** ** | **inc(dec)** | ** ** |
| ** **                                 | ** ** | **2005**                         | ** ** | **2004**              | ** ** | **$$$**          | ** ** | **%%%** | ** ** |
| **E-commerce**                             |       |                             |       |                  |       |             |       |   |   |   |   |   |   |   |   |
| Fee share  commissions                     |       |                             | $          | 467,921               |       |             |       | $ | 213,097 |   |   | $ | 254,824 |   |   | 120 | % |   |
| Selling salaries  and related expenses     |       |                             | 316,141    |                  |       |             | 201,966    |   |   | 114,175 |   |   | 57 | % |   |
| Travel and  entertainment                  |       |                             | 33,113     |                  |       |             | 32,867     |   |   | 246 |   |   | 1 | % |   |
| **TOTAL  Selling—E-commerce segment** |       |                             | $          | 817,175               |       |             |       | $ | 447,930 |   |   | $ | 369,245 |   |   | 82 | % |   |
| **Consolidated Totals**                    |       |                             | $          | 817,175               |       |             |       | $ | 447,930 |   |   | $ | 369,245 |   |   | 82 | % |   |

 

Selling expenses, on a consolidated basis, increasedapproximately $0.4 million, or 82%, to $0.8 million during the three monthsended February 28, 2005 from $0.4 million during the three months ended February 29,2004. The increase resulted from (a) an approximate $0.3 million increasein fee share commissions and correlates to our increased email revenue and therelated use of third-party databases in our email marketing programs to producea portion of such revenue (we are the primary obligor to the list owner andbear the responsibility of payment to the list owner regardless of whether ourclient pays us), and (b) an approximate $0.1 million increase in sellingsalaries, with such increase relating partially to the expansion of our salesforce, coupled with increased sales commission expense resulting from ourincreased revenue earned during the three months ended February 28, 2005when compared to the three months ended February 29, 2004.

Our general and administrative expenses (“G&A”)are principally comprised of (i) compensation costs and related expensesfor executive, finance, information technology and operation systems, andgeneral administration personnel, (ii) professional fees (which includelegal; audit, accounting and tax; Sarbanes-Oxley compliance costs; publicrelations; database management and consulting; and public company relatedprinting and filing costs), (iii) insurance costs, (iv) occupancy andother equipment rental costs, (v) site development, maintenance andmodification costs related to our various active segments, and (vi) allother general and miscellaneous corporate expense items.

Our General andAdministrative Expenses for the three months ended February 28, 2005 and February 29,2004 are presented, on a segmental basis, and with the components of theindividual segments, in the tables set forth below:

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***ConsolidatedGeneral and Administrative Expenses, by segment, by component***
| ** **                                       | ** ** | **Three Months Ended** | ** ** | **Change—**      | ** ** | **Change—** | ** ** |         |
|--------------------------------------------------|------------|----------------------------------|------------|-----------------------|------------|------------------|------------|--------------|
| ** **                                       | ** ** | **February 28,**            | ** ** | **February 29,** | ** ** | **inc(dec)**     | ** ** | **inc(dec)** | ** ** |
| ** **                                       | ** ** | **2005**                         | ** ** | **2004**              | ** ** | **$$$**          | ** ** | **%%%**      | ** ** |
| **E-commerce**                                   |       |                             |       |                  |       |             |       |         |   |   |   |
| Compensation  costs and related expenses         |       | $                                | 1,507,296  |                  | $          | 893,099          |       | $            | 614,197 |   |   | 69 | % |   |
| Professional fees                                |       | 179,170                          |       | 220,613               |       | (41,443          | )          |         | –19 | % |   |
| Insurance costs                                  |       | 117,525                          |       | 141,759               |       | (24,234          | )          |         | –17 | % |   |
| Occupancy and  equipment costs                   |       | 100,755                          |       | 40,993                |       | 59,762           |       |         | 146 | % |   |
| Site development,  maintenance and modifications |       | 341,308                          |       | 352,782               |       | (11,474          | )          |         | –3 | % |   |
| All other G&A  expenses                      |       | 473,232                          |       | 213,487               |       | 259,745          |       |         | 122 | % |   |
| **TOTAL  G&A—E-commerce segment**       |       | 2,719,286                        |       | 1,862,733             |       | 856,553          |       |         | 46 | % |   |
| **LEC  Billed Products and Services**            |       |                             |       |                  |       |             |       |         |   |   |   |
| Compensation  costs and related expenses         |       | 14,313                           |       | 56,563                |       | (42,250          | )          |         | –75 | % |   |
| Insurance costs                                  |       | 5,718                            |       | 17,888                |       | (12,170          | )          |         | –68 | % |   |
| Occupancy and  equipment costs                   |       | 2,332                            |       | 13,934                |       | (11,602          | )          |         | –83 | % |   |
| All other G&A  expenses                      |       | 2,784                            |       | 6,116                 |       | (3,332           | )          |         | –54 | % |   |
| **TOTAL  G&A—LEC segment**              |       | 25,147                           |       | 94,501                |       | (69,354          | )          |         | –73 | % |   |
| **Corporate**                                    |       |                             |       |                  |       |             |       |         |   |   |   |
| Compensation  costs and related expenses         |       | 485,943                          |       | 499,740               |       | (13,797          | )          |         | –3 | % |   |
| Professional fees                                |       | 280,164                          |       | 160,993               |       | 119,171          |       |         | 74 | % |   |
| Insurance costs                                  |       | 114,278                          |       | 125,410               |       | (11,132          | )          |         | –9 | % |   |
| All other G&A  expenses                      |       | 136,427                          |       | 116,200               |       | 20,227           |       |         | 17 | % |   |
| **TOTAL  G&A—Corporate**                |       | 1,016,812                        |       | 902,343               |       | 114,469          |       |         | 13 | % |   |
| **Consolidated Totals**                          |       | $                                | 3,761,245  |                  | $          | 2,859,577        |       | $            | 901,668 |   |   | 32 | % |   |

 

General and Administrative expenses (“G&A”) on aconsolidated basis increased approximately $0.9 million, or 32%, when comparingG&A of $3.8 million for the three months ended February 28, 2005 toG&A of $2.9 million incurred during the three months ended February 29,2004. The net increase was attributable to an increase in E-commerce segment ($0.9million) and Corporate ($0.1 million), offset by a decline in the LEC segmentof ($0.1 million). The significant increase in E-commerce expenses wasattributable to the operating overhead incurred from the Company’s two recentlyacquired subsidiaries; in combination such subsidiaries overhead amounted toapproximately $0.8 million during the three months ended February 28,2005. Neither subsidiary had been organized during the prior year’s comparableperiod. Specifically, during the three months ended February 28, 2005 thesubsidiaries combined compensation costs and related expenses amounted toapproximately $0.5 million. This was 87% of the total $0.6 million increase inE-commerce compensations costs, with the balance of the increase attributableto an increase in core compensation expense. The subsidiaries also contributedto overhead as follows: office rent and related office expense of approximately$55,000 and other G&A of approximately $0.2 million. Included in the otherG&A was the Send Traffic Fiscal 2004 acquisition current quarter’s amortizationexpense of approximately $108,000, and the current quarter’s Hot Rocketacquisition amortization expense of approximately $49,000.

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Feder, Kaszovitz,Issacson, Weber, Skala, Bass and Rhine LLP (“FKIWSBR”) provides general legalservices to us in the ordinary course of business and litigation services indefense of actions arising from such business activities. Murray L. Skala, apartner in such firm, has been a member of our Board of Directors sinceinception. We incurred approximately $245,000 in legal fees (exclusive ofdisbursements) from FKIWSBR during the three months ended February 28,2005, of which $156,000 was expensed, and $87,000 was capitalized in the HotRocket acquisition. We incurred approximately $102,000 in legal fees (exclusiveof disbursements) from FKIWSBR during the three months ended February 29,2004.

**ConsolidatedBad Debt Expense, by segment**
| ** **                     | ** ** | **For the periods:**   | ** ** | ** **            | ** ** | ** **       | ** ** |
|--------------------------------|------------|----------------------------------|------------|-----------------------|------------|------------------|------------|
| ** **                     | ** ** | **Three Months Ended** | ** ** | **CHANGE—**      | ** ** | **CHANGE—** | ** ** |
| ** **                     | ** ** | **February 28,**            | ** ** | **February 29,** | ** ** | **INC(DEC)**     | ** ** | **INC(DEC)** | ** ** |
| **For the periods:** | ** ** | ** **                       | ** ** | **2005**              | ** ** | **2004**         | ** ** | **$$$** | ** ** | **%%%** | ** ** |
| E-commerce                     |       |                             | 85,225     |                  |       |             | (46,457    | ) |   |   | $ | 131,682 |   |   |   | -283 | % |   |
| **Consolidated Totals**        |       |                             | $          | 85,225                |       |             |       | $ | (46,457 | ) |   |   | $ | 131,682 |   |   |   | -283 | % |   |
|                                |            |                                  |            |                       |            |                  |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

Bad Debt expense increased approximately $0.1 million,or 283%, from bad debt recapture of $46,457 in the three months ended February 29,2004 to bad debt expense of $85,225 in the three months ended February 28,2005. The current quarter’s bad debt expense is attributable to two specificcustomers. Our allowance for bad debts results from our assessment of the riskof collection embedded in our customer base as described below.

We continuously evaluatethe potential of the collectibility of trade receivables by reviewing suchfactors as deterioration in the operating results, financial condition orbankruptcy filings of our customers. As a result of this review process, werecord adjustments to bad debt provisions/(recaptures) to reflect the relatedreceivables’ carrying amount to amounts that estimate their probable realizablevalue. Provisions for bad debts are also recorded resulting from the review ofother factors, including (a) length of time the receivables are past due,and (b)historical experience and other factors obtained during collectionefforts. If circumstances related to specific customers change, our estimatesfor bad debt provision/(recaptures) could be further increased or decreased infuture fiscal periods.

**OTHER INCOME (EXPENSE)**

Thecomponents of our “Other income (expense)” are set forth below:
| ** **                                             | ** ** | **Three Months Ended** | ** ** | **change**            | ** ** | **change**   | ** ** |
|--------------------------------------------------------|------------|----------------------------------|------------|-----------------------|------------|--------------|------------|
| ** **                                             | ** ** | **February 28,**            | ** ** | **February 29,** | ** ** | **inc(dec)** | ** ** | **inc(dec)** | ** ** |
| ** **                                             | ** ** | **2005**                         | ** ** | **2004**              | ** ** | **$$$**      | ** ** | **%%%** | ** ** |
| Other income (expense):                                |       |                             |       |                  |       |         |       |   |   |   |   |   |   |   |   |
| Interest income  and dividends                         |       |                             | $          | 187,823               |       |         |       | $ | 108,732 |   |   | $ | 79,091 |   |   | 73 | % |   |
| Realized gains on  sale of marketable securities  |       |                             | 585,268    |                  |       |         | 11,023     |   |   | 574,245 |   |   | 5210 | % |   |
| Realized gain on  sale of subsidiary                   |       |                             | 195,000    |                  |       |         | 195,000    |   |   | — |   |   | 0 | % |   |
| Other non-operating  income:                           |       |                             |       |                  |       |         |       |   |   |   |   |   |   |   |   |
| Other miscellaneous income(expense)                    |       |                             | (39        | )                     |       |         | 16,335     |   |   | (16,374 | ) |   | 100 | % |   |
| Foreign Currency Exchange Rate Fees and interest       |       |                             | (8,671     | )                     |       |         | (4,323     | ) |   | (4,348 | ) |   | 100 | % |   |
| Reduction of prior year’s LEC reserve             |       |                             | —     |                  |       |         | 34,181     |   |   | (34,181 | ) |   | 100 | % |   |
| Minority interest  (income) loss                       |       |                             | (97,645    | )                     |       |         | —     |   |   | (97,645 | ) |   | 100 | % |   |
| Total Consolidated Other  Income (Expense)             |       |                             | $          | 861,736               |       |         |       | $ | 360,948 |   |   | 500,788 |   |   | 139 | % |   |
|                                                        |            |                                  |            |                       |            |              |            |  |  |  |  |  |  |  |  |  |  |  |

 

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Consolidated Other Income (Expense) increasedapproximately $501,000, from approximately $361,000 for the three months ended February 29,2004, to approximately $862,000 for the three months ended February 28,2005.

The materialfactors contributing to the net increase as set forth in the above table are asfollows:

(a)          Realized gains on thesale of marketable securities increased by $574,000 over the prior year’scomparable three month period. This resulted from our decision to recognizeunrealized capital gains on our equity security portfolio enabling us toutilize the federal tax benefit of capital loss carryforwards.

(b)         Interestincome increased approximately $79,000 as the result of increased interestrates earned on our short-term investments.

**Minority Interest**

On January 12, 2005, the Company entered into anagreement with Madacy Entertainment, through a newly created partnership, EZTracks ULC, to market and promote EZ Tracks.com, the Company’s new webdestination consisting of approximately 30,000 downloadable songs covering awide array of musical genres. The Company through a wholly owned subsidiaryowns 50.5% of the partnership and will be responsible for managing theoperations of the business, including generating traffic to the website as wellas selling advertising on the site. Madacy Entertainment, through its ownsubsidiary owns 49.5% and will provide its inventory of music and an extensivelibrary of music licensed from other parties, Madacy will have limitedinvolvement with certain aspects of operations. The results of operations forthe quarter ended February 28, 2005 include the fully consolidatedresults of EZ Tracks ULC with minority interest established to reflect Madacy’sownership share of the subsidiaries operating results for the periodJanuary 12, 2005 to February 28, 2005.

*The following table summarizes the results of EZTracks for the quarter included in the Company’s consolidated results:*
| Net Revenues                           |   | $       | 740,122 |   |
|----------------------------------------|--------|---------|---------|--------|
| Cost of Sales                          |   | 538,542 |    |
| Gross Profit                           |   | 201,580 |    |
| General &  Administrative Expenses |   | 4,317   |    |
| Net Income                             |   | $       | 197,262 | (1)    |
| Minority Interest                      |   | $       | 97,645  | (2)    |

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(1)   Allitems included in the Company’s E-Commerce segment

(2)   Represents Madacy Entertainment’s 49.5% minority interest

**PROVISION FOR INCOME TAXES**

Quarterly income taxes are calculated in accordancewith the interim financial reporting requirements as set forth in theAccounting Principal Board’s Opinion 28. Such Opinion considers interimquarterly periods as an integral part of the annual period, with interimquarterly tax periods reflecting the estimated annual effective tax rate. Webelieve that we have adequately provided for tax-related matters. We aresubject to examination by taxing authorities in various jurisdictions.Management considers it unlikely that resolution of any open audits would havea material adverse effect upon our consolidated financial statements.

The results for the threemonths ended February 28, 2005 include a tax expense of approximately$436,000 on pre-tax income of $1,059,537. The effective rate relationship of41.2% differs slightly from our 

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historicallyrecognized effective tax rate of approximately 39%. A portion of the effectivetax rate variance is attributable to tax benefits recognized during the threemonths ended February 28, 2005, from the use of approximately $0.2 millionin previously devalued capital loss carryover deferred tax assets. Suchdevalued capital loss deferred tax assets were utilized in the three monthsended February 28, 2005 to offset the tax expense on the current period’scapital gain income related to realized gains on a prior year subsidiary saleof approximately $0.2 million. The balance of the rate reconciliation isattributable to other permanent differences.

**LIQUIDITY AND CAPITAL RESOURCES**

As of February 28, 2005, we had aggregate workingcapital of $33.0 million compared to aggregate working capital of $34.6 millionas of November 30, 2004. We had available cash, cash equivalents, equitiesand readily available marketable debt securities of $33.3 million as of February 28,2005, compared to available cash, cash equivalents, equities and readilyavailable marketable debt securities of $35.8 million as of November 30,2004. The equity component of our marketable securities was $1.7 million at February 28,2005, compared to $1.8 million at November 30, 2004.

Cash used in operating activities was approximately$0.4 million for the three months ended February 28, 2005, compared toapproximately $0.8 million in cash provided by operating activities in thethree months ended February 29, 2004, representing an approximate $1.2million decrease in cash provided by operating activities. The primary factorgiving rise to the increase in cash provided by operating activities relates tochanges in assets and liabilities of business whereby such changes for thethree months ended February 28, 2005 absorbed approximately $1.4 millionmore in cash than in the prior comparable period. The significant absorption ofcash was attributable to an increase in accounts receivable of approximately$1.8 million (see “day-sales-outstanding” below”) partially offset by anincrease in accounts payable of approximately $0.7 million.

Cash used in investing activities was approximately$0.9 million during the three months ended February 28, 2005, compared to$0.2 million provided by financing activities during the prior year’scomparable quarter. The primary use of cash in investing activities in thethree months ended February 28, 2005, related to net cash of approximately$2.8 million expended in the Hot Rocket asset acquisition on January 21,2005. This was partially offset by net proceeds from purchase and sales ofsecurities providing cash of approximately $1.8 million.

Cash provided by financing activities wasapproximately $0.5 million for the three months ended February 28, 2005,compared to $0.9 million used by financing activities for the three monthsended February 29, 2004. Proceeds from stock option exercises were $0.5million for the quarter ended February 28, 2005 compared to $0.2 millioncollected during the comparable prior year period, offset by dividend paymentsof $1.0 million in the prior year.

Our days-sales-outstanding (“DSO”) in accountsreceivable at February 28, 2005 was 44 days, compared to 42 days at November 30,2004, 55 days at August 31, 2004, and 60 days at May 31, 2004. Thetwo day increase in the current quarter’s DSO compared to the fourth quarter ofthe prior fiscal year relates to the increases in E-commerce accountsreceivable, based on newly acquired subsidiaries and increased core operations,offset by reductions in the LEC Billed Product segment accounts receivable,when comparing February 28, 2005 combined accounts receivable of $6.5million, with accounts receivable at November 30, 2004 of approximately$4.7 million. Our DSO may rise above 44 days in future fiscal periods as aresult of our client mix or other potential factors not currently identifiable.

The majority of our customers are extended 30-daycredit terms. In limited instances, customer credit is extended to rangesapproximating 90 days. Our LEC Billed Products segment collection cycle is afunction of the terms of the billing and collection agreements governing suchactivity, which collection cycles can exceed 90 days. We continually monitorcustomer adherence to credit terms and constantly 

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strive to improve theeffectiveness of our collection efforts with the goal of achieving a DSO in the40-day range. Future fiscal periods might not reflect this goal of a 40-dayDSO, and might exceed the 44-day DSO recognized in the three-month periodended February 28, 2005.

Historically, our primary cash requirements have beenused to fund the cost of advertising and promotion and test-marketing newproducts, services and promotions, with additional funds having been used inthe purchasing of equipment and services in connection with the commencement ofnew business lines, further development of businesses being test marketed andfor the development of the equipment infrastructure of subsidiaries.

In Fiscal 2000, we executed our on-line directmarketing strategy. Our future plans and business strategy may continue to callfor our Internet-based E-commerce segment to be our primary operating focuswith such segment generating the material portion of our revenues for the threemonth period ended February 28, 2005. In Fiscal 2002 and 2003, we expendedapproximately $1.9 and $1.5 million, respectively, for capital expenditures tosupport our E-commerce business. In Fiscal 2004, capital expenditures declinedto approximately $141,000 as a result of the prior two year of capitalexpenditures, which yielded excess capacity. For the three months ended February 28,2005, capital expenditures totaled approximately $48,000. We believe that ourcurrent infrastructure is adequate to support our E-commerce growth plan, andtherefore do not contemplate significant capital expenditure requirements inthe near future.

We may, in future fiscal periods, be required toinvest significant amounts of capital into our business. If our operations failto generate sufficient revenue, we could realize a material adverse impact onour capital and liquidity resources resulting from expenditures necessary togenerate such revenue, including, but not limited to, expenditures for (a) marketingcampaigns, including media costs and other costs of customer acquisitioninformation, (b) product development costs, (c) site development andmaintenance and related technology based costs, (d) potential on-line,and/or off-line, business acquisitions, (e) costs associated withdeveloping alternative means of email promotion delivery, or (f) otherunexpected and/or currently unidentifiable costs.

On January 21, 2005, we acquired the intangibleassets of Hot Rocket, a privately-held on-line media and marketing agency. Thepurchase price was approximately $3.5 million, comprised of $0.7 million inshares of our common stock (or 113,821 shares) and $2.8 million in cash. Inaddition, we agreed to pay Hot Rocket a contingent purchase price of up to$12.5 million upon the generation of certain EBITDA thresholds over the fouryear period following the closing.

On June 30, 2004, we consummated the acquisitionof the assets of SendTraffic.com, Inc. (“Send”) and its affiliated entity,The Traffic Group, LLC, privately held search engine marketing companies basedin New York. The initial purchase price was for approximately $5.0 million,comprised of $3.5 million in cash and 233,941 shares of Traffix common stock.The asset acquisition agreement calls for contingent earn-out payments based onthe post closing attainment of certain earnings before interest, taxes,depreciation and amortization (EBITDA) thresholds during the thirty-six monthperiod following the transaction.

Additionally, Send Traffic warranted that certainfinancial information contained in its unaudited June 30, 2004 balancesheet, which was used to determine the original purchase price, was accurate,and if such financial information ultimately proved post-closing to have beeninaccurate, Send Traffic would return to the Company any shortfall. In order toensure compliance with such warranty, the Company retained in escrow $250,000of the purchase price. On November 24, 2004, the Company signed anAdjustment Agreement with the principals of Send Traffic regarding the finaldetermination of the June 30, 2004 balance sheet. In accordance with theAdjustment Agreement’s “Cash Adjustment” clause, the Company received $300,000in cash from the Send Traffic principals, $250,000 of which came from theescrow withheld at closing, and an additional $50,000 of which was received on November 30,2004. Additionally, under the Adjustment Agreement’s “Share Adjustment” clause,the Send Traffic principals 

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returned 57,142 shares tothe Company, which served to reduce the total shares issued in the assetacquisition to 176,799 shares, as compared to the original issuance of 233,941shares.

On April 1, 2004, we announced that we hadacquired an exclusive license for an operating platform created by LiveOnTheNet.com, Inc.,a privately held company. We had announced in February 2004 that we hadentered into an agreement to acquire all of the assets of such entity, but theasset acquisition plans were discarded in favor of a license agreementresulting from our final stages of due diligence. The license agreement calledfor a total payment of $200,000. A down payment of $35,000 and the initial $15,000installment was made at the time of signing the license, and installments of$15,000 were required on the ten monthly anniversary dates following thesigning. As of February 28, 2005, all installments have been made inaccordance with the terms of the license agreement.

In March 2003, we sold our 51% majority-ownedsubsidiary, Montvale Management LLC (“Montvale”), to Mortgage IndustryConsultants, LLC (“MIC”) for $1.6 million, plus our investment. We had obtainedour 51% interest in September 1999 through an initial investment ofapproximately $50,000. The terms of the agreement included an initial paymentof $1 million (received in March 2003) followed by an additional $600,000to be paid in 24 monthly installments of $25,000 each. As of February 28,2005, all required installments were received and recorded as realized gain onsale of subsidiary.

In May 2003, we received approximately $299,000,representing our GAAP basis capital account in such majority-owned subsidiaryas at November 30, 2002, pursuant to the terms of the agreement. We alsoentered into a two-year Media Purchase Agreement whereby we agreed to providecertain media lead generation and related services to the continuing owners ofMontvale for consideration of $40,000 per month over the term of the agreement.As of February 28, 2005, we have collected all of the requisite paymentsspecified under the agreement.

In the fiscal year ended November 30, 1999, theadoption of our Internet business plan and strategy prompted us to terminate themarketing of our legacy products and services, which were active at that time.Accordingly, this legacy activity has contributed, in a significantlydecreasing degree, to our cash flows and results of operations for thethree-year fiscal period, December 1, 1999 to November 30, 2002, anddid not contribute at all to the operations of Fiscal 2004 and the first threemonths of Fiscal 2005. This should be considered when using our historicalresults in evaluating future operations, cash flows and financial position.Nevertheless, we will continue to explore opportunities to offer other Off-linemarketing services, and expect to continue the expansion of our activitieswithin our LEC Billed Products segment.

Under currently proposed operating plans and assumptions,management believes that projected cash flows from operations and availablecash resources and working capital, as described above, will be sufficient tosatisfy our anticipated cash requirements for at least the next twelve months.Our known identifiable short-term and long-term obligations are described belowin the “Obligations and Commitments” disclosure as required by the Securitiesand Exchange Commission’s (the “Commission”) Release Nos. 33-8056 and 34-45321and FR-61, as issued on January 22, 2002.

Additionally, as we seekto further extend our reach into the E-commerce and LEC Billed Product arenas,as well as identifying new and other consumer oriented products and services inthe off-line arena, we may use existing cash reserves, enter into long-termfinancing arrangements, acquire the assets of privately-held companies, oremploy other means to finance such diversification, none of which isspecifically identifiable or measurable at this time.

**OBLIGATIONS AND COMMITMENTS**

We are not aware of any specific factors, outside ofthose described in the following table, and those “potential factors” describedin the “Critical Accounting Policy and Accounting Estimate Discussion” which isset forth below, that are reasonably likely to cause a material impact, eitherpositive or negative, 

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on our liquidity trends. Additionally,we do not have off-balance sheet arrangements, other than those described inthe following table, and do not engage in trading activities involvingnon-exchange traded contracts.

Asummary table of future contractual commitments, for future minimum leasepayments under non-cancelable operating leases and employment contracts, andother contractually binding agreements, as of February 28, 2005, are setforth below:
| ** ** | ** ** | ** **                | ** ** | ** **                     | ** ** | ** **   | ** ** | ** **  | ** ** | **Total Contractual  Obligations** | ** ** |
|------------|------------|---------------------------|------------|--------------------------------|------------|--------------|------------|-------------|------------|-----------------------------------------|------------|
| ** ** | ** ** | **Operating Leases** | ** ** | **Employment agreements** | ** ** | **Other**    | ** ** | ** **  | ** ** |
| ** ** | ** ** | **Domestic**              | ** ** | **Foreign**                    | ** ** | **Domestic** | ** ** | **Foreign** | ** ** | **Domestic**                            | ** ** | **Domestic** | ** ** | **Foreign** | ** ** |
| 2005       |       | 387,110                   |       | 33,892                         |       | 2,226,082    |       | 302,470     |       | 45,000                                  |       | 2,658,192 |   | 336,362 |   |
| 2006       |       | 262,277                   |       | —                         |       | 1,707,259    |       | 317,222     |       | —                                  |       | 1,969,536 |   | 317,222 |   |
| 2007       |       | 48,695                    |       | —                         |       | 1,551,490    |       | 4,011       |       | —                                  |       | 1,600,185 |   | 4,011 |   |
| 2008       |       | 50,156                    |       | —                         |       | 661,410      |       | —      |       | —                                  |       | 711,566 |   | — |   |
| 2009       |       | 16,883                    |       | —                         |       | 460,453      |       | —      |       | —                                  |       | 477,336 |   | — |   |
| Thereafter |       |                      |       |                           |       | 24,268       |       | —      |       | —                                  |       | 24,268 |   | — |   |
|       |       | $                         | 765,121    |                           | $          | 33,892       |       | $           | 6,630,962  |                                    | $          | 623,703 |   | $ | 45,000 |   | $ | 7,441,083 |   | $ | 657,595 |   |
|            |            |                           |            |                                |            |              |            |             |            |                                         |            |  |  |  |  |  |  |  |  |  |  |  |

 

**RELATED PARTIES**

Feder, Kaszovitz,Issacson, Weber, Skala, Bass and Rhine LLP (“FKIWSBR”) provides general legalservices to us in the ordinary course of business and litigation services indefense of actions arising from such business activities. Murray L. Skala, apartner in such firm, has been a member of our Board of Directors sinceinception. FKIWSBR legal services are billed on an arms length transactionbasis. We incurred approximately $245,000 in legal fees (exclusive ofdisbursements) from FKIWSBR during the three months ended February 28,2005, of which $156,000 was expensed, and $87,000 was capitalized in the HotRocket acquisition. We incurred approximately $102,000 in legal fees (exclusiveof disbursements) from FKIWSBR during the three months ended February 29,2004.

**CRITICALACCOUNTING POLICY AND ACCOUNTING ESTIMATE DISCUSSION**

In accordance with theCommission’s Release Nos. 33-8040 and 34-45149 and FR-60issued in December 2001, referencing the Commission’s statement “regardingthe selection and disclosure by public companies of critical accountingpolicies and practices”, we have set forth below what we believe to be the mostpervasive accounting policies and estimates that could have a material effecton our Company’s results of operations and cash flows, if general businessconditions or individual customer financial circumstances change in an adverseway relative to the policies and estimates used in the attached financialstatements or in any “forward looking” statements contained herewith.

**Estimates**

The preparation offinancial statements in conformity with accounting principles generallyaccepted in the United States of America requires our management to make estimatesand assumptions that affect the reported amounts of assets and liabilities anddisclosure of contingent assets and liabilities at the date of the financialstatements, and the reported amounts of revenue and expenses during the period.Actual results could differ from those estimates. Our most significantestimates relate to the accruals for fulfillment redemptions, reserves foruncollectible receivables, reserves for data qualification allowances,recoverability of long-lived assets, and the realizability of deferred taxassets. Additionally, we have potential exposure resulting from pending and/orthreatened litigation for which we currently assess no risk and do not providefor loss. No provision for loss has been recorded for the potential of currentlyunknown actions naming us as defendant in future fiscal periods. Actual resultscould differ from our estimates.

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**FACTORSTHAT COULD AFFECT FUTURE RESULTS**

**HistoricallyHigh Levels of Volatility in Revenue and Cost Trends**

Our revenues andprofitability from operations have historically varied. Our revenues, cost ofproviding revenues, profit margins and overhead expenses have variedhistorically among segments, as well as on a consolidated basis. The revenueallocation among our segments in future periods will most probably be differentthan our current revenue allocation due to several factors, including consumertastes, business opportunities, regulatory issues that may exist in futureperiods, and other currently unknown factors that could impact our revenuegenerating cycle or cost structure. Therefore, it is difficult to predictrevenue and gross margin trends, and their corresponding impact on liquidityand capital resources. Actual trends may cause us to adjust our operatingemphasis, which could result in continued period-to-period fluctuations in ourresults of operations. Historically, we have been able to rapidly react tochanges in the business environment within which we operate. Managementresponds to these changes as deemed appropriate at the time of change, and asdictated by the nature of such changes. Management’s reaction to such changescould cover a broad range of business-related adjustments, ranging from productmix repositioning and staff reductions, to entire business model overhauls.Based on our current operations and marketing methods, as well as the dynamic,ever changing status of the Internet marketing environment, it is conceivablethat we would institute changes to our business practices in future fiscalperiods. There can be no assurance that any such potential change would besuccessful in its implementation, and there can be no assurance that any suchimplementation would benefit our operating margins, profitability, cash flowsor capital resources.

**RevenueRecognition, Variable Costs and Bad Debts**

We currently earn the most significant portion of ourrevenue from the E-commerce segment pursuant to marketing agreements withmarketing partners and corporate customers. The provisions of each agreementdetermine the type and timing of revenue to be recorded. We invoice ourcustomers in accordance with the terms of the underlying agreement. Revenue isrecognized at the time the marketing activity is delivered, or service isprovided, net of estimated contractually specified data qualificationallowances, when applicable. Such data qualification allowances may includeduplications, invalid addresses, and age restrictions, and are recorded ascontra-revenue. Our revenues are adjusted in later fiscal periods if actualallowances vary from amounts previously estimated. Historically, the variancebetween actual allowances and previously estimated allowances has beenimmaterial. If events were to occur that would cause actual allowances (whichare recorded as offsets against gross revenue, as contra-revenues, in arrivingat reported net revenue) to vary significantly from those originally estimatedand reflected in the financial statements, we could suffer materialdeterioration in future fiscal period gross margins, and, therefore, ourprofitability, cash flows and capital resources could be adversely affected.

Certain revenue related obligations are recorded atthe time revenue is recognized. They include costs payable to other on-line, aswell as off-line, media companies for generating registered users and consumerdata for us, database fee sharing costs under third-party database useagreements, email message delivery costs, contingent-based prizeindemnification coverage (i.e., sweepstakes payout indemnification), estimatedpremium fulfillment costs related to the respective promotion (if applicable)and all other variable costs directly associated with completing ourobligations relative to the revenue being recognized. Our actual premiumfulfillment estimates have varied from that which were accrued at the time ofrecording the related revenue. This is deemed a change in management’sestimate, and we take the additional cost, or benefit, on the accrualadjustment in the fiscal period that the variance is determinable.

Should the Internet operating landscape changeresulting in (a) higher costs of acquiring consumer data and registeredusers for our websites; (b) higher costs of acquiring data for ourmarketing partners, compromising such marketing partners’ ability to maintainadequate sized databases to allow for continued 

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third-party database useagreements; (c) the InfiKnowledge asset acquisition failing to maintain alower cost of our email delivery activities and web development and web hostingservice costs as compared to our competitors, or us being required to depend onthird-party emailing service bureaus, to a degree higher, and/or at a cost inexcess of our anticipated internally-generated costs, than that currentlyutilized during the three months ended February 28, 2005, or othercurrently unknown third party influences on our ability to deliver emailmessages to the records in our databases, or the records in our marketingaffiliates’ databases; (d) our contingent-based prize indemnificationpremiums for indemnification coverage increasing due to an increase in thenumber of prize winners at the sites, or as a result of the insurance industryin general, or other currently unknown factors; (e) our accruals forfulfillment obligations arising out of promotions proving to be less than theactual redemptions processed in subsequent fiscal periods; or (f) unpredictabletechnology changes or commercial technology applications; then, if any one, ora combination, of the above factors were to materialize we could suffermaterial deterioration in future fiscal period revenue growth and gross marginsand, therefore, our profitability, cash flows and capital resources could bematerially adversely affected.

Revenue recognition isalso subject to provisions based on the probability of collection of therelated trade accounts receivable. We continuously evaluate the potential ofthe collectibility of trade receivables by reviewing such factors asdeterioration in the operating results, financial condition, or bankruptcyfilings, of our customers. As a result of this review process, we record baddebt provisions to adjust the related receivables’ carrying amount to anestimated realizable value. Provisions for bad debts are also recorded due tothe review of other factors, including the length of time the receivables arepast due, historical experience and other factors obtained during the conductof collection efforts. If circumstances change regarding our specific customerson an individual basis, or if demand for Internet direct marketing softens, orif the U.S. economy stumbles, our estimates for bad debt provisions could befurther increased, which could adversely affect our operating margins,profitability, cash flows and capital resources.

**MajorCustomers and Disposition of Majority-owned Subsidiary**

During the three month period ended February 28,2005, we had nine customers in our E-commerce segment accounting forapproximately $3.8 million or 28.5% of consolidated net revenues andapproximately $2.8 million, or 43% of consolidated net accounts receivable asof February 28, 2005. The nine customers accounted for 7.9%, 3.3%, 3.0%,2.7%, 2.6%, 2.6%, 2.3%, 2.3% and 2.0% of consolidated net revenue for thatthree month period.

During the three month period ended February 29,2004, we had nine customers in our E-commerce segment accounting forapproximately $3.2 million or 44.4% of consolidated net revenue andapproximately $2.3 million or 55% of consolidated net accounts receivable as ofFebruary 29, 2004. The nine customers accounted for 13.5%, 8.8%, 4.8%,4.8%, 4.0%, 2.3%, 2.0%, 2.0% and 2.0% of consolidated net revenue for thatthree month period.

Regarding the balance of our customer base, no singlecustomer had net revenues that equaled or exceeded 2.0% of consolidated netrevenues for the three month period ended February 28, 2005 or for thethree month period ended February 29, 2004. During the year ended November 30,2003, our business model caused us to move away from significant single, ormaterial multiple, customer reliance, and therefore minimized the riskregarding singular customer loss.

In the three months ended February 28,2005, 17.2% of our revenue was derived from our proprietary products: 14.6%from iMatchUp.com, our online dating sites, and 2.6% from our LEC BilledProduct segment’s proprietary products.

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**Impairmentof Goodwill, Other Intangibles and investment Portfolio Could Impact net Income**

We carry goodwill andother identifiable intangibles on our balance sheet arising from current andprior-year acquisitions. We are required to review, at least annually goodwillfor any asset impairment. If the review of the goodwill related to the subsidiariesorganized to acquire such assets determines that such goodwill is impaired,then we will be required to recognize an impairment charge on such goodwillnecessary to reduce the carrying value of the goodwill to its net realizablevalue. Should events occur that would give rise to such impairment charge, wewould recognize decreased profitability to the extent of such adjustment. Cashflows would not be directly affected by the impairment charge, but cash flowswould, most likely, be adversely affected as a result of the facts andcircumstances that created the impairment charge.

**MarketFluctuation and Debt Repayment Risk of Marketable Securities InvestmentPortfolio**

We maintain an investmentportfolio that is managed by prominent financial institutions. The portfolioincludes high-grade corporate commercial paper and auction rate securities, andcommon stock equities, all of which are held for varying periods of time,pursuant to maturity dates, market conditions and other factors. The fair valueof our investments in the common stock of publicly traded companies as of February 28,2005 amounted to approximately $1.7 million. These investments are subject tomarket price volatility, in addition to the potential for business failure atthe company level. Moreover, due to the economic downturn and difficulties thatmay be faced by some of the companies in which we have investments, ourinvestment portfolio could be further impaired by the failure of such companiesto fulfill their responsibility of adhering to the repayment of principal uponmaturity. Additionally, our cash flows and interest income could be negativelyimpacted by Federal Reserve Bank interest rate reductions, if any.

**Item 4.**                        Controlsand Procedures

(a)    Evaluationof disclosure controls and procedures.

Our Chief ExecutiveOfficer and Chief Financial Officer, after evaluating the effectiveness of ourdisclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and15d-15(e)) as of the end of the period covered by this Quarterly Report,have concluded that as of that date, our disclosure controls and procedureswere adequate and effective to ensure that information required to be disclosedby us in the reports we file or submit with the Securities and ExchangeCommission is recorded, processed, summarized and reported within the timeperiods specified in the Securities and Exchange Commission’s rules andforms.

(b)   Changes ininternal control over financial reporting.

There were no changes inour internal control over financial reporting identified in connection with theevaluation required by Exchange Act Rules 13a-15(d) and 15d-15that occurred during the period covered by this Quarterly Report that hasmaterially affected, or is reasonably likely to materially affect, our internalcontrol over financial reporting.

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**PART II**

**OTHER INFORMATION**

**Item 1.**                        LegalProceedings

We are subject to legalproceedings, lawsuits and other claims, brought by: (1) consumers of ourproducts and services; (2) our clients; (3) consumers of our clients’products and services; and (4) others bringing claims that arise in thenormal course of our business. Legal proceedings are subject to numerousuncertainties rendering the prediction of their outcome difficult. As a resultof such uncertainty, we are unable to estimate the ultimate outcome of any ofthe subsequently mentioned claims, and, accordingly, no provision for loss hasbeen recorded. We believe that individually, and in the aggregate, the ultimatesettlement of the subsequently mentioned claims should not have a materialadverse effect on our consolidated financial position, results of operations orcash flows.

*Plasmanet*

On November 21, 2002,Plasmanet, Inc., one of our competitors, commenced an action allegingpatent infringement and misappropriation of trade secrets entitled *Plasmanet, Inc. v. Apax Partners, Inc., etal.,* Case No. 02 Civ 9290 (S.D.N.Y.). The complaint soughtinjunctive relief and unspecified money damages. We asserted counterclaims,inter alia, to declare Plasmanet’s patent invalid. In December 2003, thecomplaint was dismissed with prejudice with respect to Plasmanet’s patentinfringement claim and our counterclaims, and without prejudice with respect tothe misappropriation of trade secrets claim. Such misappropriation claim wasreasserted by Plasmanet in New York court (Sup. Ct. N.Y. Co., January 27,2004, Index No. 60021-04). We filed a motion to dismiss this claimwhich the court granted. Judgment was entered dismissing the state law claimsand the period in which to appeal has expired such that the action has beenconcluded.

*Qwest*

Qwest Communications, Inc. notified us of anindemnification claim relating to a class action filed against Qwest inMinnesota, *Bindner v. LCI InternationalTelecom Corp. et al.*, District Court of Minnesota, County of Sibley,Case No. C0-00-242 (the “Class Action”). In that action,plaintiffs claimed that from September 1998 to July 1999, they weremisled when they were solicited to change their long distance carrier to Qwest.They asserted that they were not told that they would have to stay at certainhotels and pay their regular rates as part of a promotion involving freeairline tickets. We introduced the promotion (“Fly Free America”) to Qwest, andwere retained by Qwest to operate the telemarketing campaign pursuant to ourAgreement. In or about May 2000, we and Qwest entered into an agreementterminating the Agreement and settling the amount due us (the “May 2000Agreement”). The Agreement and the May 2000 Agreement contain languagethat Qwest claims obligates us to indemnify Qwest for the losses it sustainedby reason of this class action. We maintain that we have no liability in thematter.

Fraud claims in the class action were dismissed,leaving breach of contract and false advertising claims. The court certifiedthe class and Qwest, without our consent, agreed to settle the Class Action.The court approved the settlement agreement, stated that there was no findingof any liability against Qwest, and approved the attorneys’ fees for plaintiffs’counsel. No appeal was taken so that the Class Action has been concluded.

In November 2002, we commenced an arbitrationagainst Qwest to recover certain amounts held in escrow that were due uspursuant to the May 2000 Agreement. In December 2002, Qwest filedcounterclaims in the arbitration relating to the Fly Free America program.Qwest asserts that in connection with the Class Action, we must indemnifyit for $3.4 million in Qwest attorneys’ fees; $600,000 in fees for counselto the plaintiffs in the Class Action; and $500,000 in settlement paymentsto 

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Class members. Qwestalso seeks reimbursement of approximately $3.1 million it paid us pursuantto the May 2000 Agreement. Initially Qwest also sought to recoverapproximately $1.5 million of fines and penalties it claimed it paid tovarious attorneys general; Qwest has now withdrawn that claim.

A panel of arbitrators wasappointed in December 2003. The panel established a schedule forsubstantive motions and for hearings in June 2004. The arbitrators alsoprovided for exchanges of information in the arbitration subject to Qwest’sright to seek to prevent such exchanges. Qwest moved to prevent exchanges ofinformation and this application was granted. Qwest moved for summary judgmentwith respect to its indemnification counterclaim. That motion was denied. Webelieve that there is no merit to Qwest’s counterclaims and intend vigorouslyto defend against them, as well as to pursue our claims for payments due to usunder the May 2000 Agreement. The arbitration hearing has been scheduledfor the week of June 20, 2005.

*ColumbiaHouse/Rydel*

In or about August 2002, Columbia House, one ofour clients, notified us of an indemnification claim relating to a class actionfiled against Columbia House, among others, in Illinois, *Rydel v. Comtrad Industries, Inc. et al.*,Circuit Court of Cook County, Illinois, No. 02 CH 13269. In that action,plaintiff claims to have received unsolicited commercial e-mail from, amongothers, Columbia House, in violation of Illinois law, and asserts two basicclaims against Columbia House, one for violation of Illinois’ Consumers FraudStatute, the second for violation of Illinois’ Electronic Mail Act. ColumbiaHouse advised us that it believes that the email in question was not approvedby Columbia House when it was sent, and asserted a claim for indemnificationagainst us pursuant to our contract. We and Columbia House agreed to deferresolution of the indemnification claim (and reserved each of our respectiverights). Columbia House is defending against the class action. Its motion todismiss was granted as to the Consumer Fraud claim, but denied as to theElectronic Mail Act claim. The plaintiff has appealed the partial dismissal.

In or about January 2003, we were named as adefendant in the *Rydel* classaction. In an additional count in the complaint, the plaintiff asserted that weviolated the Illinois Consumer Fraud and Deceptive Business Practices Act byproviding to a co-defendant a list of consumers who had consented to receivecommercial e-mails when, the complaint alleges, they had not. The complaintsought injunctive relief and unspecified damages. Our motion to dismiss theclaim as against us was granted in June 2003, and the plaintiff filed anappeal.

In late 2004, the appellate court affirmed thedecision below, so that the claim against us is dismissed; the Consumer Fraudclaim against Columbia House is dismissed; and the Electronic Mail Act claimagainst Columbia House remains. The plaintiff has asked the appellate court toreconsider its decision and all parties await a ruling. We believe that thereis no merit to plaintiff’s claims, and, in the event the dismissal of the claimagainst us is reversed, we intend to vigorously defend against it.

As stated above, we areunable to determine the ultimate outcomes of any of the foregoing claims ordemands, and, accordingly, no provision for loss has been recorded in thefinancial statements included in this Report.

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**Item 6.**                        Exhibits
| Exhibit  Number | ** **                                                                    | ** ** | ** ** |
|-----------------|-------------------------------------------------------------------------------|------------|------------|
| 3.1.1           | Articles of Incorporation of the Company, as  amended(1)                      |
| 3.1.2           | Amendment to the Articles of Incorporation of the  Company(2)                 |
| 3.2             | By-Laws of the Company(3)                                                     |
| 31.1            | Rule 13a-14(a)/15d-14(a) Certification  of Chief Executive Officer* |
| 31.2            | Rule 13a-14(a)/15d-14(a) Certification  of Chief Financial Officer* |
| 32.1            | Section 1350 Certification of Chief Executive  Officer*                  |
| 32.2            | Section 1350 Certification of Chief Financial  Officer*                  |

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*                    Filedherewith.

(1)          Filed as an Exhibit tothe Company’s Registration Statement on Form 8-A, dated October 23,1995, and incorporated herein by reference.

(2)          Filed as an Exhibit tothe Company’s Quarterly Report on Form 10-Q for the fiscal quarterended August 31, 1998, and incorporated herein by reference.

(3)          Filed as an Exhibit tothe Company’s Registration Statement on Form S-1 (the “S-1Registration Statement”), dated September 6, 1995 (File No. 33-96632),and incorporated herein by reference.

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**SIGNATURES**

Pursuantto the requirements of the Securities Exchange Act of 1934, the Registrant hasduly caused this report to be signed on its behalf by the undersigned thereuntoduly authorized.
|                           | TRAFFIX, INC.                        |
|---------------------------|--------------------------------------|
| ** **                | By:                                  | /s/ JEFFREY L. SCHWARTZ |   |
| ** **                | Jeffrey L.  Schwartz                 |
| ** **                | *Chairman  and CEO Chairman and CEO* |
| Date: April 14, 2005 | *(Principal  Executive Officer)*     |
| ** **                | By:                                  | /s/ DANIEL HARVEY |   |
| ** **                | Daniel Harvey                        |
| ** **                | *Chief  Financial Officer*           |
| Date: April 14, 2005 | *(Principal  Financial Officer)*     |
|                           |                                      |  |  |  |

 

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**Exhibit Index**
| Exhibit  Number | ** **                                                          | ** ** | ** ** |
|-----------------|---------------------------------------------------------------------|------------|------------|
| 3.1.1           | Articles of Incorporation of the Company, as  amended.(1)           |
| 3.1.2           | Amendment to the  Articles of Incorporation of the Company.(2)      |
| 3.2             | By-Laws of  the Company.(3)                                         |
| 31.1            | Rule 13a-14(a)/15d-14(a)  Certification of Chief Executive Officer* |
| 31.2            | Rule 13a-14(a)/15d-14(a)  Certification of Chief Financial Officer* |
| 32.1            | Section 1350  Certification of Chief Executive Officer*             |
| 32.2            | Section 1350  Certification of Chief Financial Officer*             |

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*                    Filedherewith.

(1)          Filed as an Exhibit tothe Company’s Registration Statement on Form 8-A, dated October 23, 1995, andincorporated herein by reference.

(2)          Filed as an Exhibit tothe Company’s Quarterly Report on Form 10-Q for the fiscal quarter ended August31, 1998, and incorporated herein by reference.

(3)          Filed as an Exhibit tothe Company’s Registration Statement on Form S-1 (the “S-1 RegistrationStatement”), dated September 6, 1995 (File No. 33-96632), and incorporatedherein by reference.

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