**UNITEDSTATES SECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

 

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**FORM 10 - Q**

 

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**QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OFTHE SECURITIES EXCHANGE ACT OF 1934.**

 

**For the quarterly period ended June 30, 2004.**

 

**005-79915**

**(Commission File Number)**

 

**InfoSonics Corporation**

(Exact name of registrant as specified in its charter)

 
| **Maryland**                                    |   | **33-0599368**                       |
|-------------------------------------------------|--------|--------------------------------------|
| (State or other jurisdiction of  incorporation) |   | (IRS Employer Identification Number) |

 

**5880 Pacific Center BlvdSan Diego, CA 92121**

(Addressof principal executive offices including zip code)

 

**(858) 373-1600**

(Registrant’stelephone number, including area code)

 

**Not Applicable**

(FormerName or Former Address, if Changed Since Last Report)

 

Indicateby check mark whether the registrant (1) has filed all reports required to befiled by Section 13 or 15(d) of the Exchange Act 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 for thepast 90 days.

 

Yesý    No o

 

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

 

Yes o    No ý

 

As of August 12, 2004, theRegistrant had 5,212,000 shares outstanding of its $.001 par value common stock.

 

 

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**InfoSonicsCorporation**

 

**QuarterlyReport on FORM 10-Q For The Period Ended**

 

### **June 30, 2004**

### ** **

**Table ofContents**

 
| **PART I. FINANCIAL INFORMATION** |
|-----------------------------------|
|                              |   |   |
| Item 1.                           | Financial Statements |   |
|                              |   |   |
|                              | Consolidated Balance Sheets  as of June 30, 2004 (unaudited) and December 31, 2003 |   |
|                              |   |   |
|                              | Consolidated  Statements of Operations for the Three Months and Six Months Ended  June 30, 2004 (unaudited) and 2003 (unaudited) |   |
|                              |   |   |
|                              | Consolidated  Statements of Cash Flows for the Six Months Ended  June 30, 2004 (unaudited) and 2003 (unaudited) |   |
|                              |   |   |
|                              | Notes to  Consolidated Financial Statements |   |
|                              |   |   |
| Item 2.                           | Management’s  Discussion and Analysis of Financial Condition and Results of Operations |   |
|                              |   |   |
| Item  3.                          | Quantitative  and Qualitative Disclosures About Market Risk |   |
|                              |   |   |
| Item 4.                           | Controls and  Procedures |   |
|                              |   |   |
| **PART II. OTHER INFORMATION**    |
|                              |   |   |
| Item 1.                           | Legal Proceedings |   |
|                              |   |   |
| Item  2.                          | Changes  in Securities and Use of Proceeds |   |
|                              |   |   |
| Item 3.                           | Defaults Upon  Senior Securites |   |
|                              |   |   |
| Item 6.                           | Exhibits and  Reports on Form 8-K |   |
|                              |   |
| Signatures                        |   |
|                              |   |
| Exhibit  31.1                     |   |
|                              |   |
| Exhibit  32.1                     |   |

 

2

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**Part I.  FINANCIALINFORMATION**

 

## **Item 1.  FinancialStatements**

## ** **

**InfoSonicsCorporation and subsidiaries**

**ConsolidatedBalance Sheets**

 
|                                                                                                                                                            |   | **June 30,  2004** |           | **December 31,  2003** |   |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|-------------------------|----------------|-----------------------------|--------|
|                                                                                                                                                            |   | **(unaudited)**         |           | **(as restated *)**         |   |
| **Current assets**                                                                                                                                              |   |                    |           |                        |   |
| Cash and cash equivalents                                                                                                                                       |   | $                       | 9,513,961      |                        | $      | 446,033 |   |
| Trade accounts receivable, net of allowance for doubtful accounts of  $255,895 (unaudited), and $359,990 and charge-backs of $388,962 (unaudited)  and $549,006 |   | 6,793,386               |           | 9,371,490                   |   |
| Inventory, net of reserves of $112,467 (unaudited), and $78,480                                                                                                 |   | 2,840,279               |           | 1,694,420                   |   |
| Prepaid expenses                                                                                                                                                |   | 1,710,790               |           | 202,363                     |   |
| Deferred tax assets                                                                                                                                             |   | 515,650                 |           | 515,650                     |   |
|                                                                                                                                                            |   |                    |           |                        |   |
| Total current assets                                                                                                                                            |   | 21,374,066              |           | 12,229,956                  |   |
|                                                                                                                                                            |   |                    |           |                        |   |
| **Property and equipment**, net                                                                                                                                 |   | 237,645                 |           | 90,579                      |   |
| **Goodwill**                                                                                                                                                    |   | 181,994                 |           | 181,994                     |   |
| **Deferred offering costs**                                                                                                                                     |   | —                  |           | 162,913                     |   |
| **Other assets**                                                                                                                                                |   | 86,272                  |           | 32,775                      |   |
|                                                                                                                                                            |   |                    |           |                        |   |
| **Total assets**                                                                                                                                                |   | **$**                   | **21,879,977** | ** **                  | **$**  | **12,698,217** | ** ** |

 

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** Refer to Note3, Restatement of Consolidated Financial Statements.*

 

*See accompanyingnotes.*

 

3

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**InfoSonicsCorporation and Subsidiaries**

**Consolidated Balance Sheets**

 

**LIABILITIES AND STOCKHOLDERS’ EQUITY**

 
|                                                                                                                            |   | **June 30,  2004** |           | **December 31,  2003** |   |
|---------------------------------------------------------------------------------------------------------------------------------|--------|-------------------------|----------------|-----------------------------|--------|
|                                                                                                                            |   | **(unaudited)**         |           | **(as restated *)**         |   |
| **Current liabilities**                                                                                                         |   |                    |           |                        |   |
| Line of credit                                                                                                                  |   | $                       | 3,644,617      |                        | $      | 5,536,432 |   |
| Book Overdraft                                                                                                                  |   | —                  |           | 867,555                     |   |
| Accounts payable                                                                                                                |   | 4,601,202               |           | 2,671,359                   |   |
| Accrued expenses                                                                                                                |   | 336,861                 |           | 264,747                     |   |
| Income taxes payable                                                                                                            |   | 440,832                 |           | 930,610                     |   |
| Current portion of notes payable – related parties                                                                         |   | 30,000                  |           | 30,000                      |   |
|                                                                                                                            |   |                    |           |                        |   |
| Total current liabilities                                                                                                       |   | 9,053,512               |           | 10,300,703                  |   |
|                                                                                                                            |   |                    |           |                        |   |
| Total liabilities                                                                                                               |   | 9,053,512               |           | 10,300,703                  |   |
|                                                                                                                            |   |                    |           |                        |   |
| **Stockholders’ equity**                                                                                                   |   |                    |           |                        |   |
| Preferred stock, $0.001 par value  10,000,000 shares authorized, and 0 and 0 shares issued and outstanding                      |   | —                  |           | —                      |   |
| Common stock, $0.001 par value 40,000,000 shares  Authorized; 5,212,000 (unaudited) and 3,200,000 shares issued and outstanding |   | 5,212                   |           | 3,200                       |   |
| Additional paid-in capital                                                                                                      |   | 10,529,652              |           | 528,263                     |   |
| Retained earnings                                                                                                               |   | 2,291,601               |           | 1,866,051                   |   |
|                                                                                                                            |   |                    |           |                        |   |
| Total stockholders’ equity                                                                                                 |   | 12,826,465              |           | 2,397,514                   |   |
|                                                                                                                            |   |                    |           |                        |   |
| **Total liabilities and stockholders’ equity**                                                                             |   | **$**                   | **21,879,977** | ** **                  | **$**  | **12,698,217** | ** ** |

 

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** Refer to Note3, Restatement of Consolidated Financial Statements.*

 

*See accompanyingnotes.*

 

4

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**InfoSonicsCorporation and Subsidiaries**

**ConsolidatedStatements of Income**

 
|                                                       |   | **For the Three Months Ended  June 30,** |        | **For the Six Months Ended  June 30,** |       |
|------------------------------------------------------------|--------|-----------------------------------------------|-------------|---------------------------------------------|------------|
|                                                       |   | **2004**                                      |        | **2003**                                    |       | **2004** |   | **2003** |   |
|                                                       |   | **(unaudited)**                               |        | **(unaudited)**                             |       | **(unaudited)** |   | **(unaudited)** |   |
|                                                       |   |                                          |        |                                        |       |   |   |   |   |
| **Net sales**                                              |   | $                                             | 18,413,700  |                                        | $          | 10,459,063 |   | $ | 38,150,823 |   | $ | 26,227,696 |   |
|                                                       |   |                                          |        |                                        |       |   |   |   |   |
| **Cost of sales**                                          |   | 16,392,776                                    |        | 9,256,096                                   |       | 34,088,717 |   | 23,478,465 |   |
|                                                       |   |                                          |        |                                        |       |   |   |   |   |
| **Gross profit**                                           |   | 2,020,924                                     |        | 1,202,967                                   |       | 4,062,106 |   | 2,749,231 |   |
|                                                       |   |                                          |        |                                        |       |   |   |   |   |
| **Operating expenses**                                     |   | 1,631,595                                     |        | 1,126,842                                   |       | 3,309,971 |   | 2,409,770 |   |
|                                                       |   |                                          |        |                                        |       |   |   |   |   |
| **Income from operations**                                 |   | 389,329                                       |        | 76,125                                      |       | 752,135 |   | 339,461 |   |
|                                                       |   |                                          |        |                                        |       |   |   |   |   |
| **Other income (expense)**                                 |   |                                          |        |                                        |       |   |   |   |   |
| Interest expense                                           |   | (40,737                                       | )           | (26,452                                     | )          | (89,850 | ) | (58,861 | ) |
|                                                       |   |                                          |        |                                        |       |   |   |   |   |
| **Income before provision for income taxes**               |   | 348,592                                       |        | 49,673                                      |       | 662,285 |   | 280,600 |   |
|                                                       |   |                                          |        |                                        |       |   |   |   |   |
| **Provision for income taxes**                             |   | 118,977                                       |        | 800                                         |       | 236,735 |   | 94,278 |   |
|                                                       |   |                                          |        |                                        |       |   |   |   |   |
| **Net income**                                             |   | **$**                                         | **229,615** | ** **                                  | **$**      | **48,873** | ** ** | **$** | **425,550** | ** ** | **$** | **186,322** | ** ** |
|                                                       |   |                                          |        |                                        |       |   |   |   |   |
| **Basic earnings per share**                               |   | **$**                                         | **0.07**    | ** **                                  | **$**      | **0.02** | ** ** | **$** | **0.13** | ** ** | **$** | **0.06** | ** ** |
|                                                       |   |                                          |        |                                        |       |   |   |   |   |
| **Diluted earnings per share**                             |   | **$**                                         | **0.05**    | ** **                                  | **$**      | **0.01** | ** ** | **$** | **0.10** | ** ** | **$** | **0.05** | ** ** |
|                                                       |   |                                          |        |                                        |       |   |   |   |   |
| **Basic weighted-average number of shares  outstanding**   |   | **3,500,889**                                 | ** **  | **3,200,000**                               | ** ** | **3,353,011** | ** ** | **3,200,000** | ** ** |
|                                                       |   |                                          |        |                                        |       |   |   |   |   |
| **Diluted weighted-average number of shares  outstanding** |   | **4,217,217**                                 | ** **  | **3,908,098**                               | ** ** | **4,069,339** | ** ** | **3,908,098** | ** ** |

 

*See accompanyingnotes*.

 

5

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**InfoSonicsCorporation and Subsidiaries**

**ConsolidatedStatements of Cash Flows**

 
|                                                                                                        |   | **For the Six Months Ended  June 30,** |          |
|-------------------------------------------------------------------------------------------------------------|--------|---------------------------------------------|---------------|
|                                                                                                        |   | **2004**                                    |          | **2003** |   |
|                                                                                                        |   | **(unaudited)**                             |          | **(unaudited)** |   |
| **Cash flows from operating activities**                                                                    |   |                                        |          |   |   |
| Net income                                                                                                  |   | $                                           | 425,550       |   | $ | 186,322 |   |
| Adjustments to reconcile net income from operations to net cash  provided by (used in) operating activities |   |                                        |          |   |   |
| Depreciation and amortization                                                                               |   | 17,676                                      |          | 12,322 |   |
| Provision for bad debt                                                                                      |   | (104,095                                    | )             | 93,244 |   |
| Provision for charge-backs                                                                                  |   | (160,044                                    | )             | 68,070 |   |
| Provision for obsolete inventory                                                                            |   | 33,987                                      |          | 20,217 |   |
| Loss on disposal of property, plant and equipment                                                           |   | 27,258                                      |          | — |   |
| (Increase) decrease in                                                                                      |   |                                        |          |   |   |
| Trade accounts receivable                                                                                   |   | 2,842,243                                   |          | (2,396,232 | ) |
| Inventory                                                                                                   |   | (1,179,846                                  | )             | (679,404 | ) |
| Prepaid expenses                                                                                            |   | (1,508,427                                  | )             | 48,676 |   |
| Other assets                                                                                                |   | (53,497                                     | )             | 4,244 |   |
| Increase (decrease) in                                                                                      |   |                                        |          |   |   |
| Accounts payable                                                                                            |   | 1,929,843                                   |          | 1,103,305 |   |
| Accrued expenses                                                                                            |   | 72,114                                      |          | (211,687 | ) |
| Income tax liabilities                                                                                      |   | (489,778                                    | )             | — |   |
| Deferred Revenue                                                                                            |   | —                                      |          | 120,000 |   |
|                                                                                                        |   |                                        |          |   |   |
| Net cash provided by (used in) operating activities                                                         |   | 1,852,984                                   |          | (1,630,923 | ) |
|                                                                                                        |   |                                        |          |   |   |
| **Cash flows from investing activities**                                                                    |   |                                        |          |   |   |
| Purchase of property and equipment                                                                          |   | $                                           | (192,000      | ) | $ | (1,667 | ) |
|                                                                                                        |   |                                        |          |   |   |
| Net cash (used in) investing activities                                                                     |   | (192,000                                    | )             | (1,667 | ) |
|                                                                                                        |   |                                        |          |   |   |
| **Cash flows from financing activities**                                                                    |   |                                        |          |   |   |
| Bank overdraft                                                                                              |   | (867,555                                    | )             | — |   |
| Borrowings from line of credit                                                                              |   | 14,200,736                                  |          | 7,001,164 |   |
| Payments on line of credit                                                                                  |   | (16,092,551                                 | )             | (6,259,051 | ) |
| Payments on subordinated notes payable – related parties                                               |   | —                                      |          | (87,742 | ) |
| Cash paid for deferred offering costs                                                                       |   | (1,887,686                                  | )             | (112,260 | ) |
| Cash received for stock                                                                                     |   | 12,054,000                                  |          | — |   |
|                                                                                                        |   |                                        |          |   |   |
| Net cash provided by financing activities                                                                   |   | 7,406,944                                   |          | 542,111 |   |
|                                                                                                        |   |                                        |          |   |   |
| Net increase (decrease) in cash and cash equivalents                                                        |   | 9,067,928                                   |          | (1,090,479 | ) |
|                                                                                                        |   |                                        |          |   |   |
| **Cash and cash equivalents, beginning of  period**                                                         |   | 446,033                                     |          | 1,268,611 |   |
|                                                                                                        |   |                                        |          |   |   |
| **Cash and cash equivalents, end of period**                                                                |   | **$**                                       | **9,513,961** | ** ** | **$** | **178,132** | ** ** |

 

*See accompanyingnotes*.

 

6

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**InfoSonicsCorporation**

**Notes toConsolidated Financial Statements**

**June 30,2004**

 

## **NOTE 1 - Basis of Presentation**

## ** **

The accompanying unauditedConsolidated Financial Statements have been prepared in accordance withaccounting principles generally accepted in the United States for interimfinancial information and with the instructions to Form 10-Q andArticle 10 of Regulation S-X of the Securities Exchange Act of 1934.Accordingly, they do not include all of the information and footnotes requiredby accounting principles generally accepted in the United States for completefinancial statements. The preparation of financial statements requiresmanagement to make estimates and assumptions that affect amounts reported inthe financial statements and accompanying notes. Actual results are likely todiffer from those estimates, but management does not believe such differenceswill materially affect the financial position or results of operations ofInfoSonics Corporation’s (the “Company”). The Consolidated Financial Statementsreflect all adjustments considered, in the opinion of the Company, necessary tofairly present the results for the periods. Such adjustments are of a normalrecurring nature.

 

The Consolidated FinancialStatements include the accounts of the Company and its subsidiaries, AxcessMobile and InfoSonics De Mexico, both of which are wholly-owned. Significantintercompany accounts and transactions have been eliminated in consolidation.

 

The Consolidated Balance Sheet atDecember 31, 2003 has been derived from the audited Consolidated FinancialStatements at that date, but does not include all of the information andfootnotes required by accounting principles generally accepted in the UnitedStates for complete financial statements. The unaudited Consolidated Statementsof Income for the three and six months ended June 30, 2004 andJune 30, 2003 and the unaudited Consolidated Statement of Cash Flows forthe six months ended June 30, 2004 and June 30, 2003 are notnecessarily indicative of the operating results or cash flows that may beexpected for the entire year.

 

Due to seasonal factors, theCompany’s interim results may not be indicative of annual results.

 

The Company has not changed itssignificant accounting policies from those disclosed in its financialstatements as of and for the year ended December 31, 2003 as included inits Registration Statement on Form S-1 that became effective on June 17,2004.  For further information,reference is made to the audited Consolidated Financial Statements and thenotes thereto included in the Company’s financial statements as of and for theyear ended December 31, 2003 as included in its Registration Statement onForm S-1 that became effective on June 17, 2004.

 

**NOTE 2.**

 

## **Use ofEstimates**

## ** **

Thepreparation of financial statements in conformity with accounting principlesgenerally accepted in the United States requires management to make estimatesand assumptions that affect the amounts reported in the financial statementsand accompanying notes. Actual results could differ from those estimates andsuch differences may be material to the financial statements

 

## **ConsolidationPolicy**

## ** **

Theaccompanying unaudited consolidated financial statements include the accountsof InfoSonics Corporation and its wholly-owned subsidiary corporations, AxcessMobile, LLC. and InfoSonics de Mexico, since their respective acquisitiondates, and after elimination of all material intercompany accounts,transactions, and profits.

 

**NOTE 3.  Restatement Of Consolidated FinancialStatements**

 

The Company has restated itsconsolidated financial statements for the following:

 

Deferred offering costs - TheCompany had previously included in deferring offering costs the audit feesrelating to the audits of its financial statements for the years endedDecember 31, 1999 – December 31, 2003. Such costs were incurredduring fiscal year 2003, in connection with the Company’s anticipated IPO.  However, subsequent to filing the Company’sregistration statement on Form S-1 File No. 333-112239 (“the Registration Statement”),the

 

7

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Company determined that the auditfees should be expensed in accordance with the SEC Staff Accounting Bulletin#5.  As a result, the Company determinedthat its consolidated financial statements required restatement. The restatementadjustment is reflected as a reduction of the Company’s deferred offering costsand an increase in the Company’s operating expenses. The after-tax effect ofthe related restatement adjustment decreased the Company’s net income for theyear ended December 31, 2003 by $44,143.

 

Stock option expense - OnDecember 31, 2003, the Company issued 120,000 shares of the Company’scommon stock to one of its stockholders for services rendered. The Company hadpreviously determined that the fair value of such options was based on thecurrent intrinsic value of the options as the exercise price of such optionswas based on a future event. As a result, a charge was not recorded inconnection with the issuance of such options as the exercise price of the stockoptions granted was not less than the fair market value of the Company’s commonstock price as of the date of grant. Subsequent to filing the Registration Statement, the Company determinedthat the accounting treatment of the options should be expensed in accordancewith SFAS No. 123 and EITF Issue No. 96-18.

 

Pursuant to SFAS No. 123 and EITFIssue No. 96-18, all transactions in which goods or services are theconsideration received for the issuance of equity instruments are accounted forbased on the fair value of the consideration received or the fair value of theequity instrument issued, whichever is more reliably measurable.  As a result, consolidated financialstatements were restated and the Black-Scholes option-pricing model was used todetermine the fair value of the stock option grant.  The restatement adjustment decreased the Company’s net income forthe year ended December 31, 2003 by $114,636

 

A summary of the fiscal 2003financial statement amounts impacted by the restatement adjustments is asfollows:

 
|                              |   | **As**         |      | **Restatement** |   |     |   |
|-----------------------------------|--------|----------------|-----------|-----------------|--------|----------|--------|
|                              |   | **Previously** |      | **Adjustments** |   |     |   |
|                              |   | **Reported**   |      | **A**           |   | **B**    |   | **As Restated** |   |
|                              |   |           |      |            |   |     |   |   |   |
| Year ended December 31, 2003 |   |           |      |            |   |     |   |   |   |
| Operating expenses                |   | $              | 5,615,800 |            | $      | 76,500   |   | $ | 190,534 |   | $ | 5,882,834 |   |
| Income from operations            |   | 2,176,773      |      | (76,500         | )      | (190,534 | )      | 1,909,739 |   |
| Provision for income taxes        |   | 725,898        |      | (32,357         | )      | (75,898  | )      | 617,643 |   |
| Net income                        |   | 1,297,793      |      | (44,143         | )      | (114,636 | )      | 1,139,014 |   |
| Basic earnings per share          |   | 0.41           |      | (0.01           | )      | (0.04    | )      | 0.36 |   |
| Diluted earnings per share        |   | 0.33           |      | (0.01           | )      | (0.03    | )      | 0.29 |   |
|                              |   |           |      |            |   |     |   |   |   |
| At December 31, 2003         |   |           |      |            |   |     |   |   |   |
| Deferred tax assets               |   | 439,752        |      | —          |   | 75,898   |   | 515,650 |   |
| Deferred offering costs           |   | 239,413        |      | (76,500         | )      | —   |   | 162,913 |   |
| Total assets                      |   | 12,698,819     |      | (76,500         | )      | 75,898   |   | 12,698,217 |   |
| Income taxes payable              |   | 962,967        |      | (32,357         | )      | —   |   | 930,610 |   |
| Total liabilities                 |   | 10,333,060     |      | (32,357         | )      | —   |   | 10,300,703 |   |
|                                   |        |                |           |                 |        |          |        |  |  |  |  |  |  |

 

RestatementAdjustments:

A                                    Toexpense fees relating to the audit of the Company’s financial statements inconjunction with its initial public offering.

B                                      Torecord the fair value of stock options granted to an outside consultant forservices rendered.

 

**NOTE 4.  Stock-BasedCompensation**

 

TheCompany has elected to follow APB Opinion No. 25 and relatedinterpretations in accounting for its stock options and grants since thealternative fair market value accounting provided for under Statement ofFinancial Accounting Standards (SFAS) No. 123 requires use of grantvaluation models that were not developed for use in valuing employee stockoptions and grants. Under APB Opinion No. 25, if the exercise price of theCompany’s stock grants and options equals or exceeds the fair value of theunderlying stock on the date of grant, no compensation expenses are recognized.

 

8

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Ifcompensation cost for the Company’s stock-based compensation plans had beendetermined based on the fair value at the grant dates for awards under thoseplans consistent with the method of SFAS No. 123, then the Company’s netincome for the three months and six months ended June 30, 2004 andJune 30, 2003, respectively, would have been adjusted to the pro formaamounts indicated below:

 
|                                                                                                                                                                             |   | **Quarter ended June 30,** |    | **Six Months ended June 30,** |   |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|---------------------------------|---------|------------------------------------|--------|
|                                                                                                                                                                             |   | **2004**                        |    | **2003**                           |   | **2004** |   | **2003** |   |
| Net income as reported                                                                                                                                                           |   | $                               | 229,615 |                               | $      | 48,873 |   | $ | 425,550 |   | $ | 186,322 |   |
|                                                                                                                                                                             |   |                            |    |                               |   |   |   |   |   |
| Stock-based employee compensation cost, net of related tax effects,  that would have been included in the determination of net income if the fair  value method had been applied |   | (22,963                         | )       | (20,628                            | )      | (45,927 | ) | (41,257 | ) |
| Pro forma                                                                                                                                                                        |   | $                               | 206,652 |                               | $      | 28,245 |   | $ | 379,623 |   | $ | 144,795 |   |
|                                                                                                                                                                             |   |                            |    |                               |   |   |   |   |   |
| Basic earnings per common share as reported                                                                                                                                      |   | $                               | 0.07    |                               | $      | 0.02 |   | $ | 0.13 |   | $ | 0.06 |   |
| Stock-based employee compensation cost, net of related tax effects,  that would have been included in the determination of net income if the fair  value method had been applied |   | $                               | (0.01   | )                                  | $      | (0.01 | ) | $ | (0.01 | ) | $ | (0.01 | ) |
| Pro forma                                                                                                                                                                        |   | $                               | 0.06    |                               | $      | 0.01 |   | $ | 0.12 |   | $ | 0.05 |   |
| Diluted earning per share                                                                                                                                                        |   |                            |    |                               |   |   |   |   |   |
| As reported                                                                                                                                                                      |   | $                               | 0.05    |                               | $      | 0.01 |   | $ | 0.10 |   | $ | 0.05 |   |
| Stock-based employee compensation cost, net of related tax effects,  that would have been included in the determination of net income if the fair  value method had been applied |   | $                               | (0.01   | )                                  | $      | (0.01 | ) | $ | (0.01 | ) | $ | (0.01 | ) |
| Pro forma                                                                                                                                                                        |   | $                               | 0.04    |                               | $      | — |   | $ | 0.09 |   | $ | 0.04 |   |

 

**NOTE 5.  Earnings PerShare**

 

The Company utilizes SFAS No. 128,‘‘Earnings per Share.’’ Basic earnings per share is computed by dividing incomeavailable to common stockholders by the weighted-average number of commonshares outstanding. Diluted earnings per share is computed similar to basicearnings per share except that the denominator is increased to include thenumber of additional common shares that would have been outstanding if thepotential common shares had been issued and if the additional common shareswere dilutive. Common equivalent shares are excluded from the computation iftheir effect is anti-dilutive. The Company’s common share equivalents consistof stock options.

 

Thefollowing table represents a reconciliation of the shares used to calculatebasic and diluted earnings per share for the respective periods indicated:

 
|                                                                                                       |   | **Three Months Ended** |    | **Six Months Ended**   |   |
|------------------------------------------------------------------------------------------------------------|--------|------------------------|---------|------------------------|--------|
|                                                                                                       |   | **June 30, 2004** |    | **June 30, 2003** |   | **June 30, 2004** |   | **June 30, 2003** |   |
|                                                                                                       |   |                   |    |                   |   |   |   |   |   |
| Numerator: Net Income (Loss)                                                                               |   | $                      | 229,615 |                   | $      | 48,873 |   | $ | 425,550 |   | $ | 186,322 |   |
| Denominator:                                                                                               |   |                   |    |                   |   |   |   |   |   |
| Denominator for basic earnings per share – weighted average shares                                    |   | 3,500,889              |    | 3,200,000              |   | 3,353,011 |   | 3,200,000 |   |
| Effect of dilutive securities                                                                              |   |                   |    |                   |   |   |   |   |   |
| Employee stock options                                                                                     |   | 716,328                |    | 708,098                |   | 716,328 |   | 708,098 |   |
| Denominator for diluted earnings per share – adjusted weighted  average shares and assumed conversion |   | 4,217,217              |    | 3,908,098              |   | 4,069,339 |   | 3,908,098 |   |
|                                                                                                       |   |                   |    |                   |   |   |   |   |   |
| Basic earnings (loss) per share                                                                            |   | $                      | 0.07    |                   | $      | 0.02 |   | $ | 0.13 |   | $ | 0.06 |   |
|                                                                                                       |   |                   |    |                   |   |   |   |   |   |
| Diluted earnings (loss) per share                                                                          |   | $                      | 0.05    |                   | $      | 0.01 |   | $ | 0.10 |   | $ | 0.05 |   |

 

9

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**NOTE 6.  Income Taxes**

 

SFAS No. 109, “ACCOUNTING FORINCOME TAXES”, establishes financial accounting and reporting standards for theeffect of income taxes. The objectives of accounting for income taxes are torecognize the amount of taxes payable or refundable for the current year anddeferred tax liabilities and assets for the future tax consequences of eventsthat have been recognized in an entity’s financial statements or tax returns.Judgment is required in assessing the future tax consequences of events thathave been recognized in our financial statements or tax returns. Fluctuationsin the actual outcome of these future tax consequences could materially impactour financial position or our results of operations.

 

**NOTE 7.  Inventory**

 

Inventoryis valued at the lower of cost or market using standard costs that approximateaverage cost.  Inventories are reviewedperiodically and items considered to be slow moving or obsolete are reduced toestimated net realizable value through an appropriate reserve.  Inventory consists of the following:

 
|              |   | **June 30,  2004** |      | **December 31,  2003** |   |
|-------------------|--------|-------------------------|-----------|-----------------------------|--------|
| Finished goods    |   | $                       | 2,952,746 |                        | $      | 1,773,260 |   |
| Inventory reserve |   | (112,467                | )         | (78,840                     | )      |
| Net inventory     |   | 2,840,279               |      | 1,694,420                   |   |
|                   |        |                         |           |                             |        |  |  |

 

## **NOTE 8.  RevolvingBank Loan Agreements and Notes Payable**

## ** **

TheCompany has available a line of credit from a bank, which allows the Companyand its subsidiaries to borrow up to a maximum of $7,500,000. The line ofcredit provides for advances not to exceed 85% of eligible domestic accountsreceivable and 70% to 90% of foreign insured accounts, ranging from 70% to 90%,depending on the country of the debtor. The majority of the debtors are domestic.  As of June 30, 2004, the Company’s available borrowingcapacity is $4,465,063, which represents the maximum line of credit lessrestricted receivables.

 

Interestis payable on a monthly basis at prime (4.0% at June 30, 2004) or at theLondon Inter-Bank Offering Rate (1.34% at June 30, 2004), plus 2.25% forthe first $500,000 and 2.5% for amounts over $500,000.  The line of credit is collateralized bysubstantially all of the assets of the Company, personally guaranteed by theCompany’s majority stockholder, and expires in May 2005.  In addition, to reporting and other nonfinancial covenants, the line of credit contains certain financial covenantswhich require the Company to maintain a tangible net worth of not less than$1,050,000, a quick ratio of not less than 0.7-to-1, a debt-to-net worth ratioof not greater than 5-to-1 and maintain a quarterly net income after taxes ofat least $1.  Management believes theCompany was in compliance with these covenants at June 30, 2004.  At December 31, 2003 and June 30,2004, the amounts drawn against the line of credit were $5,536,432, and$3,644,617 (unaudited), respectively.

 

TheCompany has a subordinated note payable to a non-director related party, whichis unsecured and at June 30, 2004 has a balance of $30,000 in principaldue.  The note bears interest at a rateof 15% per annum, is subordinated to the bank line and maturesDecember 2004.

 

## **NOTE 9.  EquityTransactions**

## ** **

Duringthe six months ended June 30, 2004, in connection with the Company’sinitial public offering, the Company issued 2,000,000 shares of common stockfor gross proceeds of $12,000,000.  TheCompany paid commissions and fees of $2,050,599 in connection with theoffering.

 

Duringthe year ended December 31, 2003, the Company entered into a consultingagreement with an advisor related to certain financial and advisory services.This agreement as amended in March 2004, provides for such services to berendered for a twelve month period following the initial public offering date.In connection with such financial and advisory services the Company will beobligated to compensate the consultant in the amount of $5,000 per month for aperiod of twelve months. In addition, the Company will issue options to purchase125,000 shares of the

 

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Company’scommon stock at an exercise price of 120% of the initial public offering price.The options will be exercisable for a period of three years following theeffective date of the initial public offering. This agreement was subsequentlyamended in April, 2004, at which time the Company cancelled the consultingagreement and hired the consultant as an employee of the Company all of thecompensation terms remained the same. As of June 30, 2004, no stock options have been issued inconnection with this transaction.

 

OnJune 17, 2004, the Company issued options to purchase 200,500 shares ofthe Company’s common stock to employees with an exercise price of $6.00 pershare. One-third of the options become exercisable on June 17, 2005, andthe remaining options will vest on a pro rata basis thereafter. A compensationcharge was not recorded in connection with the issuance of such options as theexercise price of the stock options granted was not less than the fair marketvalue of the Company’s stock price as of the date of grant.

 

## **NOTE 10.  RecentAccounting Pronouncements**

## ** **

InJanuary 2003, the FASB issued FASB Interpretation No. 46, “Consolidationof Variable Interest Entities” (“FIN 46”). This interpretation of AccountingResearch Bulletin No. 51, “Consolidated Financial Statements,” addressesconsolidation by business enterprises of variable interest entities withcertain characteristics. FIN 46 is effective immediately for all enterpriseswith variable interests in variable interest entities created afterJanuary 31, 2003, and is effective beginning with the September 30,2003, quarterly financial statements for all variable interests in a variableinterest entity created before February 1, 2003. The adoption of thisinterpretation did not have any impact on the Company’s financial position orresults of operations.

 

InApril 2003, the FASB issued Statement of Financial Accounting StandardsNo. 149, “Amendment of Statement 133 on Derivative Instruments and HedgingActivities” (“SFAS 149”). SFAS 149 amends Statement of Financial AccountingStandards No. 133, “Accounting for Derivative Instruments and HedgingActivities” (“SFAS 133”) for certain decisions made as part of the DerivativesImplementation Group process. SFAS 149 also amends SFAS 133 to incorporateclarifications of the definition of a derivative. This statement is effectivefor contracts entered into or modified after June 30, 2003, and forhedging relationships designated after June 30, 2003. The Company does notanticipate that the adoption of SFAS 149 will have a significant impact on theCompany’s financial position or results of operations.

 

InMay 2003, the FASB issued Statement of Financial Accounting Standards No. 150,“Accounting for Certain Financial Instruments with Characteristics of BothLiabilities and Equity” (“SFAS 150”). SFAS 150 establishes standards for theclassification and measurement of certain financial instruments withcharacteristics of both liabilities and equity. This Statement is effective forfinancial instruments entered into or modified after May 31, 2003, and iseffective for all affected financial instruments beginning with theSeptember 30, 2003, quarterly financial statements. The adoption of thisstatement did not have any impact on the Company’s financial position orresults of operations.

 

**NOTE 11. Segment Information**

 

SFASNo. 131 “Disclosure about Segments of an Enterprise and Related Information”requires that the Company disclose certain information about its operatingsegments where operating segments are defined as components of an enterpriseabout which separate financial information is available that is evaluatedregularly by the chief operating decision maker in deciding how to allocateresources and in assessing performance. Generally, financial information isrequired to be reported on the basis that is used internally for evaluatingsegment performance and deciding how to allocate resources to segments.

 

The Company has two business unitswhich have separate management and reporting infrastructures that offerdifferent products and services.  Thebusiness units have been aggregated into two reportable segments (wholesaledistribution of wireless telecommunication products and services and cellularphone subscriptions) the long-term financial performance of these reportablesegments is affected by similar economic conditions.  The wholesale distribution of wireless telecommunications productsand services consist of InfoSonics Corporation and Infosonics de Mexico. Thecellular phone subscriptions sales consist of Axcess Mobile.

 

The Company evaluates theperformance of its operating segments based on income from operations beforeincome taxes, accounting changes, non-recurring items, and interest income andexpense.

 

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Summarized financial informationconcerning the Company’s reportable segments is shown in the following tablesfor the three and six months ended June 30, 2004 and 2003.

 
|                          |   | **Three Months Ended June 30, 2004** |       |
|-------------------------------|--------|-------------------------------------------|------------|
|                          |   | **Infosonics**                            |       | **Axcess** |   | **Eliminations** |   | **Total** |   |
|                          |   | **(unaudited)**                           |       |
| Net sales                     |   | $                                         | 17,660,310 |   | $ | 755,315 |   | $ | (1,925 | ) | $ | 18,413,700 |   |
| Gross profit                  |   | 1,573,516                                 |       | 447,508 |   |   |   | 2,020,924 |   |
| Income (loss) from operations |   | 526,608                                   |       | (137,279 | ) |   |   | 389,329 |   |
| Identifiable assets           |   | 21,176,123                                |       | 945,938 |   | (242,085 | ) | 21,879,977 |   |
| Capital expenditures          |   | 77,043                                    |       | 11,405 |   |   |   | 88,448 |   |
| Depreciation and amortization |   | 6,429                                     |       | 3,751 |   |   |   | 10,180 |   |
|                               |        |                                           |            |  |  |  |  |  |  |  |  |  |  |

 
|                          |   | **Three Months Ended June 30, 2003** |       |
|-------------------------------|--------|-------------------------------------------|------------|
|                          |   | **Infosonics**                            |       | **Axcess** |   | **Eliminations** |   | **Total** |   |
|                          |   | **(unaudited)**                           |       |
| Net sales                     |   | $                                         | 10,149,111 |   | $ | 950,088 |   | $ | (640,136 | ) | $ | 10,459,063 |   |
| Gross profit                  |   | 707,197                                   |       | 495,770 |   |   |   | 1,202,967 |   |
| Income from operations        |   | 54,376                                    |       | 21,719 |   |   |   | 76,125 |   |
| Identifiable assets           |   | 7,732,677                                 |       | 839,013 |   | (551,663 | ) | 8,020,027 |   |
| Capital expenditures          |   | —                                    |       | 833 |   |   |   | 833 |   |
| Depreciation and amortization |   | 2,172                                     |       | 3,990 |   |   |   | 6,162 |   |
|                               |        |                                           |            |  |  |  |  |  |  |  |  |  |  |

 
|                          |   | **Six Months Ended June 30, 2004** |       |
|-------------------------------|--------|-----------------------------------------|------------|
|                          |   | **Infosonics**                          |       | **Axcess** |   | **Eliminations** |   | **Total** |   |
|                          |   | **(unaudited)**                         |       |
| Net sales                     |   | $                                       | 36,423,226 |   | $ | 1,749,120 |   | $ | (21,523 | ) | $ | 38,150,823 |   |
| Gross profit                  |   | 2,958,092                               |       | 1,104,014 |   |   |   | 4,062,106 |   |
| Income (loss) from operations |   | 920,304                                 |       | (168,169 | ) |   |   | 752,135 |   |
| Identifiable assets           |   | 21,176,124                              |       | 945,938 |   | (242,085 | ) | 21,879,977 |   |
| Capital expenditures          |   | 148,546                                 |       | 43,454 |   |   |   | 192,000 |   |
| Depreciation and amortization |   | 9,935                                   |       | 7,741 |   |   |   | 17,676 |   |
|                               |        |                                         |            |  |  |  |  |  |  |  |  |  |  |

 
|                          |   | **Six Months Ended June 30, 2003** |       |
|-------------------------------|--------|-----------------------------------------|------------|
|                          |   | **Infosonics**                          |       | **Axcess** |   | **Eliminations** |   | **Total** |   |
|                          |   | **(unaudited)**                         |       |
| Net sales                     |   | $                                       | 25,109,282 |   | $ | 1,879,340 |   | $ | (760,926 | ) | $ | 26,227,696 |   |
| Gross profit                  |   | 1,812,285                               |       | 936,946 |   |   |   | 2,749,231 |   |
| Income (loss) from operations |   | 377,657                                 |       | (68,195 | ) |   |   | 339,461 |   |
| Identifiable assets           |   | 7,732,677                               |       | 839,013 |   | (551,663 | ) | 8,020,027 |   |
| Capital expenditures          |   | —                                  |       | 1,667 |   |   |   | 1,667 |   |
| Depreciation and amortization |   | 4,344                                   |       | 7,978 |   |   |   | 12,322 |   |
|                               |        |                                         |            |  |  |  |  |  |  |  |  |  |  |

 

Geographicalrevenues for the three and six months ended June 30, 2004 andJune 30, 2003.

 
|          |   | **Three Months Ended** |       | **Six Months Ended**   |   |
|---------------|--------|------------------------|------------|------------------------|--------|
|          |   | **June 30, 2004** |       | **June 30, 2003** |   | **June 30, 2004** |   | **June 30, 2003** |   |
| United States |   | $                      | 17,758,876 |                   | $      | 8,524,195 |   | $ | 36,235,976 |   | $ | 23,158,101 |   |
| Latin America |   | 654,824                |       | 734,249                |   | 1,827,110 |   | 1,532,561 |   |
| Asia Pacific  |   | —                 |       | 1,200,619              |   | — |   | 1,517,034 |   |
| Europe        |   | —                 |       | —                 |   | 87,737 |   | 20,000 |   |
|               |        |                        |            |                        |        |  |  |  |  |  |  |  |  |

 

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**Item2.  Management’s Discussion****and Analysis ofResults of Operations and Financial Condition**

 

This discussion and analysis shouldbe read in conjunction with the accompanying Consolidated Financial Statementsand related notes.  Our discussion andanalysis of our financial condition and results of operations are based uponour consolidated financial statements, which have been prepared in accordancewith accounting principles generally accepted in the United States. Thepreparation of financial statements in conformity with accounting principlesgenerally accepted in the United States of America requires us to makeestimates and assumptions that affect the reported amounts of assets andliabilities, disclosure of any contingent liabilities at the financial statementdate and reported amounts of revenue and expenses during the reporting period.On an on-going basis we review our estimates and assumptions. Our estimateswere based on our historical experience and other assumptions that we believeto be reasonable under the circumstances. Actual results are likely to differfrom those estimates under different assumptions or conditions, but we do notbelieve such differences will materially affect our financial position orresults of operations. Our critical accounting policies, the policies webelieve are most important to the presentation of our financial statements andrequire the most difficult, subjective and complex judgments, are outlinedbelow in’’—Critical Accounting Policies,’’ and have not changed significantly.

 

In addition, certain statementsmade in this report may constitute “forward-looking statements”.  These forward-looking statements involveknown or unknown risks, uncertainties and other factors that may cause the actualresults, performance, or achievements of InfoSonics to be materially differentfrom any future results, performance or achievements expressed or implied bythe forward-looking statements. Specifically, 1) the actions ofcompetitors and customers and our ability to execute our business plans; and2) our ability to increase revenues and operating income is dependent uponour ability to continue to expand our current businesses and to enter newbusiness areas, general economic conditions, and other factors. You canidentify forward-looking statements by terminology such as “may,” “will,”“should,” “expects,” “intends,” “plans,” “anticipates,” “believes,”“estimates,” “predicts,” “potential,” “continues” or the negative of theseterms or other comparable terminology. Although we believe that theexpectations reflected in the forward-looking statements are reasonable, wecannot guarantee future results, levels of activity, performance orachievements.

 

**Overview**

 

InfoSonics is one of the largestdistributors of wireless handsets and accessories in the United States andLatin America.  We distribute productsof a number of manufacturers, including Audiovox, Kyocera, LG, Motorola, Nokia,Panasonic, Samsung, Sony-Ericsson and others. Our distribution services includethe purchasing, marketing, selling, warehousing, order assembly, programming,packing, shipping, and delivery of handsets for wireless telecommunicationsfrom manufacturers to agents, resellers, distributors, independent dealers andretailers in the United States and to wireless network operators and resellersin Latin America.

 

As a part of our distributionactivities, we perform value added services when requested by the customer.These services include but are not limited to programming, locking, softwareloading, packaging, and quality assurance testing.  We operate distribution hubs in San Diego, California and Miami,Florida. The San Diego facility primarily serves the needs of our West Coastand Midwest customers while the Florida location services customersprimarily on the East Coast and in Latin America.

 

In addition to our distributionservices, our wholly-owned subsidiary, Axcess Mobile, LLC, owns and operatesten retail kiosks in the San Diego, California area selling handsets,accessories and AT&T Wireless Services, Inc (‘‘AT&T Wireless’’)activation directly to end users.  Dueto the uncertainty surrounding the announced acquisition of AT&T Wirelessby Cingular Wireless LLC (‘‘Cingular’’), we are currently considering other possiblealternatives.  For example, theselocations could be utilized in the sales of other wireless carrierssuch as Cingular, T-Mobile or Verizon, and upon completion of the proposedCingular – AT&T acquisition, we should be able to clearly identify our bestpotential option.

 

Since our founding in 1994, we havegrown our business by focusing on the needs of our customers, developing andmaintaining close relationships with manufacturers, entering new markets, andsourcing new and innovative products, while maintaining close attention tooperational efficiencies and costs.

 

We successfully completed aninitial public offering of our shares of common stock in June 2004 andbecame a reporting company.  We arecurrently listed on the American Stock Exchange under the symbol “IFO”.

 

Due to seasonal factors, ourinterim results may not be indicative of annual results.  Our operating results are influenced byseveral seasonal factors, which may cause our revenues and operating results tofluctuate on a

 

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quarterly basis.  These fluctuations are a result of severalfactors, including but not limited to the timing and introduction of newproducts by our suppliers and competitors, promotions and subsidies by wirelessnetwork operators, purchasing patterns of customers and the timing of holidaysand other events effecting consumer demand.

 

**Areas ofManagement Focus and Performance Indicators**

 

We manage our business by focusingon the needs of our customers, developing and maintaining close relationshipswith manufacturers, entering new markets, and sourcing new and innovativeproducts, while maintaining close attention to operational efficiencies andcosts. The desired results of this focus are increased shipping volumes andimproved efficiencies to enable higher levels of profitability and earningsgrowth. Other areas that we focus on include management execution, employeedevelopment, customer service, risk management, legal and ethical complianceand corporate governance.

 

Performance indicators which arekey for the monitoring and management of our business include operating and netincome, cost of sales and gross profit percentage, operating expenses as apercent of revenues, and overall net sales growth. These items are specificallydiscussed further in this section. We make extensive use of our customizedinformation system to closely monitor all aspects of our business, includingcustomer relationship management, intelligent purchasing, inventory control,inventory flow, line item margin control for every order, and weighted averagecost and statistical data for every product, customer and supplier. We believea strong focus on providing better service to customers leads to increasedcustomer satisfaction and resulting customer retention and potential increases insales.

 

**Industry Trends,Challenges, Risks and Growth Opportunities**

 

According to Merrill Lynch“Wireless Handsets” dated June 4, 2004, in 2003 wireless handset sales inNorth and Latin America increased by 17% and 25% respectively, and areforecasted to increase 16% and 16% respectively in 2004. This 2004 projectionis based on worldwide sales of 600 million handsets sold for the full year2004; January to June 2004 sales are estimated to have been justunder 300 million.  A rapid decline inwireless handset sales growth could negatively impact our net sales. Higherthan anticipated growth in demand could strain our resources and affect ourability to meet these unanticipated demands.

 

Excess supply conditions can reducethe market prices of the products we sell and therefore affect our ability togenerate net sales and gross profit at historical levels and could affect thevalue of our inventory. Conversely, should manufacturers be unable to respondto an unanticipated increase in demand on a timely basis, we, along with othersin our industry, could experience supply constraints that would affect ourability to deliver product. We are unable to quantify these effects, as it isdifficult to predict future supply conditions and demand patterns which affectour ability to meet customer demand or sell handsets at an acceptable grossprofit.

 

**Company SpecificTrends, Challenges, Risks and Growth Opportunities**

 

In 2003, net sales increased by39.5%, and handsets sold increased by 12.7% compared with 2002.  For the six months ended June 30, 2004,net sales increased 45.5% and handsets sold increased 20.1% compared with thesix months ended June 30, 2003. Although we have incorporated growth intoour strategy, there can be no assurance these trends will continue. Similarly,while we have experienced high levels of growth in income from operations forthe six months ended June 30, 2004 (121.6%) and net income(128.4%)compared with June 30, 2003, we cannot anticipate future growth tobe at the same levels. Our strategy incorporates overall growth elements foreach aspect of our business, which we hope will result in continued earningsgrowth; however there can be no assurance this trend will continue. Potentialinvestment in growth opportunities and assumed additional risks could alter ourearnings trend.

 

**Risk Factors**

 

***Our operating results may varysignificantly, which may cause our stock price to fluctuate.***

 

Ouroperating results are influenced by a number of factors, which may cause ourrevenue and operating results to fluctuate. These factors include:

 

•                  promotions and subsidies by wireless networkoperators.

•                  the timing of introduction of new products byour suppliers and competitors;

•                  purchasing patterns of customers in differentmarkets;

•                  general economic conditions; and

•                  product availability and pricing.

 

14

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Bothour wholesale distribution and retail businesses historically have experiencedincreased sales during the third and the fourth quarters of the calendar yeardue to holiday gift buying. In addition, if unanticipated events occur,including delays in securing adequate inventories of competitive products attimes of peak sales or significant decreases in sales during these periods, itcould result in a material decrease in our revenues and losses or lowerprofits.

 

***We buy a significant amount of our productsfrom a limited number of suppliers, who may not provide us with competitiveproducts at reasonable prices when we need them in the future.***

 

Wepurchase wireless handsets and accessories principally from wirelesscommunications equipment manufacturers and distributors. We depend on thesesuppliers to provide us with adequate inventories of currently popular brandname products on a timely basis and on favorable pricing and other terms. Ouragreements with our principal suppliers are non-exclusive, require us tosatisfy minimum purchase requirements, can be terminated on short notice andprovide for certain territorial restrictions, as is common in our industry. Oursuppliers may not offer us competitive products on favorable terms or withtimely delivery. From time to time, we have been unable to obtain sufficientproduct supplies. Any failure or delay by our suppliers in supplying us withproducts on favorable terms may severely diminish our ability to obtain anddeliver products to our customers on a timely and competitive basis. If we loseany of our principal suppliers, or if these suppliers are unable to fulfill ourproduct needs, or if any principal supplier imposes substantial price increasesand alternative sources of supply are not readily available, it would have amaterial adverse effect on our results of operations.

 

***Cingular’s proposed acquisition of AT&TWireless may cause us to lose the ability to resell AT&T Wireless******service.***

 

Ourwholly owned subsidiary, Axcess Mobile, LLC, offers retail customers theopportunity to subscribe to AT&T Wireless services and to purchase handsetsand accessories. On February 17, 2004, AT&T Wireless announced that ithas entered into an agreement to be acquired by Cingular. Our agreement withAT&T Wireless provides that we agree to resell only AT&T Wirelessservice in the San Diego area. Although our relationship with AT&T Wirelesshas not changed since the date the proposed acquisition by Cingular wasannounced, we do not know how the acquisition will impact our business. Ouragreement with AT&T Wireless was effective July 1, 2003. For thequareter ended June 30, 2004, 4.1% of our consolidated revenues, or$755,315, were attributable to AT&T Wireless. Our distribution businessdoes not currently handle handsets for the AT&T network.

 

***The loss or reduction in orders fromprincipal customers or a reduction in prices we are able to charge these******customerswill have a negative impact upon our revenues and could cause our stock priceto decline.***

 

Ourtwo largest customers in the three months ended June 30, 2004 accountedfor approximately 12.0% and 6.8%, respectively, of our product sales in thelast fiscal year. Our two largest customers for the quarter endedMarch 31, 2004 accounted for 18.1% and 9.6%, respectively, of our productsales in the first quarter of 2004. The markets we serve are subject to severeprice competition. Additionally, our customers are not contractually obligatedto purchase product from us. For these and other reasons such as competitivepricing and competitive pressures, customers may seek to obtain products orservices from us at lower prices than we have been able to obtain from thesecustomers in the past. This could occur, for example, in the case of a customerpurchasing large quantities of a product from us, who then terminates thisrelationship because the customer can obtain a lower price by buying directlyfrom the manufacturer. The loss of any of our principal customers, a reductionin the amount of product or services our principal customers order from us orthe inability to maintain current terms, including price, with these or othercustomers could have an adverse effect on our financial condition, results ofoperations and liquidity. We have experienced losses of certain customersthrough industry consolidation and ordinary course of business and there can beno assurance that any of our customers will continue to purchase products or servicesfrom us or that their purchases will be at the same or greater levels than inprior periods.

 

15

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***Our future profitability depends on ourability to maintain existing margins and our ability to increase our sales,which we may not be able to do.***

 

Thegross margins that we realize on sales of wireless handsets could be reduceddue to increased competition or a growing industry emphasis on costcontainment. Therefore, our future profitability will depend on our ability tomaintain our margins or to increase our sales to help offset potential futuredeclines in margins. We may not be able to maintain existing margins forproducts or services offered by us or increase our sales. Our ability togenerate sales is based upon demand for wireless telecommunications productsand our having an adequate supply of these products. Even if our sales rates doincrease, the gross margins that we receive from our sales may not besufficient to make our future operations profitable or as profitable.

 

***Our business depends on the continuedtendency of wireless equipment manufacturers and network operators to outsourceaspects of their business to us.***

 

Ourbusiness depends in large part on wireless equipment manufacturers and networkoperators outsourcing some of their business functions to us. We providefunctions such as distribution, inventory management, customized packaging,activation management and other services. Certain wireless equipmentmanufacturers and network operators have elected, and others may elect, toundertake these services internally. Additionally, our customer service levels,industry consolidation, competition, deregulation, technological changes orother factors could reduce the degree to which members of the wirelesstelecommunications industry rely on outsourced services such as the services weprovide. Any significant change in the market for these services could have amaterial adverse effect on our current and planned business.

 

***We may not be able to effectively competein our industry if consolidation of wireless network operators continues.***

 

Thepast several years have witnessed a consolidation within the wireless networkoperator community. If this trend continues, it could result in a reduction orelimination of promotional activities by the remaining wireless networkoperators as they seek to reduce their expenditures which could, in turn,result in decreased demand for our products or services. Moreover,consolidation of wireless network operators reduces the number of potentialcontracts available to us. We could also lose business if wireless networkoperators, which currently are our customers, are acquired by other wirelessnetwork operators which are not our customers. Wireless operators may alsochange their policy regarding sales to their agents by independentdistributors, such as requiring those agents to purchase products from thewireless operator or manufacturer, rather than from distributors such asInfoSonics. This type of requirement could have a material adverse effect onour business and results of operations.

 

***Our sales and inventory risk may bematerially affected by fluctuations in regional demand patterns and economicfactors for which we cannot plan.***

 

The demand for our products and services has fluctuated and maycontinue to vary substantially within the regions served by us. We believe theroll-out of third generation, or 3G, cellular telephone systems and other newtechnologies, which has been delayed and could further be delayed, has had andwill continue to have an effect on overall subscriber growth and handsetreplacement demand. Economic slow-downs in regions served by us or changes inpromotional programs offered by wireless network operators may lower consumerdemand for our products and create higher levels of inventories which coulddecrease our gross and operating margins. We could face a substantial inventoryrisk due to depreciation and equipment price erosion if our products are notsold in a timely manner. We believe our operations were adversely affected byan economic slow-down in the United States starting in the fourth quarter of2000. A prolonged economic slow-down in the United States or any other regionsin which we have significant operations could negatively impact our results ofoperations and financial position.

 

***We may not be able to adequately respond torapid technological changes in the wireless telecommunications industry, whichcould cause us to lose customers.***

 

Thetechnology relating to wireless telecommunications equipment changes rapidlyresulting in product obsolescence or short product life cycles. We are requiredto anticipate future technological changes in our industry and to continuallyidentify, obtain and market new products in order to satisfy evolving industryand customer requirements. Competitors or manufacturers of wireless equipmentmay market products which have perceived or actual advantages over productsthat we handle or which otherwise render those products obsolete or less marketable.We have made and continue to make significant capital investments in accordancewith evolving industry and customer requirements including maintaining levelsof inventories of currently popular products that

 

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webelieve are necessary based on current market conditions.  This utilization of capital for inventorybuildup of this nature increases our risk of loss due to product obsolescence.

 

***Substantial defaults by our customers onaccounts receivables could have a significant negative impact on our******cashflow and financial condition.***

 

Wecurrently offer and intend to offer open account terms to certain of ourcustomers, which may subject us to credit risks, particularly to the extentthat our receivables represent sales to a limited number of customers or areconcentrated in particular geographic markets. Although we have an accountsreceivable insurance policy, this policy carries a substantial deductible andmay not cover us in all instances. We also have an accounts receivable creditfacility in order to reduce our working capital requirements. The extent of ourability to use our accounts receivable credit facility is dependent on theamount of and collection cycle of our accounts receivable. Adverse changes inour ability to use accounts receivable financing could have a material adverseeffect on our financial position, cash flows and results of operations.

 

***We rely on our suppliers to provide tradecredit facilities to adequately fund our on-going operations and productpurchases, and without those facilities, our ability to procure products couldbe reduced.***

 

Our business is dependent on our ability to obtain adequate supplies ofcurrently popular products on favorable pricing and other terms. Our ability tofund our product purchases is dependent on our principal suppliers providingfavorable payment terms that allow us to maximize the efficiency of our capitalusage. The payment terms we receive from our suppliers are dependent on severalfactors, including, but not limited to, our payment history with the supplier,the suppliers’ credit granting policies, contractual provisions, our overallcredit rating as determined by various credit rating agencies, industryconditions, our recent operating results, financial position and cash flows andthe supplier’s ability to obtain credit insurance on amounts that we owe them.Adverse changes in any of these factors, certain of which may not be wholly inour control, could have a material adverse effect on our operations.

 

***Approximately 3.5% of our revenues for thethree months ended June 30, 2004 and approximately 6% of our revenues forthe three months ended March 31, 2004 were generated outside of the UnitedStates in countries******that may have political or otherrisks.***

 

Weengage in sales activities in territories and countries outside of the UnitedStates. The fact that we distribute products into a number of countries exposesus to increased credit risks, customs duties, import quotas and other traderestrictions, potentially greater inflationary pressures, and shipping delays.Changes may occur in social, political, regulatory and economic conditions orin laws and policies governing foreign trade and investment in the territoriesand countries where we currently distribute products. United States laws andregulations relating to investment and trade in foreign countries could alsochange to our detriment. Any of these factors could have a material adverseeffect on our business and operations. Although we purchase and sell productsand services in United States Dollars and do not engage in exchange swaps,futures or options contracts or other hedging techniques, fluctuations incurrency exchange rates could reduce demand for products sold in United States dollars.  We cannot predict the effect that futureexchange rate fluctuations will have on our operating results. We may in thefuture engage in currency hedging transactions, which could result in ourincurring significant additional losses.

 

***We rely on our information systemtechnology to function efficiently, without interruptions, and if it does not,******customerrelationships could be harmed.***

 

Wehave focused on the application of our information system technology to providecustomized services to wireless communications equipment manufacturers andnetwork operators. Our ability to meet our customers’ technical and performancerequirements is highly dependent on the effective functioning of ourinformation technology systems, which may experience interruptions. Thesebusiness interruptions could cause us to fall below acceptable performancelevels pursuant to our customers’ requirements and could result in the loss ofthe related business relationship.

 

***We have outstanding indebtedness, which issecured by substantially all our assets and which could prevent us fromborrowing additional funds, if needed.***

 

Wehave outstanding debt in the amount of approximately $3.6 million and $4.7million at June 30, 2004 and March 31, 2004, respectively, in theform of a bank line of credit which is based on accounts receivable. If we

 

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violate our loan covenants, default on our obligations or becomesubject to a change of control, our indebtedness would become immediately dueand payable. Our credit facility is secured by substantially all of our assetsand borrowing availability is based primarily on a percentage of eligibleaccounts receivable. Consequently, any significant decrease in eligibleaccounts receivable will limit our ability to borrow additional funds toadequately finance our operations and expansion strategies. The terms of ourcredit facility could substantially prohibit us from incurring additionalindebtedness, which could limit our ability to expand our operations. The termsof our credit facility also include negative covenants that, among otherthings, limit our ability to sell certain assets and make certain payments,including but not limited to, dividends, repurchases of common stock and otherpayments outside the normal course of business as well as prohibiting us frommerging or consolidating with another corporation or selling all orsubstantially all of our assets.

 

***The wireless telecommunications industry isintensely competitive and we may not be able to continue to compete againstwell established competitors with greater financial and other resources.***

 

Wecompete for sales of wireless telecommunications equipment and accessories, andexpect that we will continue to compete, with numerous well-establishedwireless network operators, distributors and manufacturers, including our ownsuppliers. Many of our competitors possess greater financial and otherresources than we do and may market similar products or services directly toour customers. Distribution of wireless telecommunications equipment andaccessories has generally had low barriers to entry. As a result, additionalcompetitors may choose to enter our industry in the future. The markets forwireless handsets and accessories are characterized by intense pricecompetition and significant price erosion over the life of a product. Many ofour competitors have the financial resources to withstand substantial pricecompetition and to implement extensive advertising and promotional programs,both generally and in response to efforts by additional competitors to enterinto new markets or introduce new products. Our ability to continue to competesuccessfully will depend largely on our ability to maintain our currentindustry relationships. We may not be successful in anticipating and respondingto competitive factors affecting our industry, including new or changingoutsourcing requirements, the entry of additional well-capitalized competitors,new products which may be introduced, changes in consumer preferences,demographic trends, international, national, regional and local economicconditions and competitors’ discount pricing and promotion strategies. Aswireless telecommunications markets mature and as we seek to enter into newmarkets and offer new products in the future, the competition that we face maychange and grow more intense.

 

***Our continued growth depends on retainingour current key employees and attracting additional qualified personnel, and wemay not be able to continue to do so.***

 

Oursuccess depends in large part on the abilities and continued service of ourexecutive officers and other key employees, particularly Joseph Ram, our ChiefExecutive Officer. Although we have entered into employment agreements withseveral of our officers and employees, including Mr. Ram, we may not be able toretain their services under applicable law. The loss of executive officers orother key personnel could have a material adverse effect on us. In addition, inorder to support our continued growth, we will be required to effectivelyrecruit, develop and retain additional qualified management. If we are unableto attract and retain additional necessary personnel, it could delay or hinderour plans for growth.

 

***We rely on trade secret laws and agreementswith our key employees and other third parties to protect our proprietaryrights, and there is no assurance that these laws or agreements adequatelyprotect our rights.***

 

Werely on trade secret laws to protect our proprietary knowledge, particularlyour database of customers and suppliers and business terms such as pricing. Ingeneral, we also have non-disclosure agreements with our key employees andlimit access to and distribution of our trade secrets and other proprietaryinformation. These measures may prove difficult to enforce and may not proveadequate to prevent misappropriation of our proprietary information.

 

***We may become subject to suits allegingmedical risks associated with our wireless handsets, and the cost of thesesuits could be substantial, and divert funds from our business.***

 

Lawsuitsor claims have been filed or made against manufacturers of wireless handsetsover the past years alleging possible medical risks, including brain cancer,associated with the electromagnetic fields emitted by wireless communicationshandsets. There has been only limited relevant research in this area, and thisresearch has not been conclusive as to what effects, if any, exposure toelectromagnetic fields emitted by wireless handsets has on

 

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humancells. Substantially all of our revenues are derived, either directly orindirectly, from sales of wireless handsets. We may become subject to lawsuitsfiled by plaintiffs alleging various health risks from our products. If anyfuture studies find possible health risks associated with the use of wirelesshandsets or if any damages claim against us is successful, it could have amaterial adverse effect on our business. Even an unsubstantiated perceptionthat health risks exist could adversely affect our ability or the ability ofour customers to market wireless handsets.

 

**Risks Related To Our Common Stock**

 

***Stockholders may be diluted as a result offuture offerings or other financings.***

 

Wemay need to raise additional capital through one or more future publicofferings, private placements or other financings involving our securities. Asa result of these financings, none of which is currently planned, ownershipinterests in our company may be greatly diluted.

 

***Our common stock, and our stock price couldbe volatile and could decline, resulting in a substantial loss on yourinvestment.***

 

Priorto our initial public offering in June 2004, there was not a public marketfor our common stock. An active trading market for our common stock may neverdevelop or be sustained, which could affect the ability of our stockholders tosell their shares and could depress the market price of their shares.  The stock market in general, and the marketfor telecommunications-related stocks in particular, has been highly volatile.As a result, the market price of our common stock is likely to be similarlyvolatile, and investors in our common stock may experience a decrease in thevalue of their stock, including decreases unrelated to our operatingperformance or prospects. The price of our common stock could be subject towide fluctuations in response to a number of factors, including those listed inthis ‘‘Risk Factors’’ section of this Form 10-Q.  In the past, securities class action litigation has often beeninstituted against companies following periods of volatility in their stockprice. This type of litigation against us could result in substantial costs anddivert our management’s attention and resources.

 

***Shares of common stock that are issuablepursuant to our stock option plans and our outstanding warrants, when issued,could result in dilution to existing stockholders and could cause the marketprice of our common stock to fall.***

 

Wehave reserved shares of common stock that may be issuable pursuant to our stockoption plans and our outstanding options outside those plans. These securities,when issued and outstanding, may reduce earnings per share under accountingprinciples generally accepted in the United States of America and, to the extentthat they are exercised and shares of common stock are issued, dilutepercentage ownership to existing stockholders which could have an adverseeffect on the market price of our common stock.

 

***The ability of our stockholders to controlour policies or effect a change in control of our company is limited, which maynot be in our stockholders’ best interests.***

 

Someprovisions of our charter and bylaws and the General Corporation Law ofMaryland, where we are incorporated, may delay or prevent a change in controlof our company or other transactions that could provide our common stockholderswith a premium over the then-prevailing market price of our common stock orthat might otherwise be in the best interests of our stockholders. Theseinclude the ability of our Board of Directors to authorize the issuance ofpreferred stock without stockholder approval, which preferred stock may havevoting provisions that could delay or prevent a change in control or othertransaction that might involve a premium price or otherwise be in the bestinterests of our stockholders. Maryland law imposes restrictions on somebusiness combinations and requires compliance with statutory procedures beforesome mergers and acquisitions can occur. These provisions of Maryland law mayhave the effect of discouraging offers to acquire us even if the acquisitionwould be advantageous to our stockholders.

 

***Our current controlling stockholders mayhave strategic interests that differ from those of our other stockholders.***

 

Twoof our stockholders, in the aggregate, beneficially own approximately 61.6% ofour outstanding common stock. For the foreseeable future, to the extent thatthese stockholders vote similarly, they will be able to exercise control overmany matters requiring approval by the board of directors or our stockholders.As a result, they will be able to:

 

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•                  control the composition of our board ofdirectors;

•                  control our management and policies;

•                  determine the outcome of significantcorporate transactions, including changes in control that may be beneficial tostockholders; and

•                  act in their mutual interests, which mayconflict with, or be different from, the interests of other stockholders.

 

**Results ofOperations:**

 

***Three Months ended June 30, 2004 Compared With Quarter endedJune 30, 2003***

 

Net sales for the three monthsended June 30, 2004 were $18.4 million, compared with $10.5 million in netsales for the three months ended June 30, 2003, an increase of 75.0%.  The increase in net sales is primarily dueto an increase in distribution revenues of $7.5 million (an increase of74.0%).  The increase in distributionrevenues is primarily due to a 40.2% increase in units sold, a 22.0% increasein average unit selling price, and a 66.6% increase in sales personnel,compared to the three months ended June 30, 2003.  In 2004, the availability of feature-richwireless devices, wireless network operator promotional activity and compellingpricing by manufacturers induced subscribers to upgrade their wireless devices,creating end-user demand.  Our revenuesin the United States were 96% and 82% of total sales, respectively, for thethree months ended June 30, 2004 and June 30, 2003.

 

Cost of sales for the three monthsended June 30, 2004 was $16.4 million, or 89.0% of net sales, comparedwith $9.3 million, or 88.6% of net sales, for the three months endedJune 30, 2003.  The 76.5% dollarincrease in cost of sales is primarily attributable to our purchase of productsnecessary to meet our customers’ increased demand.

 

Gross profit for the three monthsended June 30, 2004 was $2.0 million, or 10.9% of net sales, compared with$1.2 million, or 11.4% of net sales, for the three months ended June 30,2003.  The 67.0% dollar increase ingross profit is consistent with the 75.0% dollar increase in net sales for thesame period.

 

Operating expenses for the threemonths ended June 30, 2004 were $1.6 million, or 8.7% of net sales,compared with $1.1 million, or 10.8% of net sales, for the three months endedJune 30, 2003.  The $500,000increase is primarily due to increased personnel (executive, sales and backoffice) to support the increased sales levels, larger office and warehousefacilities, as well as additional costs (including legal and accounting costs)associated with being a publicly-traded company.  The decrease of operating expenses as a percentage of revenuesreflects management’s ability to leverage operational efficiencies with higherlevels of sales.

 

Income from operations for the threemonths ended June 30, 2004 was $389,000, representing an increase of411.4% compared to the three months ended June 30, 2003.  As a percentage of net sales, income fromoperations was 2.1% for the three months ended June 30, 2004 compared with0.7% for the three months ended June 30, 2003.  This increase in income from operations, both in dollars and as apercentage of net sales, is the result of the factors discussed above, as wellas our operational efficiency, which has allowed us to increase sales volumesat a high rate while we increase operating expenses at a lower rate.

 

Net income for the three monthsended June 30, 2004 was $229,000, or $0.05 earnings per diluted share,compared to net income of $49,000, or $0.01 earnings per diluted share, for thethree months ended June 30, 2003, representing an increase of 367.3%.  The increase in net income is primarily dueto increased net sales, increased gross profits in dollars, and decreasedoperating expenses as a percentage of net sales.  This increase is also due to our completed initial publicoffering.

 

Sales increased 75.0%, gross profitincreased 67.0%, operating expenses increased 44.8%, and net income increased369.8% for the three months ended June 30, 2004 as compared with the threemonths endedJune 30,2003.  In addition, earnings per dilutedshare increased 400%.

 

***Six Months ended June 30, 2004 Compared With Six Months endedJune 30, 2003***

 

Net sales for the six months endedJune 30, 2004 were $38.2 million compared with $26.2 million for the sixmonths ended June 30, 2003, representing an increase of 45.5%.  The increase in net sales is primarily dueto an increase in distribution revenues of $11.3 million (an increase of45.1%).  The increase in distributionrevenues is

 

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primarily due to a 20.1% increasein units sold, a 20.0% increase in average unit selling price, and a 66.6%increase in sales personnel as compared with the six months ended June 30,2003.  —Our revenues in the UnitedStates were 95% and 88% of total sales, respectively, for the six months endedJune 30, 2004 and June 30, 2003.

 

Cost of sales for the six monthsended June 30, 2004 was $34.1 million, or 89.4% of net sales, comparedwith $23.4 million, or 89.5% of net sales, for the six months endedJune 30, 2003.  The 45.2% dollarincrease in cost of sales is primarily attributed to our purchase of productsnecessary to meet our customers’ increased demand.

 

Gross profit for the six monthsended June 30, 2004 was $4.1 million, or 10.7% of net sales, compared with$2.7 million, or 10.48% of net sales, for the six months ended June 30,2003.  The 47.8% dollar increase ingross profit is consistent with the 45.5% dollar increase in net sales for thesame period, in addition to increased gross profit as a percentage of net salesby 0.17%.

 

Operating expenses for the sixmonths ended June 30, 2004 were $3.3 million, or 8.6% of net sales,compared to $2.4 million, or 9.2% of net sales, for the six months endedJune 30, 2003.  The $883,000increase is primarily due to increased personnel (executive, sales and backoffice) to support the increased sales levels, larger office and warehousefacilities, as well as additional costs (including legal and accounting costs)associated with being a publicly traded company.  The decrease of operating expenses as a percentage of revenuesreflects management’s ability to leverage operational efficiencies with higherlevels of sales.

 

Income from operations for the sixmonths ended June 30, 2004 was $752,000, representing an increase of121.5% compared with the six months ended June 30, 2003.  As a percentage of net sales, income fromoperations was 1.9% for the six months ended June 30, 2004 compared with1.29% of net sales for the six months ended June 30, 2003.  This increase in both dollars and as apercentage of net sales, is the result of the factors discussed above as wellas the operational efficiency of the company which has allowed us to increasesales volumes at a high rate while we increase operating expenses at a lowerrate.

 

Net income for the six months endedJune 30, 2004 was $426,000, or $0.10 earnings per diluted share, ascompared with $186,000, or $0.05 per diluted share, for the six months endedJune 30, 2003.  The 129.% increasecompared with the six months ended June 30, 2003 is due to increased netsales, increased gross profits in dollars, and decreased operating expenses asa percentage of net sales.  Thisincrease is also due to our completed initial public offering.

 

Sales increased 45.5%, gross profitincreased 47.8%, operating expenses increased 37.5%, and net incomeincreased 128.4% for the quarter ended June 30, 2004 as compared with thesix months ended June 30, 2003.

 

## **Financial Condition, Liquidity and Capital Resources**

## ** **

*Cash*

 

At June 30, 2004, we had cashand cash equivalents of $9,513,961, and at December 31, 2003, we had cashand cash equivalents of $446,033.

 

*Cash Flows*

 

Cash from operations and our initial public offering,together with our line of credit, continue to help finance our growth andincreased profitability.  The net cashprovided by operating activities was $1.9 million for the six months endedJune 30, 2004, compared with net cash used by operating activities of $1.6million, for the six months ended June 30, 2003. The increase in net cashfrom operations in 2004 was primarily due to decreased accounts receivable andincreased accounts payable for the six months ended June 30, 2004**.** The decrease in accounts receivable was due to increased cash sales inJune 2004.  The increase inaccounts payable is a result of the decreased utilization of our bank line ofcredit.  The increase in inventory andprepaid expenses was funded from the decrease in accounts receivable.  The increase in inventory ($1.2 million) andincrease in prepaid expenses ($1.5 million) was funded by the decrease inaccounts receivable ($2.8 million). Allowance for doubtful accounts at June 30, 2004 decreased to$256,000 compared to $360,000 at December 31, 2003.  This decrease****was related to our accounts receivable insurance deductibleas we had a few accounts become insolvent during the quarter endedJune 30, 2004.  We believe that atJune 30, 2004, our reserve for doubtful accounts is adequate.

 

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Commission revenue at our Access Mobile subsidiary isrecorded at the time of activation, and under certain circumstances, it may becharged back by the carrier for a period of six months from the date ofactivation.  Allowance for potentialchargebacks at June 30, 2004 was approximately 43% of the related accountsreceivable, as compared with 43% at December 31, 2003.** **Basedon our experience with this carrier, we believe that this reserve for potentialchargebacks from the carrier is adequate at June 30, 2004.

 

Days sales outstanding at June 30, 2004 was 38 dayscompared with 35 days at December 31, 2003.  Normal payment terms require our customer payment on a net 30 daybasis.  We are constantly working withour customers to reduce our days sales outstanding.

 

The net cash used in investing activities was $192,000 forthe six months ended June 30, 2004 compared with $2,000 for the six monthsended June 30, 2003.  This increaseis primarily the result of expenditures for new furniture and fixtures relatedto increased office and warehouse space and additional headcount.

 

The net cash provided by financing activities for the sixmonths ended June 30, 2004 of $7.4 million is primarily the result of ourcompleted initial public offering.

 

Our working capital at June 30, 2004 was $12.32million, compared with $1.9 million at December 31, 2003. This change wasdue to the completion of our initial public offering and our increased netincome for the six months ended June 30, 2004.  In addition, we have a $7.5 million revolving line of credit, andas of June 30, 2004 we had $4.5 million available (based on a borrowingbase calculation), and $3.6 million drawn from the line of credit, leaving netavailability of $900,000.

 

On June 17, 2004, we issuedand sold to the public 2,000,000 shares of common stock, listed on the AmericanStock Exchange.  Our initial publicoffering increased our outstanding shares to 5,212,000.  Proceeds from the public offering to usbefore expenses were $12 million.

 

**Borrowings**

 

We utilize a bankline of credit which is based upon eligible accounts receivable. As ofJune 30, 2004 and December 31, 2003, amounts advanced against thatline were approximately $3,645,000 and $5,536,000, respectively. This credit line has been animportant part of growing our business, and market changes affecting accountsreceivable could diminish the borrowing base of available funds. As ofJune 30, 2004 and December 31, 2003, advances were 85% and 88%respectively, of the available borrowing base. This current facility expiresMay 2005.

 

We believe that our existing cashresources, together with our projected cash flow from operations and the netproceeds from our initial public offering, will be sufficient to allow us toimplement our strategy and growth plan.

 

**CriticalAccounting Policies**

 

We believe the following criticalaccounting policies are important to the presentation of our financialcondition and results, and require management’s judgments often as a result ofthe need to make estimates about the affect of matters that are inherentlyuncertain.

 

***Revenue Recognition and Accrued Chargebacks***

 

Revenues are recognized upon (1)shipment of the products to customers, (2) when collection of the outstandingreceivables are probable, and (3) the final price of the product isdetermined.  Commission revenue on phoneactivations is recorded at the time of the activation and may be charged backto us in future periods. The carrier has six months from date of activation to chargeback amounts previously credited to us if the customer terminates its service.We provide an allowance for estimated returns based on our experience, whichestimate is recorded as a contra asset against accounts receivable. A provisionfor returns is provided in the same period in which the related commissionrevenue is recorded. Customer credit-worthiness and economic conditions maychange and increase the

 

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risk of collectibility and contractterminations and may require additional provisions, which would negativelyimpact our operating results.

 

***Allowance for Doubtful Accounts and Sales Return Reserve***

 

Credit evaluations are undertakenfor all major sale transactions before shipment is authorized.  Normal payment terms require payment on anet sixty day basis. On an on-going basis, we analyze the payment history ofcustomer accounts, including recent customer purchases. We evaluate aged itemsin the accounts receivable aging and provide reserves for doubtful accounts andestimated sales returns.  Customercredit-worthiness and economic conditions may change and increase the risk ofcollectibility and sales returns, and may require additional provisions, whichwould negatively impact our operating results.

 

***Inventory Write-Off and Effect on Gross Margin***

 

We regularly monitor inventoryquantities on hand and record a provision for excess and obsolete inventoriesbased primarily on historical usage rates and our estimated forecast of productdemand for a period of time, generally six months. Because of obsolescence, wewill generally provide a full reserve for the costs of our inventories inexcess of our relevant forecast for the applicable period.  We attempt to control our inventory levelsso that we do not hold inventories in excess of demand for the succeeding sixmonths. However, because we need to place non-cancelable orders withsignificant lead time and because it is difficult to estimate product demand,it is possible that we will build inventories in excess of demand for thefuture periods. If we have inventories in excess of estimated product demand,we will provide a reserve, which could have a material adverse effect on ourreported results of operations and financial position.

 

**Off-Balance Sheet Arrangements**

 

Wedo not have any off-balance sheet arrangements.

 

**Contractual Obligations**

 

Duringthe quarter ended June 30, 2004 we extended and increased our existingline of credit agreement, which now allows us to borrow a maximum of $7,500,000, and expires in May 2005.  Inaddition, wehave moved into a new office and warehouse facility in Miami.  This new lease has a three-year term.

 

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

** **

Weare subject to market risks with respect to interest rates because our line ofcredit has a floating interest rate.  Wecan choose among the bank’s prime rate, which was 4.0% at June 30, 2004,and the one-, two-, and three-month LIBOR rates plus (with respect to the LIBORrate) 2.25% for the first $500,000 of borrowings and 2.5% for borrowing above$500,000.  As of June 30, 2004, ourLIBOR borrowings were $3,645,000 and were based on the three-month rate, whichwas 1.34% at that time.  If the full$7,500,000 available under our credit facility were outstanding for a fullyear, each increase of 1% in the applicable interest rate would result in anadditional $75,000 in interest expense for that year.

 

Ourbusiness outside the United States is conducted in United States dollars.  Although we purchase and sell products andservices in United States dollars and do not engage in exchange swaps, futuresor options contracts or other hedging techniques, fluctuations in currencyexchange rates could reduce demand for products sold in United Statesdollars.  We cannot predict the effectthat future exchange rate fluctuations will have on our operating results.  We believe our exposure to market risks,including exchange rate risk, interest rate risk and commodity price risk, isnot material at the present time.  Wemay in the future engage in currency hedging transactions, which could resultin our incurring significant additional losses.

 

**Item 4.  Controls and Procedures**

 

As of the end of the period coveredby this report, we conducted an evaluation, under the supervision and with theparticipation of the principal executive officer and principal financialofficer, of our disclosure controls and procedures (as defined in Rules13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934 (the“Exchange Act”)).  Based on thisevaluation, the principal executive officer and principal financial officerconcluded that our

 

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disclosure controls and proceduresare effective to ensure that information required to be disclosed by us inreports that we file or submit under the Exchange Act is recorded, processed,summarized and reported within the time periods specified in Securities andExchange Commission (“SEC”) rules and forms. There was no change in our internal control over financial reportingduring our most recently completed fiscal quarter that has materially affected,or is reasonably likely to materially affect, our internal control overfinancial reporting.

 

**PART II.  OTHERINFORMATION**

 

**Item1.  Legal Proceedings**

 

TheCompany may become involved in certain legal proceedings and claims which arisein the normal course of business. As of June 30, 2004, the Company did nothave any significant litigation outstanding, and management does not expect anymatters to have a material impact on the Company’s liquidity or the financialstatements taken as a whole.

 

Duringthe year ended December 31, 2003, the Company filed a lawsuit against oneof their customers for unpaid accounts receivables in the amount of $125,000.The defendant has responded with a cross-compliant against the Company,alleging among other things breach of contract, interference with contractualrelationships and unfair competition. During the six months ended June 30,2004, both parties agreed to drop the suit no monetary damages were awarded. Inconnection with the settlement the Company wrote-off the receivable which waspreviously reserved for.

 

**Item2.  Changes in Securities and Use ofProceeds.**

 

**Recent Sales of Securities**

 

Duringthe quarter ended June 30, 2004, we made the following issuances ofsecurities:

 

•                 OnJune 17, 2004, we issued an aggregate of 2,000,000 shares in connectionwith our initial public offering of common stock at a price per share of $6.00.

•                 Effective June 17,2004, we issued options to purchase an aggregate of 200,500 shares to employeesat a price per share of $6.00. One-third of the options will become exercisable one year from the dateof grant.  Thereafter, one-36th(1/36) of the options become exercisable on the first day of each calendarmonth.  These options were issuedpursuant to an exemption from registration under Section 4(2) of theSecurities Act of 1933.

 

**Use of Proceeds**

 

Asrequired by Rule 463 of the Act, we are required to report the use of proceedsfrom our initial public offering on our first periodic report filed with theSecurities and Exchange Commission (“SEC”) and thereafter on each of oursubsequent periodic reports through the later of disclosure of the applicationof all the offering proceeds, or disclosure of the termination of the offering.

 

OnJune 17, 2004, our Registration Statement on Form S-1, File No.  333-112339 which registered an aggregate of2,000,000 shares of our common stock, was declared effective by the SEC.  On that date, we commenced and completed ourinitial public offering and our common stock began trading on the AmericanStock Exchange.  We issued 2,000,000shares of common stock for gross proceeds of $12,000,000.  We paid commissions and fees of $2,050,599in connection with the offering. Gilford Securities, Inc. acted as managing underwriter in our initialpublic offering.

 

Inconnection with our initial public offering, we registered the class of ourcommon stock under the Securities Exchange Act of 1934 and became a reportingcompany.

 

As a result of ourinitial public offering, we paid commissions of $960,000 and fees of $1,090,599.  These fees covered aggregate expenses relating to the completion of our publicoffering, which included accounting, legal, printing and roadshow expenses.  All of these fees werepaid to individuals and companies not affiliated with InfoSonics.

 

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Our net proceeds from our initial publicoffering were $9,949,401.  We received these funds during thelast week of June 2004.  As described in our RegistrationStatement on S-1, which became effective on June 17, 2004, these fundswere used for working capital, inventory purchases and a reduction of the lineof credit balance to minimize interest expenses.

 

**Item3.  Defaults Upon Senior Securities.**

 

In May 2004, thestockholders of the Company, by written consent, unanimously approved anamendment to the Company’s 1998 Stock Option Plan.  The amendment removed stock repurchase obligations by the Companyin the event of the termination of employment of a person receiving stockthrough the exercise of options granted pursuant to the 1998 plan

 

**Item4.  Submission of Matters to a Vote ofSecurity Holders.**

 

None.

 

**Item5.  Other Information.**

 

None.

 

## **Item6.  Exhibits And Reports On Form 8-K**

## ** **

(a)                                  Exhibits.

 
| 3.1    |   | Certificate of Incorporation (1)                                                                                                                                                          |
|--------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                      |
| 3.2    |   | Bylaws (1)                                                                                                                                                                                |
|   |   |                                                                                                                                                                                      |
| 31.1   |   | Certifications of the Chief  Executive Officer and Chief Financial Officer pursuant to Section 302 of  the Sarbanes-Oxley Act of 2002                                                |
|   |   |                                                                                                                                                                                      |
| 32.1   |   | Certifications of Chief Executive  Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350  as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |

 

(b)                                 Reportson Form 8-K.

 

None.

 
| (1) | Incorporated by reference from  the Company’s Registration Statement on Form S-1, filed on January 30, 2004. |
|-----|-------------------------------------------------------------------------------------------------------------------|

 

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**SIGNATURE**

 

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

 
|        |                 | InfoSonics Corporation |
|-------------|----------------------|------------------------|
|        |                 |                   |
|        |                 |                   |
| Date:       | August 16, 2004 | By:                    | /S/ Joseph Ram |   |
|        |                 |                   | Joseph Ram |
|        |                 |                   | Chief Executive Officer |
|        |                 |                   |
|  Date: | August 16, 2004 | By:                    | /S/ Jeffrey Klausner |   |
|        |                 |                   | Jeffrey Klausner |
|        |                 |                   | Chief Financial Officer |
|             |                      |                        |  |  |  |

 

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