# 





# UNITED STATES

# SECURITIES
AND EXCHANGE COMMISSION

# Washington,
D.C. 20549





# FORM 10-Q





(Mark One)

[ x ]
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)

OF
THE SECURITIES EXCHANGE ACT OF 1934.



# For the
quarterly period ended: September 30, 2004



OR



[  ]
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)

OF
THE SECURITIES EXCHANGE ACT OF 1934

for
the transition period from __________ to __________



Commission File Number: 0-25790





# eCOST.COM,
INC.

(Exact name of registrant as specified in its charter)





Delaware
      
      33-0843777(State or other jurisdiction of
      incorporation or organization)
      
      (I.R.S. Employer 
      Identification Number)










2555
West 190th Street, Suite 106

Torrance,
CA 90504

(address
of principal executive offices)

(310)
225-4044

(Registrant's
telephone number, including area code)









Indicate
by check mark whether the Registrant (1) has filed all reports required to be
filed by Section 13 or 15(d)

of the
Securities Exchange Act of 1934 during the preceding 12 months (or for such
shorter period that the Registrant

was
required to file such reports) and (2) has been subject to such filing
requirements for the past 90 days.

Yes [ ]
No [X ]



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

Yes [ ] No [X]



There
were 17,465,000 outstanding shares of common stock at November 12, 2004.







# eCOST.COM,
INC.



# TABLE OF
CONTENTS



PART I - FINANCIAL INFORMATIONItem 1. Financial StatementsCondensed Balance SheetsCondensed Statement of OperationsCondensed Statement of Stockholders' EquityCondensed Statement of Cash FlowsNotes to Condensed Financial StatementsItem 2. Management's Discussion and Analysis of Financial Condition and
      Results of OperationsItem 3. Quantitative and Qualitative Disclosures About Market RiskItem 4. Controls and ProceduresPART II - OTHER INFORMATIONItem 2. Unregistered Sales of Equity Securities, Use of ProceedsItem 6. ExhibitsSignature


Table of
Contents

PART I - FINANCIAL
INFORMATION

ITEM
1.   FINANCIAL STATEMENTS

eCOST.COM,
INC.

# CONDENSED
BALANCE SHEETS

# (in thousands, except share data)



September 30, 2004
                                                      (unaudited)
                                                      
                                                      
                                                      December 31, 2003AssetsCurrent assets:Cash and cash equivalents
                                                      $
                                                      19,738
                                                      
                                                      $
                                                      -Accounts receivable, net
                                                      of allowance for doubtful
                                                      accounts of $84 and $50 at
                                                      September 30, 2004 and
                                                      December 31, 2003,
                                                      respectively
                                                      
                                                      3,276
                                                      
                                                      
                                                      2,044Inventories
                                                      
                                                      1,526
                                                      
                                                      
                                                      1,199Prepaid
                                                      expenses and other current
                                                      assets
                                                      
                                                      294
                                                      
                                                      
                                                      51Deferred income taxes
                                                      
                                                      155
                                                      
                                                      
                                                      155Receivable from the Parent
                                                      (Note 5)
                                                      
                                                      -
                                                      
                                                      
                                                      30,676Total current assets
                                                      
                                                      24,989
                                                      
                                                      
                                                      34,125Property and
                                                      equipment, net
                                                      
                                                      219
                                                      
                                                      
                                                      125Due from Affiliate,
                                                      net
                                                      
                                                      -
                                                      
                                                      
                                                      991Deferred income taxes
                                                      
                                                      4,741
                                                      
                                                      
                                                      4,206Other assets
                                                      
                                                      107
                                                      
                                                      
                                                      29Total assets
                                                      $
                                                      30,056
                                                      
                                                      $
                                                      39,476Liabilities and
                                                      Stockholders' EquityCurrent liabilities:Accounts payable
                                                      $
                                                      1,622
                                                      
                                                      $
                                                      1,678Accrued expenses and other current liabilities
                                                      
                                                      2,358
                                                      
                                                      
                                                      1,738Deferred revenue
                                                      
                                                      1,712
                                                      
                                                      
                                                      1,345Net advances from Affiliate
                                                      
                                                      3,300
                                                      
                                                      
                                                      -Line of credit (Note 5)
                                                      
                                                      -
                                                      
                                                      
                                                      30,676Total current liabilities
                                                      
                                                      8,992
                                                      
                                                      
                                                      35,437Total liabilities
                                                      
                                                      8,992
                                                      
                                                      
                                                      35,437Stockholders' equity:Preferred
                                                      stock, $0.001
                                                      par value,
                                                      10,000,000 and 0 shares
                                                      authorized, respectively;
                                                      none issued and
                                                      outstanding
                                                      
                                                      -
                                                      
                                                      
                                                      -Common stock, $.001 par value; 20,000,000
                                                      shares authorized;
                                                      17,465,000 and 14,000,000
                                                      shares issued  
                                                      and outstanding at
                                                      September 30, 2004 and
                                                      December 31, 2003,
                                                      respectively
                                                      
                                                      17
                                                      
                                                      
                                                      14Additional paid-in capital
                                                      
                                                      33,442
                                                      
                                                      
                                                      16,598Deferred non-cash stock-based compensation
                                                      
                                                      (1,458)
                                                      
                                                      
                                                      -Capital contribution due
                                                      from Affiliate
                                                      
                                                      -
                                                      
                                                      
                                                      (2,543)Retained earnings
                                                      (accumulated deficit)
                                                      
                                                      (10,937)
                                                      
                                                      
                                                      (10,030)Total stockholders' equity
                                                      
                                                      21,064
                                                      
                                                      
                                                      4,039$
                                                      30,056
                                                      
                                                      $
                                                      39,476


See notes to
                                   condensed financial statements.

## Table of
Contents

# eCOST.COM,
INC.

# CONDENSED
STATEMENT OF OPERATIONS

# (unaudited,
in thousands, except per share data)



Three months ended
                                                             
                                                             
                                                             Nine months endedSeptember 30,
                                                             
                                                             
                                                             September 30,2004
                                                             
                                                             
                                                             2003
                                                             
                                                             
                                                             2004
                                                             
                                                             
                                                             2003Net sales
                                                             $
                                                             43,397
                                                             
                                                             $
                                                             25,519
                                                             
                                                             $
                                                             120,389
                                                             
                                                             $
                                                             73,323Cost of goods sold
                                                             (Note 6)
                                                             
                                                             39,294
                                                             
                                                             
                                                             22,940
                                                             
                                                             
                                                             109,055
                                                             
                                                             
                                                             65,867Gross profit
                                                             
                                                             4,103
                                                             
                                                             
                                                             2,579
                                                             
                                                             
                                                             11,334
                                                             
                                                             
                                                             7,456Selling, general
                                                             and administrative
                                                             expenses:Selling, general
                                                             and administrative
                                                             expenses (Note
                                                             6)
                                                             
                                                             4,240
                                                             
                                                             
                                                             2,327
                                                             
                                                             
                                                             11,402
                                                             
                                                             
                                                             6,657Non-cash
                                                             stock-based
                                                             compensation
                                                             
                                                             1,287
                                                             
                                                             
                                                             -
                                                             
                                                             
                                                             1,381
                                                             
                                                             
                                                             -Total selling,
                                                             general and
                                                             administrative
                                                             expenses
                                                             
                                                             5,527
                                                             
                                                             
                                                             2,327
                                                             
                                                             
                                                             12,783
                                                             
                                                             
                                                             6,657Income (loss) from
                                                             operations
                                                             
                                                             (1,424)
                                                             
                                                             
                                                             252
                                                             
                                                             
                                                             (1,449)
                                                             
                                                             
                                                             799Interest (income)
                                                             expense
                                                             
                                                             (7)
                                                             
                                                             
                                                             -
                                                             
                                                             
                                                             (7)
                                                             
                                                             
                                                             76Interest expense -
                                                             PC Mall commercial
                                                             line of credit
                                                             (Note 5)
                                                             
                                                             304
                                                             
                                                             
                                                             363
                                                             
                                                             
                                                             1,264
                                                             
                                                             
                                                             951Interest income -
                                                             PC Mall commercial
                                                             line of credit
                                                             (Note 5)
                                                             
                                                             (304)
                                                             
                                                             
                                                             (363)
                                                             
                                                             
                                                             (1,264)
                                                             
                                                             
                                                             (951)Income (loss)
                                                             before income taxes
                                                             
                                                             (1,417)
                                                             
                                                             
                                                             252
                                                             
                                                             
                                                             (1,442)
                                                             
                                                             
                                                             723Provision (benefit)
                                                             for income taxes
                                                             
                                                             (525)
                                                             
                                                             
                                                             -
                                                             
                                                             
                                                             (535)
                                                             
                                                             
                                                             -Net income (loss)
                                                             $
                                                             (892)
                                                             
                                                             $
                                                             252
                                                             
                                                             $
                                                             (907)
                                                             
                                                             $
                                                             723Earnings per share:Basic
                                                             $
                                                             (0.06)
                                                             
                                                             $
                                                             0.02
                                                             
                                                             $
                                                             (0.06)
                                                             
                                                             $
                                                             0.05Diluted
                                                             $
                                                             (0.06)
                                                             
                                                             $
                                                             0.02
                                                             
                                                             $
                                                             (0.06)
                                                             
                                                             $
                                                             0.05Weighted average
                                                             shares outstanding:Basic
                                                             
                                                             15,155
                                                             
                                                             
                                                             14,000
                                                             
                                                             
                                                             14,385
                                                             
                                                             
                                                             14,000Diluted
                                                             
                                                             15,155
                                                             
                                                             
                                                             14,465
                                                             
                                                             
                                                             14,385
                                                             
                                                             
                                                             14,448


See notes to condensed financial statements.

## Table of
Contents

# eCOST.COM,
INC.

# CONDENSED STATEMENT OF STOCKHOLDERS' EQUITY

# (unaudited,
in thousands)



Common
                                    shares
                                    Additional
                                    Paid-in
                                    Capital
                                    Deferred
                                    Non-Cash
                                    Stock-Based Compensation
                                    CapitalContribution Due
                                    from Affiliate
                                    Accumulated
                                    Deficit
                                    TotalOutstanding
                                    AuthorizedBalance at
                                    December 31, 2003
                                    14,000
                                    14
                                    $     
                                    16,598
                                    $              
                                    -
                                    $      (2,543)
                                    $      
                                    (10,030)
                                    $     
                                    4,039Issuance of
                                    common stock in connection with initial
                                    public offering, net of offering costs
                                    3,465
                                    3
                                    16,548
                                    -
                                    -
                                    -
                                    16,551Compensatory stock option grant
                                    -
                                    -
                                    2,000
                                    (2000)
                                    -
                                    -
                                    -Amortization
                                    of deferred non-cash stock-based
                                    compensation
                                    -
                                    -
                                    -
                                    542
                                    -
                                    -
                                    542Non-cash
                                    stock-based compensation
                                    -
                                    
                                    839
                                    -
                                    -
                                    -
                                    839Dividend to
                                    Affiliate
                                    -
                                    -
                                    (2,543)
                                    -
                                    2,543
                                    -
                                    -Net loss
                                    -
                                    -
                                    -
                                    -
                                    -
                                    (907)
                                    (907)Balance at
                                    September 30, 2004
                                    17,465
                                    17
                                    $     
                                    33,442
                                    $     
                                    (1,458)
                                    $             
                                    -
                                    $     
                                    (10,937)
                                    $     
                                    21,064


See notes to condensed financial statements.

Table of Contents

# eCOST.COM,
INC.

# CONDENSED
STATEMENT OF CASH FLOWS

# (unaudited,
in thousands)



For the nine
                                                                 months endedSeptember
                                                                 30,2004
                                                                 
                                                                 2003Cash flows from
                                                                 operating
                                                                 activities:Net income
                                                                 (loss)
                                                                 $
                                                                 (907)
                                                                 
                                                                 $
                                                                 723Adjustments to
                                                                 reconcile net
                                                                 income (loss)
                                                                 to net cash
                                                                 (used in)
                                                                 provided by
                                                                 operating
                                                                 activities:Depreciation
                                                                 and
                                                                 amortization
                                                                 
                                                                 31
                                                                 
                                                                 
                                                                 47Deferred
                                                                 income taxes
                                                                 
                                                                 (535)
                                                                 
                                                                 
                                                                 -Non-cash
                                                                 stock-based
                                                                 compensation
                                                                 
                                                                 1,381
                                                                 
                                                                 
                                                                 -Changes in operating assets
                                                                 and
                                                                 liabilities:Accounts
                                                                 receivable
                                                                 
                                                                 (1,232)
                                                                 
                                                                 
                                                                 (479)Inventories
                                                                 
                                                                 (327)
                                                                 
                                                                 
                                                                 (482)Prepaid
                                                                 expenses and
                                                                 other current assets
                                                                 
                                                                 (243)
                                                                 
                                                                 
                                                                 11Other
                                                                 assets
                                                                 
                                                                 (78)
                                                                 
                                                                 
                                                                 -Accounts
                                                                 payable
                                                                 
                                                                 (322)
                                                                 
                                                                 
                                                                 1,429Accrued
                                                                 expenses and
                                                                 other current liabilities
                                                                 
                                                                 165
                                                                 
                                                                 
                                                                 17Deferred
                                                                 revenue
                                                                 
                                                                 367
                                                                 
                                                                 
                                                                 540Total
                                                                 adjustments
                                                                 
                                                                 (793)
                                                                 
                                                                 
                                                                 1,083Net cash (used
                                                                 in) provided by
                                                                 operating
                                                                 activities
                                                                 
                                                                 (1,700)
                                                                 
                                                                 
                                                                 1,806Cash flows from
                                                                 investing
                                                                 activities:Purchases of
                                                                 property and
                                                                 equipment
                                                                 
                                                                 (125)
                                                                 
                                                                 
                                                                 (1)Net cash used
                                                                 in investing
                                                                 activities
                                                                 
                                                                 (125)
                                                                 
                                                                 
                                                                 (1)Cash flows from
                                                                 financing
                                                                 activities:Capital
                                                                 contribution
                                                                 from Affiliate
                                                                 
                                                                 -
                                                                 
                                                                 
                                                                 18,000Net proceeds
                                                                 from initial
                                                                 public offering
                                                                 
                                                                 18,690
                                                                 
                                                                 
                                                                 -Book overdraft
                                                                 
                                                                 266
                                                                 
                                                                 
                                                                 47Net  advances
                                                                 from (repayment
                                                                 to) Affiliate
                                                                 
                                                                 4,291
                                                                 
                                                                 
                                                                 (17,309)Payments for
                                                                 initial public
                                                                 offering costs
                                                                 
                                                                 (1,684)
                                                                 
                                                                 
                                                                 -Capital
                                                                 contribution
                                                                 due from
                                                                 Affiliate
                                                                 
                                                                 -
                                                                 
                                                                 
                                                                 (2,543)Net cash
                                                                 provided by
                                                                 (used in)
                                                                 financing
                                                                 activities
                                                                 
                                                                 21,563
                                                                 
                                                                 
                                                                 (1,805)Net increase in
                                                                 cash and cash
                                                                 equivalents
                                                                 
                                                                 19,738
                                                                 
                                                                 
                                                                 -Cash and cash
                                                                 equivalents:Beginning of
                                                                 period
                                                                 
                                                                 -
                                                                 
                                                                 
                                                                 -End of
                                                                 Period
                                                                 $
                                                                 19,738
                                                                 
                                                                 $
                                                                 -


See notes to condensed financial statements.

## Table of
Contents

# eCOST.COM,
INC.

# NOTES TO
CONDENSED FINANCIAL STATEMENTS

# (unaudited,
in thousands, except share and per share data)

## 1. Basis of
Presentation

eCOST.com, Inc. (the
"Company") was formed on February 25, 1999 as a wholly-owned
subsidiary of PC Mall, Inc. (formerly Creative Computers, Inc.) (the "Parent"). For purposes of these financial statements and related
notes, the Parent and its wholly-owned subsidiaries excluding the Company will
collectively be referred to as an "Affiliate." The Company operates in
a single business segment and sells its products principally to customers in the
United States. The Company is a multi-category online discount retailer of new,
"close-out" and refurbished brand-name merchandise. The Company offers
products in nine merchandise categories, including computer hardware and
software, home electronics, digital imaging, watches and jewelry, housewares,
DVD movies, video games, travel and licensed sports apparel and memorabilia. The
Company markets to a broad range of consumer and small business customers
through two shopping formats: every day low price and the Company's proprietary Bargain
Countdown. This combination of shopping formats helps attract
value-conscious customers looking for high quality products at low prices to its
eCOST.com website. The Company also provides rapid response customer service
utilizing its hybrid fulfillment model from a strategically located distribution
center operated by an Affiliate and third party fulfillment partners, as well as
customer support from online and on-call sales representatives.

The Company has operated as
a reporting segment of the Parent's business since April 1999. In September
2004, the Company completed an initial public offering ("IPO") of 3,465,000
shares of the Company's common stock, leaving the Parent with ownership of
approximately 80.2% of the outstanding shares of the Company's common stock. The Parent has advised the Company
that the Parent intends to distribute its remaining ownership interest in the
Company to its common stockholders. The Company refers to this as the
"distribution" or the "spin-off." The Parent expects the
distribution to take the form of a spin-off by means of a special dividend to
its common stockholders of all of the Companys common stock owned by the
Parent approximately six months after the Companys completed IPO.
Completion of the distribution is contingent upon the satisfaction or waiver of
a variety of conditions described in the Company's Registration Statement on
Form S-1, including the receipt of a favorable opinion of
the Parents tax counsel as to the tax-free nature of the distribution for
U.S. federal income tax purposes. The distribution may not occur by the
contemplated time or may not occur at all.

The Company's interim
financial statements have been derived from the consolidated financial
statements and accounting records of the Parent, in which the Company has been
reported as a separate segment, using the historical results of operations, and
historical basis of assets and liabilities of its business. The statements of
operations include expense allocations for certain corporate functions
historically provided to us by an Affiliate, including administrative services
(accounting, human resources, tax services, legal and treasury), inventory
management and order fulfillment, credit card processing, information systems
operation and administration, advertising services, and use of office space.
These allocations were made on a specifically identifiable basis or using the
relative percentages, as compared to the Parent's other businesses, of net
sales, payroll, net cost of goods sold, square footage, headcount or other
methods. The Company has not made a determination of whether these expenses are
comparable to those it could have obtained from an unrelated third party. The
Company's expenses as a separate, stand-alone company may be higher or lower
than the amounts reflected in the statements of operations. Additionally, the
Parent uses a centralized approach to cash management and the financing of its
operations with all related activity between an Affiliate and the Company
reflected as inter-company payables and receivables on the Companys
balance sheet.

On September 1, 2004, the
Company completed the sale of 3,465,000 shares of its common stock for aggregate
consideration of $20,097, less underwriting discounts and commissions of $1,407.
The Company incurred approximately $2,139 of offering expenses in connection
with the offering. No offering expenses were paid directly or indirectly to any
of its directors or officers (or their associates) or persons owning ten percent
(10%) or more of any class of its equity securities or to any other affiliates.
The Companys net proceeds of the offering after deducting its offering
expenses were $16,551. In connection with the IPO, the Company paid a dividend
of $2,543 to the Parent through a non-cash settlement of the capital
contribution due from the Parent outstanding at the completion of the IPO.

The Company believes the
assumptions underlying the financial statements are reasonable. However, the
financial statements may not necessarily reflect its results of operations,
financial position and cash flows in the future or what the Companys
results of operations, financial position and cash flows would have been had the
Company been a separate, stand-alone company during the periods presented. The
historical financial information presented herein does not reflect the many
significant changes that will occur in the Companys funding and operations
as a result of its becoming a public company or its spin-off from PC Mall.

The interim financial
statements of eCOST.com, Inc., a Delaware corporation, have been prepared
without audit pursuant to the rules and regulations of the Securities and
Exchange Commission ("SEC"). Certain information and footnote
disclosures normally included in financial statements prepared in accordance
with generally accepted accounting principles have been condensed or omitted
pursuant to such regulations.  These financial statements should be read in
conjunction with the audited financial statements and the notes thereto included
in the Companys Registration Statement on Form S-1, declared effective by
the SEC on August 27, 2004.

In July 2004, the
Companys board of directors declared a 1.4-for-1 stock split, which was
effective upon completion of its IPO. The stock split has been given retroactive
effect in the accompanying financial statements.

In the opinion of
management, the accompanying unaudited condensed financial statements contain
all adjustments consisting solely of normal recurring items necessary for a fair
statement of the Companys financial position at September 30, 2004 and
December 31, 2003 and the results of operations for the three and nine months
ended September 30, 2004 and 2003, and cash flows for the nine months ended
September 30, 2004 and 2003.  The results of operations for the interim
periods are not necessarily indicative of the results of operations for the full
year.

## Stock-Based
Compensation

The Company accounts for its employee stock option plans using the intrinsic
value-based method of accounting prescribed by Accounting Principles Board
Opinion No. 25, "Accounting for Stock Issued to Employees," ("APB 25") and
related interpretations.  Under this method, compensation expense is
recorded on the date of grant only if the current market price of the underlying
common stock exceeded the exercise price.  Statement of Financial
Accounting Standards No. 123, "Accounting for Stock-Based Compensation," ("SFAS
123") established accounting and disclosure requirements using a fair
value-based method for stock option plans.  As allowed by SFAS 123, the
Company continues to apply the intrinsic value-based method of accounting, and
has adopted the disclosure requirements of SFAS 123.





Had compensation cost on
all grants been determined consistent with SFAS 123, the Company's net income
and earnings per share would have been reduced to the pro forma amounts shown
below (in thousands, except per share amounts).



Three months ended
                                                        
                                                        Nine months endedSeptember 30,
                                                        
                                                        September 30,2004
                                                        
                                                        
                                                        2003
                                                        
                                                        2004
                                                        
                                                        
                                                        2003Net income (loss) - as
                                                        reported
                                                        $
                                                        (892)
                                                        
                                                        $
                                                        252
                                                        $
                                                        (907)
                                                        
                                                        $
                                                        723Less: compensation
                                                        expense as determined
                                                        under SFAS 123, net of
                                                        related taxes
                                                        
                                                        (756)
                                                        
                                                        
                                                        (38)
                                                        
                                                        (861)
                                                        
                                                        
                                                        (121)Add: non-cash
                                                        stock-based compensation
                                                        expense included in
                                                        reported net income, net
                                                        of related taxes
                                                        
                                                        809
                                                        
                                                        
                                                        -
                                                        
                                                        869
                                                        
                                                        
                                                        -Net income (loss) -- pro
                                                        forma
                                                        $
                                                        (839)
                                                        
                                                        $
                                                        214
                                                        $
                                                        (899)
                                                        
                                                        $
                                                        602Basic net income (loss)
                                                        per share -- as reported
                                                        $
                                                        (0.06)
                                                        
                                                        $
                                                        0.02
                                                        $
                                                        (0.06)
                                                        
                                                        $
                                                        0.05Basic net income (loss)
                                                        per share -- pro forma
                                                        $
                                                        (0.06)
                                                        
                                                        $
                                                        0.02
                                                        $
                                                        (0.06)
                                                        
                                                        $
                                                        0.04Diluted net income
                                                        (loss) per share -- as
                                                        reported
                                                        $
                                                        (0.06)
                                                        
                                                        $
                                                        0.02
                                                        $
                                                        (0.06)
                                                        
                                                        $
                                                        0.05Diluted net income
                                                        (loss) per share -- pro
                                                        forma
                                                        $
                                                        (0.06)
                                                        
                                                        $
                                                        0.01
                                                        $
                                                        (0.06)
                                                        
                                                        $
                                                        0.04


2.        
Net Income (Loss) Per Share

Basic Earnings Per Share
("EPS") excludes dilution and is computed by dividing net income by
the weighted average number of common shares outstanding during the reported
periods.  Diluted EPS reflects the potential dilution that could occur if
stock options and other commitments to issue common stock were exercised using
the treasury stock method.

The computation of Basic
and Diluted EPS is as follows:

Three months ended
                                                  
                                                  Nine months endedSeptember 30,
                                                  
                                                  September 30,2004
                                                  
                                                  
                                                  2003
                                                  
                                                  
                                                  2004
                                                  
                                                  
                                                  2003Net income (loss)
                                                  
                                                  $
                                                  (892)
                                                  
                                                  
                                                  $
                                                  252
                                                  
                                                  
                                                  $
                                                  (907)
                                                  
                                                  
                                                  $
                                                  723Weighted average shares --
                                                  Basic
                                                  
                                                  
                                                  15,155,000
                                                  
                                                  
                                                  
                                                  14,000,000
                                                  
                                                  
                                                  
                                                  14,385,000
                                                  
                                                  
                                                  
                                                  14,000,000Effect of dilutive stock
                                                  options (a)
                                                  
                                                  
                                                  -
                                                  
                                                  
                                                  
                                                  465,289
                                                  
                                                  
                                                  
                                                  -
                                                  
                                                  
                                                  
                                                  448,081Weighted average shares --
                                                  Diluted
                                                  
                                                  
                                                  15,155,000
                                                  
                                                  
                                                  
                                                  14,465,289
                                                  
                                                  
                                                  
                                                  14,385,000
                                                  
                                                  
                                                  
                                                  14,448,081Basic earnings (loss) per
                                                  share
                                                  
                                                  $
                                                  (0.06)
                                                  
                                                  
                                                  $
                                                  0.02
                                                  
                                                  
                                                  $
                                                  (0.06)
                                                  
                                                  
                                                  $
                                                  0.05Diluted earnings (loss) per
                                                  share
                                                  
                                                  $
                                                  (0.06)
                                                  
                                                  
                                                  $
                                                  0.02
                                                  
                                                  
                                                  $
                                                  (0.06)
                                                  
                                                  
                                                  $
                                                  0.05


(a)  Potential common shares of 1,008,400 for the three months and nine
months ended September 30, 2004 have been excluded from the earnings per share
computations because the effect of their inclusion would be anti-dilutive.

3. Non-Cash Stock-Based Compensation

In March 2004, the Company
granted an option under its 1999 Stock Incentive Plan (the "1999 Plan") to purchase 560,000 shares of common stock to its Chief
Executive Officer at an exercise price of $6.43 per share. This grant resulted
in the recognition of deferred non-cash stock-based compensation based on the
estimated deemed fair value of the common stock on the date of grant of $10.00.
An aggregate of 25% of the shares of common stock subject to this option vested
upon the completion of the Companys IPO. The remainder of the shares of
common stock subject to this option will vest in equal quarterly installments
over a three-year period, following the Companys IPO. The Company has
recorded a non-cash stock-based compensation charge of $0.4 million for the
three months ended September 30, 2004 and $0.5 million for the nine months ended
September 30, 2004 to reflect compensation expense related to the accelerated
vesting of shares under this option as a result of its IPO. The Company will
also recognize additional non-cash stock-based compensation expense of $1.5
million relating to the March 2004 option, which will be amortized over the
remaining three-year vesting period.

Additionally, options to purchase an aggregate of 358,400 shares of the Company's common stock
were outstanding under the 1999 Plan at a weighted average exercise price of
$0.34.  These options have terms that
(i) restrict exerciseability based on the earlier of a corporate transaction
involving the Company (e.g. a merger or consolidation or disposition of all or
substantially all of the Companys assets) as defined, the Companys
initial public offering or the lapse of a five or seven year period from date of
grant, and (ii) for certain awards, provide repurchase rights to the Company at
the original exercise price in the event of employee termination, which rights
terminate in the event of a corporate transaction or IPO. No options were
exercisable prior to the Companys IPO which was completed on September 1,
2004, and the time-based vesting terms were not deemed substantive as the awards
were effectively contingent upon a corporate transaction or the Companys
IPO.  Due to such contingency, the Company had deemed the awards to be
variable awards under APB 25 as the probability of these contingent events could
not be reasonably determined. As a result of the closing of the Companys
IPO on September 1, 2004, at an offering price of $5.80 per share, the Company
recognized a compensation charge of $0.8 million based on the intrinsic value of
these awards.

In 2004, we adopted our 2004 Stock Incentive Plan. A total of
6,300,000 shares of our common stock are reserved for issuance under our 2004
Stock Incentive Plan, subject to adjustment for a stock split, or any future
stock dividend or other similar change in our common stock or our capital
structure. Commencing on the first business day of each calendar year beginning
in 2005, the number of shares of stock reserved for issuance under the
2004 Stock Incentive Plan will be increased annually by a number equal to 3% of
the total number of shares outstanding as of December 31 of the immediately
preceding year or such lesser number of shares as may be determined by the plan
administrator. Notwithstanding the foregoing, of the number of shares specified
above, the maximum aggregate number of shares available for grant of incentive
stock options shall be 6,300,000 shares, subject to adjustment for a stock
split, or any future stock dividend or other similar change in our common stock
or our capital structure.  As of September 30, 2004, 90,000 shares have been
granted under the 2004 Stock Incentive Plan, and therefore 6,210,000 shares of
common stock remain available for grant, subject to increase in the future as
described above.

4. Other Contingency

On July 12, 2004, the
Company received correspondence from MercExchange LLC alleging infringement of MercExchanges
U.S. patents relating to e-commerce and offering to license its patent portfolio
to us. On July 15, 2004, the Company received a follow-up letter from
MercExchange specifying which of its technologies MercExchange believes infringe
certain of its patents, alone or in combination with technologies provided by
third parties. Some of those patents are currently being litigated by third
parties, and the Company is not involved in those proceedings. In addition,
three of the four patents identified by MercExchange are under reexamination at
the U.S. Patent and Trademark Office, which makes the scope of the claims of
those patents uncertain.  In the July 15 letter, MercExchange also advised
the Company that it has a number of applications pending for additional patents. Each of
the patents identified by MercExchange contains numerous claims. The Company has
not yet had the opportunity to fully assess the merits of the identified patents
or complete its evaluation of the possible impact on its business. MercExchange
has filed lawsuits alleging infringement of some or all of its patents against
third parties, resulting in settlements or verdicts in favor of MercExchange. At
least one such verdict has been appealed to the United States Court of Appeals
for the Federal Circuit.  Based on the Company's investigation of this
matter to date, the Company believes that its current operations do not infringe
any valid claims of the patents identified by MercExchange in these letters.
There can be no assurance, however, that such claims will not be material or
adversely affect the Company's business, financial position, results of
operations or cash flows.

5. Commercial Lines of Credit

Prior to the IPO, the Company was a co-borrower with joint and
several liability with PC Mall and certain of its other subsidiaries (the
"Borrowing Group") under an asset-based revolving credit facility (the "Parent
Commercial Line of Credit") and a Term Note. Effective upon closing of the
Company's IPO, the Company has been released from all obligations of the Parent
Commercial Line of Credit and Term Note.

Although the Company has not directly utilized proceeds from the
Parent Commercial Line of Credit or the Term Note, because it was legally a
borrower under the Parent Commercial Line of Credit and the Term Note, and had
joint and several legal liability under their terms, the entire obligation which
was included in the Parent's consolidated financial statements is also reflected
in the accompanying stand-alone financial statements of the Company for
financial reporting purposes for all periods prior to the IPO. In addition, the
Company accrued related interest expense on the obligation and unused commitment
fees payable under the arrangement through the closing date of the IPO. However,
on a stand-alone basis, prior to the IPO, the Company did not have the financial
wherewithal, resources or collateral to enter into an asset-based credit
facility of this size or nature, nor did the Company comply on a stand-alone
basis with the financial covenants as provided for under the agreement. As such,
the Company would not have been able to make the required principal and interest
payments due on the obligation on a stand-alone basis without reliance upon the
Parent to fund such principal and interest payments in an amount and at such
times as they become due. Accordingly, for financial reporting purposes, in the
Company's stand-alone financial statements for periods presented prior to the
IPO, the Company has recognized a corresponding receivable from the Parent equal
to the amount of principal and interest and unused commitment fees payable under
the obligation which is reflective of the operative borrowing arrangement with
the bank within the Borrowing Group. As debt is repaid by the Parent, the
receivable from the Parent and the debt outstanding in the Company's financial
statements are correspondingly reduced. As a result, the outstanding principal
and interest due under the Parent Commercial Line of Credit and the Term Note,
at any point in time is offset by a corresponding receivable from the Parent on
the accompanying Balance Sheet, with equal amounts of interest expense
recognized under the obligation and interest income recognized on the receivable
from the Parent which are presented separately as interest income and expense in
the accompanying Statement of Operations. The amounts recognized as interest
expense and interest income were $304 for the two months ended August 31, 2004,
compared with $363 for the three months ended September 30, 2003. This financial
presentation results in net interest expense of $0 under the Parent Commercial
Line of Credit and the Term Note in each of the periods reported which is
representative of the repayments of principal and interest being funded by a
loan receivable from the Parent for which principal and interest payments match
the timing and amount of principal and interest payments due on the Parent
Commercial Line of Credit and the Term Note.

The Company has an asset-based line of credit of up to
$15 million with a financial institution, which is secured by substantially all
of its assets. The credit facility functions as a working capital line of credit
with the Company's borrowings under the facility limited to a percentage of its
inventory and accounts receivable. Outstanding amounts under the facility bear
interest initially at the prime rate plus 0.25%. Beginning in 2006, outstanding
amounts under the facility will bear interest at rates ranging from the prime
rate to the prime rate plus 0.5%, depending on the Company's financial results.
At September 30, 2004, the prime rate was 4.75%. In connection with the line of
credit, the Company entered into a cash management arrangement whereby its
operating accounts will be swept and used to repay outstanding amounts under the
line of credit. The credit facility contains standard terms and conditions
customarily found in similar facilities offered to similarly situated borrowers.
The credit facility limits the Company's ability to make acquisitions above
pre-defined dollar thresholds, requires the Company to use the proceeds from any
future stock issuances to repay outstanding amounts under the facility, and has
as its sole financial covenant a minimum tangible net worth requirement. As of
September 30, 2004 the Company is in compliance with its sole financial
covenant. Borrowing availability is subject to satisfaction of certain standard
conditions, including receipt of a waiver from the Company's landlord at its
corporate headquarters, permitting the lender to access the premises to take
possession of personal property collateral in the event of a default under the
line of credit. Fees under the credit facility include an upfront cash fee, an
annual unused line fee of 0.375% of the unused portion of the line and a
termination fee ranging from 0.20% to 0.75% depending on the timing of any
termination of the facility. The credit facility will mature in March 2007. 
As of September 30, 2004, the Company had no borrowings under its asset-based line of credit.

6. Transactions with Affiliate

Since inception, the Affiliate has provided various services such
as administration, warehousing and distribution, and use of its facilities to
the Company. Immediately prior to the closing of the IPO, the Company entered
into several new services agreements with the Affiliate covering substantially
the same services as historically provided. A more detailed discussion of these
agreements is contained in the Company's Registration Statement on Form S-1. In
addition, the Company purchases a majority of its products from the Affiliate.

Direct and allocated costs charged from the Affiliate included in
the accompanying statements of operations are as follows:

`Three months endedSeptember
    30,
    
    
    Nine months ended September 30,2004
    
    
    2003
    
    
    2004
    
    
    2003Cost of goods sold (including
    cost of products, shipping and fulfillment)
    $
    36,133
    
    $
    20,101
    
    $
    100,641
    
    $
    57,221Selling, general and
    administrative expenses
    
    632
    
    
    539
    
    
    1,702
    
    
    1,500Interest Expense
    
    11
    
    
    -
    
    
    11
    
    
    76


Other Related Party Matters

In 2003, the Company's
Parent made a capital contribution of $18,000 to the Company, which was recorded
as Additional Paid-in Capital. The capital contribution was used to repay the
cumulative advances to the Company from the Parent at that time of $15,457, and
the difference of $2,543 was returned back to the Parent, resulting in a Capital
contribution due from the Parent, a contra-equity account on the Companys
Balance Sheet. Such amount was repaid in the form of a dividend at the closing
of the IPO. At September 30, 2004, the Company had a net advance due to
Affiliates of $3,300, which represents amounts funded by the Affiliate on the
Companys behalf, in excess of the Companys cash receipts collected
by the Affiliate. Such amounts have been repaid in the fourth quarter of 2004.

Interest expense was
charged to the Company by the Affiliate during periods when the Company owed
balances due to the Affiliate. However, no interest income was recorded during
periods when the Company had net balances due from the Affiliate. Interest
expense was calculated using the prime rate in effect at that time multiplied by
the cumulative balance due to the Affiliate, net of an amount equal to
approximately one months inventory purchases (to approximate standard
vendor terms). In the three months ended September 30, 2004, the Affiliate
charged the Company $11 in interest expense related to net advances owed as of
June 30, 2004.

## Table of
Contents

## Forward-Looking
Statements

This Report, including the
Managements Discussion and Analysis that follows, contains forward-looking
statements within the meaning of Section 27A of the Securities Act of 1933, as
amended, and Section 21E of the Securities Exchange Act of 1934, as amended.
These forward-looking statements are not historical facts but rather are based
on current expectations, estimates and projections about our industry, our
beliefs and assumptions. We use words such as "anticipate," "expect," "intend,"
"plan," "believe," "seek," "estimate," and variations of these words and
similar expressions to identify forward-looking statements. These statements are
not guarantees of future performance and are subject to certain risks,
uncertainties and other factors, some of which are beyond our control, are
difficult to predict and could cause actual results to differ materially from
those expressed or forecasted in the forward-looking statements.

These risks and
uncertainties include, but are not limited to, the following:

-   our limited operating history makes
evaluation of our business difficult and our historical financial information
may not be representative of what our actual results would have been if we were
an independent company or indicative of what our future results may be;

-    we may not be able to achieve or
maintain profitability and our operating results may be difficult to predict;

-    we currently rely on PC Mall's
operational and administrative infrastructure through our transition agreements
with PC Mall, and our ability to operate our business will suffer if we do not
develop our own infrastructure quickly and cost-effectively;

-     if we fail to accurately predict
our inventory risk, our margins may decline as a result of write downs of our
inventory due to lower prices obtained from older or obsolete products;

-    we may not be able to maintain
existing or build new vendor relations including favorable product pricing and
vendor consideration, which may affect our ability to offer a
broad selection of products at competitive prices and negatively impact our
results of operations;

-    we may need additional financing
and may not be able to raise additional financing on favorable terms or at all,
which could increase our costs, limit our ability to grow and dilute the
ownership interests of existing stockholders;

-     we may fail to expand our
merchandise categories, product offerings, website and processing systems in a
cost-effective and timely manner;

-     we may not be able to retain key
personnel or attract and retain additional personnel;

-     our senior management team has not
worked together as a group for a significant period of time, and may not be able
to effectively manage our business;

-     our ability to effectively manage
our growth may prevent us from successfully expanding our business;

-     our advertising and marketing
efforts may be costly and may not achieve desired results;

-     increased product returns or a
failure to accurately predict product returns could decrease our revenues and
impact profitability;

-    as part of our growth strategy, we
may implement a membership fee for access to premium offers and services, which
may cause some of our customers to reduce or quit buying products from us;

-     our business may be harmed by
fraudulent activities on our website, including fraudulent credit card
transactions;

-     our facilities and systems are
vulnerable to natural disasters or other catastrophic events;

-     we may not be able to compete
successfully against existing or future competitors, which include PC Mall and
some of our largest vendors;

-     we may be subject to claims or
litigation regarding our intellectual property or the products we sell;

-     our success is tied to the
continued use of the Internet and the adequacy and security of the Internet
infrastructure;

-     existing or future government and
tax regulations could expose us to liabilities or costly changes in our business
operations;

-     PC Mall's controlling ownership of
our common stock could lead to conflicts of interest, and the sale by PC Mall of
our stock could adversely affect the market price of our stock;

-    we may be required to indemnify PC
Mall for taxes arising in connection with our spin-off from PC Mall, and the tax
characteristics of the spin-off may interfere with our ability to engage in
desirable strategic transactions and to issue equity securities; and

-    if the
distribution of our stock by PC Mall is delayed or not completed at all, the
liquidity of shares and our ability to raise capital by other means may be
impaired

This list of factors above
is not intended to be exhaustive. Reference should also be made to the factors
set forth from time to time in our SEC reports, including but not limited to
those set forth in the section entitled "Risk Factors" in our
Registration Statement on Form S-1, which was declared effective by the SEC on
August 27, 2004. All forward-looking statements in this report are made as of
the date hereof, based on information available to us as of the date hereof, and
we assume no obligation to update or revise any of these forward-looking
statements even if experience or future changes show that the indicated results
or events will not be realized.

## ITEM
2.   MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS

## Overview

eCOST.com is a
multi-category online discount retailer of high quality new, close-out and
refurbished brand-name merchandise. We currently offer over 100,000 products in
nine merchandise categories, including computer hardware and software, home
electronics, digital imaging, watches and jewelry, housewares, DVD movies, video
games, travel, and licensed sports apparel and memorabilia. We appeal to a broad
range of consumer and small business customers through what we believe is a
unique and convenient buying experience offering two shopping formats: every day
low price and our proprietary Bargain Countdown. This combination of
shopping formats helps attract value-conscious customers looking for high
quality products at low prices to our eCOST.com website. We also provide rapid
response customer service utilizing a strategically located distribution center
and third-party fulfillment providers, as well as customer support from online
and on-call sales representatives. We offer suppliers an efficient sales channel
for merchandise in all stages of the product life cycle. We carry products from
leading manufacturers such as Apple, Canon, Citizen, Denon, Hewlett-Packard,
IBM, JVC, Nike, Nikon, Onkyo, Seiko, Sony and Toshiba and have access to a broad
and deep selection of merchandise, including deeply discounted close-out and
refurbished merchandise. We believe that our extensive selection of merchandise
offered across a broad range of categories in a convenient shopping environment,
combined with our rapid response service, creates customer loyalty and repeat
customer orders.

We were incorporated in
Delaware in February 1999, as a wholly-owned subsidiary of PC Mall. We have
operated as a reporting segment of PC Malls business since April 1999. In
September 2004, we completed an initial public offering of 3,465,000 shares our
common stock, leaving PC Mall with ownership of approximately 80.2% of the
outstanding shares of our common stock. PC Mall has advised us that it intends
to distribute its remaining ownership interest in our company to its common
stockholders. We refer to this as the "distribution" or the "spin-off." PC Mall expects the distribution to take the form of a
spin-off by means of a special dividend to its common stockholders of all of our
common stock owned by PC Mall approximately six months after completion of our
IPO. Completion of the distribution is contingent upon the satisfaction or
waiver of a variety of conditions described elsewhere in this report,
including the receipt of a favorable opinion of PC Malls tax counsel as to
the tax-free nature of the distribution for U.S. federal income tax purposes.
The distribution may not occur by the contemplated time or may not occur at all.

Our financial results are
influenced by factors in the marketplace in which we operate and our successful
execution of our business strategy. Marketplace factors include competition for
customers, product pricing, online advertising costs, growth in online shopping,
and promotional offers such as coupons and free shipping. We expect that the
online marketplace environment will remain a price competitive and
promotion-driven environment where companies that run efficient, high volume
operations thrive. Our ability to execute our business strategy successfully
will require us to meet a number of challenges, particularly our ability to:

-      remain price competitive while
maintaining or increasing our gross margins;

-      establish separate operations,
vendor relationships, and inventory management and fulfillment functions;

-      continue to find efficient ways to
invest in advertising as we grow our customer base;

-      maintain or increase our levels of
vendor marketing and co-op advertising funds; and

-      develop and grow new merchandise
categories.

## Basis of
Presentation

Our financial statements
have been derived from the consolidated financial statements and accounting
records of PC Mall, in which we have been reported as a separate segment, using
the historical results of operations, and historical basis of assets and
liabilities of our business. The statements of operations include expense
allocations for certain corporate functions historically provided to us by PC
Mall, including administrative services (accounting, human resources, tax
services, legal and treasury), inventory management and order fulfillment,
credit card processing, information systems operation and administration,
advertising services, and use of office space. These allocations were made on a
specifically identifiable basis or using the relative percentages, as compared
to PC Malls other businesses, of net sales, payroll, net cost of goods
sold, square footage, headcount or other. We have not made a determination of
whether these expenses are comparable to those we could have obtained from an
unrelated third party. Our expenses as a separate, stand-alone company may be
higher or lower than the amounts reflected in the statements of operations.
Additionally, PC Mall uses a centralized approach to cash management and the
financing of its operations with all related activity between PC Mall and our
company reflected as inter-company payables and receivables on our balance
sheet.

We believe the assumptions
underlying the financial statements are reasonable. However, the financial
statements may not necessarily reflect our results of operations, financial
position and cash flows in the future or what our results of operations,
financial position and cash flows would have been had we been a separate,
stand-alone company during the periods presented. The historical financial
information presented in this Report does not reflect the many significant
changes that will occur in our funding and operations as a result of our
becoming a public company or our spin-off from PC Mall.

Financial Operations Overview

Our management monitors a
variety of financial and non-financial metrics on a daily, weekly and monthly
basis in order to track the progress of our business and make adjustments as
necessary. We believe that the most important of these measures include sales,
orders shipped, website traffic, active customers, new customers, number of
orders, average order value, gross margin, co-op advertising revenues, customer
acquisition costs, advertising expense, personnel costs, fulfillment costs,
relationship manager productivity, and accounts receivable aging for our
business customers. Management compares the various metrics against goals and
budgets, and takes appropriate action to enhance our performance. Our management
also monitors additional measures such as liquidity and cash resources. As we
transition to becoming an independent company, we anticipate that management
will focus on further measures such as inventory turnover.

We derive our revenue from
sales of products and services to consumers and businesses. Consumer sales
consist of orders placed through our eCOST.com website or by inbound telephone
orders. Business sales consist of sales made to customers assigned a
customer relationship manager. In addition, business sales include orders placed through
customized corporate websites. Sales to unassigned business customers are
included in consumer sales.  We also recently launched our travel category,
which is an affiliate arrangement with a third party travel services provider
under which we receive commissions for travel reservations made through our
eCOST.com website. We further generate revenue from handling fees and
shipping fees we charge our customers, as well as other services. We record our
revenue net of returns, coupons, credit card fraud and chargebacks, and other
discounts. Our revenues may fluctuate from period to period as a result of
special offers we provide such as free shipping, coupons and other special
promotions.

Consumer sales represented
70% and 65% of our total net sales for the three months ended September 30, 2003
and 2004 and 71% and 64% of total net sales for the nine months ended September
30, 2003 and 2004. Business sales represented 30% and 35% of our total net sales
for the three months ended September 30, 2003 and 2004 and 29% and 36% of total
net sales for the nine months ended September 30, 2003 and 2004. No single
customer accounted for more than 2% of our total net sales for the three and
nine months ended September 30, 2004.

We believe that the
principal drivers of our revenue consist of the average order value placed by
our customers, the number of orders placed by both existing and new customers,
special offers we make available that result in incremental orders, our ability
to attract new customers and advertising that impacts the aforementioned drivers
of our revenue.

Our net sales are derived
primarily from the sale of computer hardware, software, peripherals,
electronics, and other consumer products to individual consumers and businesses
through the internet, dedicated telemarketing sales executives,
relationship-based telemarketing techniques, direct response catalogs and
advertisements. Gross
profit consists of net sales less product costs, inbound and outbound shipping
costs and offset by certain marketing development funds. Such funds are received
from manufacturers of products included in our catalogs and web sites, as well
as co-operative advertising funds ("co-op") on products purchased from
manufacturers and vendors.

Cost of goods sold
primarily consists of the cost of the product, inbound and outbound shipping,
fixed and variable fulfillment costs charged to us by PC Mall and restocking
fees on returned products charged to us by PC Mall. Cost of goods sold is
reduced by certain vendor consideration, such as market development funds and
co-op advertising funds, which has been sold by our vendor marketing team and
allocated and credited to us by PC Mall. For the three months ended September
30, 2003 and 2004, we derived approximately 83% and 88% of our net sales from
products sold out of inventory purchased from PC Mall, and we purchased the
remaining inventory from independent suppliers. For the nine months ended
September 30, 2003 and 2004, these percentages were 83% and 88% of our net
sales. We expect to begin purchasing substantially all of our inventory from
independent suppliers other than PC Mall prior to the completion of the
distribution.

Our gross profit margins
are impacted by a number of factors. Product margins are typically lower for
business sales than for consumer sales and are also affected by the category of
merchandise. Gross profit margin may vary depending on various additional
factors, including the introduction of new product categories, the mix of sales
among our product categories, pricing of products by our vendors, fluctuations
in key vendor support programs and price protection, pricing strategies,
promotional programs, market conditions, packaging, excess and obsolete
inventory charges, and other factors. Prior to the completion of our spin-off
from PC Mall, we expect to transition to performing inventory management and
order fulfillment functions on our own. After we have made this transition,
fulfillment costs will be included in selling, general and administrative
expenses rather than in cost of goods sold. The fulfillment costs included in
cost of goods sold for the three months ended September 30, 2003 and 2004 were
$0.3 million and $0.6 million. For the nine months ended September 30, 2003 and
2004, these amounts were $1.2 million and $1.6 million.

Selling, general and
administrative ("SG&A") expenses consist primarily of advertising
expenses, including online marketing activities and the costs of catalog
production; personnel costs; fixed costs, such as rent, common area maintenance
and depreciation; variable costs, such as credit card processing charges and bad
debt expenditures; legal and accounting fees; administrative service charges
from affiliates of PC Mall; and other costs. As a result of our recent initial
public offering, we have incurred and expect that we will incur additional
general and administrative expenses related to operating as a public company,
such as increased legal and accounting expenses; increased executive
compensation, personnel and employee benefit costs; investor relations costs;
non-employee director costs and higher insurance premiums. In addition, prior to
the completion of the distribution, we plan to enter into a lease for our own
distribution center and will become responsible for our own warehousing,
inventory management and order fulfillment. After we have made the transition to
performing these inventory management and order fulfillment functions, we will
record fulfillment costs in SG&A expenses, and we expect a corresponding
increase in SG&A expenses. To the extent we use traditional forms of offline
advertising in the future, we expect that our SG&A expenses will increase on
an absolute dollar basis and may increase as a percentage of net sales.

Until completion of our
initial public offering, we were a co-borrower under PC Malls $75 million
commercial line of credit, which includes a $5 million flooring facility. The
lenders for these lines released us from all obligations under these credit
facilities upon completion of our initial public offering. PC Mall directly
received all proceeds under this line of credit, and directly paid all principal
and interest with respect thereto. Although we did not directly utilize proceeds
from this line of credit and separately account for amounts we borrowed from PC
Mall, because we were a co-borrower, along with all of the other PC Mall
subsidiaries, with joint and several liability under such line of credit, the
outstanding balance under the PC Mall commercial line of credit included in PC
Malls consolidated financial statements was included for financial
reporting purposes in our stand-alone financial statements. As described below
and in note 5 to our financial statements, our financial statements reflect
offsetting interest expense and interest income with respect to such line of
credit for periods prior to completion of our initial public offering.

"Interest
expensePC Mall" is a charge by PC Mall for advances to us for working
capital. We calculate the amount of this interest expense monthly using the
prime rate in effect at such time multiplied by the cumulative balance due to PC
Mall, net of an amount equal to the amount of approximately one months
inventory purchases (to approximate standard vendor terms).

"Interest
expensePC Mall commercial line of credit" represents PC Malls
consolidated interest expense for advances under its commercial line of credit
made to PC Mall to fund the operations of its consolidated group. "Interest
incomePC Mall commercial line of credit" represents our recognition
of interest income from PC Mall to reimburse us for the consolidated debt
obligation that we record in our financial statements and that reflects PC
Malls cost to fund the operations of its consolidated group. All costs
associated with PC Malls borrowings to fund our operations are recorded
under "Interest expense - PC Mall."

Income taxes were
calculated as if we filed separate tax returns. However, PC Mall has managed its
tax position for the benefit of its entire portfolio of businesses, and its tax
strategies are not necessarily reflective of the tax strategies that we would
have followed or will follow as a stand-alone company. As described below,the release of a $6.0 million valuation allowance on deferred tax assets had
a significant favorable impact on our 2003 results of operations.

We believe there is a
moderate level of seasonality in our business, reflecting fluctuations in online
commerce and the general pattern of peak sales for the retail industry during
the holiday shopping season. Sales in the traditional retail industry are
generally higher in the first and fourth calendar quarters of the year. We
believe that our historical revenue growth makes it difficult to predict the
effect of seasonality on our future revenues and results of operations.

In 1999 and 2000, we
granted non-qualified stock options to certain of our and PC Malls
employees. These options were exercisable only upon the earlier to occur of an
initial public offering or sale of our company or a period of five to seven
years following the grant date of the options. Certain awards contain repurchase
rights at the original exercise price in the event of employee termination,
which right would terminate in the event of an initial public offering or sale
of our company. As a result of the contingent nature of these options, a new
measurement date for options granted to our employees occurred upon the
consummation of our initial public offering, and we recorded non-cash
stock-based compensation expense equal to the difference between the exercise
prices of these options and the initial public offering price for these options.
Based on the initial public offering price of $5.80 per share, we recorded a
non-cash stock-based compensation charge of $0.8 million in connection with
these options upon completion of our initial public offering.

In March 2004, we granted
an option to purchase 560,000 shares of common stock to our Chief Executive
Officer at an exercise price of $6.43 per share. This grant resulted in the
recognition of deferred non-cash stock-based compensation based on the estimated
deemed fair value of the common stock on the date of grant of $10.00. An
aggregate of 25% of the shares of common stock subject to this option vested
upon the completion of our initial public offering. The remainder of the shares
of common stock subject to this option will vest in equal quarterly installments
over a three year period following the offering. Upon completion of our initial
public offering, we recorded a non-cash stock-based compensation charge of $0.4
million in the three months ended September 30, 2004 to reflect compensation
expense related to the accelerated vesting of shares under this option as a
result of our initial public offering. Accordingly, we recognized total
compensation expense of $1.3 million in connection with all of our outstanding
options in the three months ended September 30, 2004 and $1.4 million in the
nine months ended September 30, 2004. We will also recognize an additional $1.5
million in compensation expense relating to the March 2004 option, which will be
amortized over the remaining three-year vesting period.

## Critical
Accounting Policies and Estimates

Our financial statements
have been prepared in accordance with accounting principles generally accepted
in the United States of America. The preparation of our financial statements
requires us to make estimates and assumptions that affect the reported amounts
of assets, liabilities, net sales and expenses, as well as the disclosure of
contingent assets and liabilities. We base our estimates on historical
experience and on various other assumptions that we believe to be reasonable
under the circumstances, the results of which form the basis for making
judgments about carrying values of our assets and liabilities that are not
readily apparent from other sources. Actual results could differ from those
estimates, and we include any revisions to our estimates in our results for the
period in which the actual amounts become known.

Our management considers an
accounting estimate to be critical if:

-     it requires assumptions to be made
that were uncertain at the time the estimate was made; and

-     changes in the estimate or
different estimates that could have been selected could have a material impact
on our results of operations or financial condition.

We believe the critical
accounting policies described below affect the more significant judgments and
estimates used in the preparation of our financial statements:

Revenue Recognition.
We adhere to the revised guidelines and principles of sales recognition
described in Staff Accounting Bulletin No. 104, "Revenue Recognition."
Under SAB 104, sales are recognized when the title and risk of loss are passed
to the customer, there is persuasive evidence of an arrangement for the sale,
delivery has occurred and/or services have been rendered, the sales price is
fixed or determinable and collectibility is reasonably assured. Under these
guidelines, we recognize a majority of our sales, including revenue from product
sales and gross outbound shipping and handling charges, upon receipt of the
product by the customer. For all product sales shipped directly from suppliers
to customers, we are the primary obligor in the transaction, and we take title
to the products sold upon shipment, bear credit risk, and bear inventory risk
for returned products that are not successfully returned to suppliers;
therefore, we recognize these revenues at gross sales amounts.

Sales are reported net of
estimated returns and allowances, coupon redemptions and credit card fraud and
chargebacks, all of which are estimated based upon recent historical information
such as return and redemption rates, and fraud and chargeback experience.
Management also considers any other current information and trends in making
estimates. Our coupon redemptions are based upon the quantity of eligible orders
transacted during the period and the estimated redemption rate, using historical
experience rates for similar products or coupon amounts. Estimated redemption
rates and the related coupon expense and liability are regularly adjusted as
actual coupon redemptions for the program are processed. If actual sales
returns, allowances, discounts, coupon redemptions and credit card fraud and
chargebacks are greater than estimated by management, additional expense may be
incurred.

Allowance for Doubtful
Accounts Receivable. We maintain an allowance for doubtful accounts
receivable based upon estimates of future collection. We extend credit to our
business customers based upon an evaluation of each business customers
financial condition and credit history, and generally do not require collateral.
Our business customers financial condition and credit and payment history
are evaluated in determining the adequacy of our allowance for doubtful
accounts. If estimated allowances for uncollectible accounts subsequently prove
insufficient, additional allowance may be required.

Reserve for Inventory
Obsolescence. PC Mall maintains allowances for the valuation of inventory by
estimating the obsolete or unmarketable inventory based on the difference
between inventory cost and market value determined by general market conditions,
nature, age and type of each product. At such time as we establish our own
inventory management and order fulfillment facilities, we plan to use a similar
methodology for determining our inventory reserves. PC Mall allocates and
charges a portion of such allowance to us in the form of a restocking fee, and
regularly evaluates the adequacy of its inventory reserve and determines the
amount of such reserve to allocate and charge to us. If the inventory reserve
subsequently proves insufficient, additional inventory write-downs may be
required, which is recorded as an increase in cost of goods sold. This
additional write-down amounted to less than $0.1 million in each of the three
and nine months ended September 30, 2003 and 2004.

Income Taxes. Our
income tax provision is computed as if a separate company tax return were being
filed. However, PC Mall files a consolidated federal income tax return and a
combined state income tax return that include our operating results. We account
for income taxes under the liability method, under which we recognize deferred
income taxes by applying enacted statutory tax rates applicable to future years
to differences between the tax bases and financial reporting amounts of our
existing assets and liabilities. We have considered future taxable income and
ongoing prudent and feasible tax planning strategies in assessing the need for a
valuation allowance against our deferred tax assets. In making this assessment,
we are required to consider all available positive and negative evidence to
determine whether, based on such evidence, it is more likely than not that some
portion or all of our net deferred assets will be realized in future periods.
Based on our current forecasts and projections supporting the future utilization
of deferred tax benefits, our recent earnings history, and the fact that net
operating losses of $12.2 million are not limited with respect to their
utilization and are available over a remaining carryover period of approximately
16 to 18 years to offset future taxable income, we have not recorded a valuation
allowance at December 31, 2003 or September 30, 2004. In the event that actual
results differ from those estimates or we adjust those estimates in future
periods, we may need to record a valuation allowance, which may impact deferred
tax assets and the results of operations in the period the change is made.

## Our
Relationship with and Separation from PC Mall

As a subsidiary of PC Mall,
we have received services provided by PC Mall, including administrative services
(accounting, human resources, tax services, legal and treasury), inventory
management and order fulfillment, credit card processing, information systems
operation and administration, advertising services, and use of office space. In
consideration for these services, PC Mall has historically allocated and charged
to us a portion of its related overhead costs. Management believes that the
amounts charged to us by PC Mall generally have been no less favorable to us
than costs we would have incurred to obtain such services on our own or from
unaffiliated third parties. As a result of our initial public offering, we
expect to incur certain costs in connection with operating as a stand-alone
company that will exceed the costs that we historically incurred or were charged
to us by PC Mall. We anticipate that we will incur incremental operating
expenses as a result of becoming a stand-alone public company. These costs
include certain administrative costs for services historically performed for us
by PC Mall, as well as other incremental costs we will incur, including
increased legal and accounting expenses; increased executive compensation;
personnel and employee benefit costs; investor relations costs; non-employee
director costs and higher insurance premiums. After our spin-off from PC Mall,
we expect that we will have additional costs for software and systems to the
extent they are not available on terms as favorable as those we receive as a
subsidiary of PC Mall. In addition, prior to the completion of the distribution,
we plan to enter into a lease for our own distribution center and will become
responsible for our own inventory management and order fulfillment operations.
We also estimate that we will need to spend approximately $2.3 million in
capital expenditures through 2005 to establish ourselves as an independent
company. These expenditures will include warehouse and distribution equipment,
additional hardware and software for our computer systems, and furniture and
fixtures. We expect to fund the purchase of such capital equipment with existing
working capital.

In connection with our
initial public offering, we entered into agreements with PC Mall and/or its
affiliates related to the separation of our business operations from PC Mall and
certain ongoing relationships between us and PC Mall following the IPO. These
agreements cover administrative services, office space, inventory management and
order fulfillment, information systems operation and administration, employee
benefits, intellectual property matters, and other ongoing relationships. These
agreements provide for specified charges generally intended to allow the
providing company to fully recover the allocated direct costs of providing the
services, plus all out-of-pocket costs and expenses, plus an additional 5% on
administrative and other services. Under our arrangement with PC Mall, we
purchase products from PC Mall at its cost, net of the value of any special
discounts or incentives obtained by PC Mall, and we pay a per shipment
fulfillment fee, a monthly inventory management fee and restocking fees for
returned products. We believe that these costs are generally consistent with the
historical costs we were charged by PC Mall for these services. Under our
transition agreements with PC Mall, we receive credit for any vendor
consideration obtained by PC Mall in amounts determined consistent with past
practices. We expect to establish our own inventory management and order
fulfillment capabilities prior to the completion of our spin-off from PC Mall.
After we have completed this transition, we will obtain any vendor consideration
directly from our vendors instead of through PC Mall. With limited exceptions,
the other services to be provided under our agreements with PC Mall are not
expected to extend beyond 12 months from the completion of the IPO. A
description of these arrangements is contained under the heading "Certain
Relationships and Related Transactions" in our registration statement on
Form S-1 filed in connection with our IPO.

## Results of
Operations

## Three Months
Ended September 30, 2004 Compared to the Three Months Ended September 30, 2003

Net
Sales.    Net sales in the three months ended
September 30, 2004 were $43.4 million, an increase of $17.9 million,
or 70%, over the comparable period in 2003. The sales increase was primarily the
result of a 69% increase in advertising expenditures and a related increase of
84% in our twelve months active customers from the same quarter last year. Sales
to customers assigned to a relationship manager increased 99% over the
comparable prior year period primarily due to an increase in the number of
accounts managed by a relationship manager. Product categories experiencing the
most significant change were computers, up $5.6 million and home electronics, up
$4.5 million over the prior year comparable period.

Gross
Profit.    Gross profit in the three months ended
September 30, 2004 was $4.1 million, an increase of $1.5 million, or 59%
over the comparable prior year period. The increase in gross profit resulted
form an increase in sales. Gross profit as a percentage of sales decreased to
9.5% from 10.1% in the prior year, primarily due to the result of promotional
pricing and special offers to accelerate customer acquisitions. Gross profit may
be influenced from period to period by changes in vendor support programs
(including price protection, rebates and return policies), product mix, pricing
strategies, competition and other factors.

Selling, General and
Administrative Expenses.    SG&A expenses in the
three months ended September 30, 2004 were $5.5 million, an increase of $3.2
million, or 137% over the comparable prior year period. The increase in SG&A
expenses included approximately $1.3 million of non-cash stock-based
compensation charges related to the IPO, and $0.2 million of  non-capitalized
audit fees related to the IPO and other IPO related expenditures. Further, personnel costs increased $0.5 million,
advertising expenditures increased $0.6 million and other variable general and
administrative expenses increased $0.7 million due to the increase in sales for
the period. As a percentage of net sales, SG&A expenses in the three months
ended September 30, 2004 were 12.7% of net sales, versus 9.1% of net sales in
the comparable prior year period. The increase in SG&A expenses as a
percentage of net sales was primarily due to the non-cash stock-based
compensation charge, which comprised for nearly 3% of the increase, as well as
other increases in personnel costs as a percentage of sales. Such increases were
offset by lower administrative service charges from PC
Mall as a percentage of net sales. The dollar amount of the administrative
service charges in the three months ended September 30, 2004 are substantially
the same as the prior year and, thus, declined as a percentage of sales due to
sales growth. The administrative service charges have been generally allocated
and charged to us using several factors, including net sales, cost of goods
sold, square footage, systems utilization, headcount.  For the first two
months of the third quarter of 2004, administrative service charges were charged
to us as they have been historically.  For the last month of the third
quarter of 2004, administrative service charges were based on monthly fees
pursuant to our Administrative Services Agreement and Information Technology
Systems Usage and Services Agreement with PC Mall.

Interest Expense or
Income.    "Interest expense-PC Mall commercial line of credit" is offset in
each reported period by "Interest income-PC Mall commercial line of credit."
These amounts were lower in the three months ended September 30, 2004 from the
prior year due to the fact that we were co-borrowers with joint and several
liability with PC Mall for only the first two months of the three-month period
ended September 30, 2004.  Effective upon the closing of the IPO on
September 1, 2004, we have been released from all obligations of the PC Mall
commercial line of credit and term note.

The Company recorded an
income tax benefit for the three months ended September 30, 2004 of $0.5 million
and no tax provision was recorded for the three months ended September 30,2003
due to our valuation allowance being large enough to absorb the resultant tax
provision based on our income before income taxes in same period in the prior
year.  The Company utilized an effective tax rate of 37.1% for the
three months ended September 30, 2004 and had no tax provision for the three
months ended September 30, 2003.

Net loss was  $0.9
million, or ($0.06) per share, for the three months ended September 30, 2004
compared to net income of $0.3 million, or $0.02 per share, for the three months
ended September 30, 2003.

## Nine Months
Ended September 30, 2004 Compared to the Nine Months Ended September 30, 2003

Net
Sales.    Net sales in the nine months ended September 30, 2004 were $120.4
million, an increase of $47.1 million, or 64% over the comparable period in
2003. The sales increase was primarily the result of a 72% increase in
advertising expenditures and a related increase of 84% in our twelve months
active customers from the same period last year. New customers for the nine
months ended September 30, 2004 increased by 89% compared to the same period last year due
to increased awareness of our website derived from additional advertising
spending during the first nine months of 2004.  Product categories
experiencing the most significant change were computers, up $20.5 million and
home electronics, up $9.4 million over the prior year comparable period.

Gross
Profit.    Gross profit in the nine months ended September 30, 2004 was
$11.3 million, an increase of $3.9 million, or 52% over the comparable prior
year period. Gross profit as a percentage of sales decreased to 9.4% from 10.2%
in the prior year, primarily due to the result of a decrease in vendor support
programs and promotional pricing and special offers to accelerate customer
acquisitions. Gross profit may be influenced from period to period by changes in
vendor support programs (including price protection, rebates and return
policies), product mix, pricing strategies, competition and other factors.

Selling, General and
Administrative Expenses.    SG&A expenses in the
nine months ended September 30, 2004 were $12.8 million, an increase of $6.1
million, or 92% over the comparable prior year period. The increase in SG&A
expenses included a non-cash stock-based compensation charge of $1.4 million,
and non-capitalized audit fees related to the IPO and other related IPO
expenditures of $0.6 million. Further,
advertising expenditures increased $1.6 million, and credit card processing
charges increased $0.9 million, commensurate with the increase in net sales over
the prior year comparable period.  As a percentage of net sales, SG&A
expenses in the nine months ended September 30, 2004 were 10.6% of net sales,
versus 9.1% of net sales in the comparable prior year period. The increase in
SG&A expenses as a percentage of net sales was primarily due to the non-cash
stock-based compensation charge, which accounted for nearly 1.2% of the
increase, as well as the audit fees and other related IPO expenditures described above. Such increases were offset
by a decline in administrative service charges from PC Mall as a percentage of
net sales. The administrative service charges have been generally allocated and
charged to us using several factors, including net sales, cost of goods sold,
square footage, systems utilization, headcount and other factors. These charges
commenced upon the completion of our IPO and are based on monthly fees pursuant
to our Administrative Services Agreement and Information Technology Systems
Usage and Services Agreement with PC Mall.

Interest
Expense.    Interest expense decreased to zero from $0.1
million in the prior year due to PC Malls additional investment of $18.0
million in our company in early 2003, which reduced the amount of advances to us
from PC Mall to a net receivable. "Interest expensePC Mall commercial line of credit" is
offset in each reported period by "Interest incomePC Mall commercial
line of credit." These amounts increased in the nine months ended September
30, 2004 by $0.3 million from the prior year due to increased borrowings by PC
Mall and its subsidiaries under the PC Mall commercial line of credit.

The Company recorded an
income tax provision for the nine months ended September 30, 2004 of $0.5
million and no tax provision for the nine months ended September 30, 2003 due to
our valuation allowance being large enough to absorb the resultant tax provision
based on our income before income taxes in same period in the prior year. 
The Company utilized an effective tax rate of 37.1% for the nine months
ended September 30, 2004 and had no tax provision for the nine months ended
September 30, 2003.

Net loss was  $0.9 million, or ($0.06) per share, for the nine months ended September 30, 2004
compared to net income of $0.7 million, or $0.05 per share, for the same period
last year.

## Liquidity and
Capital Resources

Historically, our primary
sources of financing have come from cash flow from operations and investments
from PC Mall. In September 2004, we completed an initial public offering of
3,465,000 shares of our common stock, which yielded net proceeds of $16.6
million after
underwriting discounts and commissions and offering expenses.  In April
2004, PC Mall agreed to extend a line of credit to us of up to $10.0 million for
necessary working capital requirements, which obligation terminated upon
completion of our IPO. Following the IPO, PC Mall no longer has an obligation to
support our working capital needs. Prior to the IPO, we participated in PC
Malls cash management program, whereby our trade cash receipts were
handled by PC Mall and swept daily from our account. Such cash was re-advanced by
PC Mall for our working capital needs. Accordingly, we have reported no cash or
cash equivalents historically.  Since the completion of our IPO, we are
transitioning the cash management services from PC Mall to us.

In 2003, PC Mall made a
capital contribution of $18.0 million to us, which we used to repay the
cumulative advances to us from PC Mall of $15.5 million outstanding at that
time. In accordance with PC Malls cash management program, the balance of
$2.5 million was returned to PC Mall, and we have recorded a capital
contribution due from PC Mall reflecting this amount. In connection with our
IPO, we paid a dividend of $2.5 million to PC Mall through a non-cash settlement
of the capital contribution due from PC Mall outstanding at the completion of
our IPO.

The following table sets
forth elements of our cash flows for the periods indicated (dollars in
thousands):

Nine Months EndedSeptember 30,2004
                                                                                
                                                                                
                                                                                2003Net cash provided by (used in) operating activities
                                                                                $
                                                                                (1,700)
                                                                                
                                                                                $
                                                                                1,806Net cash used in investing activities
                                                                                
                                                                                (125)
                                                                                
                                                                                
                                                                                (1)Net cash provided by (used in) financing activities
                                                                                
                                                                                21,563
                                                                                
                                                                                
                                                                                (1,805)


Accounts receivable, which
include trade and credit card receivables, increased to $3.3 million at
September 30, 2004 from $2.0 million at December 31, 2003, primarily due to
growth in net sales.  Inventories, which represent only inventory already shipped
from our suppliers, but not yet received by customers, increased to $1.5 million
at September 30, 2004 from $1.2 million at December 31, 2003, also caused by the
increase in net sales. As of September 30, 2004, we had $16.0 million of working
capital, as a result of our receipt of the net proceeds of our IPO.

At December 31, 2003, we
had net operating loss carryforwards of $12.2 million which may be available to
offset future taxable income and expire in approximately 16 to 18 years. During
tax years in which we are a member of PC Mall's consolidated group for the
entire tax year, net operating loss carryforwards may be utilized on PC Mall's
consolidated return. If we cease to be a member of PC Mall's consolidated group
for U.S. federal income tax purposes, available net operating loss carryforwards
will first be utilized on PC Mall's consolidated return for that year, and only
the amount of net operating loss carryforwards not used by PC Mall's
consolidated group in that year will be available for us in subsequent taxable
years. Our ability to use these net operating loss carryforwards to offset any
future taxable income depends on a variety of factors.

We have an asset-based line
of credit of up to $15 million with a financial institution, which is secured by
substantially all of our assets. The credit facility functions as a working
capital line of credit with our borrowings under the facility limited to a
percentage of our inventory and accounts receivable. Outstanding amounts under
the facility bear interest initially at the prime rate plus 0.25%. Beginning in
2006, outstanding amounts under the facility will bear interest at rates ranging
from the prime rate to the prime rate plus 0.5%, depending on our financial
results. At September 30, 2004, the prime rate was 4.75%. In connection with the
line of credit, we entered into a cash management arrangement whereby our
operating accounts will be swept and used to repay outstanding amounts under the
line of credit. The credit facility contains standard terms and conditions
customarily found in similar facilities offered to similarly situated borrowers.
The credit facility limits our ability to make acquisitions above pre-defined
dollar thresholds, requires us to use the proceeds from any future stock
issuances to repay outstanding amounts under the facility, and has as its sole
financial covenant a minimum tangible net worth requirement. As of September 30,
2004 we are in compliance with its sole financial covenant. Borrowing
availability is subject to satisfaction of certain standard conditions,
including receipt of a waiver from our landlord at our corporate headquarters,
permitting the lender to access the premises to take possession of personal
property collateral in the event of a default under the line of credit. Fees
under the credit facility include an upfront cash fee, an annual unused line fee
of 0.375% of the unused portion of the line and a termination fee ranging from
0.20% to 0.75% depending on the timing of any termination of the facility. The
credit facility will mature in March 2007.  As of September 30, 2004, we
had no borrowings under our asset-based line of credit.

We currently estimate that
we will incur incremental additional operating expenses as a result of becoming
a stand-alone public company. These costs include certain administrative costs
for services currently performed for us by PC Mall, as well as other incremental
costs we will incur, including increased legal and accounting expenses,
increased personnel and employee benefit costs, investor relations costs,
non-employee director costs and higher insurance premiums. After our spin-off
from PC Mall, we expect that we will have additional costs for software and
systems to the extent they are not available on terms as favorable as those we
receive as a subsidiary of PC Mall. In addition, prior to the completion of the
distribution, we plan to enter into a lease for our own distribution center and
will become responsible for our own warehousing, fulfillment and distribution
operations. We also estimate that we will need to spend approximately $2.3
million in capital expenditures through 2005 to establish ourselves as an
independent company. These expenditures will include warehouse and distribution
equipment, additional hardware and software for our computer systems and
furniture and fixtures. We expect to fund the purchase of such capital equipment
with working capital.

Third parties have
asserted, and may in the future assert that our business or the technologies we
use infringe their intellectual property rights. Although we have not been
subject to legal proceedings in the past, we may be subject to intellectual
property legal proceedings and claims in the ordinary course of our business.
For example, in July 2004 we received letters from a third party alleging that
we infringe certain of its patents. Based on our investigation of this matter to
date, we believe that our current operations do not infringe any valid claims of
the patents identified in these letters.  If we are forced to defend
against this or any other third-party infringement claims, we could face
expensive and time-consuming litigation and be required to pay monetary damages,
which could include treble damages and attorneys fees for any infringement
that is found to be willful, and either be enjoined or required to pay ongoing
royalties with respect to any technologies found to infringe. Further, as a
result of infringement claims either against us or against those who license
technology to us, we may be required, or deem it advisable, to develop
non-infringing technology, which could be costly and time-consuming, or enter
into costly royalty or licensing agreements.

We believe that current
working capital, together with cash flows from operations and borrowings
available under our credit facility, will be adequate to support our current
operating plans for at least the next 12 months.

As part of our growth
strategy, we may, in the future, acquire other companies in the same or
complementary lines of business, and pursue other business ventures. Any launch
of a new business venture or any acquisition and the ensuing integration of the
operations of the acquired company with those of ours would place additional
demands on our management, operating and financial resources.

Cash
Flows. Net cash used in operating activities was $1.7 million
for the nine months ended September 30, 2004.  The primary factors that
affected our cash flow from operations were non-cash stock-based compensation,
accounts receivable, capital contributions related to income taxes, inventories,
and accounts payable.  Inventory at September 30, 2004 increased $0.3
million over December 31, 2003.  Accounts receivable at September 30, 2004
increased $1.2 million to $3.3 million from December 31, 2003 due to an increase
in sales.  Accounts payable and book overdraft remained virtually flat from
December 31, 2003.

## Contractual
Obligations

We have entered into
agreements with PC Mall, which provide for, among other things, administrative
services, office space, inventory management and order fulfillment, information
systems operation and administration, employee benefits, intellectual property
matters, and other ongoing relationships. PC Mall provides us with information
systems usage of telecommunications systems and hardware and software systems
and information technology services, and related support services under an
agreement with a term of two years, which we may terminate with six months prior
notice. The administrative services agreement has a term of one year and is
terminable by us upon 90 days notice. Our inventory management and order
fulfillment agreement has a term ending upon the earlier of the completion of
the distribution or the first anniversary of the agreement and may be terminated
by us upon 90 days prior notice. Our aggregate fixed payment obligations to PC
Mall under these agreements for the 12 months (assuming no earlier termination
by either party) following the execution of these agreements is
$1.8 million. This amount does not include charges for our proportionate
share of common area maintenance under our sublease with PC Mall or our use of
telecommunications and systems and hardware and software systems. The agreements
also provide for certain transaction-based fees for fulfillment and shipping. A
more detailed discussion of these agreements with PC Mall is contained under the
heading "Certain Relationships and Related Transactions" in our
registration statements on Form S-1 filed in connection with our initial public
offering.

Inflation has not had a
material impact upon operating results, and we do not expect it to have such an
impact in the near future. There can be no assurances, however, that our
business will not be so affected by inflation.

## ITEM
3.   QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We have exposure to the
risks of fluctuating interest rates on our balance of advances from PC Mall. The
variable interest rate on the advance is tied to the prime rate. If the variable
rate on the advance changes, and we are in a net debt position, we may be
required to pay more interest. We believe that the effect of any change in
interest rates will not be material to our financial position.

It is our policy not to
enter into derivative financial instruments. We do not have any significant
foreign currency exposure since we do not transact business in foreign
currencies. Therefore, we do not have significant overall currency exposure at
September 30, 2004.

## ITEM
4.   CONTROLS AND PROCEDURES

As of the end of the period
covered by this report, we carried out an evaluation, under the supervision and
with the participation of the Chief Executive Officer and Chief Financial
Officer, of the effectiveness of the design and operation of our disclosure
controls and procedures.  Based on this evaluation, the Chief Executive
Officer and Chief Financial Officer concluded that our disclosure controls and
procedures are effective in timely alerting them to material information
required to be included in this report.

There has been no change in
our internal control over financial reporting that occurred during our most
recent fiscal quarter that has materially affected or is reasonably likely to
materially affect our  internal control over financial reporting.

PART II -
OTHER INFORMATION

ITEM 2.  UNREGISTERED SALES OF EQUITY SECURITIES AND USE
OF PROCEEDS

On August 27, 2004, the Securities and Exchange Commission
declared effective our Registration Statement on Form S-1 (File No. 333-115199).
The Registration Statement covered the sale of 3,465,000 shares of our common
stock at an offering price of $5.80 per share. William Blair & Company acted as
managing underwriter in the offering (the "Underwriters"). On September 1, 2004,
we completed the sale of 3,465,000 shares of our common stock for aggregate
consideration of $20.1 million, less underwriting discounts and commissions of
$1.4 million. We incurred approximately $2.1 million of offering expenses in
connection with the offering. No offering expenses were paid directly or
indirectly to any of our directors or officers (or their associates) or persons
owning ten percent (10%) or more of any class of our equity securities or to any
other affiliates. Our net proceeds of the offering after deducting our offering
expenses were $16.6 million. In connection with our IPO, we paid a dividend of
$2.5 million to PC Mall through a non-cash settlement of the capital
contribution due from PC Mall outstanding at the completion of our IPO. Through
September 30, 2004, none of the net proceeds have been used on a cash flow basis
as payments to our vendors were paid for by our Affiliate which is reflected on
our balance sheet as net advances from affiliate. This balance also includes
payments related to our offering expenses.

ITEM 6.   EXHIBITS

ExhibitNumber
       Description2.1
       
       
       Master Separation and Distribution
       Agreement, dated September 1, 2004 (included as Exhibit 10.1 hereto)3.1
       
       
       Amended and Restated Certificate of
       Incorporation (1)3.2
       
       
       Amended and Restated Bylaws (1)10.1
       
       
       Master Separation and Distribution
       Agreement, dated September 1, 200410.2
       
       
       Tax Allocation and Indemnification
       Agreement, dated September 1, 200410.3
       
       
       Employee Benefit Matters Agreement, dated
       September 1, 200410.4
       
       
       Administrative Services Agreement, dated
       September 1, 200410.5
       
       
       Product Sales, Inventory Management and
       Order Fulfillment Agreement, dated September 1, 200410.6
       
       
       Information Technology Systems Usage and
       Services Agreement, dated September 1, 200410.7
       
       
       AF Services Software License Agreement,
       dated September 1, 200410.8
       
       
       Amended and Restated Sublease Agreement,
       dated September 1, 200410.9
       
       
       Registration Rights Agreement with PC
       Mall, dated September 1, 200410.10
       
       
       Registration Rights Agreement with Frank
       Khulusi, dated September 1, 200410.11
       *
       
       eCOST.com, Inc. 2004 Stock Incentive Plan
       and 2004 Non-employee Director Option Program (2)10.12
       
       
       Loan and Security Agreement with Congress
       Financial Corporation (Western), dated August 3, 2004 (3)10.13
       
       
       Form of Indemnification Agreement with
       directors and executive officers10.14
       *
       
       Form of Notice of Stock Option Award and
       Stock Option Award Agreement under 2004 Stock Incentive Plan10.15
       *
       
       Form of Notice of Stock Option Award and
       Stock Option Award Agreement for Non-employee Directors under 2004 Stock
       Incentive Plan31.1
       
       
       Certification of the Chief Executive
       Officer of the Registrant pursuant to Exchange Act Rule 13a-14(a)31.2
       
       
       Certification of the Chief Financial
       Officer of the Registrant pursuant to Exchange Act Rule 13a-14(a)32.1
       
       
       Certification of the Chief Executive Officer of Registrant furnished
       pursuant to 18 U.S.C. 1350, as adopted by Section 906 of the
       Sarbanes-Oxley Act of 200232.2
       
       
       Certification of the Chief Financial
       Officer of Registrant furnished pursuant to 18 U.S.C. 1350, as adopted by
       Section 906 of the Sarbanes-Oxley Act of 2002* The referenced exhibit is a compensatory
       contract, plan or arrangement




(1) Incorporated by reference to Amendment No.
3 to our Registration Statement on Form S-1 (File No. 333-115199), filed with
the SEC on July 26, 2004.

(2) Incorporated by reference to Amendment No.
2 to our Registration Statement on Form S-1 (File No. 333-115199), filed with
the SEC on July 2, 2004.

(3) Incorporated by reference to Amendment No.
4 to our Registration Statement on Form S-1 (File No. 333-115199), filed with
the SEC on August 3, 2004.



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Table of contents



# SIGNATURE

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

Date: November 15,
      2004
      
      
      eCOST.COM, INC.By:
      /s/ Ted Sanders
      Ted Sanders
      Chief Financial Officer(Duly Authorized
      Officer of
      the Registrant and Principal
      Financial Officer)




---

eCOST.COM, INC.

EXHIBIT INDEX





|ExhibitNumber                                                                   | Description
|------------------------------------------------------------------------------- | -----------
|2.1                                                                             |            
|3.1                                                                             |            
|3.2                                                                             |            
|10.1                                                                            |            
|10.2                                                                            |            
|10.3                                                                            |            
|10.4                                                                            |            
|10.5                                                                            |            
|10.6                                                                            |            
|10.7                                                                            |            
|10.8                                                                            |            
|10.9                                                                            |            
|10.10                                                                           |            
|10.11                                                                           | *          
|10.12                                                                           |            
|10.13                                                                           |            
|10.14                                                                           | *          
|10.15                                                                           | *          
|31.1                                                                            |            
|31.2                                                                            |            
|32.1                                                                            |            
|32.2                                                                            |            
|* The referenced exhibit is a compensatory
       contract, plan or arrangement



(1) Incorporated by reference to Amendment No.
3 to our Registration Statement on Form S-1 (File No. 333-115199), filed with
the SEC on July 26, 2004.

(2) Incorporated by reference to Amendment No.
2 to our Registration Statement on Form S-1 (File No. 333-115199), filed with
the SEC on July 2, 2004.

(3) Incorporated by reference to Amendment No.
4 to our Registration Statement on Form S-1 (File No. 333-115199), filed with
the SEC on August 3, 2004.