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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION


Washington, D.C. 20549 FORM 10-K


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|   |       |  |  |                                                                                          
|-- | ----- |  |  | -----------------------------------------------------------------------------------------
|   | [X]   |  |  | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934    
|  
|   |       |  |  | For the fiscal year ended December 31, 2002                                              
|  
|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 000-30063


ARTISTDIRECT, INC. (Exact name of registrant as specified in its charter)


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|                                                                        |  |                                                
|----------------------------------------------------------------------- |  | -----------------------------------------------
|Delaware
(State or Other Jurisdiction
of Incorporation or Organization) |  | 95-4760230
(I.R.S. Employer Identification No.)

5670 Wilshire Boulevard, Suite 200, Los Angeles, California 90036
(Address of principal executive offices) (Zip code)


Registrants telephone number, including area code: (323) 634-4000


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Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: Common Stock, $0.01 par value


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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  [X]  No  [   ]

Indicate by check mark whether the disclosure of delinquent filers
pursuant to Item 405 of Regulation S-K is not contained herein, and will not be
contained, to the best of the Registrants knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-K
or any amendment to this Form 10-K  [   ]

Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).  Yes  [   ]  No  [X]

State the aggregate market value of the voting and non-voting common
equity held by non-affiliates computed by reference to the price at which the
common equity was last sold, or the average bid and asked price of such common
equity, as of the last business day of the Registrants most recently completed
second fiscal quarter: approximately $24 million as of June 28, 2002.

As of March 17, 2003, the aggregate market value of the voting and
non-voting common equity held by non-affiliates was approximately
$5.0 million, based on the closing price per share of $2.01 for the Registrants common stock as
reported on the Nasdaq National Market on such date multiplied
by approximately 2.5 million shares of
the Registrants common stock which were outstanding on such date.

Indicate the number of shares outstanding of each of the Registrants
classes of common stock, as of the latest practicable date: As of March 17,
2003, there were 3,461,742 shares of the Registrants common stock, par value
$0.01 per share, outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

Information required by Items 10 through 13 of Part III of this Form 10-K is
incorporated herein by reference to portions of the Registrants definitive
proxy statement for the Registrants 2003 Annual Meeting of Stockholders, which
will be filed with the Securities and Exchange Commission not later than 120
days after the end of the fiscal year ended December 31, 2002.



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TABLE OF CONTENTS



|               |                                                                                                         |  |  |  |  |  |  | 
|-------------- | ------------------------------------------------------------------------------------------------------- |  |  |  |  |  |  | 
|PART I        
|               | ITEM 1. BUSINESS                                                                                       
|               | ITEM 2. PROPERTIES                                                                                     
|               | ITEM 3. LEGAL PROCEEDINGS                                                                              
|               | ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS                                            
|PART II       
|               | ITEM 5. MARKET FOR THE REGISTRANTS COMMON EQUITY AND RELATED STOCKHOLDER MATTERS                      
|               | ITEM 6. SELECTED FINANCIAL DATA                                                                        
|               | ITEM 7. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS          
|               | ITEM 7A. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK                                    
|               | ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA                                                    
|               | ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE           
|PART III      
|               | ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT                                            
|               | ITEM 11. EXECUTIVE COMPENSATION                                                                        
|               | ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
|               | ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS                                                
|               | ITEM 14. CONTROLS AND PROCEDURES                                                                       
|PART IV       
|               | ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K                              
|SIGNATURES    
|CERTIFICATIONS
|EXHIBIT INDEX 
|EXHIBIT 10.8  
|EXHIBIT 10.9  
|EXHIBIT 23.1  
|EXHIBIT 23.2  



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ARTISTDIRECT INC.

FORM 10-K ANNUAL REPORT

TABLE OF CONTENTS

|               |  |                                                                                                         |    |      |    | 
|-------------- |  | ------------------------------------------------------------------------------------------------------- | -- | ---- | -- | 
|               |  |                                                                                                         |    | Page
|               |  |                                                                                                         |    |     
|PART I         |  |                                                                                                         | 4  |     
|               |  | ITEM 1.   BUSINESS                                                                                      |    |      | 4  | 
|               |  | ITEM 2.   PROPERTIES                                                                                    |    |      | 28 | 
|               |  | ITEM 3.   LEGAL PROCEEDINGS                                                                             |    |      | 29 | 
|               |  | ITEM 4.   SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS                                           |    |      | 29 | 
|PART II        |  |                                                                                                         | 29 |     
|               |  | ITEM 5.   MARKET FOR THE REGISTRANTS COMMON EQUITY AND RELATED STOCKHOLDER MATTERS                     |    |      | 29 | 
|               |  | ITEM 6.   SELECTED FINANCIAL DATA                                                                       |    |      | 29 | 
|               |  | ITEM 7.   MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS         |    |      | 30 | 
|               |  | ITEM 7A. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK                                     |    |      | 47 | 
|               |  | ITEM 8.   FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA                                                   |    |      | 47 | 
|               |  | ITEM 9.   CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE          |    |      | 47 | 
|PART III       |  |                                                                                                         | 47 |     
|               |  | ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT                                             |    |      | 47 | 
|               |  | ITEM 11. EXECUTIVE COMPENSATION                                                                         |    |      | 47 | 
|               |  | ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS |    |      | 47 | 
|               |  | ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS                                                 |    |      | 47 | 
|               |  | ITEM 14. CONTROLS AND PROCEDURES                                                                        |    |      | 47 | 
|PART IV        |  |                                                                                                         | 48 |     
|               |  | ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K                               |    |      | 48 | 
|SIGNATURES     |  |                                                                                                         | 51 |     
|CERTIFICATIONS |  |                                                                                                         | 52 |     





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This report contains forward-looking statements that include, but are not
limited to, statements concerning projected revenues, expenses, gross profit
and income, the need for additional capital, and the success of pending
litigation. These forward-looking statements are based on our current
expectations, estimates and projections about our industry, managements
beliefs, and certain assumptions made by us. Words such as anticipates,
expects, intends, plans, believes, seeks, estimates, may, will
and variations of these words or similar expressions are intended to identify
forward-looking statements. In addition, any statements that refer to
expectations, projections or other characterizations of future events or
circumstances, including any underlying assumptions, are forward-looking
statements. These statements are not guarantees of future performance and are
subject to certain risks, uncertainties and assumptions that are difficult to
predict. Therefore, our actual results could differ materially and adversely
from those expressed in any forward-looking statements as a result of various
factors. The section entitled Risk Factors set forth at the end of Part I,
Item 1 of this report, the Managements Discussion and Analysis of Financial
Condition and Results of Operations in Part II, Item 7 of this report and
similar discussions in our other filings with the Securities and Exchange
Commission (SEC) discuss some of the important risk factors that may affect
our business, results of operations and financial condition. You should
carefully consider those risks in addition to the other information in this
report and in our other filings with the SEC before deciding to invest in our
company or to maintain or increase your investment. We undertake no obligation
to revise or update publicly any forward-looking statements for any reason.




PART I




ITEM 1.  BUSINESS

OVERVIEW

We are a music entertainment company that combines an online music network
and two record labels to provide an integrated offering for music fans, artists
and marketing partners. The ARTISTdirect Network (www.artistdirect.com) is a
network of Web sites offering multi-media content, music news and information,
community around shared music interests, music-related commerce and digital
music services. Through our co-venture record label, ARTISTdirect Records, we
develop new musical artists and produce and distribute their recordings as an
independent label utilizing traditional channels of distribution. Through
our iMusic record label we sign established artists with an existing fan base
and release their recordings through traditional channels and emerging Internet
distribution channels.

The ARTISTdirect Network features our music search engine and database
containing information on more than 100,000 artists, retail e-commerce offering
a wide selection of artist merchandise and music, our proprietary music guide
that enables users to browse music by artist, genre or time period, a
music-oriented online community and the ability for users to download and
listen to music and view music videos.



| |  |  | The Ultimate Band List (UBL)  a comprehensive online
music search engine and resource for music information. The UBL
provides information on more than 100,000 artists across numerous
musical genres, featuring news, concert information, artist
biographies, album reviews, contests, promotions, music samples and
downloads. The UBL also offers links to numerous other Web sites in
the online music community;
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | Community  a music-oriented online community providing
message boards relating to specific artists and general music
topics. The Community area allows fans to communicate with others
around the world to share interests and commentary about their
favorite music and artists;                                                                                                                                       
|
| |  |  | The ARTISTdirect Shopping area  a retail site offering a
wide selection of music titles and artist and lifestyle merchandise;                                                                                                                                                                                                                                                                                           
|
| |  |  | Downloads  a feature that enables users to download and
listen to music from a variety of artists. In addition, users can
view a variety of current music videos featuring popular and
emerging artists.                                                                                                                                                                                                                





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| |  |  | Music Guide  a feature that allows users to navigate a
large catalog of music by artist, genre or time period (e.g. 60s
Rock), facilitating both quick access to music known to the user and
the discovery of music that may be new to the user. The music guide
is designed to function with either short music clips or with full
song files at such time as we are able to enter into music licensing
agreements on terms acceptable to us;
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

During 2001, we formed a new record label company, ARTISTdirect Records,
LLC, as a co-venture between our wholly owned subsidiary, ARTISTdirect
Recordings, Inc., and Radar Records Holdings, LLC, an entity wholly owned by
our Chief Executive Officer, Frederick W. (Ted) Field. Mr. Field also serves
as the Chief Executive Officer of ARTISTdirect Records. ARTISTdirect Records
develops new musical artists, and produces and distributes their recordings as
an independent label utilizing traditional channels of distribution.
ARTISTdirect Records generates revenue primarily from the sale of compact discs
by artists signed to the label. The objective of ARTISTdirect Records is to
develop proprietary content that we can exploit to create value for our
shareholders.

During 2002, our wholly owned subsidiary ARTISTdirect Digital, Inc. began
operating a record label under the brand name iMusic. iMusic focuses on the
signing of established artists with a proven sales base and an ability to
generally make records less expensively than developing artists. We utilize
both traditional channels of distribution and emerging Internet distribution
channels, and we generally spend substantially less on marketing and promotion
of these releases than would be spent to develop an audience for new artists.

In December 2001, we decided to exit the music talent agency business
because we believed that our prospects for increasing the value of this
business were limited and that there were potential conflicts of interests with
our new co-venture record label. As a result, we have classified this segment
of our business as a discontinued operation in our consolidated statement of
operations for all periods presented. We wound up operations of the agency
business in 2002.

INDUSTRY BACKGROUND

THE MUSIC INDUSTRY

Music is one of the most popular forms of entertainment worldwide and a
multi-billion dollar consumer industry. In addition, the music industry
generates substantial revenue from advertising, sponsorship, promotions and
merchandise related to music events and individual artists. The music industry
identifies artists and develops, promotes and distributes their content. The
high cost associated with development, promotion and distribution has led
artists to rely on third parties such as record labels, merchandisers and
talent agents to represent their interests. The experience of the typical
music consumer has been fragmented and inefficient. Music consumers have had
to search a variety of media to find music news and information and have had to
purchase compact discs, tickets and merchandise through different retail
channels. Until recently, consumers were unable to legitimately purchase
digital music online, and recently introduced services provide restricted
access to limited catalogs of music. Goods, such as apparel and other artist
merchandise, have been difficult to find and frequently available only at
concerts or selected retail outlets. For music fans, opportunities to interact
with their favorite artists and fellow enthusiasts have been limited.

INTERNET OPPORTUNITY

The Internet has emerged as a platform that allows millions of people
worldwide to deliver and receive information rapidly, create virtual
communities around shared interests and engage in electronic commerce. This
has made the Internet an important new medium for music, dramatically altering
the way consumers search for, discover, listen to and purchase music. The
Internet offers:



| |  |  | efficient reach to a growing worldwide audience;                                      
| | - |  | --------------------------------------------------------------------------------------
|
| |  |  | convenient access to a vast offering of musical content and services;                 
|
| |  |  | flexibility to tailor products and services to consumer interests and market dynamics;

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| |  |  | a market for the digital distribution of music;                                                   
| | - |  | --------------------------------------------------------------------------------------------------
|
| |  |  | the potential for consumer personalization of the music experience; and                           
|
| |  |  | timely collection of customer preferences and demographics
for targeted advertising and promotion.

Artists have begun to view the Internet as a platform to gain greater
control over the programming, promotion and distribution of their music and
related merchandise and to communicate directly with their fans. Many
consumers have adopted the Internet to locate music information, share
interests and discover and buy music. We believe that the features of the
Internet and the common demographics of music consumers and Internet users
represent an opportunity for the music industry to develop new digital music
services that meet consumer demand in new and different ways. Artists will
have the opportunity to exert greater control over the programming, promotion
and distribution of their music and consumers will be able to search for,
discover and purchase music and related merchandise and content at a single
destination.

RECORD LABEL OPPORTUNITY

Consolidation of the music industry has resulted in significant
concentration of music sales among five major music companies: BMG, EMI, Sony
Music (a division of Sony Corporation), Universal Music Group (a division of
Vivendi Universal), and Warner Music Group (a division of AOL Time Warner).
While these companies have extensive resources to develop, market and
distribute an artists music, some artists prefer to provide their services to
smaller labels where they may represent a more significant portion of the
labels business and, therefore, be afforded more attention and focused
resources. We also believe that artists are attracted to a label that has
significant, integrated online resources to directly assist the artist in
exploiting opportunities to reach consumers outside the traditional channels of
retail distribution.

OUR SOLUTION

BENEFITS TO ARTISTS

By operating both an online music network and two independent record
labels, we are able to work with artists to develop, produce and distribute
their music and provide them with a platform to develop their presence on the
Web. Our benefits to artists include:

Full-Service Record Label.We are able to develop, produce and distribute
an artists recorded music through our labels, ARTISTdirect Records and iMusic.
By focusing our resources on artists and repertoire (A&R), marketing and
promotion, we are able to assist an artist in the critical elements of finding
and developing an audience for their music. By distributing our releases
through BMG, we provide broad reach to retail distribution channels both
domestically and globally.

Online Media Network.We are able to offer artists access to an online
media platform to create, present, promote and distribute their content.
Features include auto-publishing tools, content management, and capabilities
for advertising and direct marketing and electronic commerce. With continuing
advances in broadband technology and standards for digital music distribution,
we believe our Online Network could become a significant platform for the full
range of artists content, commerce, digital distribution and community
activities on the Internet.

Closer Relationships with Fans.Artist-specific Web sites promote greater
fan affinity and loyalty by directly linking artists and fans. Artists can use
these Web sites to provide content and products to fans, including artist news,
concert information, music and video programming, exclusive chats, ticket
giveaways and fan club activities. Artists can also solicit the views of fans
on new music, live performances and music videos. A better understanding of
their fans enables artists to develop relevant content, promote their music
more effectively and create new revenue opportunities.

New Revenue Opportunities.We provide artists with an opportunity through
our online network to sell directly to consumers their merchandise that was
previously generally available only at concert venues or selected

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retail locations. We also are able to assist artists in the development of a
database of their fans that can be used for direct marketing opportunities.

New Platform for Digital Distribution.The Internet represents an
important new platform for digital music distribution. As the music industry
develops new services that provide secure digital distribution and meet the
demands of consumers, we intend to make such services available through the
ARTISTdirect Network. In addition, we intend to provide artists signed to
ARTISTdirect Records with the opportunity to generate incremental revenue from
digital music distribution.

BENEFITS TO CONSUMERS

Our ARTISTdirect Network offers an extensive destination for the music
consumer. Our benefits to consumers include:

Comprehensive Music Resource. The ARTISTdirect Network includes
comprehensive resources for searching, discovering and enjoying music content.
These resources include a search engine and database of more than 100,000
artists covering a wide variety of musical genres, organized links to other
Internet music resources, news, concert information, artist biographies, album
reviews, contests and promotions, music samples and downloads. Our music guide
is designed to provide access to a complete catalog of music that can be
searched by artist, genre or time period.

Rich Community Features. Our community area features message boards
relating to both specific artists and more general music topics. Our site
enables fans around the world to share interests and commentary about their
favorite music and artists and facilitates their discovery of new music.

Comprehensive Shopping Destination. The ARTISTdirect Network brings
together many of the disparate elements of the music shopping experience.
Music consumers can purchase and pre-order a full range of recorded music and
shop for artist-related merchandise, including some items available only
through ARTISTdirect. In addition, our content, downloadable music, and
special promotions enhance the consumer experience.

BUSINESS STRATEGY

Our objective is to be a leading music entertainment company, producing
and distributing new music, providing artist services and reaching music fans
through a comprehensive online music network. Our strategy is to:

Build Our Record Label. We believe that there is a significant opportunity
to establish ARTISTdirect Records as an important independent record label. We
intend to sign quality artists capable of delivering commercially successful
new music releases in the near term. We also intend to effectively market and
promote our releases to create consumer demand and to achieve broad retail
distribution in both domestic and international markets through our agreement
with BMG Entertainment, one of the five major music companies.

Build Brand Awareness. We intend to continue to try to establish
ARTISTdirect as a leading brand for music entertainment using primarily online
marketing channels to reach consumers and promote the ARTISTdirect brand name.
We believe that the establishment of ARTISTdirect Records will provide a
significant new platform for branding as we begin to issue new releases under
the ARTISTdirect Records name.

Exploit Our Unique Assets. We intend to exploit our uniquely integrated
assets, broad reach and experienced, artist-oriented management team to
differentiate ourselves from companies with less comprehensive offerings. For
example, we aim to:



| |  |  | offer selected artists a range of services, including
development, marketing and promotion through our record label;
online programming, promotion and distribution through the
ARTISTdirect Network; and inclusion in our entertainment marketing
initiatives;
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | develop branded live events and tours sponsored by
advertisers and merchants; and                                                                                                                                                                              

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| |  |  | enable advertisers and merchants to deliver their messages to
the audience of the entire ARTISTdirect Network or to targeted
audiences within the ARTISTdirect Network.
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------

ARTISTdirect BUSINESS SEGMENTS

ARTISTdirect NETWORK.The ARTISTdirect Network is comprised of our Media
and E-commerce operations. Our Media operations include our content-oriented
web sites and our entertainment marketing initiatives. Revenue from Media
operations is generated from the sale of online advertising and integrated
marketing solutions. E-commerce operations include our ARTISTdirect Shopping
area, offering a comprehensive selection of music CDs and broad range of artist
and lifestyle merchandise. Revenue from E-commerce operations is generated
primarily from the sale of music CDs and artist and lifestyle merchandise.

iMusic Record Label.In 2002, our wholly owned subsidiary ARTISTdirect
Digital, Inc. began operating a record label under the iMusic brand name. The
iMusic record label focuses on the signing of established artists with a proven
sales base and an ability to generally make records less expensively than
developing artists. We utilize both traditional channels of distribution and
emerging Internet distribution channels and generally spend substantially less
on marketing and promotion of these releases than on those of new artists. We
believe that iMusic can establish a new business model for the record industry
and provides a complement to ARTISTdirect Records whose focus is on the
development of new artists with a significant sales potential. As of December
31, 2002, iMusic had signed distribution agreements with 21 artists and had
released 7 albums.

ARTISTdirect Records.In 2001, we formed a new record label company,
ARTISTdirect Records, LLC, as a co-venture between our wholly owned subsidiary,
ARTISTdirect Recordings, Inc., and Radar Records Holdings, LLC, an entity
wholly owned by our Chief Executive Officer, Mr. Field. Mr. Field serves as
the Chief Executive Officer of ARTISTdirect Records. ARTISTdirect Records
develops new musical artists, and produces and distributes their recordings as
an independent label utilizing traditional distribution channels.

In November 2001, ARTISTdirect Records agreed in principle to enter into a
preliminary North America distribution agreement and worldwide license
agreement with BMG, the global music division of Bertelsmann AG. Under the
terms of the agreement, BMG Distribution distributes the labels releases in
North America, and BMG licenses ARTISTdirect Records repertoire in territories
throughout the world. In April 2002, the agreements with BMG were finalized,
including BMGs purchase of 5% of the equity of ARTISTdirect Records from the
Company. As part of this transaction, BMG agreed to assume $5.0 million of
the Companys $50 million funding commitment to ARTISTdirect Records.

As of December 31, 2002, ARTISTdirect Records had signed recording
agreements with 17 artists and had 48 full-time employees.

INFRASTRUCTURE AND OPERATIONS

TECHNOLOGY

Our infrastructure is designed to be integrated, scalable, reliable and
secure. The software that we use supports the acquisition, management and
publication of content on our Web sites. During 2002, the management of our
Web sites and servers for content, applications, database and electronic
commerce was taken over internally from CNP, Inc., a third party vendor that
ceased operations. Our servers are maintained at IX2 Networks, LLC, a
co-location facility in Los Angeles, California. Our operations depend on our
and IX2s ability to protect our systems against fire, power loss,
telecommunications failure, break-ins and other events. All Web sites,
servers, and systems are monitored and periodic backups are stored at a remote
location

Our current e-commerce system is based on SAP software with certain
enhancements provided to us by Pandesic, LLC, a joint venture between Intel and
SAP that wound up operations in January 2001. Upon Pandesics cessation of
operations, we received the source code and executables for the e-commerce
system that had been provided previously by Pandesic, implemented SAPs
software in house under a two-year license from SAP. In December 2002, our
two-year license expired and we entered into a perpetual license agreement with
SAP.

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ORDER PROCESSING AND FULFILLMENT

Our Web sites include an ordering system that is designed to facilitate
convenient online purchasing of pre-recorded music and merchandise. Customers
can add items to their shopping cart while surfing our Web sites. At any
time they can securely checkout, at which time they need to register (if they
are new customers), or enter a username and password to retrieve previously
saved billing, shipping and credit card information. We verify orders submitted
for credit card payment for fraud detection and sufficient funds before we
release them for fulfillment. We also accept alternative modes of payment, such
as checks and money orders. Credit card numbers are encrypted, and all
customer, commerce and transactional data are stored in secure databases
protected by firewalls. The transmission of information over the Internet uses
Secure Socket Layer security technology verified by VeriSign.

Alliance Entertainment. In August 1998, we entered into a five-year agreement
with Alliance Entertainment Corp. to be our primary supplier of music and
music-related information for our ARTISTdirect Superstore. Alliance owns the
All Music Guide, a comprehensive source of artist and album information that is
supplied to our users primarily through its integration into the UBL. Alliance
fulfills compact discs ordered by our customers and we pay Alliance the
wholesale cost plus a fulfillment fee. In addition, Alliance provides
warehouse space and fulfillment services pursuant to an oral agreement that
Alliance may terminate at any time for a majority of the music-related
merchandise that we offer which allows the consolidated shipping of customer
orders for both music and merchandise. We have integrated our order processing
system with Alliances information systems to assist in fulfillment tracking,
inventory management and customer service. We purchase almost all of the music
titles available for sale on our Web sites from inventory held by Alliance.

Benn Co. (formerly Old Glory).In November 2001, we entered into a six-month
agreement with Old Glory Boutique Distributing Inc. (Old Glory) to be a
wholesale supplier of music-related merchandise and provide fulfillment
services for the products for which it sells to us. The agreement was renewed
for a one-year period in May 2002 and shall automatically renew for an
additional year in May 2003 unless either party gives notice of its intent not
to renew no less than 90 days before the end of the annual term. In December
2002, this agreement was assigned from Old Glory to Benn Co., LLC.

If we are unable to renew our agreements with these suppliers when they expire,
on favorable terms or at all, or if Alliance ceases to provide fulfillment
services for merchandise, our business could be adversely affected.

CUSTOMER SERVICE

In June 2001, we entered into a two-year agreement with AEC One-Stop
Group, Inc. (Alliance Entertainment) to provide customer support services for
our Web sites consumers and respond to customer inquiries, orders and other
requests made by phone, fax, e-mail and regular mail. Prior to entering into
the agreement with Alliance, we provided customer service with an internal
staff of customer service representatives.

SALES AND MARKETING

ADVERTISING SALES

We sell entertainment marketing solutions, including advertising and
sponsorships, to advertisers seeking to reach one or more of the distinct
demographic audiences viewing content in the ARTISTdirect Network or attending
a live event that we organize. Components of an entertainment marketing
solution may include, among other things, title sponsorship of an event or
concert tour, promotion in marketing materials for an event or tour, signage
and presence at live events, contests to promote consumer registration for
sponsor services, and banner ads or content sponsorship on the ARTISTdirect
Network. In addition, advertisers may choose single elements such as targeted
or run-of-network banners or sponsorship of fixed placement on our Web sites.
Pricing is negotiated based upon the size of the target audience, the duration
and intensity of the campaign, the number of elements involved, and payments to
third parties, such as artists, to secure their services. For the years ended
December 31, 2002 and 2001, advertising represented 15% and 28%, respectively,
of our revenue. AT&T Wireless accounted for 14% and 20% of our advertising
revenues for the year ended December 31, 2002 and 2001, respectively. During
the same periods, Universal Music Group accounted for 0% and 17% of our
advertising revenue.

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MARKETING AND PROMOTION

We use a number of methods to create awareness of the ARTISTdirect Network
and drive traffic to our Web sites. We have focused much of our marketing
activity on e-mail direct marketing to communicate with registered users of
specific artists and the ARTISTdirect Network. Campaigns have included direct
notification of special merchandise offers, contests, promotions, music
downloads and non-scheduled live performances. In addition, we participate in
live music and other industry events that provide prominent visibility for
ARTISTdirect and maintain a public relations program to facilitate
communication with music industry and consumer-oriented press.

COMPETITION

The market for the online promotion and distribution of music and
music-related products and services is relatively new, highly competitive and
rapidly changing. There are a large number of Web sites competing for the
attention and spending of consumers and advertisers, and we expect that number
to increase, because there are few barriers to entry to Internet commerce. In
addition, the competition for advertising revenue, both on Web sites and in
more traditional media, is intense. We compete as follows:



| |  |  | for music consumers and advertisers with providers of music
information, community and content such as MTV, America Online, MSN,
Yahoo!, Listen.com and various other companies;                                                                                                                                                                                                                                                                                                         
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | with major online music retailers such as Amazon.com and
CDnow in selling music and merchandise;                                                                                                                                                                                                                                                                                                                                                                                         
|
| |  |  | for music consumers and artist relationships with traditional
music industry companies, including BMG Entertainment, a unit of
Bertelsmann AG, EMI Music, a unit of EMI Group, Sony Music
Entertainment, a unit of Sony Corporation, Warner Music Group, a
unit of AOL Time Warner, and Universal Music Group, a unit of
Vivendi Universal. Some of these companies have recently
established online presences to promote and distribute the music and
tours of their respective artists;
|
| |  |  | for music consumers and advertisers with publishers and
distributors of traditional media, such as television, radio and
print, including MTV, CMT, Rolling Stone and Spin and their Internet
affiliates; and                                                                                                                                                                                                                                                                            
|
| |  |  | with traditional retailers targeting music consumers,
including Tower Records and Virgin Megastore and their Internet
affiliates, in selling music and merchandise.                                                                                                                                                                                                                                                                                                                      

Some of our competitors have agreed to work together to offer music over
the Internet, and we may face increased competitive pressures as a result. For
example, Universal Music Group and Sony Music have formed a joint venture to
operate pressplay, a subscription music service that offers consumers both
downloads and on-demand streaming. In addition, RealNetworks, AOL Time Warner,
Bertelsmann AG and EMI Group formed MusicNet, a digital music subscription
platform featuring on-demand downloads and streaming.

We believe that we are able to compete primarily on the bases of:



| |  |  | our integrated offering of both online and offline assets,
including the ARTISTdirect Network, iMusic record label and
ARTISTdirect Records;
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | the breadth and quality of our search, database and the community features of our site;                                                     
|
| |  |  | the variety, availability and price of music-related merchandise on our sites;                                                              
|
| |  |  | the ease of use and consumer acceptance of the ARTISTdirect Network; and                                                                    
|
| |  |  | the ability to effectively promote our brands.                                                                                              

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Competition is likely to increase significantly as new companies enter the
market and current competitors expand their services. Many of our current and
potential competitors in the Internet and music entertainment businesses may
have substantial competitive advantages over us, including:



| |  |  | longer operating histories;                                        
| | - |  | -------------------------------------------------------------------
|
| |  |  | significantly greater financial, technical and marketing resources;
|
| |  |  | greater brand name recognition;                                    
|
| |  |  | larger existing customer bases; and                                
|
| |  |  | more popular content or artists.                                   

These competitors may be able to respond more quickly to new or emerging
technologies and changes in customer requirements and to devote greater
resources to the development, promotion and sale of their products or services
than we can. Web sites maintained by our existing and potential competitors may
be perceived by consumers, artists, talent management companies and other
music-related vendors or advertisers as being superior to ours. In addition,
we may not be able to maintain or increase our Web site traffic levels,
purchase inquiries and number of click-thrus on our online advertisements.
Further, our competitors may experience greater growth in these areas than we
do. Increased competition could result in advertising price reduction, reduced
margins or loss of market share, any of which could harm our business.

GOVERNMENTAL REGULATION

The laws and regulations that govern our business change rapidly.
Although our operations are currently based in California, the United States
government and the governments of other states and foreign countries have
attempted to regulate activities on the Internet. The following are some of
the evolving areas of law that are relevant to our business:

CONTENT REGULATION

Federal, state and foreign governments have adopted and proposed laws
governing the content of material transmitted over the Internet. These include
laws relating to obscenity, indecency, libel and defamation. For example, the
Child Online Protection Act, or COPA, prohibits and imposes criminal penalties
and civil liability on anyone communicating material harmful to minors through
the Internet for commercial purposes, unless access to such material is blocked
to minors under age 17. The Third U.S. Circuit Court of Appeals has upheld a
preliminary injunction precluding enforcement of COPA. In November 2001, the
U.S. Supreme Court heard an appeal but no decision has been issued yet. We
could be liable if the injunction against COPA is lifted and if content
delivered by us or placed on our Web sites violates COPA. On March 6, 2003,
the Third U.S. Circuit Court of Appeals issued a ruling that COPA restricts
free speech because it is not narrowly focused is enough to only target
pornography, and is therefore unconstitutional. The Department of Justice
could appeal this ruling to the U.S. Supreme Court.

PRIVACY LAW

The state of privacy law is unsettled, and rapidly changing. Current
and proposed federal, state and foreign privacy regulations and other laws
restricting the collection, use and disclosure of personal information could
limit our ability to use the information in our databases to generate
revenues. In late 1998, the Childrens Online Privacy Protection Act, or
COPPA, was enacted, mandating that measures be taken to safeguard minors
under the age of 13. The FTC promulgated regulations implementing COPPA on
October 21, 1999, which became effective on April 21, 2000. The principal
COPPA requirement is that individually identifiable information about minors
under the age of 13 not be collected, used or displayed without first
obtaining informed parental consent that is verifiable in light of present
technology. The FTC final regulations create a sliding scale of
permissible methods for obtaining such consent. Consent for internal use of
the individually

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identifiable information of children under the age of 13 can be obtained
through e-mail plus an additional safeguard, such as confirming consent with
a delayed e-mail, telephone call, or letter. Obtaining verifiable consent
from a childs parent to share that childs information with a third party
or enable the child to publicly distribute the information by, for example,
allowing unrestricted access to a chat room or message board is
significantly more burdensome. While the temporary sliding scale
implementation was due to expire on April 21, 2002, on October 31, 2001, the
FTC extended the implementation period through April 21, 2005.

The FTC has required that parental consent for such higher risk activities
be verified by more secure methods than e-mail, such as a credit card in
connection with a transaction, print-and-sign forms, toll-free numbers staffed
by trained operators, or digital signatures. Complying with the new
requirements is costly and will likely dissuade some of our customers. While we
are attempting to be fully compliant with the FTC requirements, our efforts may
not be entirely successful. In addition, at times we rely upon outside vendors
to maintain data-collection software, and there can be no assurance that they
will at all times comply with our instructions to comply with COPPA. If our
methods of complying with COPPA are inadequate, we may face litigation with the
FTC or individuals, which would adversely affect our business.

Moreover, we have posted a Private Policy pertaining to all users and
visitors to our Web site. By doing so, we have subjected ourselves to the
jurisdiction of the FTC. Should any of our business practices be found to
differ from our Private Policy, we could be subject to sanctions and penalties
from the FTC. It is also possible that users or visitors could try to recover
damages in a civil action as well.

LAWS GOVERNING SENDING OF UNSOLICITED COMMERCIAL E-MAIL

We typically provide our customers and other visitors to our Web sites
with an opportunity to opt-in, or agree to receive e-mailings from us. While
there is no federal regulation yet, California and a number of other states
regulate the sending of e-mails for commercial purposes to third parties where
there is no preexisting business relationship. Further, several states give
Internet service providers (ISPs) a private right of action against those who
send large e-mailings across their servers in contravention of the ISPs posted
policy. There is no guarantee that we will always be fully compliant in all of
our communications at all times. Our failure to comply with applicable state
laws regarding these types of e-mails could result in significant fines, actual
or statutory damages, and injunctive actions.



| | CONFORMANCE TO E-COMMERCE STATUTORY REQUIREMENTS FOR FORMATION OF CONTRACTS
| | ---------------------------------------------------------------------------

We conduct e-commerce on our Web sites, and through affiliated Web sites.
The applicable law on online formation of contracts has been unsettled and is
evolving. On June 30, 2000, the federal government enacted the E-Sign
statute, which in limited cases permits online formation of contracts.
Similarly, on January 1, 2000, California adopted a standard version of the
Uniform Electronic Transactions Act (UETA), which also permits electronic
signatures and record-keeping for certain types of contracts. We attempt to
comply with these laws, but there is no guarantee that we will be successful.
Judicial interpretation of their application could result in customer contracts
being set aside or modified. In that case, our e-commerce revenue could be
materially adversely affected.

SALES TAX

The tax treatment of goods sold over the Internet is currently unsettled.
We collect sales taxes for goods shipped to California and Florida, where we
have a physical presence. A number of proposals have been made at the state
and local level that would impose additional taxes on the sale of goods through
the Internet. Such proposals, if adopted, could substantially impair the
growth of electronic commerce and could adversely affect our opportunity to
derive financial benefit from electronic commerce. While the Internet Tax
Freedom Act has placed a moratorium on new state and local taxes on Internet
commerce, the tax moratorium will expire on November 1, 2003 and may not
continue. Failure to renew this legislation in the future would allow various
states to impose taxes on Internet-based commerce, which could adversely affect
our business.

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ONLINE CONTESTS AND SWEEPSTAKES

We conduct online promotional contests and sweepstakes. No purchase is
necessary to participate. Our official rules, with all material terms,
conditions of eligibility, dates of participation, methods of entry and
limitations, if any, along with the odds and prize offerings, are posted on our
Web sites. In order to comply with New York and Florida state law, our prizes
are limited in value to less than $5,000, or we must comply with those states
registration and bonding requirements. While we attempt to comply with the law
of all fifty state jurisdictions, we may not be uniformly successful, and
foreign jurisdictions may attempt to regulate or ban our promotional contests.
In that event, we could lose an effective tool for increasing and keeping
visitors to our Web site, and our business could be adversely affected.

INTELLECTUAL PROPERTY

OUR PROPRIETARY RIGHTS

Copyrighted material that we develop, as well as our service marks and
domain names relating to the ARTISTdirect, UBL or iMusic brands, and other
proprietary rights are important to our business prospects. We seek to protect
our common-law trademarks through federal registration, but these actions may
be inadequate. Where consultants develop copyrighted content for us, our
general policy is to use written agreements prior to content creation to obtain
ownership of that content. In addition, we principally rely upon trademark,
copyright, trade secret and contract law to protect our proprietary rights. We
generally enter into confidentiality agreements, work-made-for-hire contracts
and intellectual property licenses with our employees, consultants and
corporate partners, respectively, as part of our efforts to control access to
and distribution of our technologies, content and other proprietary
information.

Despite our efforts to protect our proprietary rights from unauthorized
use or disclosure, parties may attempt to disclose or use our customer lists,
Web site content, service marks, domain names or confidential commercial data.
The steps that we have taken may not prevent misappropriation of our
proprietary rights, particularly in foreign countries where laws or law
enforcement practices may not protect our proprietary rights at all, or as
fully as in the United States. If third parties were to use or otherwise
misappropriate our copyrighted materials, trademarks or other proprietary
rights without our consent or approval, our competitive position could be
harmed, or we could become involved in costly and distracting litigation to
enforce our rights.

OUR WEB SITES FEATURE CONTENT THAT IS COPYRIGHTED BY MULTIPLE THIRD-PARTIES

A copyright gives the owner divisible rights, including those of
performance, reproduction and distribution. The music featured by us is
typically comprised of copyrighted works owned, controlled or administered by
multiple third parties, including record labels, artists, songwriters, music
publishers and performance rights and licensing organizations such as The Harry
Fox Agency, Broadcast Music Inc. and the American Society of Composers, Authors
and Publishers. Each song often has multiple copyright owners, who control
rights which may include performance, reproduction and distribution rights in
the musical composition comprised of the lyrics and music, as well as with
the sound recording of the artists interpretation of the musical
composition. In the case of music videos, there are separate copyrights to the
visual content, as well as synchronization rights for integrating the music
and video. We, or our artists, may have different licensing arrangements with
some or all of these parties to perform, reproduce and distribute works
depending upon how the song or music video is used by us.

Our Web sites, depending upon the specific musical work, may offer audio
streaming of part or all of an entire song or Web casting, or the downloading
of an entire song in MP3 or other compressed audio formats. Full-length
streaming only occurs in special instances after obtaining an oral license from
the record label or band manager for the sound recording. In that case, an
ASCAP or BMI blanket music license is also obtained by us or by our artists for
rights to perform the associated underlying musical composition. Where we
offer full-length downloads of songs in MP3 or other compressed audio formats,
we seek to obtain the rights to transmit, reproduce and perform the sound
recording in writing from the person or entity owning or controlling
copyrights in such sound recording. With respect to rights in the musical
compositions embodied in such sound recordings offered for download, we seek
to clear rights in musical composition in one of the following three ways:

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| |  |  | a license agreement with the publisher, writer or other owner
of such copyright in the musical composition;                                      
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | a waiver of any fees or royalties that would otherwise be
required for such use; or                                                                
|
| |  |  | a representation and warranty from the owner of the
copyrights in the sound recording that no mechanical royalties are
owed to any third parties.

In the event that the foregoing steps are insufficient to clear rights, or
we otherwise fail to obtain rights, we could be exposed to claims of copyright
infringement, with attendant disruption to our operations and liability
including potential statutory or actual damages and loss of profits
attributable to infringement, plus payment of attorneys fees to the claimant
and entry of an injunction.

There are other situations, such as a limited 30-second sample of a song
that is streamed, where we use content relying upon a sub-license from an
artists record label. However, the laws in this area are uncertain, and we
may be forced to obtain additional licenses or may be prevented from third
party content use, and may further be liable to pay actual or statutory
damages, profits attributable to any alleged infringement, as well as
attorneys fees. Our licensing arrangements for third-party content vary from
formal contracts to informal agreements based on the promotional nature of the
content. In some cases we pay a fee to the licensor for use of the sound
recording, musical composition or music video and in other cases the use is
free. We also use other third-party content, including photographs, artist
names, likenesses and concert reviews. While it is our general policy to obtain
a written release or license for such use, in many instances we rely only upon
an oral license for such use. We rely upon our positive working relationships
with copyright owners to obtain licenses on favorable terms. Any changes in
the nature or terms of these arrangements, including any requirement that we
pay significant fees for the use of the content, could have a negative impact
on the availability of content or our business.

For example, the Copyright Office recently opined that additional
royalties, besides those collected for musical compositions by ASCAP or BMI,
are due for Webcasted music that is selected by or on behalf of the recipient
pursuant to 17 U.S.C. sec. 114(j)(7). If upheld, that ruling would prevent us
from expanding our service to permit users to play a requested song via our Web
site without paying additional royalties.

LINKING AND FRAMING OF THIRD-PARTY WEB SITES

We link to and frame third-party Web sites of our artists without
express written permission to do so. In addition, in the past we have provided
a search feature to allow users to find music residing elsewhere on the
Internet. Those practices are controversial, and have, in instances not
involving us, resulted in litigation. Various claims, including trademark and
copyright infringement, unfair competition, and commercial misappropriation, as
well as infringement of the right of publicity may be asserted against us as a
result of these practices. The law regarding linking and framing remains
unsettled; it is uncertain as to how existing laws, especially trademark and
copyright law, will be applied by the judiciary to the Internet. Also,
Congress is increasingly active in passing new laws related to the Internet,
and there is uncertainty as to the impact of future potential laws, especially
those involving domain names, databases and privacy.

DEFAMATION OR CONTRIBUTORY INFRINGEMENT

Our Web site features a community area where visitors can post comments We
do not censor such comments and it is possible that a customer could use our
Web sites as a forum to make false, misleading or disparaging remarks about
others. Such on-line comments could lead to claims for defamation or
infringement. As to libel claims brought in the United States, we believe that
we qualify for safe harbor protection for third-party postings under 47 U.S.C.
sec. 230(c)(1). However, other countries, notably the United Kingdom, may
impose such liability, and it is possible we could be sued there for
third-party postings. Separately, our Web sites allow consumers to use our
personal Web publishing tools to post samples of their works. Such postings
could be misused to post unlicensed copyrighted content of others. We have
obtained limited safe-harbor protection under the recently enacted Digital
Millennium Copyright Act against liability for infringing material of which we
do not have control and knowledge.

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EMPLOYEES

As of December 31, 2002, we had 38 full-time employees. None of our
employees is represented by a labor union. We have not experienced any work
stoppages and consider our employee relations to be good.

RISK FACTORS

Before investing in our company or deciding to maintain or increase your
investment, you should carefully consider the risks described below, in
addition to the other information contained in this report and in our other
filings with the Securities and Exchange Commission. The risks and
uncertainties described below are not the only ones facing our company.
Additional risks and uncertainties not presently known to us or that we
currently deem immaterial may also affect our business operations. If any of
these risks actually occur, our business, financial condition or results of
operations could be seriously harmed. In that event, the market price for our
common stock could decline and you may lose all or part of your investment.

We Face Substantial Doubt About Our Ability to Continue as a Going Concern
Without Further Substantial Cost Reductions and/or Additional Financing

The report from our Independent Auditors includes an explanatory paragraph
that describes substantial doubt concerning our ability to continue as a going
concern given our current available cash resources. In order to address this
concern, we are implementing substantial cost reductions and
exploring the disposition of one or more business units such that we
may be able
to operate as a going concern. However, there can be no assurance that these
efforts will be sufficient to enable us to operate as a going concern on a
sustained basis. In addition, we are pursuing alternatives to raise additional
capital both at ARTISTdirect and ARTISTdirect Records in order to continue the
operations of both entities. We do not have any formal commitments at this
time and there can be no assurance that additional capital can be obtained
either by ARTISTdirect or by ARTISTdirect Records on reasonable terms, in a
timely manner or at all. If additional funds are raised through the issuance
of equity securities of either ARTISTdirect or ARTISTdirect Records, the
percentage ownership of current stockholders in ARTISTdirect and/or
ARTISTdirect Records will be reduced. If we raise additional funds by issuing
debt, we may be subject to limitations on our operations, including limitations
on the payment of dividends, and any debt issued by ARTISTdirect Records may be
senior to the obligations of ARTISTdirect Records to ARTISTdirect. Failure
to raise additional capital could seriously harm or result in the cessation of
the business of ARTISTdirect Records and ARTISTdirect, and impair the value of
our investment in ARTISTdirect Records. Cessation of the business of
ARTISTdirect Records or ARTISTdirect could result in bankruptcy or liquidation,
in either case potentially resulting in a total loss for stockholders of
ARTISTdirect.

It Is Difficult To Evaluate Our Business And Prospects Because We Have A
Limited Operating History And Rapidly Evolving Business

Our limited operating history and rapidly evolving business make it
difficult to evaluate our prospects or to accurately predict our future revenue
or results of operations. Our revenue and income potential are unproven, and
our business model is constantly and rapidly evolving. In particular, the
Internet is constantly changing and we may need to modify our business model to
adapt to these changes. In addition, our decision to focus a substantial
portion of both our human and capital resources on our record label businesses,
ARTISTdirect Records and iMusic, represents entry into a business new to us
that entails significant uncertainty.

Our Business Model Is New And Unproven, And We May Not Be Able To Generate
Sufficient Revenue To Operate Our Business Successfully

Our model for conducting business and generating revenue is new and
unproven. Our success will depend primarily on our ability to generate revenue
and income from ARTISTdirect Records and our iMusic record label and from
multiple sources through the ARTISTdirect Network, including:



| |  |  | online sales of music and related merchandise;
| | - |  | ----------------------------------------------

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| |  |  | sales of advertising and sponsorships;                                  
| | - |  | ------------------------------------------------------------------------
|
| |  |  | marketing our database of consumer information and preferences;         
|
| |  |  | sales of, or subscription fees for, digitally distributed music; and    
|
| |  |  | sales of music CDs by the ARTISTdirect Records and iMusic record labels.

It is uncertain whether a music-related Web site that relies on attracting
people to learn about, listen to and purchase music and related merchandise can
generate sufficient revenue from electronic commerce, advertising, sales of
database information and sales of, or fees for, digital downloads of music, to
become a viable business. We provide many of our online features without
charge, and we may not be able to generate sufficient revenue to pay for these
features. In addition, it may take a significant amount of time for us to
develop ARTISTdirect Records with Ted Field and our iMusic record label.
Accordingly, we are not certain that our business model will be successful or
that we can sustain revenue growth or be profitable. If our markets develop
more slowly than expected or become saturated with competitors, or our products
and services do not achieve or sustain market acceptance, we may not be able to
successfully operate our business.

We Have A History Of Operating Losses And Anticipate Losses And Negative Cash
Flow For The Foreseeable Future

To date, we have not been profitable on an annual or quarterly basis and
have incurred accumulated losses of approximately $242.0 million as of December 31, 2002.
For the years ended December 31, 2002 and 2001, we incurred net
losses of approximately $48.2 million and $69.9 million, respectively, which
represented approximately 771% and 671%, respectively, of our revenue for those
periods. We expect our operating losses and negative cash flow to continue for
at least the near future. We will need to generate significant additional
revenue to achieve profitability. Consequently, it is possible that we may
never achieve profitability, and even if we do achieve profitability, we may
not sustain or increase profitability on a quarterly or annual basis in the
future. If we do not achieve or sustain profitability in the future, then we
will likely be unable to continue our operations.

Our Operating Results Will Likely Be Unpredictable

Our operating results are likely to fluctuate significantly in the future
due to a variety of factors, many of which are outside of our control. Because
our operating results are volatile and difficult to predict, our operating
results have in the past, and in the future may, fall below the expectations of
securities analysts and investors. In this event, the trading price of our
common stock may fall significantly.

Global Sales of Recorded Music Have Recently Declined and This Trend May
Continue in the Future

Based on data compiled by the International Federation of the Phonographic
Industry (IFPI), global sales of recorded music declined 1.3% in value and 1.2%
in units from 1999 to 2000, declined 5.0% in value and 6.5% in units from 2000
to 2001, and declined 9.2% in value and 11.2% in units in the first half of
2002 compared with the first half of 2001. The IFPI attributes this decline,
in part, to widespread copying and illegal Internet downloading of music. This
trend of declining sales of recorded music may continue in the future and could
have a detrimental impact on revenue at our iMusic and ARTISTdirect Records
labels.

If We Are Not Successful In Generating Revenue From The ARTISTdirect Records
Co-Venture With Ted Field, Our Business And Financial Condition May Be
Materially Adversely Affected

In 2001, we decided to invest a significant amount of our resources in
offline activities and in May 2001, we entered into an agreement with music and
entertainment veteran, Ted Field, to develop and operate our record label
co-venture, ARTISTdirect Records, and to hire Mr. Field as our Chairman of the
Board and Chief Executive Officer. ARTISTdirect Records is a relatively new
enterprise and faces significant challenges in developing and operating its
planned business, including but not limited to the following:

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| |  |  | identifying and entering into recording agreements with artists for ARTISTdirect Records;
| | - |  | -----------------------------------------------------------------------------------------
|
| |  |  | hiring and retaining personnel for ARTISTdirect Records;                                 
|
| |  |  | producing and promoting new music recordings for artists signed to ARTISTdirect Records ;
|
| |  |  | developing a recognized brand name in the music industry;                                
|
| |  |  | developing distribution channels for ARTISTdirect Records;                               
|
| |  |  | integrating the ARTISTdirect Records operations with our existing operations;            
|
| |  |  | obtaining the capital necessary to sustain the ARTISTdirect Records operations; and      
|
| |  |  | generating ARTISTdirect Records revenue and achieving profitability.                     

ARTISTdirect Records has a very limited operating history upon which to
assess whether it will be able to meet all of the challenges required to
successfully develop and operate its business. Accordingly, there can be no
assurance that Mr. Field will be able to successfully operate ARTISTdirect
Records. ARTISTdirect Records may be forced to curtail or cease operations if
it is not able to obtain the capital necessary to sustain its operations, in
which events the value of our investment in ARTISTdirect Records may be
seriously impaired. If ARTISTdirect Records is not able to develop a
successful business with revenue and profits, we will not receive the
anticipated benefits of our investment in ARTISTdirect Records and our
business, financial condition and results of operations would be materially and
adversely affected.

There May Be A Significant Conflict Of Interest As A Result Of Ted Fields
Separate Ownership Interest In ARTISTdirect Records And His Dual Roles As Chief
Executive Officer Of Both ARTISTdirect Records And The Company

As of December 31, 2002, Mr. Field held options to purchase approximately
12.8% of the currently outstanding voting interests in the Company and also
held 30% of the outstanding ownership interests in ARTISTdirect Records, the
Companys record label co-venture. By virtue of the difference in his ownership
interests, Mr. Field would likely gain a greater personal benefit if
opportunities were realized by ARTISTdirect Records rather than by the Company.
Accordingly, there are potential conflicts of interest between the Company and
Mr. Field. Although our employment agreement with Mr. Field precludes him from
voting on behalf of the Company on matters concerning ARTISTdirect Records, Mr.
Field will, by virtue of his authority as Chief Executive Officer of both the
Company and ARTISTdirect Records, have substantial influence over the execution
of any decisions made by the Companys management and Board of Directors.

As a result, Mr. Field could, through his day-to-day managerial decisions,
take actions that are detrimental to the Company and favorable to ARTISTdirect
Records. For instance, Mr. Field could decide to sign a particular artist to
the ARTISTdirect Records record label instead of the iMusic record label. In
addition, Mr. Fields concurrent service as the Chief Executive Officer of both
the Company and ARTISTdirect Records could allow Mr. Field to devote more time
to ARTISTdirect Records than to the Company. Under the terms of the employment
agreement with each entity, Mr. Field is required to devote at least 80% of his
business time exclusively to the Company and ARTISTdirect Records. However, Mr.
Field is allowed to devote all of that business time exclusively to
ARTISTdirect Records as long as it does not adversely affect his performance
under the terms of his employment agreement with the Company. While the Company
does not expect that any of the foregoing events will occur, there can be no
assurance that Mr. Field will always act in the best interests of the Company
and its stockholders.

We Have Committed A Substantial Amount Of Our Available Cash To The
ARTISTdirect Records Co-Venture With Ted Field And, As A Result, The Amount Of
Cash That We Will Have Available To Operate Our Other Businesses Has Been
Substantially Reduced

The ARTISTdirect Records co-venture with Mr. Field represented a
significant shift in the planned use of our cash resources. As of December 31,
2002, we had provided $30.25 million to ARTISTdirect Records, are obligated to
provide an additional $2.75 million in 2003 and an additional $12.0 million
from 2004 through July 2006. As of December 31, 2002, we had unrestricted cash
and short-term investments totaling $8.0 million. Our commitment to fund
ARTISTdirect Records is subject to a guaranty for the benefit of BMG. Should
we fail to meet our

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commitment, BMG may choose to enforce the guaranty or provide substitute
financing that could result in dilution of our interest in ARTISTdirect
Records.

Assuming payment of the $2.75 million advance to ARTISTdirect Records in
2003, we currently anticipate that available cash resources, including
short-term investments, may not be sufficient to meet anticipated needs for
working capital and capital expenditures for at least twelve months without
additional capital. Furthermore, to continue its operations ARTISTdirect
Records will require additional capital in 2003 beyond that to be provided by
us.

We are currently pursuing alternatives to raise additional capital in
order to continue the operations of ARTISTdirect and ARTISTdirect Records.
There can be no assurance that additional capital can be obtained by either
ARTISTdirect or by ARTISTdirect Records on reasonable terms, in a timely manner
or at all. If additional funds are raised through the issuance of equity
securities of either ARTISTdirect or ARTISTdirect Records, the percentage
ownership of current stockholders in ARTISTdirect and/or ARTISTdirect Records
will be reduced. If we raise additional funds by issuing debt, we may be
subject to limitations on our operations, including limitations on the payment
of dividends, and any debt issued by ARTISTdirect Records may be senior to the
obligations of ARTISTdirect Records to ARTISTdirect. Failure to raise
additional capital could seriously harm or result in the cessation of the
business of ARTISTdirect Records and ARTISTdirect, and impair the value of our
investment in ARTISTdirect Records. Cessation of the business of ARTISTdirect
Records or ARTISTdirect could result in bankruptcy or liquidation, in either
case potentially resulting in a total loss for stockholders of ARTISTdirect.

See Liquidity and Capital Resources on pages 26-28 for more information
on our liquidity and capital resources.

Our Equity Interest In ARTISTdirect Records May Be Significantly Diluted If We
Are Unable To Meet Our Financing Commitment

In the event that we fail to provide funding to ARTISTdirect Records as
required under the terms of the operating agreement governing the co-venture,
ARTISTdirect Records then has the right to secure substitute financing. Among
other things, any advances made by us that are outstanding at the time will
become subordinated to repayment of the substitute financing and we can be
forced to divest certain of our equity interest in ARTISTdirect Records should
the issuance of an equity interest to the substitute financier be required as a
condition of the substitute financing.

If We Are Not Successful In Generating and Increasing Revenue From Our iMusic
Record Label, Our Business And Financial Condition May Be Materially Adversely
Affected

During 2002, through our wholly owned subsidiary ARTISTdirect Digital,
Inc., we launched a second record label, under the brand-name iMusic. The
iMusic record label is a new operation and we will face significant challenges
in developing and growing this operation, including but not limited to the
following:



| |  |  | identifying and entering into recording agreements with artists for the iMusic record label;
| | - |  | --------------------------------------------------------------------------------------------
|
| |  |  | producing and promoting music recordings for artists signed to the iMusic record label;     
|
| |  |  | developing a recognized brand name in the music industry;                                   
|
| |  |  | developing distribution channels for the iMusic record label; and                           
|
| |  |  | generating iMusic record label revenue and achieving profitability.                         

The iMusic record label has a very limited operating history upon which to
assess whether it will be able to meet all of the challenges required to
successfully operate and generate and increase revenues. If we are not able to
generate and increase revenue and profits from the iMusic record label, our
business, financial condition and results of operations would be materially and
adversely affected. Furthermore, we may be forced to curtail or cease the

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operations of iMusic, or seek to divest iMusic, if we are unable to obtain
financing for the operations of ARTISTdirect, in which event we may be unable
to recover the value of our investment to date.

We Do Not Currently Expect Online Advertising To Grow Significantly In The Near
Future And As A Result, Our Business May Be Adversely Affected

If we do not increase advertising revenue, our business will be adversely
affected. Increasing our advertising revenue depends upon many factors,
including our ability to:



| |  |  | respond to and anticipate fluctuations in the demand for, and pricing
of, online advertising;                                
| | - |  | -----------------------------------------------------------------------------------------------------------------------------
|
| |  |  | develop and maintain key advertising relationships and compete for
advertisers with Internet and traditional media companies;
|
| |  |  | conduct successful selling and marketing efforts aimed at advertisers;                                                       
|
| |  |  | successfully develop, sell and execute entertainment marketing solutions;                                                    
|
| |  |  | increase the size of our audience and the amount of time that our audience spends on our Web sites;                          
|
| |  |  | accurately measure the size and demographic characteristics of our audience;                                                 
|
| |  |  | offer advertisers the means to effectively target their advertisements to our audience; and                                  
|
| |  |  | increase the amount of revenue per advertisement.                                                                            

Our failure to achieve one or more of these objectives could impair our
ability to increase advertising revenue, which could adversely affect our
business. In addition to the above factors, general economic conditions, as
well as economic conditions specific to online advertising, electronic commerce
and the music industry, could affect our ability to increase our advertising
revenue. In particular, the growth of online advertising has declined since
2000, which has had, and in the future may continue to have, a significant
adverse effect on our revenue from online advertising. We do not currently
expect online advertising to grow significantly in the near future. In the
past, we have traditionally relied on a limited number of customers for our
advertising revenue. For instance, during the year ended December 31, 2002,
AT&T Wireless accounted for 14% and Miller Brewing accounted for 12%
respectively, of our total media revenue. The loss of these customers could
have a significant adverse effect on our media revenue.

The Effectiveness Of The Internet For Advertising Is Unproven, Which May
Discourage Some Advertisers From Advertising On Our Sites

Our future depends in part on an increase in the use of the Internet and
other forms of digital media for advertising. The Internet advertising market
is relatively new and rapidly evolving, and we cannot yet gauge the
effectiveness of advertising on the Internet as compared to traditional media.
As a result, demand for Internet advertising is uncertain. Many advertisers
have little or no experience using the Internet for advertising purposes. The
adoption of Internet advertising, particularly by companies that have
historically relied upon traditional media for advertising, requires the
acceptance of a new way of conducting business, exchanging information and
advertising products and services. Such customers may find advertising on the
Internet to be undesirable or less effective than traditional advertising media
for promoting their products and services. In particular, online advertising
revenue has significantly decreased. If the Internet advertising market fails
to grow, our business could be adversely affected. In addition, the market for
advertising on other forms of digital media, such as broadband distribution, is
even less developed than Internet advertising, and if that market does not
develop, our growth may be limited.

We Depend Upon Artists To Generate Electronic Commerce Revenue And Traffic To
Our Web Sites

We believe that the future success of our online e-commerce business
depends in part on our ability to maintain our existing artist relationships
and to establish additional relationships with artists. During 2001, we
modified the agreements with many of our artists to simplify the relationship
between the artists and us. Our business would be adversely affected by any of
the following:

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| |  |  | our inability to establish relationships with new artists and offer
their music and merchandise for sale to our customers;
| | - |  | --------------------------------------------------------------------------------------------------------------------------
|
| |  |  | the loss of popularity of artists for whom we sell music and merchandise;                                                 
|
| |  |  | increased competition to maintain existing relationships with artists; and                                                
|
| |  |  | non-renewals or non-conversions of certain of our current agreements with artists.                                        

If we are not able to provide valuable services or incentives to artists,
or if we otherwise fail to maintain good relations with our artists, they may
lose interest in providing content and merchandise and otherwise promoting the
ARTISTdirect Network. The artists own the domain names for their Web sites and
some of the intellectual property rights with respect to content developed for
the Web sites. As a result, we may lose the rights to operate artists official
online stores if our agreements with these artists terminate and are not
renewed or converted. Most of our current artist contracts have a term of three
years, and most of these agreements expire in 2002. Upon expiration, artists
may decide not to renew these contracts on reasonable terms, if at all. We plan
to negotiate new agreements with some of our existing artists and terminate
existing agreements with some of our other artists. Our inability to negotiate
new agreements or to terminate existing agreements may have an adverse impact
on our business. In the past, we have offered our artists options to purchase
our common stock. Options were intended to provide artists with an additional
incentive to actively promote their Web sites and the ARTISTdirect Network. We
do not currently intend to offer artists options or other equity incentives in
the future and this may impair our efforts to sign new artists. If we cannot
maintain our current relationships with artists or sign agreements with new
artists, our user base would likely diminish and our ability to generate
revenues from electronic commerce would be seriously harmed.

We May Not Be Able To Develop Or Obtain Sufficiently Compelling Content To
Attract And Retain Our Target Audience

For our business to be successful, we must provide content and services
that attract consumers who will purchase music and related merchandise online.
We may not be able to provide consumers with an acceptable mix of products,
services, information and community to attract them to our Web sites or to
encourage them to remain on our Web sites for an extended period of time. If
our audience determines that our content does not reflect its tastes, then our
audience size could decrease or the demographic characteristics of our audience
could change and we may be unable to react to those changes effectively or in a
timely manner. Any of these results would adversely affect our ability to
attract advertisers and sell music and other related merchandise. Our ability
to provide compelling content could be impaired by any of the following:



| |  |  | reduced access to content controlled by record labels, music publishers and artists;
| | - |  | ------------------------------------------------------------------------------------
|
| |  |  | diminished technical expertise and creativity of our production staff; and          
|
| |  |  | inability to anticipate and capitalize on trends in music.                          

If We Do Not Build And Maintain Strong Brands, We May Not Be Able To Attract A
Significant Number Of Users To Our Web Sites

To attract users we must develop a brand identity for ARTISTdirect and
increase public awareness of the ARTISTdirect Network; however to conserve
cash, we have significantly decreased the amounts we have spent and plan to
spend on our offline and online advertising and promotional efforts to increase
brand awareness, traffic and revenue. Accordingly, our marketing activities may
not result in increased revenue and, even if they do, any increased revenue may
not offset the expenses we incur in building our brands. Moreover, despite
these efforts we may be unable to increase public awareness of our brands,
which would have an adverse effect on our results of operations.

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Our Online Store Agreements With Artists Do Not Preclude Our Artists From
Selling Music And Related Merchandise On Other Web Sites

Our online store agreements with artists do not preclude them from selling
merchandise and compact discs or offering music downloads on other Web sites.
If we are unable to attract sufficient traffic to the ARTISTdirect Network,
consumers may purchase the products that we offer on other Web sites. If we are
unable to generate revenue from the sale of music and related merchandise, our
results of operations will be adversely affected.

Our Market Is Highly Competitive And We May Not Be Able To Compete Successfully
Against Our Current And Future Competitors

The market for the online promotion and distribution of music and related
merchandise is highly competitive and rapidly changing. There are a significant
number of Web sites promoting and distributing music and related merchandise
that compete for the attention and spending of consumers, advertisers and
users. We face competitive pressures from numerous actual and potential
competitors. Our competitors include America Online, MSN, Yahoo!, Listen.com,
Amazon.com, CDnow, MTV, other web sites and traditional music companies.

Competition is likely to increase significantly as new companies enter the
market and current competitors expand their services. Some of our competitors
have announced agreements to work together to offer music over the Internet,
and we may face increased competitive pressures as a result. Many of our
current and potential competitors in the Internet and music entertainment
businesses may have substantial competitive advantages relative to us,
including:



| |  |  | longer operating histories;                                        
| | - |  | -------------------------------------------------------------------
|
| |  |  | significantly greater financial, technical and marketing resources;
|
| |  |  | greater brand name recognition;                                    
|
| |  |  | larger existing customer bases; and                                
|
| |  |  | more popular content or artists.                                   

These competitors may be able to respond more quickly to new or emerging
technologies and changes in customer requirements and devote greater resources
to develop, promote and sell their products or services than we can. Consumers,
artists, talent management companies and other music-related vendors or
advertisers may perceive Web sites maintained by our existing and potential
competitors as being superior to ours. In addition, increased competition could
result in reduced advertising rates and margins and loss of market share, any
of which could harm our business.

We Depend On A Limited Number Of Suppliers For Music Merchandise, Fulfillment
And Distribution and If We Cannot Secure Alternate Suppliers, Our Business May
Be Harmed

We rely to a large extent on timely distribution by third parties. During
2002, we relied on two vendors, Alliance Entertainment, and Benn Co. (formerly
Old Glory Boutique Distributing, Inc.) to fulfill and distribute our orders for
music and related merchandise. During the year ended December 31, 2002,
approximately 85% and 15%, respectively, of our total customer orders were
fulfilled by Alliance and Benn Co., respectively. We purchase a significant
portion of our artist-licensed merchandise from Benn Co. and most all of our
compact discs from Alliance Our contracts with Alliance and Benn Co. expire in
August 2003 and April 2003, respectively. Our business could be significantly
disrupted if Alliance or Benn Co. were to terminate, fail to renew or breach
their agreements or suffer adverse developments that affect their ability to
supply products to us. If, for any reason, Alliance, Benn Co. or other vendors
are unable or unwilling to supply products to us in sufficient quantities and
in a timely manner, we may not be able to secure alternative suppliers, on
acceptable terms, in a timely manner or at all.

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We Depend On Third Party Inventory And Financial Systems And Carrier Services

Because we rely on third parties to fulfill orders, we depend on their
systems for tracking inventory and financial data. If our distributors systems
fail or are unable to scale or adapt to changing needs, or if we cannot
integrate our information systems with the systems of any new distributors, we
may not have adequate, accurate or timely inventory or financial information.
We also rely on third-party carriers for shipments to and from distribution
facilities. We are therefore subject to the risks, including employee strikes
and inclement weather, associated with our carriers ability to provide
delivery services to meet our distribution and shipping needs. In the past,
both Alliance and we have occasionally experienced an unusually high volume of
orders, which resulted in shipping delays to our customers. These delays did
not have a material adverse effect, however, our failure to deliver products to
our customers in a timely and accurate manner in the future could harm our
reputation, our relationship with customers, the ARTISTdirect brand and our
results of operations.

Our Business Is Subject To Seasonality, Which Could Adversely Affect Our
Operating Results

We have experienced and expect to continue to experience seasonal
fluctuations in our online sales. These seasonal patterns will cause quarterly
fluctuations in our operating results. In particular, a disproportionate amount
of our online sales have been realized during the fourth calendar quarter and
during the summer months, traditionally when artists go on tour. Due to our
limited operating history, it is difficult to predict the seasonal pattern of
our online sales and the impact of such seasonality on our business and
operating results. Our seasonal online sales patterns may become more
pronounced, strain our personnel, warehousing, and order shipment activities
and cause our operating results to be significantly less than expected for any
given period. This would likely cause our stock price to fall.

Our Record Label Businesses Are Subject To Unpredictable Fluctuations, Which
Could Adversely Affect Our Operating Results

We expect that the ARTISTdirect Records and iMusic record labels will
experience significant fluctuations in revenue and income based, in part, on
the release schedule for artists signed to the label and the subsequent sales
of the released compact discs. It is inherently difficult to predict the sales
for any particular compact disc and, therefore, operating results for any given
period may be significantly higher or lower than another given period. To the
extent that the record labels results are significantly lower than expected
for any given period, this could adversely affect our overall operating results
and would likely cause our stock price to fall.

We May Be Subject To System Disruptions, Which Could Reduce Our Revenue

Our ability to attract and retain artists, users, advertisers and
merchants for our online network depends on the performance, reliability and
availability of our Web sites and network infrastructure. Our own staff
performs the maintenance and operation of substantially all of our Internet
communications hardware and servers. We have periodic maintenance windows,
and we experience outages from time to time caused by temporary problems in our
own systems or software. While we have implemented procedures to improve the
reliability of our systems, these interruptions may continue to occur from time
to time. Our users also depend on third party Internet service providers and
Web site operators for access to our Web sites. These entities have experienced
significant outages in the past, and could experience outages, delays and other
difficulties due to system failures in the future which are unrelated to our
systems, but which could nonetheless adversely affect our business.

Computer Viruses, Electronic Break-Ins Or Similar Disruptive Events Could
Disrupt Our Online Services

Computer viruses, electronic break-ins or similar disruptive events could
disrupt our online services. System disruptions could result in the
unavailability or slower response times of our Web sites, which would reduce
the number of advertisements delivered or commerce conducted on our Web sites
and lower the quality of our users experience. Service disruptions could
adversely affect our revenue and, if they were prolonged, would seriously harm
our business and reputation. Our business interruption insurance may not be
sufficient to compensate us for losses that may occur as a result of these
interruptions.

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If We Do Not Successfully Manage Our Operations, We May Not Be Able To Operate
Our Business Effectively

Since our inception in August 1996, we have rapidly and significantly
expanded and changed our operations. We expect further significant changes,
particularly as a result of the ARTISTdirect Records and iMusic record labels
and other potential opportunities. This process has strained, and we expect
that it will continue to strain, our management, operations, systems and
financial resources. In 2001 and 2002, we reduced our headcount to conserve
cash and expect to further reduce headcount in the future. At the same time, we
have expanded staff associated with ARTISTdirect Records. Accordingly, to
manage our operations and personnel, we must improve and effectively utilize
our existing operational, management, marketing and financial systems and
maintain close coordination among our technical, finance, marketing, sales and
production staffs. In addition, we may also need to increase the capacity of
our software, hardware and telecommunications systems on short notice. We also
will need to manage an increasing number of complex relationships with users,
strategic partners, advertisers and other third parties, especially in light of
certain functions being outsourced. Our failure to manage growth could disrupt
our operations and ultimately prevent us from generating the revenue we expect.

The Loss Of Key Personnel, Including Ted Field, Marc Geiger, Or Keith Yokomoto,
Could Adversely Affect Our Business Because These Individuals Are Important To
Our Continued Growth

Our future success depends to a significant extent on the continued
services of our senior management, particularly Ted Field, Marc Geiger, and
Keith Yokomoto. The loss of any of these individuals would likely have an
adverse effect on our business. Competition for personnel throughout our
industry is intense and we may be unable to retain these key employees or
attract, integrate or retain other highly qualified employees in the future. We
have in the past experienced, and we expect to continue to experience,
difficulty in hiring and retaining highly skilled employees with appropriate
qualifications. If we do not succeed in attracting new personnel or retaining
and motivating our current personnel, our business could be adversely affected.
Recently enacted and proposed changes in corporate governance and securities
laws and regulations, such as the Sarbanes-Oxley Act of 2002, could make it
more difficult for us to attract and retain qualified executive officers or
qualified members of our Board of Directors, particularly to serve on our audit
committee.

If We Are Unable To Protect Our Intellectual Property Rights, Our Competitive
Position Could Be Harmed Or We Could Be Required To Incur Expenses To Enforce
Our Rights

We rely upon registered trademark rights in the United States for our
commercial use of the ARTISTdirect, UBL, Ultimate Band List, and iMusic brand
names and their respective associated domain names, and the ARTISTdirect logo.
We seek to protect our trademarks, copyrights and other proprietary rights by
registration and other means, but these actions may be inadequate. We have
trademark applications pending in several jurisdictions, but our registrations
may not be accepted or may be preempted by third parties and/or we may not be
able to register our trademarks in all jurisdictions in which we intend to do
business. We generally enter into confidentiality or license agreements with
our employees, consultants and corporate partners, and generally control access
to and distribution of our proprietary information. The steps we have taken may
not prevent misappropriation of our proprietary rights, particularly in foreign
countries where laws or law enforcement practices may not protect our
proprietary rights as fully as in the United States. If third parties were to
use or otherwise misappropriate our copyrighted materials, trademarks or other
proprietary rights without our consent or approval, our competitive position
could be harmed, or we could become involved in litigation to enforce our
rights. In addition, policing unauthorized use of our content, trademarks and
other proprietary rights could be very expensive, difficult or impossible,
particularly given the global nature of the Internet.

Our Access To Copyrighted Content Depends Upon The Willingness Of Content
Owners To Make Their Content Available

The music content available on the ARTISTdirect Network is typically
comprised of copyrighted works owned or controlled by multiple third parties.
Most of the content on our artist-specific Web sites is either owned or
licensed by the artist. On other parts of the ARTISTdirect Network, depending
on the nature of the content and how we use the music content, we typically
license such rights from publishers, record labels, performing rights societies
or artists. We frequently either do not have written contracts or have
short-term contracts with copyright owners, and, accordingly, our access to
copyrighted content depends upon the willingness of such parties to continue to
make their content available. If the fees for music content increase
substantially or if significant music content becomes unavailable, our ability
to offer music content could be materially limited. We have not obtained a
license

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for some of the content offered on the ARTISTdirect Network, including
links to other music-related sites and thirty-second streamed song samples,
because we believe that a license is not required under existing law. However,
this area of law remains uncertain and may not be resolved for a number of
years. When this area of law is resolved, we may be required to obtain licenses
for such content, alter or remove the content from our Web sites and be forced
to pay potentially significant financial damages for past conduct.

Intellectual Property Claims Against Us Could Be Costly And Could Result In The
Loss Of Significant Rights

Third parties may assert trademark, copyright, patent and other types of
infringement or unfair competition claims against us. If we are forced to
defend against any such claims, whether they are with or without merit or are
determined in our favor, we may face costly litigation, loss of access to, and
use of, content, diversion of technical and management personnel, or product
shipment delays. As a result of such a dispute, we may have to develop
non-infringing technology or enter into royalty or licensing agreements. Such
royalty or licensing agreements, if required, may be unavailable on terms
acceptable to us, or at all. While we have resolved all such disputes in the
past, we may not be able to do so in the future. If there is a successful claim
of infringement against us and we are unable to develop non-infringing
technology or license the infringed or similar technology or content on a
timely basis, it could harm our business. In addition, we rely on third parties
to provide services enabling our online product sales transactions, including
credit card processing, order fulfillment, shipping and customer service. We
could become subject to infringement actions by third parties based upon our
use of intellectual property provided by our third-party providers. It is also
possible that we could become subject to infringement actions based upon the
content licensed from third parties. Any such claims or disputes could subject
us to costly litigation and the diversion of our financial resources and
technical and management personnel. Further, if our efforts to enforce our
intellectual property rights are unsuccessful or if claims by third parties
against ARTISTdirect, the UBL and iMusic are successful, we may be required to
change our trademarks, alter or remove content, pay financial damages, or alter
our business practices. These changes of trademarks, alteration of content,
payment of financial damages or alteration of practices may adversely affect
our business.

We May Be Unable To Acquire Necessary Web Domain Names

We may be unable to acquire or maintain Web domain names relating to our
brand or to artist-specific Web sites in the United States and other countries
in which we may conduct business. We currently hold various relevant domain
names, including the artistdirect.com, ubl.com, and imusic.com domain
names. The acquisition and maintenance of domain names generally is regulated
by governmental agencies and their designees and is subject to change. The
relationship between regulations governing domain names and laws protecting
trademarks and similar proprietary rights is unclear. Therefore, we could be
unable to prevent third parties from acquiring or using domain names that
infringe or otherwise decrease the value of our brand name, trademarks and
other proprietary rights.

If Our Online Security Measures Fail, We Could Lose Visitors To Our Sites And
Could Be Subject To Claims For Damage From Our Users, Content Providers,
Advertisers And Merchants

Our relationships with consumers would be adversely affected and we may be
subject to claims for damage if the security measures that we use to protect
their personal information, especially credit card numbers, are ineffective. We
rely on security and authentication technology that we license from third
parties to perform real-time credit card authorization and verification with
our bank. We cannot predict whether events or developments will result in a
compromise or breach of the technology we use to protect a customers personal
information. Our infrastructure may be vulnerable to unauthorized access,
physical or electronic computer break-ins, computer viruses and other
disruptive problems. Internet service providers have experienced, and may
continue to experience, interruptions in service as a result of the accidental
or intentional actions of Internet users, current and former employees and
others. Anyone who is able to circumvent our security measures could
misappropriate proprietary information or cause interruptions in our
operations. Security breaches relating to our activities or the activities of
third-party contractors that involve the storage and transmission of
proprietary information could damage our reputation and our relationships with
our content providers, advertisers and merchants. We also could be liable to
our content providers, advertisers and merchants for the damages caused by such
breaches or we could incur substantial costs as a result of defending claims
for those damages. We may need to expend significant capital and other
resources to protect against such security breaches or to address problems
caused by such breaches. Our security measures may not prevent disruptions or
security breaches.

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We May Be Subject To Liability If Private Information Provided By Our Users
Were Misused

Our privacy policy discloses how we use individually identifiable
information that we collect. This policy is displayed and accessible throughout
the ARTISTdirect Network. Despite this policy, however, if third persons were
able to penetrate our network security or otherwise misappropriate our users
personal information or credit card information, we could be subject to
liability. We could also be subject to liability for claims for unauthorized
purchases with credit card information, impersonation or other similar fraud
claims, or other misuses of personal information, such as for unauthorized
marketing purposes. These claims could result in costly and time-consuming
litigation.

Laws Or Regulations May Adversely Affect Our Ability To Collect Demographic And
Personal Information From Users, Or To Display Certain Content On Our Sites,
And Could Affect Our Ability To Attract Advertisers

Legislatures and government agencies have adopted and are considering
adopting additional laws and regulations regarding the collection, use and
disclosure of personal information obtained from individuals when accessing Web
sites. For example, the Childrens Online Privacy Protection Act restricts the
ability of Internet companies to collect information from children under the
age of 13 without their parents consent. In addition, the Federal Trade
Commission and state and local authorities have been investigating Internet
companies regarding their use of personal information. Our privacy programs may
not conform with laws or regulations that are adopted. In addition, these
legislative and regulatory initiatives may adversely affect our ability to
collect demographic and personal information from users, which could have an
adverse effect on our ability to provide advertisers with demographic
information. These initiatives may also affect our ability to conduct
electronic commerce.

The European Union has adopted a directive that imposes restrictions on
the collection and use of personal data. The directive imposes restrictions
that are more stringent than current Internet privacy standards in the United
States. If this directive were enforced against us, it could prevent us from
collecting data from users in European Union member countries or subject us to
liability for use of information in contravention of the directive. Other
countries have adopted or may adopt similar legislation. We could incur
additional expenses if new regulations regarding the use of personal
information are introduced or if government authorities choose to investigate
our privacy practices.

In addition, legislatures and government agencies have adopted and are
considering adopting additional laws and regulations governing the content of
material transmitted over the Internet. These include laws relating to
obscenity, indecency, libel and defamation. For example, the Child Online
Protection Act, or COPA, prohibits and imposes criminal penalties and civil
liability on anyone communicating material harmful to minors through the
Internet for commercial purposes, unless access to such material is blocked to
minors under age 17. The U.S. Supreme Court has maintained a preliminary
injunction precluding enforcement of COPA, pending the decision on questions of
COPAs constitutionality that the U.S. Supreme Court remanded to the Third U.S.
Circuit Court of Appeals. We could be liable if the injunction against COPA is
lifted and if content delivered by us or placed on our Web sites violates COPA.
Such a result may adversely affect our ability to attract users under age 17
and, consequently, may adversely affect our ability to attract advertisers.

We May Continue To Have Contingent Liability Due To Our Issuances Of Certain
Unregistered Securities

Prior to our initial public offering, we issued a number of shares and
options to purchase shares of our common stock to our employees and to artists
and their managers and advisors. Due to the nature of the persons who received
these shares and options in addition to our employees and the total number of
shares and options issued to them and our employees, the issuance of some of
these shares and options did not comply with the requirements of Rule 701 under
the Securities Act of 1933, as amended, or any other available exemptions from
the registration requirements of Section 5 of the Securities Act, and may not
have qualified for any exemption from qualification or registration under
applicable state securities laws either.

As a result, in November 2001,we made a rescission offer to all these
persons pursuant to a registration statement filed under the Securities Act and
pursuant to applicable state securities law. In the rescission offer, we
offered to repurchase from these persons all shares purchased by them pursuant
to option exercises before the expiration of the

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rescission offer for an amount equal to the purchase or exercise price
paid for these purchased shares, plus interest from the date of purchase until
the expiration of the rescission offer, at the current statutory rate per year
mandated by the state in which the shares were purchased, or at 7% per year if
a private placement exemption was available in a particular state or if the
shares were otherwise issued in compliance with state law (less any amounts
received by those persons who had already sold their shares). We also offered
to repurchase all unexercised options granted to these persons at 20% of the
option exercise price times the number of option shares, plus interest from the
date the options were granted until the rescission offer expires, at the
current statutory rate per year mandated by the state in which the options were
granted, or at 7% per year if a private placement exemption was available in
a particular state or if the options were otherwise granted in compliance with
state law. The rescission offer was completed in December 2001. 83,403 shares
and 636,740 options were tendered in the rescission offer and the cost to us of
repurchasing such shares and options was approximately $10.2 million.

The Securities Act does not expressly provide that a rescission offer will
terminate a purchasers right to rescind a sale of stock that was not
registered under the Securities Act as required. Accordingly, we may continue
to be contingently liable under the Securities Act to any offerees that
rejected the rescission offer. In addition, it is possible that offerees may
claim that the consideration offered to them in the rescission offer was
insufficient, in which case we may have additional liability.

Our Common Stock Price Has Been Volatile, Which Could Result In Substantial
Losses For Individual Stockholders

The market prices of Internet-related stocks, including our common stock,
have been volatile and we expect that they will continue to be volatile. In
particular, our common stock may be subject to significant fluctuations in
response to a variety of factors, including but not limited to:



| |  |  | general economic conditions;                                                                                                      
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | actual or anticipated variations in quarterly operating results;                                                                  
|
| |  |  | changes in financial estimates by securities analysts;                                                                            
|
| |  |  | failure to meet analyst predictions and projections;                                                                              
|
| |  |  | changes in market valuations of media and online e-commerce companies;                                                            
|
| |  |  | new products or services offered by us or our competitors;                                                                        
|
| |  |  | announcements of significant acquisitions, strategic partnerships,
joint ventures or capital commitments by us or our competitors;
|
| |  |  | additions or departures of key personnel;                                                                                         
|
| |  |  | our sales of common stock or other securities in the future; and                                                                  
|
| |  |  | other events or factors, many of which are beyond our control.                                                                    

In addition, the average trading volume of our common stock has been
extremely low in the past. As a result, our stock price may be susceptible to
significant volatility on a day-to-day basis, depending on the number of shares
traded on any given day. Due to these factors, you may not be able to sell your
stock at or above the price you paid for it, which could result in substantial
losses.

We May Be Sued For Content Available Or Posted On Our Website Or Products
Through Our Web Sites Or For Linking And Framing Of Third-Party Web Sites

We may be liable to third parties for content published on our Web sites
and other Web sites where our syndicated content appears if the music, artwork,
text or other content available violates their copyright, trademark or other
intellectual property rights or if the available content is defamatory, obscene
or pornographic. Similar claims have been brought, sometimes successfully,
against Web site operators in the past. We also may be liable for content
uploaded or posted by our users on our Web sites, such as digitally distributed
music files, postings on our message boards, chat room discussions and
copyrightable works. In addition, we could have liability to some of our

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content licensors for claims made against them for content available on
our Web sites. We also could be exposed to these types of claims for content
that may be accessed from our Web sites or via links to other Web sites or for
products sold through our Web site. While we have resolved all of these types
of claims made against us in the past, we may not be able to do so in the
future. We intend to implement measures to reduce exposure to these types of
claims, but such measures may not be successful and may require us to expend
significant resources. Any litigation as a result of defending these types of
claims could result in substantial costs and damages. Our insurance may not
adequately protect us against these types of claims or the costs of their
defense or payment of damages. We link to and frame third-party Web sites of
our artists without express written permission to do so. In addition, in the
past we have provided a search feature to allow users to find music residing
elsewhere on the Internet. Those practices are controversial, and have, in
instances not involving us, resulted in litigation. Various claims, including
trademark and copyright infringement, unfair competition, and commercial
misappropriation, as well as infringement of the right of publicity may be
asserted against us as a result. The law regarding linking and framing remains
unsettled; it is uncertain as to how existing laws, especially trademark and
copyright law, will be applied by the judiciary to the Internet. Also, Congress
is increasingly active in passing new laws related to the Internet, and there
is uncertainty as to the impact of future potential laws, especially those
involving domain names, databases and privacy.

Software Programs That Prevent Or Limit The Delivery Of Advertising May
Seriously Damage Our Ability To Attract And Retain Advertisers

A number of filter software programs have been developed which limit or
prevent advertising from being delivered to an Internet users computer. This
software could adversely affect the commercial viability of Internet
advertising. These programs attempt to blank out, or block, banner and other
advertisements. To date, such programs have not had a material adverse impact
on our ability to attract and retain advertisers or caused us to fail to meet
the terms of our advertising agreements. These programs may, however, have
these effects on us in the future. Widespread adoption of this type of software
would seriously damage our ability to attract and retain advertisers.

We May Need To Change The Manner In Which We Conduct Our Business If Government
Regulation Increases

There are currently few laws or regulations that specifically regulate
communications or commerce on the Internet. Laws and regulations may be adopted
in the future, however, that address issues such as user privacy, pricing,
taxation, content, copyrights, distribution, security, and the quality of
products and services. Several telecommunications companies have petitioned the
Federal Communications Commission to regulate Internet service providers and
online services providers in a manner similar to long distance telephone
carriers and to impose access fees on these companies. Any imposition of access
fees could increase the cost of transmitting data over the Internet. In
addition, the growth and development of the market for online commerce may lead
to more stringent consumer protection laws, both in the United States and
abroad, that may impose additional burdens on us. The United States Congress
has enacted Internet laws regarding childrens privacy, copyrights, taxation
and the transmission of sexually explicit material. The law of the Internet,
however, remains largely unsettled, even in areas where there has been some
legislative action. Moreover, it may take years to determine the extent to
which existing laws relating to issues such as property ownership, libel and
personal privacy are applicable to the Web. Any new, or modifications to
existing, laws or regulations relating to the Web could adversely affect our
business. Prohibition and restriction of Internet content and commerce could
reduce or slow Internet use, decrease the acceptance of the Internet as a
communications and commercial medium and expose us to liability. Any of these
outcomes could have a material adverse effect on our business, results of
operations and financial condition. The growth and development of the market
for Internet commerce may prompt calls for more stringent consumer protection
laws, both in the United States and abroad, that may impose additional burdens
on companies conducting business over the Internet.

The Internet Is Subject To Rapid Changes, Which Could Result In Significant
Additional Costs

The market for Internet products and services is characterized by rapid
change, evolving industry standards and frequent introductions of new
technological developments. These new standards and developments could make our
existing or future products or services obsolete. Keeping pace with the
introduction of new standards and technological developments could result in
significant additional costs or prove difficult or impossible for us. The
failure to keep pace with these changes and to continue to enhance and improve
the responsiveness, functionality and features of our Web sites could harm our
ability to attract and retain users. Among other things, we will need to

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license or develop leading technologies, enhance our existing services and
develop new services and technologies that address the varied needs of our
users.

Our Net Sales Could Be Adversely Affected If We Become Subject To Sales And
Other Taxes

If one or more states or any foreign country successfully asserts that we
should collect sales or other taxes on our sale of products over the Internet,
our net sales and results of operations could be harmed. We do not currently
collect sales or other similar taxes for physical shipments of goods into
states other than California and Florida. However, one or more states may seek
to impose sales tax collection obligations on companies, such as ARTISTdirect,
which engage in or facilitate online commerce. A number of proposals have been
made at the state and local level that would impose additional taxes on the
sale of goods and services through the Internet. Such proposals, if adopted,
could substantially impair the growth of electronic commerce and could
adversely affect our opportunity to derive financial benefit from electronic
commerce. Moreover, if any state or foreign country were to successfully assert
that we should collect sales or other taxes on the exchange of merchandise on
its system, our results of operations could be adversely affected. In addition,
any operations in states outside California and Florida could subject our
shipments in such states to state sales taxes under current or future laws.
Congress has enacted legislation limiting the ability of the states to impose
taxes on Internet-based transactions. This legislation, known as the Internet
Tax Freedom Act, imposes a moratorium ending on November 1, 2003 on state and
local taxes on electronic commerce where such taxes are discriminatory and on
Internet access unless such taxes were generally imposed and actually enforced
before October 1, 1998. Failure to renew this legislation in the future would
allow various states to impose taxes on Internet-based commerce.

Our Success Depends On The Continued Development And Maintenance Of The
Internet And The Availability Of Increased Bandwidth To Consumers

The success of our business will rely on the continued improvement of the
Internet as a convenient means of consumer interaction and commerce, as well as
an efficient medium for the delivery and distribution of music. Our business
will depend on the ability of our artists and consumers to conduct commercial
transactions with us, as well as to continue to upload and download music
files, without significant delays or aggravation that may be associated with
decreased availability of Internet bandwidth and access to our Web site. This
will depend upon the maintenance of a reliable network with the necessary
speed, data capacity and security, as well as timely development of
complementary products, such as high-speed modems, for providing reliable
Internet access and services. The failure of the Internet to achieve these
goals will reduce our ability to generate significant revenue.

Our penetration of a broader consumer market will likely depend, in part,
on continued proliferation of high speed Internet access. The Internet has
experienced, and is likely to continue to experience, significant growth in the
numbers of users and amount of traffic. As the Internet continues to experience
increased numbers of users, increased frequency of use and increased bandwidth
requirements, the Internet infrastructure may be unable to support the demands
placed on it. In addition, increased users or bandwidth requirements may harm
the performance of the Internet. The Internet has experienced a variety of
outages and other delays and it could face outages and delays in the future.
These outages and delays could reduce the level of Internet usage as well as
the level of traffic, and could result in the Internet becoming an inconvenient
or uneconomical source of music and related products and merchandise which
would cause our revenue to decrease. The infrastructure and complementary
products or services necessary to make the Internet a viable commercial
marketplace for the long term may not be developed successfully or in a timely
manner. Even if these products or services are developed, the Internet may not
become a viable commercial marketplace for the products or services that we
offer.




ITEM 2.  PROPERTIES

Our principal corporate offices are located in Los Angeles, California
where we lease approximately 64,000 square feet under a lease that expires in
2010. We have sub-leased approximately 30,000 square feet of our space to a
third party under a sub-lease agreement that is subject to a termination option
anytime after April 30, 2004. We expect that our current space will
accommodate our needs for the foreseeable future

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ITEM 3.  LEGAL PROCEEDINGS

From time to time, we may be involved in litigation relating to claims
arising out of our ordinary course of business. We are not presently involved
in any material legal proceedings.




ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

None.




PART II






ITEM 5.  MARKET FOR THE REGISTRANTS COMMON EQUITY AND RELATED STOCKHOLDER MATTERS


MARKET INFORMATION

ARTISTdirects common stock is listed for quotation on the Nasdaq National
Market under the symbol ARTD. The following table sets forth, for the two
most recent fiscal years, the high and low closing sale prices for our common
stock as reported by Nasdaq:

|               |  |   |       |  |  |   |      | 
|-------------- |  | - | ----- |  |  | - | ---- | 
|2001           |  |   |       |  |  |   |      | 
|First Quarter  |  | $ | 10.00 |  |  | $ | 4.06 | 
|Second Quarter |  |   | 7.80  |  |  |   | 3.30 | 
|Third Quarter  |  |   | 7.00  |  |  |   | 4.90 | 
|Fourth Quarter |  |   | 14.87 |  |  |   | 5.50 | 
|2002           |  |   |       |  |  |   |      | 
|First Quarter  |  | $ | 14.30 |  |  | $ | 9.60 | 
|Second Quarter |  |   | 11.94 |  |  |   | 7.60 | 
|Third Quarter  |  |   | 9.99  |  |  |   | 4.31 | 
|Fourth Quarter |  |   | 5.37  |  |  |   | 2.15 | 



---

|(1) |  | All numbers are adjusted to reflect a one-for-ten reverse stock split
in July 2001.
|--- |  | -----------------------------------------------------------------------------------

On March 17, 2003, the closing sale price for our common stock as reported
by Nasdaq was $2.01 per share.

HOLDERS

As of March 17, 2003, there were 269 holders of record of our common stock.

DIVIDENDS

We have never paid any cash dividends on our common stock and we have no current plans to do so.

SALES OF UNREGISTERED SECURITIES

None.




ITEM 6.  SELECTED FINANCIAL DATA

The following selected financial data with respect to ARTISTdirects
consolidated statements of operations for the years ended and consolidated
balance sheets as of December 31, 1998, 1999, 2000, 2001 and 2002, are derived
from the audited Consolidated Financial Statements of the company. The
following information should be read in conjunction with the Consolidated
Financial Statements of the company and the related notes thereto and

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Managements Discussion and Analysis of Financial Condition and Results
of Operations included elsewhere in this Annual Report on Form 10-K.

TABLE OF SELECTED FINANCIAL DATA

|                                                                                                                                                                      |  |                                       |        |      |  |      |         |      |  |      |         |   |  |   |         |   |  |   |         |  
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ------------------------------------- | ------ | ---- |  | ---- | ------- | ---- |  | ---- | ------- | - |  | - | ------- | - |  | - | ------- | -
|                                                                                                                                                                      |  | Fiscal Year Ended December 31,       
|                                                                                                                                                                      |  |                                      
|                                                                                                                                                                      |  | 1998                                  |        | 1999 |  | 2000 |         | 2001 |  | 2002
|                                                                                                                                                                      |  |                                       |        |      |  |      |         |      |  |     
|                                                                                                                                                                      |  | (in thousands, except per share data)
|Net Sales or Operating Revenues(1)                                                                                                                                    |  | $                                     | 2,665  |      |  | $    | 8,970   |      |  | $    | 18,730  |   |  | $ | 10,421  |   |  | $ | 6,250   |  
|Loss from continuing operations                                                                                                                                       |  |                                       | (5,689 | )    |  |      | (57,826 | )    |  |      | (61,499 | ) |  |   | (69,927 | ) |  |   | (48,339 | )
|Loss from continuing operations per common share                                                                                                                      |  |                                       |       |      |  |      | (17.16  | )(2) |  |      | (27.52  | ) |  |   | (19.50  | ) |  |   | (13.96  | )
|Total Assets                                                                                                                                                          |  |                                       | 3,412  |      |  |      | 97,830  |      |  |      | 117,762 |   |  |   | 59,873  |   |  |   | 15,925  |  
|Long-term obligations and redeemable preferred
stock (including long term debt, capital
leases, and redeemable preferred stock as
defined in Rule 5-02.28 of Reg S-X) |  | $                                     | 5,135  |      |  | $    | 112,390 |      |  | $    | 12,308  |   |  | $ | 903     |   |  | $ | 1,117   |  



---

|(1) |  | Net sales exclude revenues from the Agency business, which is being
classified as a discontinued operation for all periods presented. This segment
was discontinued in December 2001.                                                                                       
|--- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|   
|   
|   
|(2) |  | The loss from continuing operations per common share is for the period
from October 1, 1999 through December 31, 1999. The Company was merged
into a C corporation on October 6, 1999. Consequently, there is no loss
per share before that date, as the Company was an LLC.






ITEM 7.  MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS


GENERAL

The following discussion should be read in conjunction with our consolidated
financial statements and the notes to those financial statements included
elsewhere in this Annual Report. The following discussion contains
forward-looking statements based on our current expectations, estimates and
projections about our industry, managements beliefs and certain assumptions
made by us. Words such as anticipates, expects, intends, plans,
believes, may, will or similar expressions are intended to identify
forward-looking statements. In addition, any statements that refer to
expectations, projections or other characterizations of future events or
circumstances, including any underlying assumptions, are forward-looking
statements. Such statements include, but are not limited to, statements
concerning our unproven business model, increased competition in its industry,
our ability to generate revenues from our record label, online product sales,
advertising and other revenue streams, ability to increase visits to our site,
ability to attract and retain artists, ability to adequately fund our
operations and financial commitments, ability to offer compelling content,
ability to fulfill on-line music and merchandise orders in a timely manner,
ability to build brand recognition, ability to integrate acquisitions of
technology and other businesses, ability to protect and/or obtain intellectual
property rights, and ability to manage growth. Such statements are not
guarantees of future performance and are subject to risks, uncertainties and
assumptions that are difficult to predict. Therefore, our actual results could
differ materially and adversely from those expressed in any forward-looking
statements as a result of various factors. Factors that could cause or
contribute to the differences are discussed in Risk Factors and elsewhere in
this Annual Report on Form 10-K. You should carefully consider those risks, in
addition to the other information in this Annual Report and in our other
filings with the SEC, before deciding whether or not to increase or maintain
your investment in ARTISTdirect. We undertake no obligation to revise or update
publicly any forward-looking statements for any reason. The information
contained in this Annual Report is not a complete description of our business
or the risks associated with an investment in our common stock. We urge you to
carefully review and consider the various disclosures made by us in this Annual
Report and in our other filings with the SEC that discuss our business in
greater detail.

OVERVIEW

We are a music entertainment company that combines an online music network
and two record labels to provide an integrated offering for music fans, artists
and marketing partners. The ARTISTdirect Network (www.artistdirect.com) is a
network of Web sites offering multi-media content, music news and information,

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community around shared music interests, music- related commerce and
digital music services. We previously operated a record label, Kneeling
Elephant Records, which ceased operations in June 2000. In May 2001, we
entered into an agreement with veteran entertainment executive Ted Field to
become our Chairman and Chief Executive Officer and form a new record label in
partnership with us. On June 29, 2001, our stockholders approved the
employment of Mr. Field and the formation of the record label, ARTISTdirect
Records, LLC, as a 50/50 co-venture between ARTISTdirect and Mr. Field where
we agreed to provide a significant financial commitment. Through our
co-venture record label, we develop new musical artists and produce and
distribute their recordings as an independent label utilizing traditional
distribution channels. In addition to the formation of the record label and
our financial commitment, we entered into a five-year employment agreement with
Mr. Field and he joined our Board of Directors. Mr. Field also serves as the
Chief Executive Officer of the record label.

In November 2001, ARTISTdirect Records agreed in principle to enter into a
preliminary North America distribution agreement and worldwide license
agreement with BMG, the global music division of Bertelsmann AG. Under the
terms of the agreement, BMG Distribution distributes the labels releases in
North America, and BMG licenses ARTISTdirect Records repertoire in territories
throughout the world. In April 2002, the agreements with BMG were finalized,
including BMGs purchase of 5% of the equity of ARTISTdirect Records from the
Company. As part of this transaction, BMG agreed to assume $5.0 million of
the Companys funding commitment to ARTISTdirect Records. The Company recorded
100% of the losses attributable to ARTISTdirect Records from inception to April
30, 2002. From May 1, 2002, the Company has recorded only its proportionate
share, on the basis of relative funding commitments, of any future losses of
ARTISTdirect Records.

During 2002, the Company advanced to ARTISTdirect Records $25.0 million
under its funding commitment and has advanced a total of $30.25 million as of
December 31, 2002. As part of an agreement to accelerate additional funding
of $10 million in 2002, the Companys ownership interest in ARTISTdirect
Records increased from 45% to 65% and the ownership interest of Ted Field
decreased from 50% to 30%.

In 2002, our wholly owned subsidiary ARTISTdirect Digital, Inc. began
operating a record label under the brand name iMusic. iMusic focuses on the
signing of established artists with a proven sales base and an ability to
generally make records less expensively than developing artists. We utilize
both traditional channels of distribution and emerging Internet distribution
channels and generally spend substantially less on marketing and promotion of
these releases than on those of new artists.

Based upon our available cash resources and our anticipated requirements
for working capital to continue our online operations, pursue our plan for the
iMusic record label and meet our funding commitment to ARTISTdirect Records, we
face substantial doubt about our ability to continue as a going concern. In
order to address this concern, we intend to implement substantial cost
reductions and have also been pursuing alternatives to raise additional capital
both at ARTISTdirect and ARTISTdirect Records in order to continue the
operations of both entities. See Liquidity and Capital Resources section for
more detail.

In December 2001, we decided to exit the talent agency business because we
believed that our prospects for increasing the value of this business were
limited and that there were potential conflicts of interests with our new
co-venture record label. As a result, we have recorded the net results of this
business segment as a discontinued operation in the consolidated statement of
operations for all years presented. We completed the wind down of the agency
business during 2002.

The Company has significantly reduced its operating costs over the past
two years including a reduction in staffing. We expect this to help us reduce
our net loss going forward and conserve our cash resources given prevailing
market conditions. We have incurred cumulative net losses of $242.0 million
from inception to December 31, 2002, of which approximately $74.3 million
represented stock-based compensation expense. While we have significantly
reduced our operating expenses, especially those related to our online
operations, technology infrastructure and marketing, we expect our net losses
to continue and to remain significant for the foreseeable future.

We are committed to advance to ARTISTdirect Records an additional $2.75
million in 2003 and $12.0 million through 2006. The Companys commitment to
fund ARTISTdirect Records is subject to a guaranty for the

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benefit of BMG. Should the Company fail to meet its commitment, BMG may
choose to enforce the guaranty or provide substitute financing that could
result in dilution of the Companys interest in ARTISTdirect Records.

We have a limited operating history on which to base an evaluation of our
business and prospects. Our prospects must be considered in light of the
risks, expenses, and difficulties encountered by companies in their early stage
of development, particularly companies in new and rapidly evolving markets.
See Risk Factors for a more complete description of the many risks we face.
Our business is evolving rapidly, and therefore we believe that
period-to-period comparisons of our operating results may not be meaningful and
may not be accurate indicators of future performance.

We have identified the following as critical accounting policies: revenue
recognition, impairment of long-lived assets and equity grants to employees and
non-employees. See discussion of these critical accounting policies beginning
on page 41.

RESCISSION OFFER

In December 2001, we completed a rescission offer in which we rescinded
the purchase of 83,403 shares of our common stock purchased upon the exercise
of options and the issuance of vested and unvested unexercised options to
purchase 636,740 shares of our common stock. The shares of stock were
repurchased at prices ranging from $12.40 to $40.00 per share and the
unexercised options that were rescinded had exercise prices ranging from $12.40
to $140.00 per share. In aggregate, we paid $10.2 million, which we funded
from our available cash balances. As a result of the rescission offer, the
number of our fully diluted shares was reduced to 3,460,608.

REVENUE

We currently generate revenues from three sources: E-Commerce, Media and
iMusic record label. Prior to our decision to exit the Agency business in
December 2001, we also generated revenues from the music talent agency business
that wound up operations in 2002. Therefore, the results of the Agency
business have been shown in our financial statements as a discontinued
operation. Prior to June 30, 2000, we generated revenue from our Kneeling
Elephant Record Label. This revenue is shown in our financial statements under
the iMusic record label line in 2002. Substantially all of our revenue is
generated in cash. For the years ended December 31, 2002 and 2001, there was
no barter revenue and only approximately 1% of our revenue for the year ended
December 31, 2000 was barter revenue.

E-Commerce Revenue. E-Commerce revenue includes the sale of music and
related merchandise, such as apparel, collectibles and accessories, through the
ARTISTdirect shopping mall of our network. We recognize the gross amount of
product sales and shipping revenue upon shipment of the item and record
appropriate reserves for product returns. We have experienced seasonality with
respect to our online product sales. In particular, our e-commerce sales in
the fourth quarter have, on average, been higher than in other quarters. We
believe that this trend may continue for the foreseeable future. For the years
ended December 31, 2002 and 2001, e-commerce revenue was $4.7 million and $7.5
million, respectively, which constituted approximately 75% and 72%,
respectively, of our total net revenue from continuing operations for those
periods.

Media Revenue. Media revenue consists primarily of sales of banner
advertisements and sponsorships. In sales of banner advertisements, we
principally earn revenue based on the number of impressions or times an
advertisement appears on pages viewed within our Web sites. Our banner
advertising commitments generally range from one to six months. Banner
advertising revenue is generally recognized as the impressions are served
during the period in which the advertisement is displayed, provided that no
significant obligations of ARTISTdirect remain and collection of the resulting
receivable is probable. We typically guarantee a minimum number of impressions
to the advertiser. To the extent that minimum guaranteed page deliveries are
not met, we defer recognition of the corresponding revenue until the guaranteed
impressions are delivered. We also sell to advertisers sponsorship of a Web
page or event for a specified period of time. We recognize sponsorship revenue
over the period in which the sponsored page or event is displayed. To the
extent that committed obligations under sponsorship agreements are not met,
revenue recognition is deferred until the obligations are met. For the years
ended December 31, 2002 and December 31, 2001, media revenue was $924,000 and
$2.9 million, respectively, which constituted approximately 15% and 28%,
respectively, of our total net revenue from continuing operations for those
periods. Since most of our

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sponsorship and advertising contracts are short-term in nature, our
advertising revenue is susceptible to significant fluctuation. In particular,
our net revenue from advertising revenue has significantly decreased since the
third quarter of 2000. This decrease is primarily due to advertisers spending
less money on banner advertising. Due to the continued weak demand for online
advertising, we do not expect our advertising revenues to increase
significantly in the near future. During the years ended December 31, 2002
and 2001, AT&T Wireless accounted for 12% and 20%, respectively, Miller Brewing
accounted for 12% and 0%, and Universal Music Group accounted for 0% and 17%,
respectively, of our total media revenue. No other advertiser accounted for
more than 10% of our media revenue for these periods.

Agency Revenue. Revenue from the ARTISTdirect Agency, which we decided to
dispose of in December 2001 and is shown as a discontinued operation in our
financial statements, consisted primarily of commissions generated on tour and
event bookings of artists represented by the agency. Agency revenue was
recognized at the time the artist was paid. Agency revenue fluctuated
depending on touring schedules of major artists represented by the agency. For
the years ended December 31, 2002 and December 31, 2001, agency revenue was
$259,000 and $1.0 million, respectively.

iMusic Record Label Revenue.iMusic record label revenue consists
primarily of the sale of compact discs by artists signed to the iMusic record
label. The Company recognizes revenues upon the shipment of compact discs to
retailers and independent wholesalers and records appropriate reserves for
product returns. iMusic is the brand name used by the Company for the record
label operated by its wholly owned subsidiary ARTISTdirect Digital, Inc.
Prior to June 30, 2000, the Company operated its Kneeling Elephant Records
label and generated revenues from overhead advances from RCA. We discontinued
our Kneeling Elephant Records operation after June 30, 2000.

ARTISTdirect Records. ARTISTdirect Records generates revenue primarily
from the sale of compact discs by artists signed to the record label. Since
the Company is not deemed to have voting or operating control of ARTISTdirect
Records, the Company accounts for this investment under the equity method of
accounting as loss from equity investments in the consolidated statements of
operations.

COST OF REVENUE

Direct cost of product sales consists of the cost of merchandise sold, the
amounts payable to artists for their share of net proceeds, online transaction
costs, including credit card fees, warehousing and fulfillment charges and
shipping costs. Direct cost of product sales also includes manufacturing
costs and distribution fees payable related to the sales of the iMusic record
label. Other cost of revenue consists primarily of Web site hosting and
maintenance costs, online content programming costs, online advertising serving
costs, record royalties payable to iMusic artists and payroll and related
expenses for staff involved with the Website. Stock-based compensation
included in cost of revenue represents the amortization of non-cash
compensation expense related to vendor warrants and stock options granted to
artists and their advisors in connection with entering into contractual
commitments to operate their online commerce activities. In connection with
the amortization of vendor warrants and artist stock options granted through
December 31, 2002, we recorded non-cash compensation expense of approximately
$3.1 million for the year ended December 31, 2002 and approximately $8.4
million for the year ended December 31, 2001. We currently do not intend to
grant additional equity interests in the future related to obtaining e-commerce
rights from artists. Historically, our cost of revenue has generally
exceeded our net revenue primarily as a result of the non-cash stock based
compensation expense and also due to other cost of revenue exceeding media
revenues.

OPERATING EXPENSE

Web Site Development. Web site development expense consists primarily of
expenses incurred to update the content and design of our Web sites and
underlying technology infrastructure. These expenses primarily include
payments to third-party service vendors and personnel costs. The
implementation of Emerging Issues Task Force No. 00-02, Accounting for Website
Development Costs, effective July 1, 2000, did not have a material impact on
our consolidated financial statements.

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Sales and Marketing. Sales and marketing expense consists primarily of
advertising, marketing and promotion expenses incurred to promote our Web
sites, plus payroll and related expenses for personnel engaged in marketing and
advertising sales activities.

General and Administrative. General and administrative expense consists
of payroll and related expenses for executive and administrative personnel,
professional services expenses, facilities expenses, travel and other general
corporate expenses.

Provision for Doubtful Accounts. Provision for doubtful accounts consists
of provisions related to un-collectable receivables.

Stock-based Compensation. We recorded a total of $53.5 million of
stock-based compensation expense (exclusive of amounts recorded within cost of
revenue) for the period from inception through December 31, 2002 in connection
with equity granted to employees, directors, professional firms, artists and
artist advisors during this period. We recorded amortization of stock-based
compensation expense of approximately $1.9 million during the year ended
December 31, 2002 and approximately $12.4 million during the year ended
December 31, 2001. We may grant additional equity securities in the future to
employees, directors, and others. In December 2001, we completed a rescission
offer to certain holders of stock options and shares purchased pursuant to
stock options and recorded stock based compensation expense of approximately
$6.9 million. The compensation expense recorded for the repurchase of
unexercised stock options (vested and unvested) from employees was the sum of
the intrinsic value at the original measurement date (less any expense related
to the intrinsic value recorded up to the acceptance of the rescission offer)
and the amount of cash paid to the holder that exceeded the lesser of the
intrinsic value at the original measurement date or immediately prior to
settlement (the settlement date being the closing date of the 30-day period for
the rescission offer). Approximately $4.6 million was recorded as stock based
compensation expense immediately upon the closing date of the rescission offer
in December 2001, and an additional $900,000 was recognized in 2002. The
compensation that was recorded for the repurchase of unexercised non-employee
options (vested and unvested) was calculated as the difference between the
amount of cash paid for the repurchase of the options and the fair value of the
options on the closing date of the rescission offer. The fair value of the
options was determined using the Black-Scholes option-pricing model over the
remaining life of the options.

The unamortized portion of stock based compensation expense at the time of
repurchase related to the initial grant of the options to the non-employees
continued to be amortized over the remaining service period related to the
original option grants. In 2001, $10.6 million of such expense was recognized
in stock based compensation. Of this amount, $1.8 million related to services
to be performed in 2002 but the compensation expense was recognized in 2001 as
a result of the related service agreement being cancelled in 2001. The
remaining unamortized balance at December 31, 2001 of $2.7 million was
reclassified from unearned compensation to prepaid expenses (as the equity
instruments were no longer outstanding) in the balance sheet and were recorded
as expense in 2002, which was the remaining service period related to the
original option grants. The key assumptions used in the Black Scholes option
pricing model for the purpose of the calculation were: a risk free rate of 6%;
a volatility factor of 95% in December 2001; no expected dividends; and an
expected life which is equal to the remaining contractual life of the options
as of December 2001.

The compensation charge for the repurchase of shares issued pursuant to
the exercise of options (by employees and non-employees) was calculated as the
difference between the amount of cash paid for the repurchase of the shares
(which includes the exercise proceeds and accrued interest) and the fair value
of the shares on the date the repurchase was accepted. The compensation charge
related to shares repurchased from employees was $195,000 and was recorded as
stock based compensation in 2001. The compensation related to the non-employee
shares repurchased was $2.1 million in 2001 of which $1.1 million was recorded
in 2001, and $1.0 million was recorded in 2002.

We did not record any compensation expense related to the shares and
options of those holders who chose not to accept the rescission offer. The
staff of the Securities and Exchange Commission has taken the position that a
persons federal right of rescission may survive the rescission offer.
However, federal courts in the past have ruled that a person who rejects or
fails to accept a rescission offer is precluded from later seeking similar
relief. We believe that subsequent to the rescission offer, any rights to
rescind will be contingent upon legal rulings, the outcome of which are not
currently determinable. Accordingly, we will account for shares and options
that were not

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rescinded in the rescission offer as if there is no right of rescission.
In the event any rescissions occur subsequent to the expiration of the
rescission offer in December 2001, we will account for those rescissions, if
any, in the manner described above at the time those rescissions are completed.

We record stock compensation for employee option grants equal to the
excess of the fair value of our common stock over the exercise price on the
grant date. We record the compensation over the vesting period. For
options/warrants granted to non-employees, we record as stock compensation the
fair value of the options/warrants (using the Black Scholes option pricing
model) amortized over the related period of service.

Depreciation and Amortization. Depreciation and amortization expense
consists of the depreciation of fixed assets and the amortization of acquired
intangible assets. The acquisitions of iMusic, Mjuice and the minority
interest of the UBL were accounted for using the purchase method of accounting
and, accordingly, the purchase prices were allocated to the tangible and
intangible assets acquired and liabilities assumed on the basis of their fair
value on the acquisition dates. Substantially the entire purchase price of
these transactions is attributable to the acquired intangible assets. As a
result, the aggregate excess purchase price over the net tangible assets
allocated to goodwill was $20.6 million and was being amortized over five
years, the expected estimated average useful life of these assets. We recorded
write-downs of $11.4 million and $788,000 of goodwill during the years ended
December 31, 2001 and 2002, respectively. No goodwill remains on the balance
sheet as of December 31, 2002. The non-cash charges relating to depreciation
of our fixed assets will continue to affect our reported operating results in
the future periods.

We evaluate impairment of long-lived assets (which consist primarily of
fixed assets) and goodwill (prior to January 1, 2002) comparing the projected
future cash flows at the lowest level of discrete financial information, by our
operating segments, to the carrying amount of the assets. In the event that
projected future cash flows do not appear to be sufficient to recover the
carrying amounts of the assets, we record an impairment charge to record the
assets at their fair value. The fair value represents the discounted projected
future cash flows.

Effective January 1, 2002, we evaluate impairment of goodwill by comparing
the fair value of the goodwill to its carrying amount. In the event the
carrying amount of the goodwill exceeds its fair value, the carrying amount is
adjusted to its fair value.

INTEREST INCOME AND EXPENSE

Interest income consists of earnings on our cash and cash equivalents, and
interest expense consists of interest associated with capital lease agreements.

RESULTS OF OPERATIONS  ARTISTdirect, Inc.

YEARS ENDED DECEMBER 31, 2002 AND 2001

NET REVENUE

Net revenue from continuing operations for the year ended December 31,
2002 decreased to $6.3 million from $10.4 million for the year ended December
31, 2001, which represented a decrease of 40%. The decrease was due to
decreases in e-commerce and media that were partially offset by increase in
iMusic record label revenues.

E-commerce revenue for the year ended December 31, 2002 decreased to $4.7
million from $7.5 million for the year ended December 31, 2001, a decrease of
38% primarily as a result of lower traffic to the site, fewer sales orders and
a continued weak sales environment for music and licensed artist merchandise.

Advertising and other revenue decreased to $924,000 for the year ended
December 31, 2002 from $2.9 million for the year ended December 31, 2001, a
decrease of 68% as a result of a decrease in the number of online advertisers
and a reduction in the sales of non-impression based advertising and offline
sponsorships. The decrease in advertising revenues is attributed to
general weakness in the U.S. economy, overall softness in the
advertising market and a specific decline in the demand for online
advertising.

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iMusic record label revenue increased to $613,000 for the year ended
December 31, 2000 from $0 for the year ended December 31, 2001, an increase of
100% as a result of the launch of the iMusic record label in the third quarter
of 2002.

COST OF REVENUE

Direct cost of product sales. Direct cost of product sales decreased to
$4.0 million for the year ended December 31, 2002 from $6.1 million for the
year ended December 31, 2001, which represented a decrease of 35%. This $2.1
million decrease corresponded with the decrease in online product sales revenue
and was primarily attributable to a $2.0 million decrease in product costs and
a $.6 million decrease in transaction costs partially offset by iMusic record
label cost of sales of $.4 million.

Other cost of revenue. Other cost of revenue decreased to $3.7 million
for the year ended December 31, 2002, from $5.7 million for the year ended
December 31, 2001, which represented a decrease of 36%. This $2.0 million
decrease was due primarily to an approximate $900,000 decrease in decrease in
network payroll costs due to a reduction in headcount, an approximate $900,000
decrease in web site hosting and maintenance costs due to a restructuring of
our third party service provider agreements, and an approximate $800,000
decrease in entertainment marketing costs due to a reduction in event costs in
connection with a decrease in related advertising revenue offset partially by
approximately $400,000 of iMusic record label distribution fees and royalty
costs.

Stock-based compensation. For the year ended December 31, 2002, we
recorded non-cash stock-based compensation charges of $3.1 million compared to
$8.4 million for the year ended December 31, 2001, which represented a decrease
of 63%. The stock-based compensation expense relates primarily to the
amortization of the estimated value of the options, using the Black-Scholes
option pricing model, given to artists and their advisors in connection with
the operation of their stores and is amortized over the life of the associated
contracts. The decrease in stock-based compensation is primarily due to the
expense of approximately $900,000 in 2001 related to the rescission offer and
the completion of the terms of artist agreements during 2002. The $3.1 million
in expense in 2002 consists of $2.1 million related to option grants to artists
and advisors, $900,000 in compensation expense related to the rescission for
which services were being provided by artists and advisors in 2002, and $79,000
of expense related to warrants granted to suppliers.

OPERATING EXPENSE

Web Site Development. Web site development expense decreased to $53,000
for the year ended December 31, 2002, from $3.7 million for the year ended
December 31, 2001, which represented a decrease of 99%. This decrease was
primarily attributable to a $2.1 million decrease in payroll and related costs
in 2002 from the elimination of our information technology development staff
and an approximate $1.6 million decrease in fees paid to third party service
vendors relating to the development and internal transition of our E-commerce
system incurred in 2001.

Sales and Marketing. Sales and marketing expense decreased to $2.2
million for the year ended December 31, 2002 from $5.7 million for the year
ended December 31, 2001, which represented a decrease of 61%. The $3.5 million
decrease was primarily attributable to a $1.0 million decrease in our online
advertising expenditures resulting from the restructuring of our agreement with
Ticketmaster, a $1.1 million reduction in payroll and related costs and an
approximate $700,000 reduction in e-mail marketing expenses, publicity costs
and other promotional expenses.

General and Administrative. General and administrative expense decreased
to $7.6 million for the year ended December 31, 2002 from $13.3 million for the
year ended December 31, 2001, which represented a decrease of 44%. The $5.8
million decrease was primarily attributable to a $1.7 million decrease in
payroll costs associated with reduced headcount in staff in 2001, $1.6 million
decrease in outside services due in part to the rescission in 2001, $1.0
million decrease in facilities expenses, and $1.3 million decrease in travel
and entertainment, communications and other general and administrative
expenses.

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Provision for Doubtful Accounts.Bad debt expense decreased to $42,000
for the year ended December 31, 2002 from $1.5 million for the year ended
December 31, 2001 due to the write-off of a $1.5 million receivable due from
one of the major records labels related to advertising and promotion services
provided.

Stock-based Compensation. We recorded stock-based compensation expense of
$1.9 million for the year ended December 31, 2002 in connection with stock
issuances to employees, directors, professional firms, artists and advisors for
promotional services, which represented a decrease of 85% from the $12.4
million expense for the comparable period in 2001. Stock-based compensation
in 2002 represented the remaining amortization of prepaid compensation paid in
2001 related to the value of options granted to artists and advisors. The
decrease is primarily due to the expense recorded in 2001 of $6.1 million
related to the rescission of options granted to employees, professional firms,
artists and advisors, and due to the completion of promotion agreements with
artists in 2002.

Depreciation and Amortization. Depreciation and amortization expense
decreased to $2.8 million for the year ended December 31, 2002 from $6.5
million for the year ended December 31, 2001, which represented a decrease of
57%. This $3.7 million decrease was primarily due to a decrease in the
amortization of intangible assets as a result of the $11.4 write-off of
goodwill in 2001 and goodwill no longer being amortized effective January 1,
2002.

Loss from Impairment of Goodwill. During the year ended December 31, 2002
we recorded a loss on impairment of goodwill related to the write-off of the
remaining goodwill associated with the Companys online operations in the
amount of $788,000. During the year ended December 31, 2001 we recorded a loss
on impairment of goodwill related to our acquisitions of Mjuice, iMusic and the
UBL in the amount of $11.4 million. These write-downs were recorded due to
declines in advertising revenue on the Network and the determination that there
was insufficient basis to support the carrying amounts of goodwill based upon
the projected undiscounted future cash flows related to the underlying Network
assets.

INTEREST INCOME AND EXPENSE

Interest income decreased to $748,000 for the year ended December 31, 2002
from $3.6 million for the year ended December 31, 2001, which represented a
decrease of 79%. This $2.9 million decrease is primarily due to lower average
cash balances held during 2002 compared with 2001 and lower interest rates.

LOSS FROM EQUITY INVESTMENTS

Loss from equity investments increased to $29.3 million for the year ended
December 31, 2002 from $9.0 million for the year ended December 31, 2001. The
increase is due to an increase in the loss of ARTISTdirect Records. The
Company recorded 100% of the ventures loss through April 30, 2002 due to its
commitment to fund 100% of its operations. As of May 1, 2002, the Company
began recording approximately 83% of the ventures loss based on its relative
share of the remaining funding commitment to the venture.

DISCONTINUED OPERATIONS

Income from discontinued operations increased to $147,000 for the year
ended December 31, 2002 from $47,000 for the year ended December 31, 2001. The
increase is due to the timing of touring activity and a reduction of expenses
in 2002 during the wind-down of operations.

NET LOSS

Net loss decreased to $48.2 million for the year ended December 31, 2002,
compared to $69.9 million for the year ended December 31, 2001, which
represented a decrease of $21.7 million or 31%. This decrease is primarily
attributable to a $5.4 million decrease in the gross loss, a $10.7 million
decrease in the loss from impairment of goodwill, a $10.5 million decrease in
stock-based compensation, a $5.8 million decrease in general and
administrative, a $3.7 million decrease in depreciation and amortization, a
$3.7 million decrease in website development, a $3.5 million decrease in sales
and marketing, and a $1.4 million decrease in provision for doubtful

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accounts partially offset by a $20.3 million increase in the loss from
equity investments and a $2.8 million decrease in interest income.

YEARS ENDED DECEMBER 31, 2001 AND 2000

NET REVENUE

Net revenue from continuing operations for the year ended December 31,
2001 decreased to $10.4 million from $18.7 million for the year ended December
31, 2000, which represented a decrease of 44%. The decrease was due to
decreases in e-commerce, media and other revenue.

E-commerce revenue for the year ended December 31, 2001 decreased to $7.5
million from $12.2 million for the year ended December 31, 2000, a decrease of
38% primarily as a result of fewer sales orders, decreased interest in certain
of our top-selling artists and an overall weaker retail environment.

Advertising and other revenue decreased to $2.9 million for the year
ended December 31, 2001 from $6.3 million for the year ended December 31, 2000,
a decrease of 54% primarily as a result of a decrease in the number of online
advertisers, and a reduction in the sales of non-impression based
sponsorships. The decrease in advertising revenues is attributed to
general weakness in the U.S. economy, overall softness in the
advertising market and a specific decline in the demand for online
advertising.

COST OF REVENUE

Direct cost of product sales. Direct cost of product sales decreased to
$6.1 million for the year ended December 31, 2001 from $10.4 million for the
year ended December 31, 2000, which represented a decrease of 41%. This $4.3
million decrease corresponded with the decrease in online product sales revenue
and was primarily attributable to a $2.9 million decrease in product costs and
a $1.4 million decrease in transaction costs.

Other cost of revenue. Other cost of revenue decreased to $5.7 million
for the year ended December 31, 2001, from $8.1 million for the year ended
December 31, 2000, which represented a decrease of 29%. This $2.4 million
decrease was due to a $1.4 million decrease in payroll costs due to a reduction
in headcount and a $1.0 million decrease in content programming and related
costs due to the termination of our efforts to create broadband programming.

Stock-based compensation. For the year ended December 31, 2001, we
recorded non-cash stock-based compensation charges of $8.4 million compared to
$7.5 million for the year ended December 31, 2000, which represented an
increase of 11%. The stock-based compensation expense relates primarily to the
amortization of the estimated value of the options, using the Black-Scholes
option pricing model, given to artists in connection with the operation of
their stores and is amortized over the life of the associated contracts.
During 2001, $1.5 million of the expense related to the early closure of
certain of the artist stores and approximately $900,000 related to the
rescission offer completed in December 2001. In 2001, we reclassified the
remaining amount of unearned compensation from the equity section to an asset,
as the equity instruments were no longer outstanding after the rescission offer
was completed. As of December 31, 2001, $2.9 million of prepaid compensation
expense remains to be amortized, all of which will be recorded as stock-based
compensation expense in 2002. The $8.4 million of expense in 2001 consists of
$7.2 million related to option grants to artist and advisors, $859,000 related
to the rescission offer and $322,000 related to warrants granted to suppliers.

OPERATING EXPENSE

Web Site Development. Web site development expense decreased to $3.7
million for the year ended December 31, 2001, from $5.4 million for the year
ended December 31, 2000, which represented a decrease of 31%. This decrease
was primarily attributable to a $2.1 million decrease in fees paid to third
party service vendors relating to the development of our Web site and an
approximate $600,000 decrease in programming development costs offset by an
increase of $1.0 million in internal payroll and related costs.

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Sales and Marketing. Sales and marketing expense decreased to $5.7
million for the year ended December 31, 2001 from $25.6 million for the year
ended December 31, 2000, which represented a decrease of 78%. The decrease was
primarily attributable to a significant decrease in our online advertising
expenditures, as well as lower payroll and related costs.

General and Administrative. General and administrative expense decreased
to $13.3 million for the year ended December 31, 2001 from $17.0 million for
the year ended December 31, 2000, which represented a decrease of 21%. This
decrease was primarily attributable to salary and benefit savings associated
with the reduction in staff in 2001 and overall cost savings in travel and
entertainment, communications, computer supplies and outside services.

Provision for Doubtful Accounts.Bad debt expense increased to $1.5
million for the year ended December 31, 2001 from $653,000 for the year ended
December 31, 2000, which represented a 145% increase. This increase was
primarily due to a $1.5 million provision recorded against a receivable from
one of the major record labels, to be settled in the form of cash or content,
that was determined to be impaired as of 12/31/01.

Stock-based Compensation. We recorded stock-based compensation expense of
$12.4 million for the year ended December 31, 2001 in connection with stock
issuances to employees, directors, professional firms, artists and advisors for
promotional services, which represented an increase of 145% from the $5.1
million expense for the comparable period in 2000. Stock-based compensation in
2001 included $6.1 million of expense related to the rescission offer completed
in December 2001, as well as $300,000 for the early closure of artists stores
and termination of the related promotion agreements. The expense during the
year ended December 31, 2000 reflected a credit to stock-based compensation of
$6.6 million related to stock appreciation rights granted to certain executives
of the Company as a result of a reduction in the valuation of the Companys
underlying common stock as compared with December 31, 1999. This credit was
offset by $11.7 million of stock-based compensation expense related to options
granted to employees, professional firms, artists and advisors. As of December
31, 2001, $1.7 million of prepaid compensation expense remains to be amortized,
all of which will be recorded as stock-based compensation expense in 2002.

Depreciation and Amortization. Depreciation and amortization expense
increased to $6.5 million for the year ended December 31,
2001 from $6.2 million
for the year ended December 31, 2000, which represented an increase of 4%.
This increase was primarily due to an increase in depreciation of fixed assets
and leasehold improvements offset by a decrease in the amortization of
intangible assets as a result of the write-off in 2001 of goodwill associated
with the acquisitions of iMusic, Mjuice and the minority interest in UBL.

INTEREST INCOME AND EXPENSE

Interest income decreased to $3.6 million for the year ended December 31,
2001 from $6.0 million for the year ended December 31, 2000, which represented
a decrease of 40%. The decrease is due to lower average cash balances held
during 2001 compared with 2000 and lower average interest rates.

LOSS FROM EQUITY INVESTMENTS

Loss from equity investments increased to $9.0 million for the year ended
December 31, 2001 from $235,000 for the year ended December 31, 2000. The
increase is due primarily to the $8.6 million equity loss recognized from
ARTISTdirect Records, the Companys record label co-venture. Included in the
equity loss were $3.2 million of advances paid to artists, which are recoupable
from future royalties earned on record sales. However, given that the artists
signed by the venture have no previous track record, the venture has provided
for 100% of the advances made. The Company recognized 100% of the ventures
loss due to its commitment to fund 100% of its operations as of December 31,
2001.

DISCONTINUED OPERATIONS

Income from discontinued operations decreased to $47,000 for the year
ended December 31, 2001 from $2.2 million for the year ended December 31, 2000,
which represented a decrease of 98%. The decrease is due to a

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decline in touring activity in 2001 among the Agencys most popular
touring artists resulting in a $1.9 million decline in tour commission revenues
in 2001 compared with the prior year.

NET LOSS

Net loss increased to $69.9 million for the year ended December 31, 2001,
compared to $59.3 million for the year ended December 31, 2000, which
represented an increase of $10.6 million or 14%. The increase in the net loss
is primarily attributable to a $2.5 million increase in gross loss, primarily
as a result of lower Media revenues, a $7.3 million increase in stock-based
compensation, an $11.4 million loss from the impairment of goodwill, an $8.8
million increase in loss from equity investments, a $2.4 million decrease in
interest income and a $2.1 million decrease in income from discontinued
operations partially offset by a $1.6 million decrease in website development,
a $19.9 million decrease in sales and marketing expenses, a $3.6 million
decrease in general and administrative expenses, and an $947,000 increase in
provision for doubtful accounts.

LIQUIDITY AND CAPITAL RESOURCES  ARTISTdirect, Inc.

On March 31, 2000, we completed our IPO and raised net proceeds of
approximately $52.4 million through the sale of 500,000 (after giving effect to
our reverse stock split in July 2001) common shares. In addition, we raised an
aggregate of $97.5 million of gross proceeds through the sale of 700,029 shares
of Series C preferred stock in December 1999 and January 2000. In May 1999, we
issued 375,000 shares of Series B preferred securities in exchange for an
aggregate purchase price of $15.0 million. In April 2001, we completed a
partial self-tender offer for 200,000 of our outstanding shares at a price per
share of $12.50. Our out-of-pocket costs, including expenses associated with
the tender offer, were approximately $2.7 million, which we funded from our
existing cash and cash equivalents. During the second half of 2001, we also
purchased approximately 40,000 shares for a total of $234,000 under an open
market share repurchase program. As of December 31, 2002, we had $1.9 million
of unrestricted cash and cash equivalents and held $6.1 million in short-term
investments.

Net cash used in operating activities was $11.2 million for the year ended
December 31, 2002, and $22.2 million and $35.1 million for the years ended
December 31, 2001 and 2000, respectively. Net cash used in operating
activities for each of these periods primarily consisted of net losses
partially offset by non-cash items such as stock-based compensation and
depreciation and amortization.

Net cash used in investing activities was $12.8 million for the year ended
December 31, 2002, which consisted primarily of $25.0 million of investment in
ARTISTdirect Records offset partially by $12.3 million of proceeds from the
maturity/sale of short-term investments. Net cash provided by investing
activities was $11.6 million for the year ended December 31, 2001, which
consisted primarily of $18.0 million of proceeds from the maturity/sale of
short-term investments partially offset by $5.3 million of investment in
ARTISTdirect Records. Net cash used in investing activities was $46.3 million
for the year ended December 31, 2000, and consisted primarily of the purchase
of short-term investments of $36.4 million, fixed asset purchases and leasehold
improvements to our corporate offices of $7.5 million and $2.0 million relating
to the acquisition of Mjuice.com, Inc.

Net cash provided by financing activities was $855,000 for the year ended
December 31, 2002 which was primarily a result of the release of restricted
cash related to two letters of credit held by third parties related to our
office lease and e-commerce credit card processor. Net cash used in financing
activities was $15.9 million for the year ended December 31, 2001 and consisted
of payments made for the rescission of certain shares and options issued to
employees, artists, advisors and professional firms of $10.2 million, the
repurchase of common stock of $2.7 million and approximately $3.0 million held
as restricted cash related to our lease agreement for our Los Angeles office
and our E-Commerce business. Net cash provided by financing activities was
$63.7 million for the year ended December 31, 2000 which was principally
attributable to the proceeds of our initial public offering in March 2000 in
which we raised approximately $52.4 million, net of underwriters discounts and
offering costs, and $10.4 million raised from the sale of Series C preferred
stock in January 2000, net of offering costs.

As of December 31, 2002 our principal commitments consisted of our
obligation to fund ARTISTdirect Records of approximately $14.75 million ($45
million commitment less $30.25 million funded as of December 31,

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2002) and obligations outstanding under operating leases, primarily for office space, and employment contracts. A summary of our contractual cash
obligations, excluding the record label funding commitment, as of December 31,
2002 is as follows:

|                             |                                    |       |                                      |        |  |           |           |           |         |         |         |       |       |   |       |       |  |   |       |       | 
|---------------------------- | ---------------------------------- | ----- | ------------------------------------ | ------ |  | --------- | --------- | --------- | ------- | ------- | ------- | ----- | ----- | - | ----- | ----- |  | - | ----- | ----- | 
|                             |                                    |       | Payments Due by Period(in thousands)
|                             |                                    |       |                                     
|                             |                                    |       |                                      |        |  |           | Less than |           | Between |         | Between |       | After
|Contractual cash obligations |                                    | Total |                                      | 1 year |  | 2-3 years |           | 4-5 years |         | 5 years
|                             |                                    |       |                                      |        |  |           |           |           |         |        
|Operating leases             |                                    | $     | 13,768                               |        |  | $         | 1,763     |           |         | $       | 3,624   |       |       | $ | 3,868 |       |  | $ | 4,513 |      
|Employment contracts(1)      |                                    |       | 5,250                                |        |  |           | 1,500     |           |         |         | 3,000   |       |       |   | 750   |       |  |   |      |      
|                             |                                    |       |                                      |        |  |           |           |           |         |         |         |       |       |   |       |       |  |   |       |      
|                             | Total contractual cash obligations |       | $                                    | 19,018 |  |           | $         | 3,263     |         |         | $       | 6,624 |       |   | $     | 4,618 |  |   | $     | 4,513 | 
|                             |                                    |       |                                      |        |  |           |           |           |         |         |         |       |       |   |       |       |  |   |       |      



---

|(1) |  | During 2002, certain employment agreements were amended whereby
certain executives agreed to defer all or a portion of their future salaries
until the Company raised new debt or equity financing of at least $20 million.
The contractual cash obligations under employment contracts shown above
exclude any reduction for contractual deferrals. If the deferred amounts do
not become payable, the Companys cash obligations under employment agreements
as shown above will be reduced by $1.0 million annually during 2003, 2004 and
2005 and by $500,000 during 2006.
|--- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

We currently anticipate that available cash resources, including
short-term investments, may likely not be sufficient to meet anticipated needs
for working capital and capital expenditures for the next twelve months without
additional capital or a significant reduction of operating expenses that would
likely include a shut-down or disposition of operations. Furthermore,
ARTISTdirect Records will require capital in addition to that to be provided by
us to continue its operations. We are in the process of implementing
substantial cost reductions and exploring the disposition of one or
more business units such that we may be able to operate as a going concern.
However, there can be no assurance that these efforts will be sufficient to
enable us to operate as a going concern on a sustained basis. We are also
pursuing alternatives to raise additional capital in order to continue funding
of ARTISTdirect and ARTISTdirect Records. There can be no assurance that
additional capital can be obtained by either ARTISTdirect or by ARTISTdirect
Records on reasonable terms, in a timely manner or at all. If additional
funds are raised through the issuance of equity securities of either
ARTISTdirect or ARTISTdirect Records, the percentage ownership of current
stockholders in ARTISTdirect and/or ARTISTdirect Records will be reduced. If
we raise additional funds by issuing debt, we may be subject to limitations on
our operations, including limitations on the payment of dividends, and any debt
issued by ARTISTdirect Records may be senior to the obligations of ARTISTdirect
Records to ARTISTdirect. Failure to raise additional capital could seriously
harm the business of ARTISTdirect Records and ARTISTdirect, and impair the
value of our investment in ARTISTdirect Records. In such event, we may seek to
divest all or certain of our assets or the entire company in order to raise the
capital necessary to sustain business operations. Should this fail, we may be
forced to cease operations and seek bankruptcy protection or undertake
liquidation, potentially resulting in a total loss for stockholders.

RESULTS OF OPERATIONS  ARTISTdirect Records, LLC

YEAR ENDED DECEMBER 31, 2002 AND PERIOD FROM MAY 31, 2001(INCEPTION) TO
DECEMBER 31, 2001

NET REVENUE

Net revenue increased to $3.7 million for the year ended December 31, 2002
from $0 for the period from May 31, 2001 (inception) to December 31, 2001.
During 2002, ARTISTdirect Records released seven albums, Customs Fastin March
2002, Badly Drawn Boys About a Boysoundtrack in April 2002, Mad At Gravitys
Resonanceand Smilez and Southstars Crash the Partyin July 2002, and No
Goods Game Day, PBBand Naam Brigades Early In The Gamein September 2002 and
Badly Drawn Boys Have You Fed The Fish. Net revenues in 2002 are reflected

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net of a provision for actual and estimated future returns of $1.7
million. During 2001, the Company did not release any albums.

COST OF REVENUE

Direct cost of product revenue includes manufacturing costs and
distribution fees payable to BMG and the provision for artist advances and
royalty expense. Manufacturing and distribution expenses for the year ended
December 31, 2002 was $1.3 million compared with $0 in the period ending
December 31, 2001. Artist advances and recording costs relate to signed
artists as well as an advance against future royalties paid to a producer. The
provision for advances and royalties for the year ended December 31, 2002 was
$8.8 million compared with $3.2 million for the period ending December 31,
2001. The increase was due to an increase in the number of artists signed in
2002 and the level of recording activity compared with the prior year.

OPERATING EXPENSE

Sales and Marketing.Sales and marketing expense represents costs of
sales, marketing, promotion, publicity and video production related to
ARTISTdirect Records albums released during the period as well as the related
costs for additional expected releases being set up for release during 2003.
Sales and marketing expense for the year ended December 31, 2002 was $12.0
million compared with $799,000 for 2001.

General and Administrative.General and administrative expense represents
payroll and related expenses, costs for travel & entertainment, outside legal
fees and general office and communication expenses. General and administrative
expense for the year ended December 31, 2002 was $14.4 million compared with
$4.5 million for 2001. The increase is due primarily to a full years amount
of expense in 2002 and an increase in headcount and related activity to support
the first releases of the label during 2002.

INTEREST EXPENSE

Interest Expense.Interest expense represents the accrual of interest on
loan advances made to ARTISTdirect Records from ARTISTdirect, Inc. and BMG.
Interest expense for the year ended December 31, 2002 was $1.1 million compared
with $126,000 in 2001. The increase is due to an increase in the level of
advances made during 2002 and the accrual of a full year of interest in
comparison with the prior year.

NET LOSS

Net loss was $34.0 million for the year ended December 31, 2002 and was
comprised of a gross loss of $6.3 million, total operating expenses of $26.4
million and interest expense of $1.1 million. Net loss for the period ended
December 31, 2001, was $8.7 million and was comprised of a gross loss of $3.2
million, total operating expenses of $5.4 million and interest expense of
$126,000.

LIQUIDITY AND CAPITAL RESOURCES  ARTISTdirect Records, LLC

As of December 31, 2002, ARTISTdirect Records had $0 of cash. During the
year ended December 31, 2002, ARTISTdirect made loan advances to ARTISTdirect
Records of $25.0 million. These loan advances were made under ARTISTdirects
$15 million funding commitment for 2002 and a Bridge Loan facility that
accelerated $10 million of funding that otherwise would have been due in 2003.
In addition, during the year ended December 31, 2002, BMG made loan advances
of $4.75 million as well as certain recoupable distribution advances in
conjunction with its North American distribution agreement and worldwide
license agreement.

In order to continue its operations, ARTISTdirect Records will require
capital within the next twelve months in addition to the $2.75 million that is
to be provided by ARTISTdirect in 2003 under its overall funding commitment to
ARTISTdirect Records. We are currently pursuing alternatives to raise
additional capital in order to continue operations of ARTISTdirect Records.
There can be no assurance that additional capital can be obtained by the
Company on reasonable terms or at all. Failure to raise additional capital
could seriously harm the business of

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ARTISTdirect Records. In such event, we may seek to
divest our interest in ARTISTdirect Records in order to raise the capital necessary to
sustain business operations. Should this fail, we may be forced to cease
operations and seek bankruptcy protection or undertake liquidation, potentially
resulting in a total loss for equity holders. If additional funds were raised
through the issuance of equity securities, the percentage ownership of the
Companys current equity holders would be reduced.

CRITICAL ACCOUNTING POLICIES

The Companys discussion and analysis of its financial condition and
results of operations are based upon our consolidated financial statements,
which have been prepared in accordance with accounting principles generally
accepted in the United States. The preparation of these financial statements
requires us to make estimates and judgments that affect the reported amounts of
assets, liabilities, revenues and expenses, and related disclosure of
contingent assets and liabilities. On an on-going basis, we evaluate our
estimates, including those related to bad debts, intangible assets, income
taxes, and contingencies and litigation. The Company bases its 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 the carrying values of assets and liabilities that are
not readily apparent from other sources. Actual results may differ from these
estimates under different assumptions or conditions. The Company believes the
following critical accounting policies affect its more significant judgments
and estimates used in the preparation of its consolidated financial statements.

Revenue Recognition

E-commerce revenue consist primarily of the gross amount of sales revenue
paid by the customer for recorded music and merchandise sold via the Internet,
including shipping fees, and is recognized when the products are shipped. The
Company records e-commerce revenue on a gross basis as the Company enters into
the sale transactions with customers, establishes the prices of the products,
chooses the suppliers of the products, assumes the risk of inventory loss and
collects all amounts from the customers and assumes the credit risk.
E-commerce revenue is subject to amounts due to the respective artists based on
their contracts, and such expense is recorded as part of direct cost of product
sales.

The Company records amounts charged to customers for shipping and handling
in accordance with Emerging Issues Task Force 00-10, Accounting for Shipping
and Handling Fees and Costs. Pursuant to EITF 00-10, the Company records
amounts charged to customers for shipping and handling as revenue, and records
the related costs incurred for shipping and handling to direct cost of product
sales in the consolidated statements of operations. For the years ended
December 31, 2000, 2001 and 2002, the Company recorded $1.9 million, $1.5
million and $1.0 million, respectively, as revenue for shipping and handling
fees charged to customers. For the years ended December 31, 2000, 2001 and
2002, the Company recorded $1.6 million, $1.1 million and $736,000,
respectively, of shipping and handling costs as direct cost of product sales in
the consolidated statements of operations.

Media revenue consists primarily of the sale of advertisements and
sponsorships, both online and offline, under short-term contracts. To date,
the duration of the Companys advertising and sponsorship commitments has
generally averaged from one to three months with certain programs lasting up to
six months. The Companys online obligations typically include the guarantee
of a minimum number of impressions or times that an advertisement appears in
pages viewed by the users of the Companys online properties. Online
advertising revenue is generally recognized as the impressions are served
during the period in which the advertisement is displayed, provided that no
significant obligations of the Company remain and collection of the resulting
receivable is reasonably assured.

The Company recognizes revenue for sponsorship arrangements, both online
and offline, over the period during which the advertising is provided,
generally on a straight-line basis. If the sponsorship arrangement is for the
sponsorship of a specific event, the Company recognizes revenue when the event
occurs. The Company recognizes revenue separately for each element of
integrated entertainment marketing packages that offer advertisers a
combination of off-line concert and tour sponsorships that are supported by
on-line banner advertising, web page sponsorships, emails to the Companys
customers and custom content. The Company determines the fair value of

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each deliverable based on the fair value of the different deliverables
when sold on a stand-alone basis. The Company recognizes revenue for each
deliverable as the services are provided. The Company recognizes revenue for
the banner impression deliverable as the banner impressions are delivered. The
Company recognizes revenue for the customer emails when the emails are sent.
The Company recognizes revenue for web page sponsorships on a straight-line
basis over the term of the sponsorship. The Company recognizes revenue for the
custom content when the content is provided to the customer. The Company
recognizes revenue for event sponsorships when the event has occurred.

iMusic record label revenue consists primarily of the sale of compact
discs by artists signed to iMusic, which is the brand name used by the Company
for the record label operated by its wholly-owned subsidiary ARTISTdirect
Digital, Inc. The Company recognizes revenues upon the shipment of compact
discs from its distributor to retailers and independent wholesalers and records
appropriate reserves for product returns. At the time of the shipment of the
product, the following criterion under Statement of Financial Accounting
Standards (SFAS) No. 48, Revenue Recognition When Right of Return Exists,
have been met: the sellers price to the buyer is substantially fixed or
determinable at the date of sale; the buyer has paid the seller, or the buyer
is obligated to pay the seller and the obligation is not contingent on resale
of the product; the buyers obligation to the seller would not be changed in
the event of theft or physical destruction or damage of the product; the buyer
acquiring the product for resale has economic substance apart from that
provided by the seller; the seller does not have significant obligations for
future performance to directly bring about resale of the product by the buyer;
the amount of future returns can be reasonably estimated.

Stock Based Compensation

The Company accounts for stock-based employee compensation in accordance
with the provisions of Accounting Principles Board (APB) Opinion No. 25 and
FASB Interpretation No. 44 (FIN 44), Accounting for Certain Transactions
Involving Stock Compensation, and complies with the disclosure requirements of
SFAS No. 123, Accounting for Stock-Based Compensation. Under APB No. 25,
compensation expense is recorded based on the difference, if any, between the
fair value of the Companys stock and the exercise price on the measurement
date. The Company accounts for stock issued to non-employees in accordance
with SFAS No. 123, which requires entities to recognize as expense over the
service period the fair value of all stock-based awards on the date of grant
and EITF 96-18, Accounting for Equity Investments that are Issued to Other
Than Employees for Acquiring, or in Conjunction with Selling, Goods or
Services, which addresses the measurement date and recognition approach for
such transactions.

The Company recognizes compensation expense related to variable awards in
accordance with FIN 28. For fixed awards, the Company recognizes expense over
the vesting period or the period of service.

Stock-based compensation included in cost of revenue represents the
amortization of non-cash compensation expense related to vendor warrants and
stock options granted to artists and their advisors in connection with entering
into contractual commitments to operate their online commerce activities. We
record the fair value of options/warrants granted to non-employees as
compensation expense over the period of service. We determine the fair value
of the options/warrants based on the Black-Scholes option-pricing model.

Stock-based compensation included in operating expenses represents the
amortization of non-cash compensation expense related to equity instruments
granted to employees, directors, professional firms, artists and artist
advisors. Compensation for equity grants to non-employees is recorded in the
same manner as described above. We record stock compensation for employee
option grants equal to the excess of the fair value of our common stock over
the exercise price on the grant date. We record the compensation over the
vesting period.

Impairment of Long-Lived Assets and Goodwill

Prior to January 1, 2002, the Company periodically reviewed the carrying
amount of long-lived assets and goodwill to determine whether current events or
circumstances warranted adjustments to such carrying amounts. An impairment
adjustment was necessary in the event the net book value of such long-lived
assets and goodwill exceeded the future undiscounted cash flows attributable to
such assets. In such an event, the loss would be

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measured by the amount that the carrying value of such assets exceeded
their fair value, as determined based on estimated discounted cash flows.

Effective January 1, 2002, the Company evaluates the impairment of
goodwill by comparing the carrying amount of the goodwill at the reporting unit
level to the fair value of the goodwill. The carrying amount of the goodwill
is adjusted to its fair value in the event the fair value exceeds the carrying
amount.

RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

In July 2001, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 141, Business
Combinations and SFAS No. 142, Goodwill and Other Intangible Assets. SFAS
No. 141 requires that all business combinations be accounted for under the
purchase method. The statement further requires separate recognition of
intangible assets that meet one of two criteria. The statement applies to all
business combinations initiated after June 30, 2001.

SFAS No. 142 requires that an intangible asset that is acquired shall be
initially recognized and measured based on its fair value. The statement also
provides that goodwill should not be amortized, but shall be tested for
impairment annually, or more frequently if circumstances indicate potential
impairment, through a comparison of fair value to its carrying amount. SFAS No. 142
is generally effective for fiscal periods beginning after December 15, 2001
and the amortization provisions of SFAS No. 142 are effective for acquisitions
subsequent to June 30, 2001. The Company adopted SFAS No. 142 effective January 1, 2002 (See Note 2 and 8).

In October 2001, the FASB issued SFAS No. 144, Accounting for the
Impairment of Long-Lived Assets which addresses financial accounting and
reporting for the impairment or disposal of long-lived assets. While SFAS No. 144 supersedes
SFAS No. 121, Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to be Disposed Of, it retains many of the
fundamental provisions of that statement. SFAS No. 144 is effective for fiscal
years beginning after December 15, 2001. The adoption of SFAS No. 144 did not
have a material impact on the Companys financial position, result of operation
and cash flow.

In April 2002, the FASB issued SFAS No. 145, Rescission of FASB
Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical
Corrections (SFAS 145). SFAS 145 rescinds SFAS 4, which required all gains
and losses from extinguishment of debt to be aggregated and, if material,
classified as an extraordinary item, net of related income tax effect. Upon
adoption of SFAS 145, we will be required to apply the criteria in APB Opinion
No. 30, Reporting the Results of Operations  Reporting the Effects of Disposal
of a Segment of a Business, and Extraordinary, Unusual and Infrequently
Occurring Events and Transactions (Opinion No. 30), in determining the
classification of gains and losses resulting from the extinguishment of debt.
Additionally, SFAS 145 amends SFAS 13 to require that certain lease
modifications that have economic effects similar to sale-leaseback transactions
to be accounted for in the same manner as sale-leaseback transactions. SFAS 145
will be effective for fiscal years beginning after May 15, 2002 with early
adoption of the provisions related to the rescission of SFAS 4 encouraged.
Upon adoption, companies must reclassify prior period items that do not meet
the extraordinary item classification criteria in Opinion No. 30. The adoption
of SFAS 145 for long-lived assets held for use did not have a material impact
on the Companys consolidated financial statements.

In June 2002, the FASB issued SFAS No. 146, Accounting for Costs
Associated with Exit and Disposal Activities. SFAS 146 nullifies Emerging
Issues Task Force (EITF) issue 94-3, Liability Recognition for Certain Employee
Termination Benefits and Other Costs to Exit an Activity (including Certain
Costs Incurred in a Restructuring). Under EITF issue 94-3, a liability for an
exit cost is recognized at the date of an entitys commitment to an exit plan.
Under SFAS 146, the liabilities associated with an exit or disposal activity
will be measured at fair value and recognized when the liability is incurred
and meets the definition of a liability in the FASBs conceptual framework.
This statement is effective for exit or disposal activities initiated after
December 31, 2002. The Company believes that the adoption of SFAS 146 will not
have a material impact on its consolidated financial statements.

In November 2002, the FASB issued Interpretation No. 45, Guarantors
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness to Others (FIN 45), an interpretation of FASB
Statements Nos. 5, 57 and 107 and a rescission of FASB Interpretation No. 34.
FIN 45

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elaborates on the disclosures to be made by a guarantor in its interim and
annual financial statements about its obligations under guarantees issued. FIN 45
also clarifies that a guarantor is required to recognize, at inception of a
guarantee, a liability for the fair value of the obligation undertaken. The
initial recognition and measurement provisions of FIN 45 are applicable to
guarantees issued or modified after December 31, 2002 and the Company believes
the adoption of FIN 45 will not have a material effect on its consolidated
financial statements. The disclosure requirements are effective for financial
statements of interim and annual periods ended after December 15, 2002.

In November 2002, the FASBs Emerging Issues Task Force (EITF) issued EITF
00-21 Revenue Arrangements with Multiple Deliverables. EITF 00-21 addresses
certain aspects of the accounting by a vendor for arrangements under which it
will perform multiple revenue-generating activities. Specifically, EITF 00-21
addresses how to determine whether an arrangement involving multiple
deliverables contains more than one unit of accounting. In applying EITF
00-21, separate contracts with the same entity or related parties that are
entered into at or near the same time are presumed to have been negotiated as a
package and should, therefore, be evaluated as a single arrangement in
considering whether there are one or more units of accounting. That
presumption may be overcome if there is sufficient evidence to the contrary.
EITF 00-21 also addresses how arrangement consideration should be measured and
allocated to the separate units of accounting in the arrangement. The guidance
in this Issue is effective for revenue arrangements entered into in fiscal
periods beginning after June 15, 2003. Alternatively, companies may elect to
report the change in accounting as a cumulative-effect adjustment. Early
application of this consensus is permitted. The adoption of this accounting
pronouncement may have a significant impact on the Companys financial
statements.

In December 2002, the FASB issued SFAS No. 148, Accounting for
Stock-Based CompensationTransition and Disclosurean amendment of SFAS No.
123. This statement provides alternative methods of transition for a voluntary
change to the fair value based method of accounting for stock-based employee
compensation. This statement also amends the disclosure requirements of SFAS
No. 123 and APB Opinion No. 28, Interim Financial Reporting, to require
prominent disclosures in both annual and interim financial statements about the
method of accounting for stock-based employee compensation and the effect of
the method used on reported results. Certain of the disclosure modifications
are required for fiscal years ending after December 15, 2002 and are included
in the Notes to these Consolidated Financial Statements. The Company will
implement SFAS No. 148 effective January 1, 2003 regarding disclosure
requirements for condensed financial statements for interim periods. The
Companys management has determined that they will continue to account for
stock-based employee compensation in accordance with APB No. 25.

In February 2003, the FASB issued Interpretation No. 46, Consolidation of
Variable Interest Entities (FIN 46), which addresses the consolidation by
business enterprises of variable interest entities, which have one or both of
the following characteristics: (1) the equity investment at risk is not
sufficient to permit the entity to finance its activities without additional
financial support from other parties, or (2) the equity investors lack one or
more of the following essential characteristics of a controlling financial
interest: (a) the direct or indirect ability to make decisions about the
entitys activities through voting or similar rights, (b) the obligation to
absorb the expected losses of the entity if they occur, or (c) the right to
receive the expected residual returns of the entity if they occur. FIN 46 will
have a significant effect on existing practice because it requires existing
variable interest entities to be consolidated if those entities do not
effectively disburse risks among parties involved. In addition, FIN 46
contains detailed disclosure requirements. FIN 46 applies immediately to
variable interest entities created after January 31, 2003, and to variable
interest entities in which an enterprise obtains an interest after that date.
It applies in the first fiscal year or interim period beginning after June 15,
2003, to variable interest entities in which an enterprise holds a variable
interest that it acquired before February 1, 2003. This Interpretation may be
applied prospectively with a cumulative-effect adjustment as of the date on
which it is first applied or by restating previously issued financial
statements for one or more years with a cumulative-effect adjustment as of the
beginning of the first year restated. The adoption of the pronouncement may have a
significant impact on the Company's consolidated financial statements.

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ITEM 7A.  QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK

Our exposure to market rate risk for changes in interest rates is related
primarily to our investment portfolio. We have not used derivative financial
instruments in our investment portfolio. Our short-term investments are
comprised of U.S. Government obligations and public corporate debt securities.
Interest rate fluctuations impact the carrying value of the portfolio. We do
not believe that the future market risks related to the above securities will
have material adverse impact on our financial position, results of operations
or liquidity.




ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

Our consolidated financial statements and schedule, as listed under Item 14, appear in a separate section of this Annual Report on Form 10-K beginning
on page F-1.






ITEM 9.  CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE


None.




PART III




ITEM 10.  DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

The information in the sections titled Proposal One: Election of
Directors, Directors, Executive Officers and Key Employees of the Company
and Compliance with Section 16(a) of the Exchange Act appearing in our
definitive proxy statement for the 2003 Annual Meeting of Stockholders is
incorporated herein by reference.




ITEM 11.  EXECUTIVE COMPENSATION

The information in the section titled Executive Compensation and Related
Information appearing in our definitive proxy statement for the 2003 Annual
Meeting of Stockholders is incorporated herein by reference.






ITEM 12.  SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS


The information in the section titled Security Ownership of Certain
Beneficial Owners and Management and Related Stockholder Matters appearing in
our definitive proxy statement for the 2003 Annual Meeting of Stockholders is
incorporated herein by reference.




ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

The information in the section titled Certain Relationships and Related
Transactions appearing in our definitive proxy statement for the 2003 Annual
Meeting of Stockholders is incorporated herein by reference.




ITEM 14. CONTROLS AND PROCEDURES

Based on their evaluation as of a date within 90 days of the filing date
of this Report, ARTISTdirects principal executive officer and principal
financial officer have concluded that ARTISTdirects disclosure controls and
procedures (as defined in Rules 13a-14(c) and 15d-14(c) under the Securities
Exchange Act of 1934) are effective to ensure that information required to be
disclosed by ARTISTdirect in reports that it files or submits under the
Exchange Act is recorded, processed, summarized and reported within the time
periods specified in Securities and Exchange Commission rules and forms.

There have been no significant changes in our internal controls or in
other factors that could significantly affect our internal controls subsequent
to the date that our principal executive officer and principal financial
officer carried out their evaluation.

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PART IV




ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K

(a)(1). FINANCIAL STATEMENTS

ARTISTdirect financial statements appear in a separate section of this
Annual Report on Form 10-K beginning on the pages referenced below:

ARTISTdirect, Inc. and Subsidiaries Consolidated Financial Statements

|                                                                     |  |  |    | 
|-------------------------------------------------------------------- |  |  | -- | 
|Independent Auditors Report                                         |  |  | 57 | 
|Consolidated Balance Sheets                                          |  |  | 58 | 
|Consolidated Statements of Operations                                |  |  | 59 | 
|Consolidated Statements of Changes in Stockholders Equity (Deficit) |  |  | 60 | 
|Consolidated Statements of Cash Flows                                |  |  | 61 | 
|Notes to Consolidated Financial Statements                           |  |  | 63 | 

ARTISTdirect Records, LLC financial statements appear in a separate
section of this Annual Report on Form 10-K beginning on the pages referenced
below:

ARTISTdirect Records, LLC Financial Statements

|                                                   |  |  |    | 
|-------------------------------------------------- |  |  | -- | 
|Independent Auditors Report                       |  |  | 90 | 
|Balance Sheets                                     |  |  | 91 | 
|Statements of Operations                           |  |  | 92 | 
|Statements of Changes in Members Equity (Deficit) |  |  | 93 | 
|Statements of Cash Flows                           |  |  | 94 | 
|Notes to Financial Statements                      |  |  | 95 | 

(2)  FINANCIAL STATEMENT SCHEDULE

ARTISTdirect financial statement schedule appears in a separate section of
this Annual Report on Form 10-K on the pages referenced below. All other
schedules have been omitted as they are not applicable, not required or the
information is included in the consolidated financial statements or the notes
thereto.

(3)  EXHIBITS

| |     |  |  |                                                                                                                                                                                                                                                                                      
| | --- |  |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | 3.1 |  |  | Amended and Restated Certificate of Incorporation of the
Registrant. Incorporated by reference to Exhibit 3.1 in the
Registrants Registration Statement on Form S-1 initially filed
on September 22, 1999 (Registration No. 333-87547), as amended by
Amendment No.s 1 - 7 thereto.
|
| | 3.2 |  |  | Amended and Restated Bylaws of the Registrant. Incorporated by
reference to Exhibit 3.2 in the Registrants Registration
Statement on Form S-1 initially filed on September 22, 1999
(Registration No. 333-87547), as amended by Amendment No.s 1 - 7
thereto.                      
|
| | 3.3 |  |  | Certificate of Amendment of the Third Amended and Restated
Certificate of Incorporation. Incorporated by reference to
Exhibit 3.3 in the Registrants Quarterly Report on Form 10-Q
filed on August 14, 2001.                                                                        
|
| | 3.4 |  |  | Certificate of Amendment, dated June 3, 2002, of the Third
Amended and Restated Certificate of Incorporation. Incorporated
by reference to Exhibit 3.4 in the Registrants Quarterly Report
on Form 10-Q filed on August 14, 2002.                                                   
|
| | 4.1 |  |  | See Exhibits 3.1 and 3.2 for provisions of the Registrants
Certificate of Incorporation and Bylaws determining the rights of
holders of the Registrants common stock.                                                                                                              

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| |      |   |  |                                                                                                                                                                                                                                                                                                                                                       
| | ---- | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | 4.2  |   |  | Specimen common stock certificate. Incorporated by reference to
Exhibit 4.2 in the Registrants Registration Statement on
Form S-1 initially filed on September 22, 1999
(Registration No 333-87547), as amended by Amendment No.s 1 - 7 thereto.                                                                                                    
|
| | 4.3  |   |  | Registration Rights Letter Agreement dated May 31, 2001 between
the Registrant and Frederick W. Field. Incorporated by reference
to Exhibit 3 filed in connection with the Registrants Definitive
Proxy Statement on June 11, 2001.                                                                                                                  
|
| | 10.1 |  |  | Amendment No. 1 dated February 27, 2002 to the Agreement dated
July 19, 2000 between the Registrant and Ticketmaster.
Incorporated by reference to Exhibit 10.35 in the Registrants Quarterly Report on
Form 10-Q filed on May 15, 2002.                                                                                                             
|
| | 10.2 |  |  | Escrow Agreement dated March 13, 2002 among the Registrant,
Ticketmaster and JPMorgan Chase Bank. Incorporated by reference
to Exhibit 10.36 in the Registrants Quarterly Report on Form 10-Q filed on
May 15, 2002.                                                                                                                                 
|
| | 10.3 |  |  | Agreement dated October 22, 2001 between the Registrant and Old
Glory Boutique Distributing, Inc. Incorporated by reference to Exhibit 10.37 in
the Registrants Quarterly Report on Form 10-Q filed on
August 14, 2002.                                                                                                                              
|
| | 10.4 |  |  | Letter Agreement, dated as of December 9, 2002, by and between
ARTISTdirect, Inc. and Frederick Field to amend the Employment
Agreement dated May 31, 2001 between ARTISTdirect, Inc. and Mr
Field. Incorporated by reference to Exhibit 10.38 in the Registrants Current
Report on Form 8-K filed on December 13, 2002.                             
|
| | 10.5 |  |  | Letter Agreement, dated as of December 9, 2002, by and between
ARTISTdirect Records, L.L.C. and Frederick Field to amend the
Employment Agreement dated May 31, 2001 between ARTISTdirect
Records, L.L.C. and Mr. Field. Incorporated by reference to Exhibit 10.39 in the
Registrants Current Report on Form 8-K filed on December 13,
2002.        
|
| | 10.6 |   |  | Letter Agreement, dated as of December 23, 2002, by and between
ARTISTdirect, Inc. and Keith Yokomoto to amend the Employment
Agreement dated July 1, 2001 between ARTISTdirect, Inc. and Mr
Yokomoto. Incorporated by reference to Exhibit 10.40 in Amendment No. 1 to the
Registrants Quarterly Report on Form 10-Q/A filed on
December 23, 2002.  
|
| | 10.7 |   |  | Letter Agreement, dated as of December 23, 2002, by and between
ARTISTdirect, Inc. and Marc Geiger to amend the Employment
Agreement dated July 28, 1998, as amended on July 1, 2001,
between ARTISTdirect, Inc. and Mr. Geiger. Incorporated by
reference to Exhibit 10.41 in the Registrants Current Report on Form 8-K filed on
December 23, 2002.
|
| | 10.8 |   |  | Letter Agreement dated December 11, 2002 between the Registrant and Benn Co., LLC consenting to the assignment by
Old Glory Boutique Distributing, Inc. to Benn Co., LLC of the
Agreement dated October 22, 2001 between the Registrant and Old Glory Boutique Distributing, Inc.                                                                     
|
| | 10.9 |  |  | Agreement for Services dated as of June 13, 2002 between the Registrant and Frankel & Company.                                                                                                                                                                                                                                                        
|
| | 21.1 |   |  | Subsidiaries of the Registrant. Incorporated by reference to
Exhibit 21.1 in the Registrants Registration Statement on
Form S-1 initially filed on November 22, 2000 (Registration No 333-50576), as amended by Amendment No.s 1 - 5 thereto.                                                                                                       
|
| | 23.1 |   |  | Consent of KPMG LLP with respect to ARTISTdirect, Inc. and
subsidiaries                                                                                                                                                                                                                                                                               
|
| | 23.2 |   |  | Consent of KPMG LLP with respect to ARTISTdirect Records, LLC                                                                                                                                                                                                                                                                                         
|
| | 24.1 |   |  | Powers of Attorney. See signature page to this Annual Report on
Form 10-K.                                                                                                                                                                                                                                                                            

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---

| |  | Confidential treatment was requested for certain confidential portions
of this exhibit pursuant to Rule 24b-2 under the Securities Exchange Act of 1934. In accordance
with Rule 24b-2, these confidential portions were omitted from this exhibit
and filed separately with the Securities and Exchange Commission.
|- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

(b)  REPORTS ON FORM 8-K

On December 23, 2002, we filed a report on Form 8-K relating to the
election by our Vice Chairman of the Board and President of Artist Services,
Marc Geiger, to defer 50% of his salary that he was due to receive under his
employment agreement with ARTISTdirect.

On December 13, 2002, we filed a report on Form 8-K relating to the
election by our Chairman of the Board and Chief Executive Officer, Frederick
Field, to defer salary that he was due to receive under his employment
agreements with ARTISTdirect and with ARTISTdirect Records, L.L.C.

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SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) 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.

|                     |  |                    |  |                                                                                               
|-------------------- |  | ------------------ |  | ----------------------------------------------------------------------------------------------
|                     |  | ARTISTDIRECT, INC.
|Date: March 28, 2003 |  | By:                |  | /s/   FREDERICK W. FIELD

Frederick W. Field
Chief Executive Officer and Chairman of the Board

We, the undersigned officers and directors of ARTISTdirect, Inc., do
hereby constitute and appoint Frederick W. Field and James B. Carroll, and each
of them, our true and lawful attorneys-in-fact and agents, each with full power
of substitution and resubstitution, for him and in his name, place and stead,
in any and all capacities, to sign any and all amendments to this Report, and
to file the same, with exhibits thereto, and other documents in connection
therewith, with the Securities and Exchange Commission, granting unto said
attorneys-in-fact and agents, and each of them, full power and authority to do
and perform each and every act and thing requisite or necessary to be done in
and about the premises, as fully to all intents and purposes as he might or
could do in person, hereby ratifying and confirming all that each of said
attorneys-in-fact and agents, or his substitute or substitutes, may lawfully do
or cause to be done by virtue hereof.

Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.

|                                             |  |                                                                                                   |  |               
|-------------------------------------------- |  | ------------------------------------------------------------------------------------------------- |  | --------------
|Signature                                    |  | Title                                                                                             |  | Date          
|                                             |  |                                                                                                   |  |               
|                                            
|                                            
|                                            
|                                            
|/s/   FREDERICK W. FIELD

Frederick W. Field |  | Chief Executive Officer and
Chairman of the Board
(Principal Executive Officer)                   |  | March 28, 2003
|                                            
|/s/   MARC P. GEIGER

Marc P. Geiger         |  | Vice Chairman and President, Artist Services                                                      |  | March 28, 2003
|                                            
|/s/   KEITH YOKOMOTO
Keith Yokomoto          |  | President, Chief Operating Officer
and Director                                                   |  | March 28, 2003
|                                            
|/s/   JAMES B. CARROLL

James B. Carroll     |  | Executive Vice President and
Chief Financial Officer
(Principal Financial and Accounting Officer) |  | March 28, 2003
|                                            
|/s/   STEVE KRUPA
Steve Krupa                |  | Director                                                                                          |  | March 28, 2003
|                                            
|/s/   BENJAMIN MOODY
Benjamin Moody          |  | Director                                                                                          |  | March 28, 2003
|                                            
|/s/   JERRY RUBINSTEIN
Jerry Rubinstein      |  | Director                                                                                          |  | March 28, 2003

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CERTIFICATIONS OF THE CHIEF EXECUTIVE OFFICER
UNDER SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002

I, Frederick W. Field, Chief Executive Officer of ARTISTdirect, Inc., certify
that:

1. I have reviewed this annual report on Form 10-K of ARTISTdirect, Inc.;

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

3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual report;

4. The registrants other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this annual report is being prepared;

b) evaluated the effectiveness of the registrants disclosure controls
and procedures as of a date within 90 days prior to the filing date of this
annual report (the Evaluation Date); and

c) presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based on our evaluation
as of the Evaluation Date;

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

a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrants ability to record,
process, summarize and report financial data and have identified for the
registrants auditors any material weaknesses in internal controls; and

b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrants internal controls;
and

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6. The registrants other certifying officers and I have indicated in this
annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.

Date:  March 28, 2003



| | /s/   FREDERICK W. FIELD
        
Frederick W. Field
Chief Executive Officer
| | ----------------------------------------------------------------------------

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CERTIFICATIONS OF THE CHIEF FINANCIAL OFFICER
UNDER SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002

I, James B. Carroll, Chief Financial Officer of ARTISTdirect, Inc., certify
that:

1. I have reviewed this annual report on Form 10-K of ARTISTdirect, Inc.;

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

3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual report;

4. The registrants other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this annual report is being prepared;

b) evaluated the effectiveness of the registrants disclosure controls
and procedures as of a date within 90 days prior to the filing date of this
annual report (the Evaluation Date); and

c) presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based on our evaluation
as of the Evaluation Date;

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

a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrants ability to record,
process, summarize and report financial data and have identified for the
registrants auditors any material weaknesses in internal controls; and

b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrants internal controls;
and

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6. The registrants other certifying officers and I have indicated in this
annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.

Date:  March 28, 2003



| | /s/   JAMES B. CARROLL

James B. Carroll
Chief Financial Officer
| | ----------------------------------------------------------------

55



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CERTIFICATIONS OF THE CHIEF EXECUTIVE OFFICER
UNDER SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

In connection with the Annual Report of ARTISTdirect, Inc. (the
Registrant) on Form 10-K for the period ending December 31, 2002 as filed
with the Securities and Exchange Commission on the date hereof (the Annual
Report), I, Frederick W. Field, Chief Executive Officer of the Registrant,
certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002, that to my best knowledge:

(1)  the Annual Report fully complies with the requirements of Section
13(a) or 15 (d) of the Securities Exchange Act of 1934; and

(2)  the information contained in the Annual Report fairly presents, in
all material respects, the financial condition and results of operations of the
Registrant.

Date: March 28, 2003

| |  |                                           
| |  | ------------------------------------------
| |  | /s/ FREDERICK W. FIELD                    
| |  |                                           
| |  | Frederick W. Field
Chief Executive Officer

CERTIFICATIONS OF THE CHIEF FINANCIAL OFFICER
UNDER SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

In connection with the Annual Report of ARTISTdirect, Inc. (the
Registrant) on Form 10-K for the period ending December 31, 2002 as filed
with the Securities and Exchange Commission on the date hereof (the Annual
Report), I, James B. Carroll, Chief Financial Officer of the Registrant,
certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002, that to my best knowledge:

(1)  the Annual Report fully complies with the requirements of Section
13(a) or 15 (d) of the Securities Exchange Act of 1934; and

(2)  the information contained in the Annual Report fairly presents, in
all material respects, the financial condition and results of operations of the
Registrant.

Date: March 28, 2003

| |  |                                         
| |  | ----------------------------------------
| |  | /s/ JAMES B. CARROLL                    
| |  |                                         
| |  | James B. Carroll
Chief Financial Officer

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ARTISTDIRECT, INC.

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

|                                                                      |                                                                      |  |      |    | 
|--------------------------------------------------------------------- | -------------------------------------------------------------------- |  | ---- | -- | 
|                                                                      |                                                                      |  | PAGE
|                                                                      |                                                                      |  |     
|ARTISTdirect, Inc. and Subsidiaries Consolidated Financial Statements |                                                                      |  |      |   
|                                                                      | Independent Auditors Report                                         |  |      | 58 | 
|                                                                      | Consolidated Balance Sheets                                          |  |      | 59 | 
|                                                                      | Consolidated Statements of Operations                                |  |      | 60 | 
|                                                                      | Consolidated Statements of Changes in Stockholders Equity (Deficit) |  |      | 61 | 
|                                                                      | Consolidated Statements of Cash Flows                                |  |      | 62 | 
|                                                                      | Notes to Consolidated Financial Statements                           |  |      | 64 | 

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INDEPENDENT AUDITORS REPORT

To the Board of Directors
ARTISTdirect, Inc.

We have audited the accompanying consolidated balance sheets of ARTISTdirect,
Inc. and subsidiaries (the Company) as of December 31, 2001 and 2002 and the
related consolidated statements of operations, stockholders equity (deficit)
and cash flows for each of the years in the three year period ended December 31, 2002. These financial statements are the responsibility of the Companys
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.

We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of ARTISTdirect, Inc. and
subsidiaries as of December 31, 2001 and 2002 and the results of its operations
and its cash flows for each of the years in the three year period ended
December 31, 2002, in conformity with accounting principles generally accepted
in the United States of America.

As discussed in Note 3 to the consolidated financial statements in 2002 the
Company changed its method of accounting for the amortization of goodwill.

The accompanying financial statements have been prepared assuming that
ARTISTdirect, Inc. and subsidiaries will continue as a going concern. As more
fully described in note 1, the Company has incurred substantial operating
losses and negative cash flows from operations to date and has funding
commitments related to its record label joint venture. The Company needs
additional capital to fund its operations and the operations of the record
label joint venture. These conditions raise substantial doubt about the
Companys ability to continue as a going concern. Managements plans in regard
to these matters are also described in note 1. The financial statements do not
include any adjustments that might result from the outcome of this uncertainty.

/s/   KPMG LLP

Los Angeles, CA
February 14, 2003

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ARTISTDIRECT, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)

|                                                                   |                                                                                                                                                                                                       |                            |        |              |        |              |        |          |        | 
|------------------------------------------------------------------ | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | -------------------------- | ------ | ------------ | ------ | ------------ | ------ | -------- | ------ | 
|                                                                   |                                                                                                                                                                                                       |                            |        | December 31, |        | December 31,
|                                                                   |                                                                                                                                                                                                       |                            |        | 2001         |        | 2002        
|                                                                   |                                                                                                                                                                                                       |                            |        |              |        |             
|Assets                                                             |                                                                                                                                                                                                       |                            |        |              |        |              |        |         
|Current assets:                                                    |                                                                                                                                                                                                       |                            |        |              |        |              |        |         
|                                                                   | Cash and cash equivalents                                                                                                                                                                             |                            | $      | 25,016       |        |              | $      | 1,910    |       
|                                                                   | Restricted cash                                                                                                                                                                                       |                            |        | 3,008        |        |              |        | 2,157    |       
|                                                                   | Short term investments                                                                                                                                                                                |                            |        | 18,518       |        |              |        | 6,124    |       
|                                                                   | Accounts receivable, net                                                                                                                                                                              |                            |        | 346          |        |              |        | 426      |       
|                                                                   | Prepaid stock based compensation                                                                                                                                                                      |                            |        | 4,645        |        |              |        |         |       
|                                                                   | Other prepaid expenses and current assets                                                                                                                                                             |                            |        | 1,390        |        |              |        | 1,220    |       
|                                                                   |                                                                                                                                                                                                       |                            |        |              |        |              |        |          |       
|                                                                   |                                                                                                                                                                                                       | Total current assets       |        |              | 52,923 |              |        |          | 11,837 | 
|Property and equipment, net                                        |                                                                                                                                                                                                       |                            | 6,077  |              |        |              | 3,629  |         
|Investments in affiliated companies                                |                                                                                                                                                                                                       |                            | 80     |              |        |              | 64     |         
|Goodwill and intangibles, net                                      |                                                                                                                                                                                                       |                            | 788    |              |        |              |       |         
|Other assets, net                                                  |                                                                                                                                                                                                       |                            | 5      |              |        |              | 395    |         
|                                                                   |                                                                                                                                                                                                       |                            |        |              |        |              |        |          |       
|                                                                   |                                                                                                                                                                                                       | $                          | 59,873 |              |        | $            | 15,925 |         
|                                                                   |                                                                                                                                                                                                       |                            |        |              |        |              |        |         
|Liabilities and Stockholders Equity                               |                                                                                                                                                                                                       |                            |        |              |        |              |        |         
|Current liabilities:                                               |                                                                                                                                                                                                       |                            |        |              |        |              |        |         
|                                                                   | Accounts payable                                                                                                                                                                                      |                            |        | 251          |        |              |        | 493      |       
|                                                                   | Accrued expenses                                                                                                                                                                                      |                            |        | 4,018        |        |              |        | 3,018    |       
|                                                                   | Loans and notes payable                                                                                                                                                                               |                            |        | 254          |        |              |        |         |       
|                                                                   | Deferred revenue                                                                                                                                                                                      |                            |        | 36           |        |              |        | 144      |       
|                                                                   |                                                                                                                                                                                                       |                            |        |              |        |              |        |         
|                                                                   |                                                                                                                                                                                                       | Total current liabilities  |        |              | 4,559  |              |        |          | 3,655  | 
|Liability associated with investment in record label joint venture |                                                                                                                                                                                                       |                            | 3,027  |              |        |              | 7,699  |         
|Long term liabilities                                              |                                                                                                                                                                                                       |                            | 903    |              |        |              | 1,117  |         
|                                                                   |                                                                                                                                                                                                       |                            |        |              |        |              |        |         
|                                                                   |                                                                                                                                                                                                       | Total liabilities          |        |              | 8,489  |              |        |          | 12,471 | 
|                                                                   |                                                                                                                                                                                                       |                            |        |              |        |              |        |         
|Stockholders equity:                                              |                                                                                                                                                                                                       |                            |        |              |        |              |        |         
|                                                                   | Common stock, $.01 par value. Authorized 150,000,000 shares; issued
3,783,510 and 3,784,644 in 2001 and 2002, respectively; outstanding
3,460,608 and 3,461,742 shares in 2001 and 2002, respectively |                            |        | 379          |        |              |        | 379      |       
|                                                                   | Treasury stock, 322,902 shares in 2001 and 2002                                                                                                                                                       |                            |        | (3,442       | )      |              |        | (3,442   | )     
|                                                                   | Additional paid-in-capital                                                                                                                                                                            |                            |        | 207,832      |        |              |        | 207,867  |       
|                                                                   | Unearned compensation                                                                                                                                                                                 |                            |        | (745         | )      |              |        | (440     | )     
|                                                                   | Accumulated deficit                                                                                                                                                                                   |                            |        | (152,786     | )      |              |        | (200,978 | )     
|                                                                   | Unrealized gain on available for sale investments                                                                                                                                                     |                            |        | 146          |        |              |        | 68       |       
|                                                                   |                                                                                                                                                                                                       |                            |        |              |        |              |        |         
|                                                                   |                                                                                                                                                                                                       | Total stockholders equity |        |              | 51,384 |              |        |          | 3,454  | 
|                                                                   |                                                                                                                                                                                                       |                            |        |              |        |              |        |         
|                                                                   |                                                                                                                                                                                                       | $                          | 59,873 |              |        | $            | 15,925 |         
|                                                                   |                                                                                                                                                                                                       |                            |        |              |        |              |        |         

See accompanying notes to consolidated financial statements.

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ARTISTDIRECT, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT FOR SHARE DATA)

|                                                                |                                  |                                              |           |                         |         |      |           |        |         |   |           |         |         |  
|--------------------------------------------------------------- | -------------------------------- | -------------------------------------------- | --------- | ----------------------- | ------- | ---- | --------- | ------ | ------- | - | --------- | ------- | ------- | -
|                                                                |                                  |                                              |           | YEAR ENDED DECEMBER 31,
|                                                                |                                  |                                              |           |                        
|                                                                |                                  |                                              |           | 2000                    |         | 2001 |           | 2002  
|                                                                |                                  |                                              |           |                         |         |      |           |       
|Net revenue:                                                    |                                  |                                              |           |                         |         |      |           |        |         |   |           |        
|                                                                | E-Commerce                       |                                              | $         | 12,160                  |         |      | $         | 7,542  |         |   | $         | 4,713   |        
|                                                                | Media                            |                                              |           | 6,326                   |         |      |           | 2,879  |         |   |           | 924     |        
|                                                                | Record label                     |                                              |           | 244                     |         |      |           |       |         |   |           | 613     |        
|                                                                |                                  |                                              |           |                         |         |      |           |        |         |   |           |        
|                                                                |                                  | Total net revenue                            |           |                         | 18,730  |      |           |        | 10,421  |   |           |         | 6,250   |  
|Cost of revenue:                                                |                                  |                                              |           |                         |         |      |           |        |         |   |           |        
|                                                                | Direct cost of product sales     |                                              |           | 10,381                  |         |      |           | 6,137  |         |   |           | 3,969   |        
|                                                                | Other cost of revenue            |                                              |           | 8,103                   |         |      |           | 5,728  |         |   |           | 3,687   |        
|                                                                | Stock-based compensation         |                                              |           | 7,545                   |         |      |           | 8,405  |         |   |           | 3,084   |        
|                                                                |                                  |                                              |           |                         |         |      |           |        |         |   |           |        
|                                                                |                                  | Total cost of revenue                        |           |                         | 26,029  |      |           |        | 20,270  |   |           |         | 10,740  |  
|                                                                |                                  | Gross loss                                   |           |                         | (7,299  | )    |           |        | (9,849  | ) |           |         | (4,490  | )
|Operating expenses:                                             |                                  |                                              |           |                         |         |      |           |        |         |   |           |        
|                                                                | Website development              |                                              |           | 5,364                   |         |      |           | 3,726  |         |   |           | 53      |        
|                                                                | Sales and marketing              |                                              |           | 25,623                  |         |      |           | 5,726  |         |   |           | 2,224   |        
|                                                                | General and administrative       |                                              |           | 16,979                  |         |      |           | 13,339 |         |   |           | 7,527   |        
|                                                                | Provision for doubtful accounts  |                                              |           | 653                     |         |      |           | 1,503  |         |   |           | 42      |        
|                                                                | Stock-based compensation         |                                              |           | 5,067                   |         |      |           | 12,415 |         |   |           | 1,897   |        
|                                                                | Depreciation and amortization    |                                              |           | 6,248                   |         |      |           | 6,512  |         |   |           | 2,814   |        
|                                                                | Loss from impairment of goodwill |                                              |           |                        |         |      |           | 11,444 |         |   |           | 788     |        
|                                                                |                                  |                                              |           |                         |         |      |           |        |         |   |           |        
|                                                                |                                  | Loss from operations                         |           |                         | (67,233 | )    |           |        | (64,514 | ) |           |         | (19,835 | )
|                                                                | Loss from equity investments     |                                              |           | (235                    | )       |      |           | (8,998 | )       |   |           | (29,252 | )      
|                                                                | Interest income, net             |                                              |           | 5,969                   |         |      |           | 3,585  |         |   |           | 748     |        
|                                                                |                                  |                                              |           |                         |         |      |           |        |         |   |           |        
|                                                                |                                  | Loss from continuing operations before taxes |           | $                       | (61,499 | )    |           |        | (69,927 | ) |           |         | (48,339 | )
|Income taxes                                                    |                                  |                                              |          |                         |         |      |          |        |         |   |          |        
|                                                                |                                  |                                              |           |                         |         |      |           |        |         |   |           |        
|                                                                |                                  | Loss from continuing operations              |           | $                       | (61,499 | )    |           | $      | (69,927 | ) |           | $       | (48,339 | )
|                                                                |                                  | Income from discontinued operations          |           |                         | 2,191   |      |           |        | 47      |   |           |         | 147     |  
|                                                                |                                  |                                              |           |                         |         |      |           |        |         |   |           |        
|                                                                |                                  | Net loss                                     |           | $                       | (59,308 | )    |           | $      | (69,880 | ) |           | $       | (48,192 | )
|Interest on rescission offer                                    |                                  |                                              | 532       |                         |         |      | 691       |        |         |   |          |        
|Dividends on redeemable preferred securities                    |                                  |                                              | 963       |                         |         |      |          |        |         |   |          |        
|Beneficial conversion feature on redeemable preferred stock     |                                  |                                              | 24,375    |                         |         |      |          |        |         |   |          |        
|                                                                |                                  |                                              |           |                         |         |      |           |        |         |   |           |        
|Net loss attributable to common shareholders                    |                                  | $                                            | (85,178   | )                       |         | $    | (70,571   | )      |         | $ | (48,192   | )      
|                                                                |                                  |                                              |           |                         |         |      |           |        |         |   |           |        
|Basic and diluted loss per share from continuing operations     |                                  | $                                            | (27.52    | )                       |         | $    | (19.50    | )      |         | $ | (13.96    | )      
|Basic and diluted income per share from discontinued
operations |                                  |                                              | 0.69      |                         |         |      | 0.01      |        |         |   | 0.04      |        
|                                                                |                                  |                                              |           |                         |         |      |           |        |         |   |           |        
|                                                                | Basic and diluted loss per share |                                              | $         | (26.83                  | )       |      | $         | (19.49 | )       |   | $         | (13.92  | )      
|                                                                |                                  |                                              |           |                         |         |      |           |        |         |   |           |        
|Weighted average common shares outstanding                      |                                  |                                              | 3,175,126 |                         |         |      | 3,620,161 |        |         |   | 3,461,057 |        
|                                                                |                                  |                                              |           |                         |         |      |           |        |         |   |           |        

See accompanying notes to consolidated financial statements

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ARTISTDIRECT, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF STOCKHOLDERS EQUITY (DEFICIT)
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)

|                             |                                                                            |  |              |           |          |   |         |     |            |   |              |        |          |   |             |         |        |   |                |        |   |   |          |         |   |   |            |     |   |   |         |         |  
|---------------------------- | -------------------------------------------------------------------------- |  | ------------ | --------- | -------- | - | ------- | --- | ---------- | - | ------------ | ------ | -------- | - | ----------- | ------- | ------ | - | -------------- | ------ | - | - | -------- | ------- | - | - | ---------- | --- | - | - | ------- | ------- | -
|                             |                                                                            |  |              |           |          |   |         |     |            |   |              |        |          |   |             |         |        |   |                |        |   |   |          |         |   |   | Unrealized |     |   |   |        
|                             |                                                                            |  | Common Stock |           |          |   |         |     | Additional |   |              |        |          |   |             |         |        |   | gain on avail. |        |   |   |         
|                             |                                                                            |  |              |           | Treasury |   | Paid In |     | Unearned   |   | Accumulated  |        | for sale |   | Total      
|                             |                                                                            |  | Shares       |           | Amount   |   | Stock   |     | Capital    |   | Compensation |        | Deficit  |   | investments |         | Equity
|                             |                                                                            |  |              |           |          |   |         |     |            |   |              |        |          |   |             |         |       
|Balance at December 31, 1999 |                                                                            |  | 1,408,867    |           |          | $ | 141     |     |            | $ |             |        |          | $ | 36,688      |         |        | $ | (36,976        | )      |   | $ | (23,598  | )       |   | $ |           |     |   | $ | (23,745 | )      
|                             | Issuance of securities upon initial public offering, net of offering costs |  |              | 500,000   |          |   |         | 50  |            |   |              |       |          |   |             | 52,385  |        |   |                |       |   |   |          |        |   |   |            |    |   |   |         | 52,435  |  
|                             | Issuance of securities for acquisition                                     |  |              | 86,604    |          |   |         | 9   |            |   |              |       |          |   |             | 2,850   |        |   |                |       |   |   |          |        |   |   |            |    |   |   |         | 2,859   |  
|                             | Issuance of securities for employee stock purchase plan                    |  |              | 6,758     |          |   |         | 1   |            |   |              |       |          |   |             | 39      |        |   |                |       |   |   |          |        |   |   |            |    |   |   |         | 40      |  
|                             | Series C redeemable preferred stock offering costs                         |  |              |          |          |   |         |    |            |   |              |       |          |   |             | (4,800  | )      |   |                |       |   |   |          |        |   |   |            |    |   |   |         | (4,800  | )
|                             | Issuance/cancellation of options/warrants                                  |  |              |          |          |   |         |    |            |   |              |       |          |   |             | (1,372  | )      |   |                | 1,372  |   |   |          |        |   |   |            |    |   |   |         |        |  
|                             | Exercise of stock options                                                  |  |              | 40,907    |          |   |         | 4   |            |   |              |       |          |   |             | 1,549   |        |   |                |       |   |   |          |        |   |   |            |    |   |   |         | 1,553   |  
|                             | Amortization of unearned compensation                                      |  |              |          |          |   |         |    |            |   |              |       |          |   |             |        |        |   |                | 15,240 |   |   |          |        |   |   |            |    |   |   |         | 15,240  |  
|                             | Variable equity interests                                                  |  |              |          |          |   |         |    |            |   |              |       |          |   |             | (6,645  | )      |   |                |       |   |   |          |        |   |   |            |    |   |   |         | (6,645  | )
|                             | Issuance of stock appreciation rights/options                              |  |              |          |          |   |         |    |            |   |              |       |          |   |             | 2,992   |        |   |                |       |   |   |          |        |   |   |            |    |   |   |         | 2,992   |  
|                             | Issuance of stock for settlement agreement                                 |  |              |          |          |   |         |     |            |   |              |       |          |   |             | 1,025   |        |   |                |       |   |   |          |        |   |   |            |    |   |   |         | 1,025   |  
|                             | Accrual of dividends to preferred shareholders                             |  |              |          |          |   |         |    |            |   |              |       |          |   |             | (963    | )      |   |                |       |   |   |          |        |   |   |            |    |   |   |         | (963    | )
|                             | Conversion of redeemable preferred to common shares                        |  |              | 1,719,428 |          |   |         | 172 |            |   |              |       |          |   |             | 118,516 |        |   |                |       |   |   |          |        |   |   |            |    |   |   |         | 118,688 |  
|                             | Conversion of redeemable stock to common shares                            |  |              | 17,044    |          |   |         | 2   |            |   |              |       |          |   |             | 2,350   |        |   |                |       |   |   |          |        |   |   |            |    |   |   |         | 2,352   |  
|                             | Accrual for securities subject to rescission offer                         |  |              |          |          |   |         |    |            |   |              |       |          |   |             | (3,924  | )      |   |                |       |   |   |          |        |   |   |            |    |   |   |         | (3,924  | )
|                             | Net loss                                                                   |  |              |          |          |   |         |    |            |   |              |       |          |   |             |        |        |   |                |       |   |   |          | (59,308 | ) |   |            |    |   |   |         | (59,308 | )
|                             |                                                                            |  |              |           |          |   |         |     |            |   |              |        |          |   |             |         |        |   |                |        |   |   |          |         |   |   |            |     |   |   |         |        
|Balance at December 31, 2000 |                                                                            |  | 3,779,608    |           |          | $ | 379     |     |            | $ |             |        |          | $ | 200,690     |         |        | $ | (20,364        | )      |   | $ | (82,906  | )       |   | $ |           |     |   | $ | 97,799  |        
|                             | Cancellation of options/warrants                                           |  |              |          |          |   |         |    |            |   |              |        |          |   |             | (2,362  | )      |   |                | 2,362  |   |   |          |        |   |   |            |    |   |   |         |        |  
|                             | Amortization of unearned compensation                                      |  |              |          |          |   |         |    |            |   |              |       |          |   |             |        |        |   |                | 14,547 |   |   |          |        |   |   |            |    |   |   |         | 14,547  |  
|                             | Reclassification of unearned compensation to prepaid                       |  |              |          |          |   |         |    |            |   |              |       |          |   |             |        |        |   |                | 2,710  |   |   |          |        |   |   |            |    |   |   |         | 2,710   |  
|                             | Repurchase of common stock                                                 |  |              | (239,499  | )        |   |         |    |            |   |              | (2,734 | )        |   |             |        |        |   |                |       |   |   |          |        |   |   |            |    |   |   |         | (2,734  | )
|                             | Issuance of securities for employee stock purchase plan                    |  |              | 3,902     |          |   |         |    |            |   |              |       |          |   |             | 17      |        |   |                |       |   |   |          |        |   |   |            |    |   |   |         | 17      |  
|                             | Completion of rescission offer                                             |  |              | (83,403   | )        |   |         |    |            |   |              | (708   | )        |   |             | 9,487   |        |   |                |       |   |   |          |        |   |   |            |    |   |   |         | 8,779   |  
|                             | Unrealized gain on available for sale investments                          |  |              |          |          |   |         |    |            |   |              |       |          |   |             |        |        |   |                |       |   |   |          |        |   |   |            | 146 |   |   |         | 146     |  
|                             | Net loss                                                                   |  |              |          |          |   |         |    |            |   |              |       |          |   |             |        |        |   |                |       |   |   |          | (69,880 | ) |   |            |    |   |   |         | (69,880 | )
|                             |                                                                            |  |              |           |          |   |         |     |            |   |              |        |          |   |             |         |        |   |                |        |   |   |          |         |   |   |            |     |   |   |         |        
|Balance at December 31, 2001 |                                                                            |  | 3,460,608    |           |          | $ | 379     |     |            | $ | (3,442       | )      |          | $ | 207,832     |         |        | $ | (745           | )      |   | $ | (152,786 | )       |   | $ | 146        |     |   | $ | 51,384  |        
|                             | Issuance of options/warrants                                               |  |              |          |          |   |         |    |            |   |              |       |          |   |             | 31      |        |   |                | (31    | ) |   |          |        |   |   |            |    |   |   |         |        |  
|                             | Amortization of unearned compensation                                      |  |              |          |          |   |         |    |            |   |              |       |          |   |             |        |        |   |                | 336    |   |   |          |        |   |   |            |    |   |   |         | 336     |  
|                             | Issuance of securities for employee stock purchase plan                    |  |              | 1,134     |          |   |         |    |            |   |              |       |          |   |             | 4       |        |   |                |       |   |   |          |        |   |   |            |    |   |   |         | 4       |  
|                             | Unrealized loss on available for sale investments                          |  |              |          |          |   |         |    |            |   |              |       |          |   |             |        |        |   |                |       |   |   |          |        |   |   |            | (78 | ) |   |         | (78     | )
|                             | Net loss                                                                   |  |              |          |          |   |         |    |            |   |              |       |          |   |             |        |        |   |                |       |   |   |          | (48,192 | ) |   |            |    |   |   |         | (48,192 | )
|                             |                                                                            |  |              |           |          |   |         |     |            |   |              |        |          |   |             |         |        |   |                |        |   |   |          |         |   |   |            |     |   |   |         |        
|Balance at December 31, 2002 |                                                                            |  | 3,461,742    |           |          | $ | 379     |     |            | $ | (3,442       | )      |          | $ | 207,867     |         |        | $ | (440           | )      |   | $ | (200,978 | )       |   | $ | 68         |     |   | $ | 3,454   |        
|                             |                                                                            |  |              |           |          |   |         |     |            |   |              |        |          |   |             |         |        |   |                |        |   |   |          |         |   |   |            |     |   |   |         |        

See accompanying notes to consolidated financial statements.

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ARTISTDIRECT, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF CASH FLOWS
(IN THOUSANDS)

|                                      |                                                                             |                                                   |                                                          |                                                     |        |                         |         |         |        |        |         |         |        |      |         |  
|------------------------------------- | --------------------------------------------------------------------------- | ------------------------------------------------- | -------------------------------------------------------- | --------------------------------------------------- | ------ | ----------------------- | ------- | ------- | ------ | ------ | ------- | ------- | ------ | ---- | ------- | -
|                                      |                                                                             |                                                   |                                                          |                                                     |        | YEAR ENDED DECEMBER 31,
|                                      |                                                                             |                                                   |                                                          |                                                     |        |                        
|                                      |                                                                             |                                                   |                                                          |                                                     |        | 2000                    |         | 2001    |        | 2002  
|                                      |                                                                             |                                                   |                                                          |                                                     |        |                         |         |         |        |       
|Cash flows from operating activities: |                                                                             |                                                   |                                                          |                                                     |        |                         |         |         |        |        |         |        
|                                      | Net loss                                                                    |                                                   | $                                                        | (59,308                                             | )      |                         | $       | (69,880 | )      |        | $       | (48,192 | )     
|                                      | Income from discontinued operations                                         |                                                   |                                                          | 2,191                                               |        |                         |         | 47      |        |        |         | 147     |       
|                                      |                                                                             |                                                   |                                                          |                                                     |        |                         |         |         |        |        |         |        
|                                      | Loss from continuing operations                                             |                                                   |                                                          | (61,499                                             | )      |                         |         | (69,927 | )      |        |         | (48,339 | )     
|                                      | Adjustments to reconcile net loss to net cash
used in operating activities: |                                                   |                                                          |                                                     |        |                         |         |         |        |        |         |         |       
|                                      |                                                                             | Depreciation and amortization                     |                                                          |                                                     | 6,248  |                         |         |         | 6,512  |        |         |         | 2,814  |     
|                                      |                                                                             | Loss from equity investments                      |                                                          |                                                     | 235    |                         |         |         | 8,998  |        |         |         | 29,252 |     
|                                      |                                                                             | Loss on sale of equipment                         |                                                          |                                                     |       |                         |         |         | 34     |        |         |         |       |     
|                                      |                                                                             | Loss from impairment of goodwill                  |                                                          |                                                     |       |                         |         |         | 11,444 |        |         |         | 788    |     
|                                      |                                                                             | Allowance for doubtful accounts and sales returns |                                                          |                                                     | 341    |                         |         |         | 1,131  |        |         |         | 226    |     
|                                      |                                                                             | Stock based compensation                          |                                                          |                                                     | 12,612 |                         |         |         | 20,820 |        |         |         | 4,981  |     
|                                      |                                                                             | Changes in operating assets and liabilities:      |                                                          |                                                     |        |                         |         |         |        |        |         |         |        |     
|                                      |                                                                             |                                                   | Accounts receivable                                      |                                                     |        | (288                    | )       |         |        | 647    |         |         |        | (306 | )      
|                                      |                                                                             |                                                   | Prepaid expenses and other current assets                |                                                     |        | 3,638                   |         |         |        | 328    |         |         |        | 356  |        
|                                      |                                                                             |                                                   | Other assets                                             |                                                     |        | 2,476                   |         |         |        | 241    |         |         |        | (390 | )      
|                                      |                                                                             |                                                   | Accounts payable, accrued expenses and other liabilities |                                                     |        | (1,032                  | )       |         |        | (2,449 | )       |         |        | (798 | )      
|                                      |                                                                             |                                                   | Deferred revenue                                         |                                                     |        | (19                     | )       |         |        | 2      |         |         |        | 108  |        
|                                      |                                                                             |                                                   |                                                          |                                                     |        |                         |         |         |        |        |         |        
|                                      |                                                                             |                                                   |                                                          | Net cash used in continuing operations              |        |                         | (37,288 | )       |        |        | (22,219 | )       |        |      | (11,308 | )
|                                      |                                                                             |                                                   |                                                          | Net cash provided by discontinued operations        |        |                         | 2,191   |         |        |        | 47      |         |        |      | 147     |  
|                                      |                                                                             |                                                   |                                                          |                                                     |        |                         |         |         |        |        |         |        
|                                      |                                                                             |                                                   |                                                          | Net cash used in operating activities               |        |                         | (35,097 | )       |        |        | (22,172 | )       |        |      | (11,161 | )
|                                      |                                                                             |                                                   |                                                          |                                                     |        |                         |         |         |        |        |         |        
|Cash flows from investing activities: |                                                                             |                                                   |                                                          |                                                     |        |                         |         |         |        |        |         |        
|                                      | Purchases of property and equipment                                         |                                                   |                                                          | (7,523                                              | )      |                         |         | (840    | )      |        |         | (381    | )     
|                                      | Proceeds from the sales of equipment                                        |                                                   |                                                          |                                                    |        |                         |         | 60      |        |        |         | 15      |       
|                                      | Sale/maturity (purchase) of short-term investments, net                     |                                                   |                                                          | (36,368                                             | )      |                         |         | 17,996  |        |        |         | 12,316  |       
|                                      | Cash paid for acquisitions                                                  |                                                   |                                                          | (2,015                                              | )      |                         |         |        |        |        |         |        |       
|                                      | Loss from investments in affiliated companies                               |                                                   |                                                          | (250                                                | )      |                         |         | (279    | )      |        |         |        |       
|                                      | Advances to and investment in ARTISTdirect Records                          |                                                   |                                                          |                                                    |        |                         |         | (5,300  | )      |        |         | (25,000 | )     
|                                      | Sale of equity interest in ARTISTdirect Records                             |                                                   |                                                          |                                                    |        |                         |         |        |        |        |         | 250     |       
|                                      | Investments in trademarks                                                   |                                                   |                                                          | (120                                                | )      |                         |         |        |        |        |         |        |       
|                                      | Distribution of earnings from equity investment                             |                                                   |                                                          |                                                    |        |                         |         | 5       |        |        |         |        |       
|                                      |                                                                             |                                                   |                                                          |                                                     |        |                         |         |         |        |        |         |        
|                                      |                                                                             |                                                   |                                                          | Net cash (used in) provided by investing activities |        |                         | (46,276 | )       |        |        | 11,642  |         |        |      | (12,800 | )
|                                      |                                                                             |                                                   |                                                          |                                                     |        |                         |         |         |        |        |         |        
|Cash flows from financing activities: |                                                                             |                                                   |                                                          |                                                     |        |                         |         |         |        |        |         |        
|                                      | Repurchase of common stock                                                  |                                                   |                                                          |                                                    |        |                         |         | (2,734  | )      |        |         |        |       
|                                      | Rescission purchases of common stock and options                            |                                                   |                                                          |                                                    |        |                         |         | (10,186 | )      |        |         |        |       
|                                      | Change in restricted cash                                                   |                                                   |                                                          |                                                    |        |                         |         | (3,008  | )      |        |         | 851     |       
|                                      | Proceeds from employee stock purchase plan                                  |                                                   |                                                          | 40                                                  |        |                         |         | 17      |        |        |         | 4       |       
|                                      | Payment of notes to shareholders                                            |                                                   |                                                          | (741                                                | )      |                         |         |        |        |        |         |        |       
|                                      | Proceeds from exercise of stock options                                     |                                                   |                                                          | 1,553                                               |        |                         |         |        |        |        |         |        |       
|                                      | Proceeds from issuance of preferred securities                              |                                                   |                                                          | 15,224                                              |        |                         |         |        |        |        |         |        |       
|                                      | Payment of Series C redeemable preferred stock offering costs               |                                                   |                                                          | (4,800                                              | )      |                         |         |        |        |        |         |        |       

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ARTISTDIRECT, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF CASH FLOWS (continued)
(IN THOUSANDS)

|                                                    |                                                                   |   |         |        |  |                         |         |      |  |      |         |   |  |  |  | 
|--------------------------------------------------- | ----------------------------------------------------------------- | - | ------- | ------ |  | ----------------------- | ------- | ---- |  | ---- | ------- | - |  |  |  | 
|                                                    |                                                                   |   |         |        |  | YEAR ENDED DECEMBER 31,
|                                                    |                                                                   |   |         |        |  |                        
|                                                    |                                                                   |   |         |        |  | 2000                    |         | 2001 |  | 2002
|                                                    |                                                                   |   |         |        |  |                         |         |      |  |     
|                                                    | Proceeds from initial public offering, net of offering costs paid |   |         | 52,435 |  |                         |         |     |  |      |         |  | 
|                                                    |                                                                   |   |         |        |  |                         |         |      |  |      |         |  
|Net cash provided by (used in) financing activities |                                                                   |   | 63,711  |        |  |                         | (15,911 | )    |  |      | 855     |  
|                                                    |                                                                   |   |         |        |  |                         |         |      |  |      |         |  
|Net decrease in cash and cash equivalents           |                                                                   |   | (17,662 | )      |  |                         | (26,441 | )    |  |      | (23,106 | )
|Cash and cash equivalents at beginning of period    |                                                                   |   | 69,119  |        |  |                         | 51,457  |      |  |      | 25,016  |  
|                                                    |                                                                   |   |         |        |  |                         |         |      |  |      |         |  
|Cash and cash equivalents at end of period          |                                                                   | $ | 51,457  |        |  | $                       | 25,016  |      |  | $    | 1,910   |  
|                                                    |                                                                   |   |         |        |  |                         |         |      |  |      |         |  
|Supplemental disclosure of cash flow information:   |                                                                   |   |         |        |  |                         |         |      |  |      |         |  
|                                                    | Cash paid during the period for interest                          |   | $       | 43     |  |                         | $       | 11   |  |      | $       |  | 
|                                                    |                                                                   |   |         |        |  |                         |         |      |  |      |         |  
|                                                    | Cash paid during the period for taxes                             |   | $       |       |  |                         | $       |     |  |      | $       |  | 
|                                                    |                                                                   |   |         |        |  |                         |         |      |  |      |         |  

See accompanying notes to consolidated financial statements.

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1. BASIS OF PRESENTATION

ORGANIZATION

ARTISTdirect, Inc. (the Company) was formed on October 6, 1999 upon its
merger with ARTISTdirect, LLC (the Capital Reorganization). The Capital
Reorganization was only a change in the form of ownership of the Company.
ARTISTdirect, LLC was organized as a California limited liability company and
commenced operations on August 8, 1996. ARTISTdirect, LLC had a 99% ownership
interest in ARTISTdirect Agency LLC, Kneeling Elephant Records, LLC and
ARTISTdirect New Media, LLC (Affiliated Companies) and has consolidated their
results since inception. On May 31, 2001, the Company, through its
wholly-owned subsidiary, ARTISTdirect Recordings, Inc., agreed to acquire a 50%
equity interest in a joint venture with Frederick W. (Ted) Field to form a new
record label, ARTISTdirect Records, LLC (ARTISTdirect Records). This
transaction became effective as of June 29, 2001. In April 2002, the Companys
ownership position in ARTISTdirect Records decreased to 45% as a result of a
sale of a 5% interest to BMG Music. However, the Companys ownership position
increased to 65% as of December 31, 2002, as a result of the Companys
agreement to accelerate its funding commitment to ARTISTdirect Records (see
Note 9).

PRINCIPLES OF CONSOLIDATION

The accompanying financial statements include the consolidated accounts of
the Company and its subsidiaries in which it has controlling interests in the
form of voting and operating control. All significant intercompany accounts
and transactions have been eliminated for all periods presented. With respect
to ARTISTdirect Records, the Company has recorded 100% of the losses
attributable to that venture through April 30, 2002 based on the Companys
commitment to fund 100% of its operations up to that time. As of May 1, 2002,
the Company began to record approximately 83% of ARTISTdirect Records losses
as a result of BMGs equity purchase from and assumption of a portion of the
Companys funding commitment to the label. However, given that the Company
does not have voting or operating control, even with its majority ownership
position, the Company accounts for this investment under the equity method of
accounting as income (loss) from equity investments in the consolidated
statements of operations.

GOING CONCERN

The Company has incurred losses and negative cash flows from operations in
every fiscal period since inception and has an accumulated deficit of $201
million as of December 31, 2002. For the year ended December 31, 2002, the
Company incurred a net loss of $48.2 million and negative operating cash flows
of $11.2 million. Additionally, the Company has been funding substantially all
of the operations of ARTISTdirect Records, LLC, its record label joint venture.
The Companys operations to date and loans to ARTISTdirect Records, LLC have
been funded by sales of its preferred and common stock. Management expects its
operating losses and the operating losses of ARTISTdirect Records, LLC to
continue for the foreseeable future. The Company currently anticipates
that available cash reserves may likely not be sufficient to meet anticipated needs for
working capital and capital expenditures over the next twelve months without
additional capital. The Company is attempting to raise additional
funding, but does not have any formal commitments
as of the date of these financial statements. If such funding is not available,
then the Company may not be able to fund its own operations or the operations
of ARTISTdirect Records, LLC. The conditions described above raise
substantial doubt about the Companys ability to continue as a going concern.
The financial statements do not include any adjustments that might result from
the outcome of this uncertainty.

2. REVERSE STOCK SPLITS

On March 21, 2000, and July 5, 2001, the Company effected a 1 for 4
reverse stock split and a 1 for 10 reverse stock split (the Reverse Stock
Splits), respectively. The outstanding common securities, options and
warrants have been retroactively adjusted to reflect the Reverse Stock Splits.
All discussion of equity amounts in the following footnotes reflects the effect
of the Reverse Stock Splits.

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3. SIGNIFICANT ACCOUNTING POLICIES

CASH EQUIVALENTS

Cash equivalents consist of investments, which are readily convertible
into cash and have maturities of three months or less at the time of purchase.

RESTRICTED CASH

Restricted cash consists of a letter of credit posted for the benefit of
the Companys landlord in the amount of approximately $1.8 million and a letter
of credit posted for the benefit of the Companys e-commerce credit card
processor in the amount of $350,000.

SHORT-TERM INVESTMENTS

The Company classifies its short-term investments as available-for-sale
and has recorded the investments at fair value, with the difference between
amortized cost and fair value being recorded as a component of stockholders
equity. Prior to December 31, 2001, the Companys short-term investments were
classified as held-to-maturity as the Company had the intent and ability to
hold the securities to maturity. The securities were stated at amortized cost,
adjusted for amortization of premiums and accretion discounts to maturity.
The Company invests primarily in fixed income securities with maturities of one
year or less at the time of purchase.

DEPRECIATION

Depreciation is provided using the straight-line method over the following
estimated useful lives:

|                                |  |                                                            
|------------------------------- |  | -----------------------------------------------------------
|Computer equipment and software |  | 3 years                                                    
|Furniture and fixtures          |  | 7 years                                                    
|Leasehold improvements          |  | Lesser of estimated
useful life or life of
lease (10 years)

REVENUE RECOGNITION

E-commerce revenue consist primarily of the gross amount of sales revenue
paid by the customer for recorded music and merchandise sold via the Internet,
including shipping fees, and is recognized when the products are shipped. The
Company records e-commerce revenue on a gross basis as the Company enters into
the sale transactions with customers, establishes the prices of the products,
chooses the suppliers of the products, assumes the risk of inventory loss and
collects all amounts from the customers and assumes the credit risk.
E-commerce revenue is subject to amounts due to the respective artists based on
their contracts, and such expense is recorded as part of direct cost of product
sales.

The Company records amounts charged to customers for shipping and handling
in accordance with Emerging Issues Task Force 00-10, Accounting for Shipping
and Handling Fees and Costs. Pursuant to EITF 00-10, the Company records
amounts charged to customers for shipping and handling as revenue, and records
the related costs incurred for shipping and handling to direct cost of product
sales in the consolidated statements of operations. For the years ended
December 31, 2000, 2001 and 2002, the Company recorded $1.9 million, $1.5
million and $1.0 million, respectively, as revenue for shipping and handling
fees charged to customers. For the years ended December 31, 2000, 2001 and
2002, the Company recorded $1.6 million, $1.1 million and $736,000,
respectively, of shipping and handling costs as direct cost of product sales in
the consolidated statements of operations.

Media revenue consists primarily of the sale of advertisements and
sponsorships, both online and offline, under short-term contracts. To date,
the duration of the Companys advertising and sponsorship commitments has
generally averaged from one to three months with certain programs lasting up to
six months. The Companys online obligations typically include the guarantee
of a minimum number of impressions or times that an advertisement appears in
pages viewed by the users of the Companys online properties. Online
advertising revenue is generally

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recognized as the impressions are served during the period in which the
advertisement is displayed, provided that no significant obligations of the
Company remain and collection of the resulting receivable is reasonably
assured.

The Company recognizes revenue for sponsorship arrangements, both online
and offline, over the period during which the advertising is provided,
generally on a straight-line basis. If the sponsorship arrangement is for the
sponsorship of a specific event, the Company recognizes revenue when
the event occurs. The Company recognizes revenue separately for each element of
integrated entertainment marketing packages that offer advertisers a
combination of off-line concert and tour sponsorships that are supported by
on-line banner advertising, web page sponsorships, emails to the Companys
customers and custom content. The Company determines the fair value of each
deliverable based on the fair value of the different deliverables when sold on
a stand-alone basis. The Company recognizes revenue for each deliverable as
the services are provided. The Company recognizes revenue for the banner
impression deliverable as the banner impressions are delivered. The Company
recognizes revenue for the customer emails when the emails are sent. The
Company recognizes revenue for web page sponsorships on a straight-line basis
over the term of the sponsorship. The Company recognizes revenue for the
custom content when the content is provided to the customer. The Company
recognizes revenue for event sponsorships when the event has occurred.

The Company in the past has entered into several contracts with
advertisers whereby the parties exchanged online and offline advertising. This
revenue was recognized as trade and barter. Trade and barter is valued based
upon similar cash transactions, which have been entered into within six months
prior to the respective trade and barter agreement. Trade and barter revenue
was $309,000, $0 and $0 for years ended December 31, 2000, 2001 and 2002,
respectively.

iMusic record label revenue consists primarily of the sale of compact
discs by artists signed to iMusic, the brand name used by the Company for the
record label operated by its wholly owned subsidiary ARTISTdirect Digital, Inc.
The Company recognizes revenues upon the shipment of compact discs from its
distributor to retailers and independent wholesalers and records appropriate
reserves for product returns. At the time of the shipment of the product, the
following criterion under Statement of Financial Accounting Standards (SFAS)
No. 48, Revenue Recognition When Right of Return Exists, have been met: the
sellers price to the buyer is substantially fixed or determinable at the date
of sale; the buyer has paid the seller, or the buyer is obligated to pay the
seller and the obligation is not contingent on resale of the product; the
buyers obligation to the seller would not be changed in the event of theft or
physical destruction or damage of the product; the buyer acquiring the product
for resale has economic substance apart from that provided by the seller; the
seller does not have significant obligations for future performance to directly
bring about resale of the product by the buyer; the amount of future returns
can be reasonably estimated.

The Company estimates the provision for returns on a quarterly basis by
album based on the amount of time since the initial album release, the actual
returns to date, the trend of sales activity (sales by the retailers and
wholesalers) and the number of unsold units at retailers and wholesalers.
Returns to the Companys distributor are deemed to be returns to the Company.
The iMusic record label revenues recorded for the year ended December 31, 2002
are net of a provision for returns of $265,000.

COST OF REVENUE

Direct cost of product sales consists of amounts payable to artists
related to e-commerce sales, which includes the cost of merchandise sold and
the artists share of net proceeds, and online commerce transaction costs,
including credit card fees, fulfillment charges and shipping costs. Direct
cost of product sales also includes manufacturing costs and distribution fees
payable related to the sales of the iMusic record label. Other cost of revenue
consists primarily of Web site hosting and maintenance costs, online content
programming costs, online advertising serving costs, record royalties payable
to iMusic artists and payroll and related expenses for staff involved with the
Website. Stock-based compensation expense relates to non-cash charges in
connection with options issued to artists and their advisors for the right to
operate their stores and warrants issued to vendors. Amounts payable to
artists and transaction costs are recognized upon shipment. Website-related
costs are recognized immediately when incurred.

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Payroll and related expenses are recognized in the period incurred.
Non-cash stock-based compensation charges are recognized over the period of the
related agreements.

DISCONTINUED OPERATIONS

The Company has accounted for its Agency division as a discontinued
operation in accordance with Accounting Principles Board (APB) No. 30,
Accounting for Discontinued Operations, and recorded the net results of this
business segment in a single line entitled Income from discontinued
operations in the Statement of Operations for the years ended December 31,
2000, 2001 and 2002. The classification of the Agency division as a
discontinued operation was made prior to the initial application of SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets. Agency
commission revenue is recognized in accordance with the terms of the
representation agreements between the Company and its clients. Revenue is
generally recorded upon payment for the performance of services or delivery of
materials created by the artists represented.

INVENTORIES

Inventories, included in prepaid expenses and other current assets,
consist of music-related merchandise, amounts advanced for inventory on behalf
of artists, and unsold finished goods for the iMusic record label, and are
stated at the lower of cost or net realizable value. Cost is determined using
the first-in, first-out method.

INCOME TAXES

The Company accounts
for income taxes under the asset and liability method whereby
deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases. Deferred tax assets and liabilities are measured using enacted tax
rates expected to apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled. The effect on deferred
tax assets and liabilities of a change in tax rates is recognized in income in
the period that includes the enactment date.

WEB SITE DEVELOPMENT COSTS

Web site development costs consist primarily of third-party development
costs and payroll and related expenses for in-house Web site development costs
incurred in the start-up and production of the Companys content and services.
These costs are expensed as incurred. The implementation of Emerging Issues
Task Force No. 00-02 Accounting for Web site Development Costs, effective
July 1, 2000, did not have a material impact on the consolidated financial
statements.

ADVERTISING COSTS

Advertising costs are expensed as incurred and totaled $14.7 million, $2.7
million and $1.0 million during the years ended December 31, 2000, 2001 and
2002, respectively.

IMPAIRMENT OF LONG-LIVED ASSETS AND GOODWILL

Prior to January 1, 2002, the Company periodically reviewed the carrying
amount of long-lived assets and goodwill to determine whether current events or
circumstances warranted adjustments to such carrying amounts. An impairment
adjustment was necessary in the event the net book value of such long-lived
assets and goodwill exceeded the future undiscounted cash flows attributable to
such assets. In such an event, the loss would be measured by the amount that
the carrying value of such assets exceeded their fair value, as determined
based on estimated discounted cash flows.

In 2001, the Company determined that the remaining goodwill associated
with the acquisition of Mjuice was fully impaired due to the Companys decision
to wind down the related operation and recorded a loss from impairment of $4.5
million. In addition, due to the decline in advertising revenues, the Company
determined that there was insufficient basis to support the entire carrying
amount of goodwill associated with the 1999 acquisitions

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of iMusic and UBL based upon the projected undiscounted future cash flows
related to the underlying assets of these goodwill amounts and recorded a loss
from impairment of $7.0 million based on the estimated discounted cash flows.
For the year ended December 31, 2001, the Company recorded an aggregate $11.4
million loss from impairment of goodwill. Both of these write-downs were
reflected in the Media segment operations.

Prior to January 1, 2002, the Company amortized goodwill, which represents
the excess of the purchase price over the net assets acquired in business
acquisitions, over 5 years. In January 2002, the Company adopted SFAS No. 142,
Goodwill and Other Intangible Assets and as a result, has ceased to amortize
goodwill. Instead, the Company was required to perform a transitional
impairment review of its goodwill as of January 1, 2002 and an annual
impairment review thereafter. The Company evaluated the impact of the adoption
of SFAS No. 142 and determined that no impairment charge was required upon
adoption of this standard. Its impairment test was performed through comparison
of the fair value of the reporting units with the carrying value of their
assets. In the second quarter of 2002, the Company determined the remaining
goodwill associated with the iMusic and UBL acquisitions of $788,000 was
impaired due to a continuing decline in e-commerce and advertising revenues,
and recorded a loss from impairment of that amount. This write-down was
reflected in the Media segment operations. The fair value of the reporting
unit to which the goodwill impairment related was determined based on the
discounted estimated future cash flows. The discount rate used in the
discounted cash flow analysis was determined based on the estimated cost of
capital in the industry in which the Media segment operates. As of December 31,
2002, no goodwill or intangible assets remain on the Companys balance
sheet.

Impairment of long-lived assets is monitored on a continuing basis, and is
assessed based on the undiscounted cash flows generated by the underlying
assets. In the event the carrying amount of long-lived assets exceed the
undiscounted future cash flows, then the carrying amount of such assets is
adjusted to their fair value. There was no impairment of long-lived assets as
of December 31, 2002.

CONCENTRATION OF CREDIT RISK AND SUPPLIER RISK

Financial instruments that potentially subject the Company to significant
concentrations of credit risk consist principally of cash, short-term
investments and trade accounts receivable. The Company places its cash and
short-term investments in high credit quality instruments. Cash balances at
certain financial institutions may exceed the FDIC insurance limits. The
Company performs ongoing credit evaluations of its customers but does not
require collateral. Exposure to losses on receivables is principally dependent
on each customers financial condition. The Company monitors its exposure to
credit losses and maintains allowances for anticipated losses.

The Company purchases a large percentage of its music-related merchandise
inventory from a limited number of suppliers. The Company is subject to risk
in the event that any of the suppliers is unable to fulfill their orders.

FAIR VALUE OF FINANCIAL INSTRUMENTS

The carrying amounts of financial instruments, which include cash and cash
equivalents, short-term investments, accounts receivable, accounts payable and
accrued expenses, approximate fair value because of the short maturity of these
instruments.

LIABILITY ASSOCIATED WITH INVESTMENTS IN AFFILIATED COMPANIES

Investments in affiliated companies in which the Companys voting interest
is greater than 20% and does not have a controlling financial interest, or in
which the Company is able to exert significant influence in instances where the
voting interest is less than 20%, are accounted for under the equity method of
accounting. Under this method, the investment, originally recorded at cost, is
adjusted to recognize the Companys share of the net earnings or losses of the
affiliates as they occur rather than as dividends or other distributions
received. The Companys share of losses is generally limited to the extent of
the Companys investment in and advances to the investee. However, the Company
records losses in excess of its investment when funding commitments exist. The
Company is accounting for its investment in ARTISTdirect Records, a limited
liability company with Ted Field that was formed in July 2001, on the equity
method of accounting since the Company does not have voting or operational
control of the investee. The Company had committed to fund 100% of the
operations of ARTISTdirect Records and

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has recorded 100% of the losses attributable to that venture from
inception to April 30, 2002. From May 1, 2002, the Companys funding commitment
was reduced by the sale of 5% of ARTISTdirect Records equity to BMG and
therefore the Company has recorded only its proportionate share, on the basis
of relative funding commitments, of any future losses of ARTISTdirect Records.
The Company has recorded a liability related to this investment as of December 31,
2001 and 2002 as the Companys share of losses exceeded their advances in
2001 and 2002.

The Company records a valuation allowance on loans to AD Records in the
period in which it appears that the loan is no longer collectible. To date,
the Company has not recorded a valuation allowance on its loans to AD Records
as the carrying amount of the loans has been reduced to zero as a result of the
Company recording its share of losses of AD Records as of December 31, 2001 and
2002.

LOSS PER COMMON SHARE

The Company computes net loss per share in accordance with SFAS No. 128,
Earnings per Share and Securities and Exchange Commission Staff Accounting
Bulletin No. 98 (SAB 98). SFAS No. 128 requires companies with complex capital
structures to present basic and diluted EPS. Basic EPS is measured as the
income or loss available to common shareholders divided by the weighted average
outstanding common shares for the period. Diluted EPS is similar to basic EPS
but presents the dilutive effect on a per share basis of potential common
shares (e.g. convertible securities, options, etc.) as if they had been
converted at the beginning of the periods presented. Potential common shares
that have an anti-dilutive effect (i.e., those that increase income per share
or decrease loss per share) are excluded from diluted EPS. Dividends to
preferred shareholders and interest on the rescission offer balance have been
added to the net loss in determining the net loss attributable to common
shareholders.

Included in net loss attributable to common shareholders for the year
ended December 31, 2000 is the effect of the beneficial conversion feature of
the Series C redeemable preferred stock that converted into common shares as of
March 31, 2000 in connection with the initial public offering. The value of
the beneficial conversion feature was calculated based on the $24.00 per share
difference between the initial public offering price of $120.00 and the
effective conversion price of $96.00 multiplied by the 1,015,625 shares of
common stock issued to the Series C shareholders.

The diluted loss per share excludes approximately 980,000, 820,000 and
780,000 securities as of December 31, 2000, 2001 and 2002, respectively, since
the impact would be anti-dilutive.

STOCK-BASED COMPENSATION

The Company accounts for stock-based employee compensation in accordance
with the provisions of Accounting Principles Board (APB) Opinion No. 25 and
FASB Interpretation No. 44 (FIN 44), Accounting for Certain Transactions
Involving Stock Compensation, and complies with the disclosure requirements of
SFAS No. 123, Accounting for Stock-Based Compensation. Under APB No. 25,
compensation expense is recorded based on the difference, if any, between the
fair value of the Companys stock and the exercise price on the measurement
date. The Company accounts for stock issued to non-employees in accordance
with SFAS No. 123, which requires entities to recognize as expense over the
service period the fair value of all stock-based awards on the date of grant
and EITF 96-18, Accounting for Equity Investments that are Issued to Other
Than Employees for Acquiring, or in Conjunction with Selling, Goods or
Services, which addresses the measurement date and recognition approach for
such transactions.

The Company recognizes compensation expense related to variable awards in
accordance with FIN 28. For fixed awards, the Company recognizes expense over
the vesting period or the period of service.

Stock-based compensation is comprised of sales and marketing expense of
$2.2 million, $6.3 million and $1.9 million for the years ended December 31,
2000, 2001 and 2002, respectively, and general and administrative expense of
$2.9 million, $6.1 million and $31,000 for the years ended December 31, 2000,
2001 and 2002, respectively.

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Prior to the Companys initial public offering in March 2000, the Company
issued shares or options to purchase shares to employees, artists and advisors.
The issuance of these shares or options did not fully comply with certain
requirements under the Securities Act, or available exemptions there under, and
as a result the Company made a rescission offer to all these persons pursuant
to a registration statement filed under the Securities Act and pursuant to
California securities law.

As a result of completing the rescission offer in December 2001, the
Company incurred stock based compensation expense for the repurchase of
unexercised stock options held by employees and non-employees and shares of
common stock held by employees and non-employees pursuant to the exercise of
stock options. The compensation expense recorded for the repurchase of
unexercised stock options (vested and unvested) from employees was the sum of
the intrinsic value at the original measurement date (less any expense related
to the intrinsic value recorded up to the acceptance of the rescission offer)
and the amount of cash paid to the holder that exceeds the lesser of the
intrinsic value at the original measurement date or upon the completion of the
rescission offer. Such amount was recorded as expense immediately upon the
completion of the rescission offer.

The compensation expense recorded for the repurchase of unexercised
non-employee options (vested and unvested) was calculated as the difference
between the amount of cash paid for the repurchase of the options and the fair
value of the options on the closing date of the rescission offer. This
compensation expense was recorded over the period over which the non-employee
provided services to the Company pursuant to a contract. The fair value of the
options was determined using the Black-Scholes option-pricing model over the
remaining life of the options. Any unamortized expense at the time of
repurchase related to the initial grant of the options to the non-employees
continued to be amortized over the remaining service period related to the
original option grants. The key assumptions used in the Black Scholes model
for the purpose of the calculation were: a risk free rate of 6%; a volatility
factor of 98%; no expected dividends; and an expected life which was equal to
the remaining contractual life of the options as of December 31, 2001.

The compensation expense for the repurchase of shares issued pursuant to
the exercise of options (by employees and non-employees) was calculated as the
difference between the amount of cash paid for the repurchase of the shares and
the fair value of the shares on the date the repurchase. The compensation
expense related to the repurchase of shares from employees was recorded at the
time of repurchase, and the compensation expense related to the repurchase of
shares from non-employees was recorded over the period over which services were
being provided.

Pro forma information regarding net loss per share is required by SFAS 123, and has been determined as if the Company had accounted for its employee
stock options under the fair value method of such statement. The fair value for
these options was estimated at the date of grant using the Black-Scholes
option-pricing model. The assumptions used in the model and the weighted
average fair value of each option granted for 2000, 2001 and 2002 are as
follows:

|                                       |  |      |       |      |  |      |      |   |  |   |      |  
|-------------------------------------- |  | ---- | ----- | ---- |  | ---- | ---- | - |  | - | ---- | -
|                                       |  | 2000 |       | 2001 |  | 2002
|                                       |  |      |       |      |  |     
|Risk free interest rate                |  |      | 6.38  | %    |  |      | 6.38 | % |  |   | 4.00 | %
|Volatility                             |  |      | 100   | %    |  |      | 180  | % |  |   | 120  | %
|Dividend yield                         |  |      | 0     | %    |  |      | 0    | % |  |   | 0    | %
|Weighted average expected life (years) |  |      | 5     |      |  |      | 5    |   |  |   | 5    |  
|                                       |  |      |       |      |  |      |      |   |  |   |      |  
|Weighted average fair value of option  |  | $    | 58.30 |      |  | $    | 6.05 |   |  | $ | 6.13 |  

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For purpose of pro forma disclosures, the estimated fair value of the options
is amortized into expense over the options vesting period. The Companys pro
forma information follows (in thousands, except per share amount):

|                                                         |                                                                                           |   |                                       |        |      |   |        |        |  |   |        |     | 
|-------------------------------------------------------- | ----------------------------------------------------------------------------------------- | - | ------------------------------------- | ------ | ---- | - | ------ | ------ |  | - | ------ | --- | 
|                                                         |                                                                                           |   | Year Ended December 31,              
|                                                         |                                                                                           |   |                                      
|                                                         |                                                                                           |   | 2000                                  |        | 2001 |   | 2002  
|                                                         |                                                                                           |   |                                       |        |      |   |       
|                                                         |                                                                                           |   | (in thousands, except for share data)
|Net loss as reported attributable to
common shareholders |                                                                                           | $ | 85,178                                |        |      | $ | 70,571 |        |  | $ | 48,192 |    
|Add:                                                     | Stock based compensation expense
reported in net loss attributable to
common shareholders |   |                                       | 4,748  |      |   |        | 3,558  |  |   |        | 31  | 
|Deduct:                                                  | Total stockbased
compensation expense determined under
fair value methods for all awards |   |                                       | 10,120 |      |   |        | 10,991 |  |   |        | 995 | 
|                                                         |                                                                                           |   |                                       |        |      |   |        |        |  |   |        |    
|Pro forma net loss                                       |                                                                                           | $ | 90,550                                |        |      | $ | 78,004 |        |  | $ | 49,156 |    
|                                                         |                                                                                           |   |                                       |        |      |   |        |        |  |   |        |    
|Net loss per share:                                      |                                                                                           |   |                                       |        |      |   |        |        |  |   |        |    
|Basic and diluted  as reported                          |                                                                                           | $ | (26.83                                | )      |      | $ | (19.49 | )      |  | $ | (13.92 | )  
|Basic and diluted  pro forma                            |                                                                                           | $ | (28.52                                | )      |      | $ | (21.54 | )      |  | $ | (14.20 | )  

COMPREHENSIVE LOSS

The Companys only component of other comprehensive income is the
unrealized gain (loss) on available for sale securities, which was a gain of
$146,000 and $78,000 as of December 31, 2001 and 2002, respectively. These
amounts have been recorded as a separate component of stockholders equity.

ESTIMATES

In preparing financial statements in conformity with generally accepted
accounting principles, management is required to make estimates and assumptions
that affect the reported amounts of assets and liabilities and the disclosures
of contingent assets and liabilities at the date of the financial statements
and revenues and expenses during the reporting period. Some of the more
significant estimates include allowances for bad debt, impairment of long-lived
assets and goodwill, stock based compensation and the valuation allowance on
deferred tax assets. Actual results could differ from those estimates.

RECLASSIFICATIONS

Certain reclassifications have been made to the 2000 and 2001 financial
statements to conform to the 2002 presentation.

RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

In July 2001, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 141, Business
Combinations and SFAS No. 142, Goodwill and Other Intangible Assets. SFAS
No. 141 requires that all business combinations be accounted for under the
purchase method. The statement further requires separate recognition of
intangible assets that meet one of two criteria. The statement applies to all
business combinations initiated after June 30, 2001.

SFAS No. 142 requires that an intangible asset that is acquired shall be
initially recognized and measured based on its fair value. The statement also
provides that goodwill should not be amortized, but shall be tested for
impairment annually, or more frequently if circumstances indicate potential
impairment, through a comparison of fair value to its carrying amount. SFAS No. 142 is generally effective for fiscal periods beginning after December 15, 2001
and the amortization provisions of SFAS No. 142 are effective for acquisitions
subsequent to June 30, 2001. The Company adopted SFAS No. 142 effective January 1, 2002 (See Notes 2 and 8).

In October 2001, the FASB issued SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets which addresses financial
accounting and reporting for the impairment or disposal of long-lived assets.
While SFAS No. 144 supersedes SFAS No. 121, Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to be Disposed Of, it retains many
of the fundamental provisions of that statement. SFAS No. 144 is effective for
fiscal years beginning after December 15, 2001. The adoption of SFAS No. 144
did not have a material impact on the Companys financial position, result of
operation and cash flow.

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In April 2002, the FASB issued SFAS No. 145, Rescission of FASB
Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical
Corrections (SFAS 145). SFAS 145 rescinds SFAS 4, which required all gains
and losses from extinguishment of debt to be aggregated and, if material,
classified as an extraordinary item, net of related income tax effect. Upon
adoption of SFAS 145, we will be required to apply the criteria in APB Opinion
No. 30, Reporting the Results of Operations  Reporting the Effects of Disposal
of a Segment of a Business, and Extraordinary, Unusual and Infrequently
Occurring Events and Transactions (Opinion No. 30), in determining the
classification of gains and losses resulting from the extinguishment of debt.
Additionally, SFAS 145 amends SFAS 13 to require that certain lease
modifications that have economic effects similar to sale-leaseback transactions
to be accounted for in the same manner as sale-leaseback transactions. SFAS
145 will be effective for fiscal years beginning after May 15, 2002 with early
adoption of the provisions related to the rescission of SFAS 4 encouraged.
Upon adoption, companies must reclassify prior period items that do not meet
the extraordinary item classification criteria in Opinion No. 30. The adoption
of SFAS 145 for long-lived assets held for use did not have a material impact
on the Companys consolidated financial statements.

In June 2002, the FASB issued SFAS No. 146, Accounting for Costs
Associated with Exit and Disposal Activities. SFAS 146 nullifies Emerging
Issues Task Force (EITF) issue 94-3, Liability Recognition for Certain Employee
Termination Benefits and Other Costs to Exit an Activity (including Certain
Costs Incurred in a Restructuring). Under EITF issue 94-3, a liability for an
exit cost is recognized at the date of an entitys commitment to an exit plan.
Under SFAS 146, the liabilities associated with an exit or disposal activity
will be measured at fair value and recognized when the liability is incurred
and meets the definition of a liability in the FASBs conceptual framework.
This statement is effective for exit or disposal activities initiated after
December 31, 2002. The Company believes that the adoption of SFAS 146 will not
have a material impact on its consolidated financial statements.

In November 2002, the FASB issued Interpretation No. 45, Guarantors
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness to Others (FIN 45), an interpretation of FASB
Statements Nos. 5, 57 and 107 and a rescission of FASB Interpretation No. 34.
FIN 45 elaborates on the disclosures to be made by a guarantor in its interim
and annual financial statements about its obligations under guarantees issued.
FIN 45 also clarifies that a guarantor is required to recognize, at inception
of a guarantee, a liability for the fair value of the obligation undertaken.
The initial recognition and measurement provisions of FIN 45 are applicable to
guarantees issued or modified after December 31, 2002 and are not expected to
have a material effect on the Companys financial position, result of operation
and cash flow. The disclosure requirements are effective for financial
statements of interim and annual periods ended after December 15, 2002.

In November 2002, the FASBs Emerging Issues Task Force (EITF) issued EITF
00-21 Revenue Arrangements with Multiple Deliverables. EITF 00-21 addresses
certain aspects of the accounting by a vendor for arrangements under which it
will perform multiple revenue-generating activities. Specifically, EITF 00-21
addresses how to determine whether an arrangement involving multiple
deliverables contains more than one unit of accounting. In applying EITF
00-21, separate contracts with the same entity or related parties that are
entered into at or near the same time are presumed to have been negotiated as a
package and should, therefore, be evaluated as a single arrangement in
considering whether there are one or more units of accounting. That
presumption may be overcome if there is sufficient evidence to the contrary.
EITF 00-21 also addresses how arrangement consideration should be measured and
allocated to the separate units of accounting in the arrangement. The guidance
in this Issue is effective for revenue arrangements entered into in fiscal
periods beginning after June 15, 2003. Alternatively, companies may elect to
report the change in accounting as a cumulative-effect adjustment. Early
application of this consensus is permitted. The adoption of this accounting
pronouncement may have a significant impact on the Companys financial
statements.

In December 2002, the FASB issued SFAS No. 148, Accounting for
Stock-Based CompensationTransition and Disclosurean amendment of SFAS No. 123. This statement provides alternative methods of transition for a voluntary
change to the fair value based method of accounting for stock-based employee
compensation. This statement also amends the disclosure requirements of SFAS
No. 123 and APB Opinion No. 28, Interim Financial Reporting, to require
prominent disclosures in both annual and interim financial statements about the
method of

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accounting for stock-based employee compensation and the effect of the
method used on reported results. Certain of the disclosure modifications are
required for fiscal years ending after December 15, 2002 and are included in
the Notes to these Consolidated Financial Statements. The Company will
implement SFAS No. 148 effective January 1, 2003 regarding disclosure
requirements for condensed financial statements for interim periods. The
Companys management has determined that they will continue to account for
stock-based employee compensation in accordance with APB No. 25.

In February 2003, the FASB issued Interpretation No. 46, Consolidation of
Variable Interest Entities (FIN 46), which addresses the consolidation by
business enterprises of variable interest entities, which have one or both of
the following characteristics: (1) the equity investment at risk is not
sufficient to permit the entity to finance its activities without additional
financial support from other parties, or (2) the equity investors lack one or
more of the following essential characteristics of a controlling financial
interest: (a) the direct or indirect ability to make decisions about the
entitys activities through voting or similar rights, (b) the obligation to
absorb the expected losses of the entity if they occur, or (c) the right to
receive the expected residual returns of the entity if they occur. FIN 46 will
have a significant effect on existing practice because it requires existing
variable interest entities to be consolidated if those entities do not
effectively disburse risks among parties involved. In addition, FIN 46
contains detailed disclosure requirements. FIN 46 applies immediately to
variable interest entities created after January 31, 2003, and to variable
interest entities in which an enterprise obtains an interest after that date.
It applies in the first fiscal year or interim period beginning after June 15,
2003, to variable interest entities in which an enterprise holds a variable
interest that it acquired before February 1, 2003. This Interpretation may be
applied prospectively with a cumulative-effect adjustment as of the date on
which it is first applied or by restating previously issued financial
statements for one or more years with a cumulative-effect adjustment as of the
beginning of the first year restated. The adoption of this pronouncement may
have a significant impact on the Companys consolidated financial statements.

4. SUPPLEMENTAL DISCLOSURES TO CONSOLIDATED STATEMENTS OF CASH FLOWS

Significant non-cash investing and financing activities are reflected in
the following table:

|                            |                                                                                 |                            |   |                         |       |      |   |        |   |  |   |    |   | 
|--------------------------- | ------------------------------------------------------------------------------- | -------------------------- | - | ----------------------- | ----- | ---- | - | ------ | - |  | - | -- | - | 
|                            |                                                                                 |                            |   | Year Ended December 31,
|                            |                                                                                 |                            |   |                        
|                            |                                                                                 |                            |   | 2000                    |       | 2001 |   | 2002  
|                            |                                                                                 |                            |   |                         |       |      |   |       
|                            |                                                                                 |                            |   | (in thousands)         
|Cash paid for acquisitions: |                                                                                 |                            |   |                         |       |      |   |        |   |  |   |   
|                            | Fair value of net assets acquired                                               |                            | $ | 5,077                   |       |      | $ |       |   |  | $ |   |  
|                            | Net liabilities assumed                                                         |                            |   | (203                    | )     |      |   |       |   |  |   |   |  
|                            | Common units/stock issued                                                       |                            |   | (2,859                  | )     |      |   |       |   |  |   |   |  
|                            |                                                                                 |                            |   |                         |       |      |   |        |   |  |   |   
|                            |                                                                                 | Cash paid for acquisitions |   | $                       | 2,015 |      |   | $      |  |  |   | $  |  | 
|                            |                                                                                 |                            |   |                         |       |      |   |        |   |  |   |   
|                            | Accrual of dividends on redeemable preferred securities                         |                            | $ | 963                     |       |      | $ |       |   |  | $ |   |  
|                            | Securities subject to potential rescission offer                                |                            | $ | 3,924                   |       |      | $ | 691    |   |  | $ |   |  
|                            | Issuance/cancellation of options/warrants                                       |                            | $ | (1,372                  | )     |      | $ | (2,362 | ) |  | $ | 31 |  
|                            | Depreciation of variable equity interests                                       |                            | $ | (6,645                  | )     |      | $ |       |   |  | $ |   |  
|                            | Conversion of redeemable common stock to common stock                           |                            | $ | 2,352                   |       |      | $ |       |   |  | $ |   |  
|                            | Issuance of stock appreciation rights/options                                   |                            | $ | 2,992                   |       |      | $ |       |   |  | $ |   |  
|                            | Conversion of redeemable preferred stock and
accrued dividends to common shares |                            | $ | 118,688                 |       |      | $ |       |   |  | $ |   |  

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5. SHORT-TERM INVESTMENTS

The Companys short-term investments consist of the following:

|                             |                   |   |                   |        |                   |   |        |        |           |   |       |       |  |   |       |       | 
|---------------------------- | ----------------- | - | ----------------- | ------ | ----------------- | - | ------ | ------ | --------- | - | ----- | ----- |  | - | ----- | ----- | 
|                             |                   |   | December 31, 2001 |        | December 31, 2002
|                             |                   |   |                   |        |                  
|                             |                   |   | Fair              |        |                   |   |        |        | Fair      |   |       |       | 
|                             |                   |   | Market            |        | Amortized         |   | Market |        | Amortized
|                             |                   |   | Value             |        | Cost              |   | Value  |        | Cost     
|                             |                   |   |                   |        |                   |   |        |        |          
|                             |                   |   | (in thousands)   
|U.S. corporate and bank debt |                   | $ | 16,526            |        |                   | $ | 16,380 |        |           | $ | 6,124 |       |  | $ | 6,056 |      
|U.S. government and agencies |                   |   | 1,991             |        |                   |   | 1,992  |        |           |   |      |       |  |   |      |      
|                             |                   |   |                   |        |                   |   |        |        |           |   |       |       |  |   |       |      
|                             | Total investments |   | $                 | 18,518 |                   |   | $      | 18,372 |           |   | $     | 6,124 |  |   | $     | 6,056 | 
|                             |                   |   |                   |        |                   |   |        |        |           |   |       |       |  |   |       |      

6. PROPERTY AND EQUIPMENT

Property and equipment are recorded at cost and consist of the following:

|                                |                             |   |                |       |      |   |        |       | 
|------------------------------- | --------------------------- | - | -------------- | ----- | ---- | - | ------ | ----- | 
|                                |                             |   | December 31,  
|                                |                             |   |               
|                                |                             |   | 2001           |       | 2002
|                                |                             |   |                |       |     
|                                |                             |   | (in thousands)
|Computer equipment and software |                             | $ | 8,342          |       |      | $ | 8,680  |      
|Furniture and fixtures          |                             |   | 1,710          |       |      |   | 1,737  |      
|Leasehold improvements          |                             |   | 2,674          |       |      |   | 2,674  |      
|                                |                             |   |                |       |      |   |        |      
|                                |                             |   | 12,726         |       |      |   | 13,091 |      
|Less accumulated depreciation   |                             |   | (6,649         | )     |      |   | (9,462 | )    
|                                |                             |   |                |       |      |   |        |      
|                                | Property and equipment, net |   | $              | 6,077 |      |   | $      | 3,629 | 
|                                |                             |   |                |       |      |   |        |      

7. ALLOWANCES FOR DOUBTFUL ACCOUNTS AND SALES RETURN RESERVE

A summary of the activity of the allowance for doubtful accounts for the
periods indicated is reflected in the following table:

|                                |  |                         |      |      |  |      |       |   |  |   |        |  
|------------------------------- |  | ----------------------- | ---- | ---- |  | ---- | ----- | - |  | - | ------ | -
|                                |  | Year Ended December 31,
|                                |  |                        
|                                |  | 2000                    |      | 2001 |  | 2002
|                                |  |                         |      |      |  |     
|                                |  | (in thousands)         
|Balance, beginning of period    |  | $                       | 89   |      |  | $    | 389   |   |  | $ | 1,584  |  
|Provision for doubtful accounts |  |                         | 653  |      |  |      | 1,503 |   |  |   | 42     |  
|Amounts charged off             |  |                         | (353 | )    |  |      | (308  | ) |  |   | (1,586 | )
|                                |  |                         |      |      |  |      |       |   |  |   |        |  
|Balance, end of period          |  | $                       | 389  |      |  | $    | 1,584 |   |  | $ | 40     |  
|                                |  |                         |      |      |  |      |       |   |  |   |        |  

A summary of the activity of the reserve for sales returns for the periods
indicated is reflected in the following table:

|                             |  |                         |      |      |  |      |      |   |  |   |      |  
|---------------------------- |  | ----------------------- | ---- | ---- |  | ---- | ---- | - |  | - | ---- | -
|                             |  | Year Ended December 31,
|                             |  |                        
|                             |  | 2000                    |      | 2001 |  | 2002
|                             |  |                         |      |      |  |     
|                             |  | (in thousands)         
|Balance, beginning of period |  | $                       | 34   |      |  | $    | 75   |   |  | $ | 11   |  
|Provision for sales returns  |  |                         | 244  |      |  |      | 248  |   |  |   | 403  |  
|Amounts charged off          |  |                         | (203 | )    |  |      | (312 | ) |  |   | (132 | )
|                             |  |                         |      |      |  |      |      |   |  |   |      |  
|Balance, end of period       |  | $                       | 75   |      |  | $    | 11   |   |  | $ | 282  |  
|                             |  |                         |      |      |  |      |      |   |  |   |      |  

8. GOODWILL

As described in Note 3, the Company adopted SFAS No. 142 in January 2002.
The following table reconciles the reported net loss for the years ended
December 31, 2000, 2001, and 2002 to their adjusted amounts, excluding

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previously reported goodwill amortization expense, which is no longer
recorded under the provisions of SFAS No. 142:

|                                                      |                       |   |                                   |        |      |   |         |        |   |   |         |        |  
|----------------------------------------------------- | --------------------- | - | --------------------------------- | ------ | ---- | - | ------- | ------ | - | - | ------- | ------ | -
|                                                      |                       |   | Year Ended December 31,          
|                                                      |                       |   |                                  
|                                                      |                       |   | 2000                              |        | 2001 |   | 2002   
|                                                      |                       |   |                                   |        |      |   |        
|                                                      |                       |   | (in thousands, except share data)
|Reported net loss attributable to
common shareholders |                       | $ | (85,178                           | )      |      | $ | (70,571 | )      |   | $ | (48,192 | )     
|Goodwill amortization                                 |                       |   | 3,594                             |        |      |   | 2,786   |        |   |   |        |       
|                                                      |                       |   |                                   |        |      |   |         |        |   |   |         |       
|Adjusted net loss                                     |                       | $ | (81,584                           | )      |      | $ | (67,785 | )      |   | $ | (48,192 | )     
|Basic and diluted loss per share:                     |                       |   |                                   |        |      |   |         |        |   |   |         |       
|                                                      | Reported net loss     |   | $                                 | (26.83 | )    |   | $       | (19.49 | ) |   | $       | (13.92 | )
|                                                      | Goodwill amortization |   |                                   | 1.13   |      |   |         | 0.77   |   |   |         |       |  
|                                                      |                       |   |                                   |        |      |   |         |        |   |   |         |       
|                                                      | Adjusted net loss     |   | $                                 | (25.70 | )    |   | $       | (18.72 | ) |   | $       | (13.92 | )
|                                                      |                       |   |                                   |        |      |   |         |        |   |   |         |       

While not contemplated by the disclosure requirements of SFAS No. 142, the
elimination of goodwill amortization in 2000 and 2001 would have increased the
related recorded balances of goodwill in these periods and accordingly would
have increased the loss from impairment of goodwill in 2001 and 2002 by
aggregate amounts equal to the eliminated goodwill amortization.

9. ACCRUED EXPENSES

Accrued expenses are comprised of the following:

|                            |                        |   |                |       |      |   |     |       | 
|--------------------------- | ---------------------- | - | -------------- | ----- | ---- | - | --- | ----- | 
|                            |                        |   | December 31,  
|                            |                        |   |               
|                            |                        |   | 2001           |       | 2002
|                            |                        |   |                |       |     
|                            |                        |   | (in thousands)
|Accrued cost of sales       |                        | $ | 979            |       |      | $ | 905 |      
|Accrued payroll and related |                        |   | 1,015          |       |      |   | 881 |      
|Accrued professional fees   |                        |   | 677            |       |      |   | 445 |      
|Sublease rent loss          |                        |   | 208            |       |      |   | 119 |      
|Accrued advertising costs   |                        |   | 457            |       |      |   | 9   |      
|Programming rights          |                        |   | 100            |       |      |   |    |      
|Other accrued expenses      |                        |   | 582            |       |      |   | 659 |      
|                            |                        |   |                |       |      |   |     |      
|                            | Total accrued expenses |   | $              | 4,018 |      |   | $   | 3,018 | 
|                            |                        |   |                |       |      |   |     |      

10. INVESTMENT IN ARTISTDIRECT RECORDS, LLC

In May 2001, the Company entered into an agreement with Frederick W. Ted
Field to become Chairman and Chief Executive Officer of ARTISTdirect and form a
new record label ARTISTdirect Records, LLC, in partnership with ARTISTdirect.
On June 29, 2001, ARTISTdirect stockholders approved the employment of Mr.
Field and the formation of the ARTISTdirect Records record label. ARTISTdirect
Records was formed as a 50/50 co-venture between ARTISTdirect and Mr. Field,
with the Company providing a $50 million financial commitment.

In November 2001, ARTISTdirect Records agreed in principle to enter into a
preliminary North America distribution agreement and worldwide license
agreement with BMG, the global music division of Bertelsmann AG. Under the
terms of the agreement, BMG Distribution will distribute the labels releases
in North America, and BMG will license ARTISTdirect Records repertoire in
territories throughout the world. In April 2002, the agreements

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with BMG were
finalized, including BMGs purchase of 5% of the equity of ARTISTdirect Records
from the
Company. As part of this transaction, BMG agreed to assume $5.0 million
of the Companys funding commitment to ARTISTdirect Records. The Company
initially committed to ARTISTdirect Records a total of $50 million over five
years with the Company committing to fund up to $15.0 million per year, subject
to a limit of $33 million in any three year period. Any funding in excess of
these amounts would require the approval of the Companys Board of Directors.
As a result of the BMG equity purchase, the Companys funding commitment was
reduced to $45 million.

In August 2002, the Companys Board of Directors approved an agreement
(the Bridge Loan Agreement) to accelerate up to $10 million of its funding
commitment to ARTISTdirect Records. This funding was in addition to the $15
million that the Company was obligated to advance to ARTISTdirect Records in
2002 as part of the initial $50 million funding commitment. During 2002, the
Company funded its $15 million commitment plus the additional $10 million
bridge loan for total advances to the record label of $25.0 million in 2002 and
$30.25 million from the inception of the record label through December 31,
2002. The $10 million of accelerated funding was credited toward the
satisfaction of the Companys overall funding commitment and funding obligation
for 2003 resulting in a remaining funding commitment of $2.75 million for 2003
and $12.0 million for 2004. The Companys commitment to fund ARTISTdirect
Records is subject to a guaranty for the benefit of BMG. Should the Company
fail to meet its commitment, BMG may choose to enforce the guaranty or provide
substitute financing that could result in dilution of the Companys interest in
ARTISTdirect Records.

As consideration for entering into the Bridge Loan Agreement and funding
the additional $10 million, the Company received an additional 20% interest in
ARTISTdirect Records from Radar Records Holdings, L.L.C. (FieldCo, the entity
through which Mr. Field owns his interest in ARTISTdirect Records) which
resulted in an increase in the Companys ownership share of ARTISTdirect
Records to 65% from 45% and a decrease in Mr. Fields ownership share to 30%
from 50%. The Bridge Loan Agreement also provides that any dilution from the
issuance of equity interests in ARTISTdirect Records that would have been borne
solely by the Company will be borne both by FieldCo and the Company pro rata
with their then respective ownership interests. Furthermore, the Bridge Loan
Agreement provides for FieldCo to guarantee a 25% minimum annual
compounded return to be realized from the Company's advances and
equity interests in ARTISTdirect Records, however, there can be no
assurance that such rate of return will be realized. Consequently, the Company
has not recorded any amounts related to the 25% minimum annual compounded
return.

ARTISTdirect Records will require capital in 2003 in addition to the $2.75
million commitment from the Company. As a result, the Company is pursuing
alternatives to raise additional capital for both itself and for ARTISTdirect
Records. However, there can be no assurance that additional capital can be
obtained by either the Company or by ARTISTdirect Records on reasonable terms
or at all. If additional funds were raised through the issuance of equity
securities of either the Company or ARTISTdirect Records, the percentage
ownership of the Companys current stockholders in the Company and/or
ARTISTdirect Records would be reduced. Failure to raise additional capital
could seriously harm the business of ARTISTdirect Records and impair the value
of the Companys investment in ARTISTdirect Records. In such event, we may
seek to divest all or certain of our assets or the entire company in order to
raise the capital necessary to sustain business operations. Should this fail
we may be forced to cease operations and seek bankruptcy protection or
undertake liquidation, potentially resulting in a total loss for stockholders.

Because the Company does not have voting or operating control of
ARTISTdirect Records, even with its majority ownership position, it does not
consolidate the results of ARTISTdirect Records and it records its share of
losses based on the equity method of accounting as loss from equity investments
in its consolidated statements of operations. Prior to the completion of BMGs
purchase of a 5% interest in ARTISTdirect Records in April 2002 and BMGs
assumption of 10% of the Companys total funding commitment, the Company had
committed to fund 100% of the operations of ARTISTdirect Records and has
recorded 100% of the losses attributable to that venture from inception of
ARTISTdirect Records to April 30, 2002. From May 1, 2002, the Company has
recorded only its proportionate share, on the basis of remaining relative
funding commitments, of any future losses of ARTISTdirect Records. The Company
recognized $8.6 million and $29.3 million of equity loss from the record label
for the years ended December 31, 2001 and 2002, respectively.

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The Company charged ARTISTdirect Records $200,000 and $1.35 million in
2001 and 2002, respectively, for the reimbursement of overhead costs including
rent and other occupancy costs and shared personnel. These
amounts are reflected as a reduction in general and administrative expense
in the Companys consolidated statements of operations.

The carrying amount of the Companys investment in ARTISTdirect Records
represents the difference between the Companys investment and advances and the
Companys share of losses from ARTISTdirect Records. The Company continues to
record the losses of ARTISTdirect Records to the extent it has additional
funding commitments. The Company records its loan advances to ARTISTdirect
Records as additional equity investments. As of December 31, 2001 and 2002, the
Companys share of losses exceeded the amount of the Companys investment and
advances to those dates, resulting in a credit balance of approximately $3.0
million and $7.7 million, respectively. Therefore, the carrying amounts have
been classified as a liability on the Companys balance sheet.

The Company has no recorded investment in the loans to ARTISTdirect
Records, as the carrying amount of the loans have been reduced to zero as a
result of the Company recording its share of losses of ARTISTdirect Records as
of December 31, 2001 and 2002. The Company does not record interest income on
the loans to ARTISTdirect Records.

A rollforward of the Companys net investment balance for the periods
indicated is as follows:

|                                                     |  |                |        |      |  |   |         |  
|---------------------------------------------------- |  | -------------- | ------ | ---- |  | - | ------- | -
|                                                     |  | December 31,  
|                                                     |  |               
|                                                     |  | 2001           |        | 2002
|                                                     |  |                |        |     
|                                                     |  | (in thousands)
|Balance, beginning of period                         |  | $              |       |      |  | $ | (3,027  | )
|Investment and advances                              |  |                | 5,300  |      |  |   | 25,000  |  
|Sale of equity interests                             |  |                |       |      |  |   | (250    | )
|Intercompany activity with ARTISTdirect Records, LLC |  |                | 187    |      |  |   | (186    | )
|Equity losses recorded                               |  |                | (8,514 | )    |  |   | (29,236 | )
|                                                     |  |                |        |      |  |   |         |  
|Balance, end of period                               |  | $              | (3,027 | )    |  | $ | (7,699  | )
|                                                     |  |                |        |      |  |   |         |  

See the separate financial statements for ARTISTdirect Records, LLC as an
exhibit to this Form 10-K.

11. INVESTMENTS IN OTHER AFFILIATED COMPANIES

The Company has a 45% ownership in SnoCore, LLC and accounts for the
investment under the equity method. The Company recorded equity income of
$15,000 and $48,000 for this investment for the years ended December 31, 2000
and 2001, respectively, and an equity loss of $16,000 for the year ended
December 31, 2002. The Company received distributions of $0, $5,000 and $0
from the investee during the years ended December 31, 2000, 2001 and 2002,
respectively.

During the year ended December 31, 2000, the Company entered into a joint
venture, ARTISTdirect Latin America, LLC in which the Company held a 50%
ownership interest. The Company made investments of $250,000 and $395,000
during the years ended December 31, 2000 and 2001, respectively, and recorded
these amounts as its share of losses under the equity method. During 2002, the
venture ceased operations and no additional investment was made or loss
recognized by the Company during 2002.

12. DISCONTINUED OPERATIONS

In December 2001, the Company made the decision to exit the music talent
agency business and as a result this segment has been classified as a
discontinued operation in the consolidated statement of operations for years
ended December 31, 2000, 2001 and 2002 and its net results are reflected as
Income from discontinued operations. The Agency business did not have any
significant assets or liabilities associated with it and no gain or loss has
been

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recognized related to its disposal. The wind up of operations of the
Agency business was completed during 2002. A summary of the income statements
of the Agency business segment is as follows:

|                           |                                     |   |                         |       |      |   |       |    |  |   |     |     | 
|-------------------------- | ----------------------------------- | - | ----------------------- | ----- | ---- | - | ----- | -- |  | - | --- | --- | 
|                           |                                     |   | Year Ended December 31,
|                           |                                     |   |                        
|                           |                                     |   | 2000                    |       | 2001 |   | 2002 
|                           |                                     |   |                         |       |      |   |      
|                           |                                     |   | (in thousands)         
|Agency commission revenues |                                     | $ | 2,946                   |       |      | $ | 1,043 |    |  | $ | 259 |    
|Cost of revenues           |                                     |   | 513                     |       |      |   | 642   |    |  |   | 85  |    
|                           |                                     |   |                         |       |      |   |       |    |  |   |     |    
|Gross profit               |                                     |   | 2,433                   |       |      |   | 401   |    |  |   | 174 |    
|General and administrative |                                     |   | 242                     |       |      |   | 354   |    |  |   | 27  |    
|                           |                                     |   |                         |       |      |   |       |    |  |   |     |    
|                           | Income from discontinued operations |   | $                       | 2,191 |      |   | $     | 47 |  |   | $   | 147 | 
|                           |                                     |   |                         |       |      |   |       |    |  |   |     |    

13. INCOME TAXES

Income taxes differ from the amount computed using a tax rate of 35% as a
result of the following:

|                                   |                                                                 |                   |   |                         |   |      |   |         |   |  |       |         |   | 
|---------------------------------- | --------------------------------------------------------------- | ----------------- | - | ----------------------- | - | ---- | - | ------- | - |  | ----- | ------- | - | 
|                                   |                                                                 |                   |   | Year Ended December 31,
|                                   |                                                                 |                   |   |                        
|                                   |                                                                 |                   |   | 2000                    |   | 2001 |   | 2002   
|                                   |                                                                 |                   |   |                         |   |      |   |        
|                                   |                                                                 |                   |   | (in thousands)         
|                                   | Computed expected tax benefit                                   |                   | $ | (20,758                 | ) |      | $ | (24,474 | ) |  | $     | (16,919 | )
|                                   | State and local income taxes, net of
federal income tax benefit |                   |   | (3,200                  | ) |      |   | (3,298  | ) |  |       | (2,311  | )
|                                   | Goodwill amortization/write-off                                 |                   |   | 1,240                   |   |      |   | 4,371   |   |  |       | 276     |  
|Adjustments to deferred tax assets |                                                                 |                   |  |                         |   |      |  |         |   |  | 2,172 |        
|                                   | Other                                                           |                   |   | (303                    | ) |      |   | 13      |   |  |       | 20      |  
|                                   |                                                                 |                   |   |                         |   |      |   |         |   |  |       |        
|                                   | Increase in valuation allowance                                 |                   |   | 23,021                  |   |      |   | 23,388  |   |  |       | 16,762  |  
|                                   |                                                                 |                   |   |                         |   |      |   |         |   |  |       |        
|                                   |                                                                 | Total tax benefit |   | $                       |  |      |   | $       |  |  |       | $       |  | 
|                                   |                                                                 |                   |   |                         |   |      |   |         |   |  |       |        

The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and (liabilities) at December 31, 2001 and
2002 are presented below:

|                     |                                          |                                             |                         |        |                |   |      |        |         |   | 
|-------------------- | ---------------------------------------- | ------------------------------------------- | ----------------------- | ------ | -------------- | - | ---- | ------ | ------- | - | 
|                     |                                          |                                             |                         |        | December 31,  
|                     |                                          |                                             |                         |        |               
|                     |                                          |                                             |                         |        | 2001           |   | 2002
|                     |                                          |                                             |                         |        |                |   |     
|                     |                                          |                                             |                         |        | (in thousands)
|Deferred tax assets: |                                          |                                             |                         |        |                |   |      |       
|                     | Net operating loss carry forwards        |                                             | $                       | 37,961 |                |   | $    | 57,477 |        
|                     | Amortization of stock based compensation |                                             |                         | 28,944 |                |   |      | 27,819 |        
|                     | Other                                    |                                             |                         | 2,572  |                |   |      | 2,206  |        
|                     |                                          |                                             |                         |        |                |   |      |       
|                     |                                          | Total deferred tax assets                   |                         |        | 69,477         |   |      |        | 87,502  |  
|                     |                                          | Less: valuation allowance                   |                         |        | (64,574        | ) |      |        | (81,353 | )
|                     |                                          |                                             |                         |        |                |   |      |       
|                     |                                          | Net deferred assets                         |                         |        | 4,903          |   |      |        | 6,149   |  
|                     |                                          | Deferred tax liability  state income taxes |                         |        | (4,903         | ) |      |        | (6,149  | )
|                     |                                          |                                             |                         |        |                |   |      |       
|                     |                                          |                                             | Net deferred tax assets |        | $              |  |      |        | $       |  | 
|                     |                                          |                                             |                         |        |                |   |      |       

At December 31, 2002, the Company had net operating loss carryforwards
totaling approximately $131.3 million for Federal income tax purposes expiring
beginning in 2019 and California state net operating loss carryforwards of
$130.3 million expiring beginning in 2007. Due to the uncertainty surrounding
the realization of the benefits of its tax attributes, including net operating
loss carryforwards in future tax returns, the Company has recorded a valuation
allowance against its deferred tax assets as of December 31, 2001 and 2002 of
$64.6 million and $81.4 million, respectively.

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In assessing the potential realization of deferred tax assets, management
considers whether it is more likely than not that some portion or all of the
deferred tax assets will be realized. The ultimate realization of deferred tax
assets is dependent upon the Company attaining future taxable income during the
periods in which those temporary
differences become deductible. In addition, Internal Revenue Code Section 382 substantially restricts the ability of a Corporation to utilize existing
net operating losses in the event of an ownership change. Therefore, the
Companys net operating losses for Federal income tax purposes may be limited
due to changes in ownership.

14. SIGNIFICANT CONTRACTS

In February 2002, the Company amended an existing agreement with
Ticketmaster pursuant to which the Company agreed to purchase online
advertising totaling $2.0 million from Ticketmaster and in conjunction became
entitled to certain non-exclusive opportunities to pre-sell tickets on the
ARTISTdirect website. The Company recognized as sales and marketing expense
the amount paid on straight-line basis, which approximates how the services
were received, over the amended term of the agreement. The term of the amended
agreement expires in April 2003.

In connection with the issuance of Series C Preferred shares in 1999 and
2000, the Company entered into strategic relationships with four record labels.
Under the terms of these agreements, the Company has the right to purchase
certain content related to each of the respective companies artists on terms
generally made available to other online music companies. Under one of the
agreements, the Company provided marketing and promotional services on its
network and recognized advertising and sponsorship revenues of $1.0 million and
$500,000 in the years ended December 31, 2000 and 2001, respectively. The
Company never received any content as expected under the agreement and during
2001 determined that the collectibility of this receivable either in the form
of cash or acceptable content was impaired under this agreement. Consequently,
a provision for doubtful accounts of $1.5 million was recorded in the
consolidated statement of operations. The Company did not provide or receive
any services or benefits from any of the other labels and did not record any
revenues or expenses related to these other agreements.

In December 1999, the Company entered into an advertising and promotion
agreement with Yahoo! pursuant to which the Company purchased media placement
on Yahoo! in return for cash and warrants in the Company (see Note 16 regarding
treatment of warrants).. The Company recorded as sales and marketing the
expense related to the amounts paid in cash to Yahoo! for advertising and
promotion services over the term of the agreement on a straight-line basis that
approximates how the promotions were received. On November 7, 2000, the
Company amended this agreement such that it was terminated as of December 31,
2000. Yahoo! delivered certain additional page views containing the Companys
banners on various Yahoo! properties through June 30, 2001.

In April 2000, the Company entered into an agreement with a landlord for
office space for a term of ten years. In connection with the agreement, the
Company issued warrants to purchase 6,250 shares of common stock at $139.30 per
share. The expense related to the warrants is being amortized over the term of
the agreement.

For the years ended December 31, 2000, 2001 and 2002, the Company incurred
legal expenses of approximately $464,000, $364,000 and $260,000, respectively,
for legal services provided by Lenard & Gonzalez LLP and its successor firm,
Lenard, Brisbin & Klotz LLP. Allen Lenard, one of the Companys former
directors who resigned from the board in September 2002, was Managing Partner
of Lenard & Gonzalez LLP and is managing partner of Lenard, Brisbin & Klotz
LLP.

The Company entered into a settlement agreement with an employee in
connection with the termination of his employment in October 1997. Pursuant to
this agreement, the employee received a severance payment of $175,000 that was
paid in full in 1999. As part of the settlement agreement, the individual
received an option to purchase the lesser of 10,000 securities or 2.5% of the
shares offered to the public upon an initial public offering at an exercise
price that will be set at the completion of the initial public offering
pursuant to the provision defined in the settlement agreement. The employee
exercised the purchase option of 10,000 shares. The Company recorded
compensation expense of $1,025,000 for the year ended December 31, 2000, which
represented the difference between the fair value of the common stock and the
amount paid.

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15. RESCISSION OFFER

In December 2001, the Company completed a rescission offer in which it
rescinded the purchase of 83,403 shares of its common stock purchased upon the
exercise of options and the issuance of vested and unvested unexercised options
to purchase 636,740 shares of common stock. The shares of stock were
repurchased at prices ranging from $12.40 to $40.00 per share and the
unexercised options that were rescinded had exercise prices ranging from $12.40
to $140.00 per share. In aggregate, the Company paid $10.2 million to rescind
the shares and options.

As a result of the completion of the rescission offer, the Company
recorded stock compensation expense of $6.9 million and $1.9 million in 2001
and 2002, respectively. The $6.9 million of compensation expense recognized
in 2001 consisted of $859,000 reflected in cost of revenues and $6.1 million
included in operating expenses as stock-based compensation. The $1.9 million
of compensation expense recognized in 2002 consisted of $900,000 reflected in
cost of revenues and $1.0 million reflected in operating expenses. No
additional compensation expense related to the rescission offer is expected in
2003.

As of December 31, 2001, the Company reclassified $2.7 million of unearned
compensation (related to the original option grants subject to the rescission
offer) to prepaid stock-based compensation in the balance sheet, as the
underlying equity instruments were no longer outstanding as a result of the
rescission of the instruments in December 2001.

The Company did not record any compensation expense related to the shares
and options of those holders who chose not to accept the rescission offer. The
staff of the Securities and Exchange Commission has taken the position that a
persons federal right of rescission may survive the rescission offer.
However, federal courts in the past have ruled that a person who rejects or
fails to accept a rescission offer is precluded from later seeking similar
relief. The Company believes that subsequent to the rescission offer, any
rights to rescind will be contingent upon legal rulings, the outcome of which
are not currently determinable. Accordingly, the Company will account for
shares and options that were not rescinded in the rescission offer as if there
is no right of rescission. In the event any rescissions occur subsequent to
the expiration of the rescission offer in December 2001, the Company will
account for those rescissions, if any, in the manner described above at the
time those rescissions are completed.

16. STOCKHOLDERS EQUITY

COMMON STOCK

In March 2000, the
Company completed an initial public offering in which it
sold 500,000 shares for total proceeds, net of offering costs, of $52.4
million.

In April 2001, the Company completed a tender offer in which it
repurchased 200,000 shares of common stock for a total cost of $2.5 million.
The repurchased shares are reflected as treasury stock in the balance sheet as
of December 31, 2001.

In May 2001, the Company authorized the purchase of up to $2 million worth
of the Companys common stock. During 2001, the Company repurchased in the
open market or in privately negotiated transactions 39,499 shares of common
stock for an aggregate purchase price of approximately $234,000. This
repurchase was separate from the Companys tender offer described above, and is
reflected as treasury stock in the balance sheet as of December 31, 2001. No
shares were repurchased by the Company in 2002.

VARIABLE EQUITY INTERESTS

During 1998, the Company issued common units, which were converted to
common shares upon the conversion of the Company to a C Corporation in October
1999, to certain executive employees and its outside legal counsel in
connection with services rendered and to be rendered. These units were
accounted for as stock appreciation rights (Appreciation Rights), and as a
result of these transactions, the Company recorded a credit to stock based
compensation expense in the amount of $6.6 million for the year ended December 31, 2000 as a result of the decline

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in the value of the Companys common shares
from December 31, 1999 to March 31, 2000, the date on which the Appreciation
Rights were settled.

WARRANTS

During 1999, the Company issued warrants, which were immediately
exercisable, to purchase 35,967 shares of common stock at $40.00 per share to
two vendors from whom it purchased merchandise. None of the warrants have been
exercised as of December 31, 2002. The value of the warrants was $864,000, of
which $262,000, $322,000 and $79,000 was recognized as stock based compensation
in cost of revenues for the years ended December 31, 2000, 2001 and 2002,
respectively. The remaining unamortized value of the warrants of $32,000 will
be amortized in 2003 over the remaining agreement term.

In December 1999, the Company issued warrants to purchase 33,926 shares of
common stock at $120 per share in connection with an advertising and promotion
agreement. The warrants vested in December 2001. The value of the warrants
upon issuance was $2.0 million. These warrants are being accounted for as
variable instruments under EITF 96-18 up through June 30, 2001, when
performance under the agreement was completed and a measurement date was
reached. Due to the decrease in fair value of the Companys common stock, the
value of the warrants was reduced to $66,000 as of June 30, 2001. The related
expense for the years ended December 31, 2000, 2001 and 2002 was $28,000,
$20,000 and $0, respectively. The warrants expired unexercised in December
2002.

In January 2000, the Company issued warrants to purchase 6,250 shares of
common stock at $139.28 per share in connection with an office lease. The
warrants, which expire in January 2005, were exercisable upon grant, and none
have been exercised as of December 31, 2002. The warrants were valued at
$568,000 and are being amortized over the term of the related lease. During
the years ended December 31, 2000, 2001 and 2002, $47,000, $57,000 and $57,000,
respectively, has been recorded as stock based compensation expense.

EQUITY TRANSFER

In March 2000, the founders of the Company entered into a series of
transactions whereby two employees and an outside legal counsel would receive
the appreciation on the Companys common stock above $139.28 per share through
the third day of trading after the initial public offering. Additionally, the
two employees and outside legal counsel received stock options on the third day
of trading after the initial public offering with an exercise price of $139.28.
There was no expense charge for the appreciation rights and stock options
granted to the two employees, as the stock price was below $139.28 per share on
the third day of trading and the exercise price on the stock options was
greater than the fair value of the Companys common stock on the date of grant.
The fair value of the appreciation rights and stock options granted to the
outside legal counsel was $2,029,000 and was recorded as expense for the year
ended December 31, 2000, as the grants related to past services. The stock
option grants to the outside legal counsel are reflected as option grants under
the Advisor Plan (see discussion in Note 17).

17. STOCK OPTIONS

EMPLOYEE OPTION PLAN

In October 1999, the Company implemented the 1999 Employee Stock Option
Plan that replaced the 1998 Unit Option Plan. The plan has currently reserved
801,185 shares of the Companys common stock for issuance to employees,
non-employee members of the board of directors and consultants. This share
reserve automatically increases on the first trading day in January each
calendar year by an amount equal to two percent (2%) of the total number of
shares of our common stock outstanding on the last trading day of December in
the prior calendar year, but in no event will this annual increase exceed
87,500 shares. No option may have a term in excess of 10 years. The options
generally vest within three years. As of December 31, 2002, 553,179 shares
remained available for future option grant.

The Company accounts for its employee stock option plan in accordance with
the provisions of Accounting Principles Board (APB) Opinion No. 25, Accounting
for Stock Issued to Employees, Interpretation No. 44, and

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other related
interpretations. As such, compensation expense would be recorded on the date
of grant only if the current market price of the underlying stock exceeded the
exercise price.

Summary stock option activity for 1999 Employee Stock Option Plan during
the years ended December 31, 2000, 2001 and 2002 is as follows:

|                                         |           |  |                     |          |                |   |          |       | 
|---------------------------------------- | --------- |  | ------------------- | -------- | -------------- | - | -------- | ----- | 
|                                         |           |  | Options Outstanding
|                                         |           |  |                    
|                                         |           |  |                     |          |                |   | Weighted
|                                         |           |  | Number of           |          | Average       
|                                         |           |  | Shares              |          | Exercise Price
|                                         |           |  |                     |          |               
|Outstanding options at December 31, 1999 |           |  | 374,578             |          |                | $ | 34.06    |      
|                                         | Granted   |  |                     | 319,709  |                |   |          | 81.64 | 
|                                         | Exercised |  |                     | (3,181   | )              |   |          | 13.72 | 
|                                         | Cancelled |  |                     | (124,802 | )              |   |          | 46.18 | 
|                                         |           |  |                     |          |                |   |          |      
|Outstanding options at December 31, 2000 |           |  | 566,304             |          |                |   | 58.36    |      
|                                         | Granted   |  |                     | 35,687   |                |   |          | 7.50  | 
|                                         | Exercised |  |                     |         |                |   |          |      | 
|                                         | Cancelled |  |                     | (418,836 | )              |   |          | 44.78 | 
|                                         |           |  |                     |          |                |   |          |      
|Outstanding options at December 31, 2001 |           |  | 183,155             |          |                |   | 79.51    |      
|                                         | Granted   |  |                     | 100,000  |                |   |          | 5.94  | 
|                                         | Exercised |  |                     |         |                |   |          |      | 
|                                         | Cancelled |  |                     | (35,149  | )              |   |          | 17.02 | 
|                                         |           |  |                     |          |                |   |          |      
|Outstanding options at December 31, 2002 |           |  | 248,006             |          |                | $ | 58.43    |      
|                                         |           |  |                     |          |                |   |          |      

The Company recorded stock-based compensation of $4.7 million, $2.7
million and $31,000 related to stock options granted to employees under the
1999 Employee Stock Option Plan during the years ended December 31, 2000, 2001
and 2002, respectively.

In February 2000, the Company accelerated the vesting of 11,480 stock
options granted to an executive of the Company. The resulting compensation
expense of $964,000, which represented the difference between the fair value of
the Companys common stock on the date of modification and the exercise price,
was recorded during the year ended December 31, 2000.

In May 2001, the Company granted an officer non-qualified stock options,
which are not part of any stock option plan maintained by the Company, to
purchase 444,480 shares of common stock at an exercise price of $7.50 per
share. Of the 444,480 option shares, 302,370 are exercisable immediately (the
underlying shares pursuant to the exercise of this portion of the options vest
over five years from the date of the option grant), 75,588 are exercisable in
the event the 30-day average closing price of the Companys common stock on
NASDAQ equals or exceeds $35.00 per share within three years from the grant
date, and 66,522 are exercisable in the event the 30-day average closing price
of the Companys common stock on NASDAQ equals or exceeds $70.00 per share
within three years of the grant date. The two options that are not exercisable
upon grant shall also become exercisable in the event of a de-listing of the
Companys common stock from NASDAQ and a subsequent re-listing, a change in
control of the Company or an involuntary termination of the officer (within
three years of the date of grant). These stock option grants were
non-compensatory as the exercise price exceeded the fair value of the common
stock on the date of grant.

In September 2001, the Company granted options to purchase 35,687 shares
of its common stock at an exercise price of $7.50 per share to outside legal
counsel. The fair value of the stock options granted to the outside legal
counsel was $171,000 and was recorded as stock based compensation during 2001
as the grant related to past services.

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The following table summarizes information regarding options outstanding
and options exercisable at December 31, 2002:

| |                     |          |              |           |  |             |         |                |  |           |      |                |  |   |        |                     |  |          |         |  |  |   |        | 
| | ------------------- | -------- | ------------ | --------- |  | ----------- | ------- | -------------- |  | --------- | ---- | -------------- |  | - | ------ | ------------------- |  | -------- | ------- |  |  | - | ------ | 
| | Options Outstanding |          |              |           |  |             |         |                | 
| |                     |          |              |           |  |             |         |                | 
| |                     |          |              |           |  |             |         |                |  | Weighted  |      |                |  |   |        | Options Exercisable
| |                     |          |              |           |  |             |         |                |  | average   |      |                |  |   |        |                    
| |                     |          |              |           |  |             |         |                |  | remaining |      | Weighted       |  |   |        |                     |  | Weighted
| |                     | Exercise |              | Number    |  | contractual |         | average        |  | Number    |      | average       
| |                     | prices   |              | of shares |  | life        |         | exercise price |  | of shares |      | exercise price
| |                     |          |              |           |  |             |         |                |  |           |      |               
| |                     | $        | 4.80         |           |  |             | 40,000  |                |  |           | 6.78 |                |  | $ | 4.80   |                     |  |          | 20,000  |  |  | $ | 4.80   | 
| |                     |          | 5.10         |           |  |             | 20,000  |                |  |           | 6.77 |                |  |   | 5.10   |                     |  |          | 10,000  |  |  |   | 5.10   | 
| |                     |          | 7.50         |           |  |             | 61,603  |                |  |           | 5.79 |                |  |   | 7.50   |                     |  |          | 60,686  |  |  |   | 7.50   | 
| |                     |          | 12.40        |           |  |             | 786     |                |  |           | 2.58 |                |  |   | 12.40  |                     |  |          | 786     |  |  |   | 12.40  | 
| |                     |          | 20.00        |           |  |             | 300     |                |  |           | 4.76 |                |  |   | 20.00  |                     |  |          | 225     |  |  |   | 20.00  | 
| |                     |          | 25.00        |           |  |             | 200     |                |  |           | 4.76 |                |  |   | 25.00  |                     |  |          | 150     |  |  |   | 25.00  | 
| |                     |          | 30.00        |           |  |             | 1,450   |                |  |           | 4.76 |                |  |   | 30.00  |                     |  |          | 1,088   |  |  |   | 30.00  | 
| |                     |          | 36.00        |           |  |             | 439     |                |  |           | 3.78 |                |  |   | 36.00  |                     |  |          | 439     |  |  |   | 36.00  | 
| |                     |          | 40.00        |           |  |             | 30,937  |                |  |           | 4.44 |                |  |   | 40.00  |                     |  |          | 26,640  |  |  |   | 40.00  | 
| |                     |          | 120.00       |           |  |             | 22,608  |                |  |           | 4.18 |                |  |   | 120.00 |                     |  |          | 21,352  |  |  |   | 120.00 | 
| |                     |          | 139.28       |           |  |             | 69,683  |                |  |           | 4.25 |                |  |   | 139.28 |                     |  |          | 63,876  |  |  |   | 139.28 | 
| |                     |          |              |           |  |             |         |                |  |           |      |                |  |   |        |                     |  |          |         |  |  |   |        | 
| |                     | $        | 4.80-$139.28 |           |  |             | 248,006 |                |  |           | 5.26 |                |  | $ | 58.43  |                     |  |          | 205,242 |  |  | $ | 64.28  | 
| |                     |          |              |           |  |             |         |                |  |           |      |                |  |   |        |                     |  |          |         |  |  |   |        | 

ADVISOR OPTION PLAN

In June 1999 and as amended in October 1999 and March 2000 the Company
adopted the 1999 Artist and Artist Advisor Stock Option Plan (the Advisor
Plan). The Advisor Plan has currently reserved 260,000 shares of common stock
for issuance to artists for whom the Company entered into agreements related to
online and e-commerce activities and their agents, business managers, attorneys
and other advisors. This share reserve automatically increases on the first
trading day in January each calendar year by an amount equal to one percent
(1%) of the total number of shares of our common stock outstanding on the last
trading day of December in the prior calendar year, but in no event will this
annual increase exceed 37,500 shares. As of December 31, 2002, 224,464 shares
remained available for future option grants. The options expire seven years
from the date of grant and vesting generally varies between one to three years.
In December 2001, a majority of the outstanding options under the Advisor plan
were rescinded and cancelled. No new option grants under this plan were made
during 2001 or 2002.

Summary stock option activity for the Advisor Plan options during the
years ended December 31, 2000, 2001 and 2002 is as follows:

|                                         |           |  |                     |         |                |   |          |        | 
|---------------------------------------- | --------- |  | ------------------- | ------- | -------------- | - | -------- | ------ | 
|                                         |           |  | Options Outstanding
|                                         |           |  |                    
|                                         |           |  |                     |         |                |   | Weighted
|                                         |           |  | Number              |         | Average       
|                                         |           |  | of Shares           |         | Exercise Price
|                                         |           |  |                     |         |               
|Outstanding options at December 31, 1999 |           |  | 99,956              |         |                | $ | 39.24    |       
|                                         | Granted   |  |                     | 33,302  |                |   |          | 139.28 | 
|                                         | Exercised |  |                     | (13,547 | )              |   |          | 40.00  | 
|                                         | Cancelled |  |                     | (375    | )              |   |          | 40.00  | 
|                                         |           |  |                     |         |                |   |          |       
|Outstanding options at December 31, 2000 |           |  | 119,336             |         |                |   | 67.05    |       
|                                         | Granted   |  |                     |        |                |   |          |       | 
|                                         | Exercised |  |                     |        |                |   |          |       | 
|                                         | Cancelled |  |                     | (83,800 | )              |   |          | 43.23  | 
|                                         |           |  |                     |         |                |   |          |       
|Outstanding options at December 31, 2001 |           |  | 35,536              |         |                |   | 123.29   |       
|                                         | Granted   |  |                     |        |                |   |          |       | 
|                                         | Exercised |  |                     |        |                |   |          |       | 
|                                         | Cancelled |  |                     |        |                |   |          |       | 
|                                         |           |  |                     |         |                |   |          |       
|Outstanding options at December 31, 2002 |           |  | 35,536              |         |                | $ | 123.29   |       
|                                         |           |  |                     |         |                |   |          |       

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The weighted average fair value of options granted under the Advisor Plan
was $66.50 per option in 2000 resulting in a total value for options granted of
$2.1 million. Of the $2.1 million, $1.8 million was expensed in 2000 and
$300,000 was expensed in 2001.

The following table summarizes information regarding options outstanding
and options exercisable at December 31, 2002:

| |  |                 |               |           |  |                     |        |                     |  |           |      |                |  |         |        |  |  |          |        |  |  |   |        | 
| |  | --------------- | ------------- | --------- |  | ------------------- | ------ | ------------------- |  | --------- | ---- | -------------- |  | ------- | ------ |  |  | -------- | ------ |  |  | - | ------ | 
| |  |                 |               |           |  | Options Outstanding |        | Options Exercisable
| |  |                 |               |           |  |                     |        |                    
| |  |                 |               |           |  |                     |        |                     |  | Weighted  |      |                |  |         |        |  |  |          |        |  |  |  
| |  |                 |               |           |  |                     |        |                     |  | average   |      |                |  |         |        |  |  |          |        |  |  |  
| |  |                 |               |           |  |                     |        |                     |  | remaining |      | Weighted       |  |         |        |  |  | Weighted
| |  |                 |               |           |  | Number              |        | contractual         |  | average   |      | Number         |  | average
| |  | Exercise prices |               | of shares |  | life                |        | exercise price      |  | of shares |      | exercise price
| |  |                 |               |           |  |                     |        |                     |  |           |      |               
| |  | $               | 36.00         |           |  |                     | 1,250  |                     |  |           | 3.78 |                |  | $       | 36.00  |  |  |          | 1,250  |  |  | $ | 36.00  | 
| |  |                 | 40.00         |           |  |                     | 4,422  |                     |  |           | 3.61 |                |  |         | 40.00  |  |  |          | 4,422  |  |  |   | 40.00  | 
| |  |                 | 139.28        |           |  |                     | 29,864 |                     |  |           | 4.25 |                |  |         | 139.28 |  |  |          | 29,864 |  |  |   | 139.28 | 
| |  |                 |               |           |  |                     |        |                     |  |           |      |                |  |         |        |  |  |          |        |  |  |   |        | 
| |  | $               | 36.00-$139.28 |           |  |                     | 35,536 |                     |  |           | 4.15 |                |  | $       | 123.29 |  |  |          | 35,536 |  |  | $ | 123.29 | 
| |  |                 |               |           |  |                     |        |                     |  |           |      |                |  |         |        |  |  |          |        |  |  |   |        | 

ARTIST OPTION PLAN

In June 1999 and as amended in October 1999, the Company adopted the 1999
Artist Stock Plan (the Artist Plan). The Artist Plan currently has reserved
551,185 shares of common stock for issuance to artists for whom the Company
entered into agreements related to their online and e-commerce activities.
This share reserve automatically increases on the first trading day in January
each calendar year by an amount equal to two percent (2%) of the total number
of shares of our common stock outstanding on the last trading day of December
in the prior calendar year, but in no event will this annual increase exceed
87,500 shares. As of December 31, 2002, 527,311 shares remained available for
future option grants. The options expire seven years from the date of grant
and vesting generally varies between one to three years. In December 2001, a
majority of the outstanding options under the Advisor plan were rescinded and
cancelled. No new option grants under this plan were made during 2001 or 2002.

Summary stock option activity for the Artist Option Plan during the years
ended December 31, 2000, 2001 and 2002 is as follows:

|                                         |           |  |                     |          |                |   |          |        | 
|---------------------------------------- | --------- |  | ------------------- | -------- | -------------- | - | -------- | ------ | 
|                                         |           |  | Options Outstanding
|                                         |           |  |                    
|                                         |           |  |                     |          |                |   | Weighted
|                                         |           |  | Number              |          | Average       
|                                         |           |  | of Shares           |          | Exercise Price
|                                         |           |  |                     |          |               
|Outstanding options at December 31, 1999 |           |  | 214,614             |          |                | $ | 40.00    |       
|                                         | Granted   |  |                     | 46,938   |                |   |          | 134.09 | 
|                                         | Exercised |  |                     | (24,177  | )              |   |          | 40.00  | 
|                                         | Cancelled |  |                     | (15,000  | )              |   |          | 40.00  | 
|                                         |           |  |                     |          |                |   |          |       
|Outstanding options at December 31, 2000 |           |  | 222,375             |          |                |   | 59.86    |       
|                                         | Granted   |  |                     |         |                |   |          |       | 
|                                         | Exercised |  |                     |         |                |   |          |       | 
|                                         | Cancelled |  |                     | (198,501 | )              |   |          | 57.07  | 
|                                         |           |  |                     |          |                |   |          |       
|Outstanding options at December 31, 2001 |           |  | 23,874              |          |                |   | 83.15    |       
|                                         | Granted   |  |                     |         |                |   |          |       | 
|                                         | Exercised |  |                     |         |                |   |          |       | 
|                                         | Cancelled |  |                     |         |                |   |          |       | 
|                                         |           |  |                     |          |                |   |          |       
|Outstanding options at December 31, 2002 |           |  | 23,874              |          |                | $ | 83.15    |       
|                                         |           |  |                     |          |                |   |          |       

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The weighted average fair value of the options granted under the Artist
Option Plan in 2000 was $99.70 per option resulting in a total value for
options granted of $4.7 million that has been recorded as unearned compensation
in the statement of stockholders equity, and is being amortized over the
service period of the related artist agreements.

The following table summarizes information regarding options outstanding
and options exercisable at December 31, 2002:

| |  |                 |               |           |  |                                     |        |                |  |           |      |          |  |   |        | 
| |  | --------------- | ------------- | --------- |  | ----------------------------------- | ------ | -------------- |  | --------- | ---- | -------- |  | - | ------ | 
| |  |                 |               |           |  | Options Outstanding and Exercisable
| |  |                 |               |           |  |                                    
| |  |                 |               |           |  |                                     |        |                |  | Weighted  |      |          |  |  
| |  |                 |               |           |  |                                     |        |                |  | average   |      |          |  |  
| |  |                 |               |           |  |                                     |        |                |  | remaining |      | Weighted
| |  |                 |               |           |  | Number                              |        | contractual    |  | average  
| |  | Exercise prices |               | of shares |  | life                                |        | exercise price
| |  |                 |               |           |  |                                     |        |               
| |  | $               | 40.00         |           |  |                                     | 13,499 |                |  |           | 3.66 |          |  | $ | 40.00  | 
| |  |                 | 139.28        |           |  |                                     | 10,375 |                |  |           | 4.20 |          |  |   | 139.28 | 
| |  |                 |               |           |  |                                     |        |                |  |           |      |          |  |   |        | 
| |  | $               | 40.00-$139.28 |           |  |                                     | 23,874 |                |  |           | 3.90 |          |  | $ | 83.15  | 
| |  |                 |               |           |  |                                     |        |                |  |           |      |          |  |   |        | 

Total compensation expense related to the Advisor Plan and the Artist
Option Plan (excluding the impact of the rescission offer) was $10.2 million,
$10.6 million and $2.9 million for the years ended December 31, 2000, 2001 and
2002, respectively, of which $7.3 million, $7.2 million and $2.1 million,
respectively, was included in cost of revenue, and $2.9 million, $3.4 million
and $800,000, respectively, was included in operating expenses.

The estimated fair values of the options granted under the Advisor Plan
and the Artist Option Plan was determined using the Black-Scholes
option-pricing model. The key assumptions used in the model for the purpose of
the calculation were a risk free rate of 6.4%, a volatility factor ranging from
80% to 150%, no expected dividends and an expected life of seven years (the
contractual term of the options) for options granted in 2000.

For the year ended December 31, 2000, the decrease to unearned
compensation of $1.4 million was comprised of additions of $5.7 million, which
were offset by reductions of $7.1 million. The additions were a result of the
grant of options under the Artist Option Plan and Advisor Plan with a fair
value of $4.9 million; warrants granted to the landlord with a fair value of
$568,000; and the issuance of compensatory options under the 1999 Employee
Stock Option Plan with a fair value of $210,000. The reductions were a result
of the cancellation of options under the Artist Option Plan and Advisor Plan
with an unamortized balance of $1.3 million on the cancellation date; a
decrease in the value of the unamortized portion of the variable equity
interest of $600,000; a decrease in the value of warrants accounted for as
variable instruments of $1.9 million; and the cancellation of unvested
compensatory employee options with a remaining unamortized value of $3.3
million as a result of terminations in 2000.

For the year ended December 31, 2001, the decrease in unearned
compensation of $2.4 million was a result of the cancellation of unvested
compensatory employee options.

EMPLOYEE STOCK PURCHASE PLAN

In October 1999, the Company adopted the 1999 Employee Stock Purchase Plan
that has reserved 100,000 shares of common stock for issuance under this plan.
This share reserve automatically increases on the first trading day in January
each calendar year, by an amount equal to one percent (1%) of the total number
of our common stock

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outstanding on the last trading day of December in the
prior calendar year, but in no event will this annual increase exceed 25,000
shares. Terms of the plan permit eligible employees to purchase common stock
through payroll
deduction of up to 15% of each employees compensation. The accumulated
deductions will be applied to the purchase of shares on each semi-annual
purchase date at a purchase price per share equal to 85% of the fair market
value per share on the participants entry date into the offering period or the
semi-annual purchase date, whichever is lower. Pursuant to the provisions of
APB No. 25, shares issued to employees under this plan are considered
noncompensatory. During the years ended December 31, 2000, 2001 and 2002,
6,758 shares, 3,902 shares and 1,134 shares, respectively, were issued under
this plan for total proceeds of $40,000, $17,000 and $4,000, respectively.

18. 401(K) PLAN

In February 1999 and as amended in January 2000, the Company adopted the
Cash or Deferred Profit Sharing Plan and Trust under Section 401(k) of the
Internal Revenue Code (the 401(k) Plan). Under the 401(k) Plan, participating
employees may defer a percentage (not to exceed 15%) of their eligible pretax
earnings up to the Internal Revenue Services annual contribution limit. All
employees of the Company age 21 years or older who complete three months of
service are eligible to participate in the 401(k) Plan. The Company does not
match participants contributions to the 401(k) Plan. Accordingly, there is no
expense for the years ended December 31, 2000, 2001 and 2002.

19. COMMITMENTS AND CONTINGENCIES

LEASE COMMITMENTS

Future minimum lease payments under operating leases for facilities and
certain equipment are as follows as of the years ended December 31:

|           |       |   |                |        | 
|---------- | ----- | - | -------------- | ------ | 
|           |       |   | Years Ended   
|           |       |   | December 31,  
|           |       |   |               
|           |       |   | (in thousands)
|2003       |       | $ | 1,763          |       
|2004       |       |   | 1,754          |       
|2005       |       |   | 1,870          |       
|2006       |       |   | 1,934          |       
|2007       |       |   | 1,934          |       
|Thereafter |       |   | 4,513          |       
|           |       |   |                |       
|           | Total |   | $              | 13,768 | 
|           |       |   |                |       

In conjunction with our office space lease, the Company has posted a
letter of credit for the benefit of the landlord in the amount of approximately
$1,806,000. If the Company is not in default of its lease obligations, the
amount of the letter of credit reduces annually by $451,627 (20% of the
original amount) in May of each year beginning in 2002.

Rent expense under operating leases for the years ended December 31, 2000,
2001 and 2002 for the Company was $1,735,000, $1,961,000 and $1,806,000,
respectively.

The Company has entered into a sublease with a third party for a portion
of its main facility. The sublease provides for monthly payments of
approximately $55,000 through April 2004 and is recorded as a reduction to
general and administrative expense.

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EMPLOYMENT CONTRACTS

Future payments under employment contracts are as follows for the years
ended December 31:

|           |       |   |                |       | 
|---------- | ----- | - | -------------- | ----- | 
|           |       |   | Years Ended   
|           |       |   | December 31,  
|           |       |   |               
|           |       |   | (in thousands)
|2003       |       | $ | 1,500          |      
|2004       |       |   | 1,500          |      
|2005       |       |   | 1,500          |      
|2006       |       |   | 750            |      
|2007       |       |   |               |      
|Thereafter |       |   |               |      
|           |       |   |                |      
|           | Total |   | $              | 5,250 | 
|           |       |   |                |      

During 2002, certain employment agreements were amended whereby certain
executives agreed to defer all or a portion of their future salaries until the
Company raised new debt or equity financing of at least $20 million. The
future payments under employment contracts as of December 31, 2002 shown above
do not take into account these contractual deferrals. If these deferrals do
not become payable, the Companys future payment obligations under employment
agreements as shown above would decrease by $1.0 million annually during 2003,
2004 and 2005 and by $500,000 during 2006.

LITIGATION

The Company is subject to various pending and threatened legal actions,
which arise in the normal course of business. The Companys management
believes that the impact of such litigation will not have a material adverse
impact on its financial position or results of operations.

20. REPORTABLE SEGMENTS

As of December 31, 2002, the Company operates primarily through three
reportable segments: E-commerce operations (E-commerce), Media Operations
(Media) and Record Label operations through its iMusic record label and its
65% equity interest in ARTISTdirect Records LLC, its co-venture with Ted Field.
However, since the Company does not exert voting and operating control over
ARTISTdirect Records, its results are not consolidated. Prior to June 2000,
the Company operated its Kneeling Elephant record label venture and its results
are reflected in the record label segment.

In prior years, the Company also considered its Talent Agency business to
be a segment, but the Company decided in December 2001 to exit this business
and as a result it has been shown as a discontinued operation in the
Consolidated Statement of Operations. The Company also previously considered
Digital Music to be a separate segment; however, this business has not
developed as quickly as initially anticipated and is currently no longer
considered a separate reportable segment. The segment data below has been
restated for all periods to reflect the current segment structure.

E-commerce revenue is generated from the sale of recorded music and
music-related merchandise. Media revenue is generated from the sale of
advertising and sponsorships, both online and offline. Record label revenue is
generated from the sale of recorded music performed by artists signed to the
Companys wholly owned iMusic record label.

The factors for determining reportable segments were based on service and
products. Each segment is responsible for executing a unique marketing and
business strategy. The accounting policies of the segments are the same as
those described in the summary of significant accounting policies. The Company
evaluates performance based on EBITDA (earnings or loss before interest, taxes,
depreciation and amortization, including stock based compensation, and loss
from impairment of goodwill). Included in EBITDA are direct operating expenses
for the segment. The following table summarizes the revenue and EBITDA by
segment for the years ended December 31, 2000, 2001 and 2002. Corporate
expenses consist of general operating expenses that are not directly related to
the operations of the segments.

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|             |              |   |                         |         |      |   |         |         |   |   |         |        |  
|------------ | ------------ | - | ----------------------- | ------- | ---- | - | ------- | ------- | - | - | ------- | ------ | -
|             |              |   | Year Ended December 31,
|             |              |   |                        
|             |              |   | 2000                    |         | 2001 |   | 2002   
|             |              |   |                         |         |      |   |        
|             |              |   | (in thousands)         
|Net Revenue: |              |   |                         |         |      |   |         |         |   |   |         |       
|             | E-commerce   |   | $                       | 12,160  |      |   | $       | 7,542   |   |   | $       | 4,713  |  
|             | Media        |   |                         | 6,326   |      |   |         | 2,879   |   |   |         | 924    |  
|             | Record label |   |                         | 244     |      |   |         |        |   |   |         | 613    |  
|             |              |   |                         |         |      |   |         |         |   |   |         |       
|             |              | $ | 18,730                  |         |      | $ | 10,421  |         |   | $ | 6,250   |       
|             |              |   |                         |         |      |   |         |         |   |   |         |       
|EBITDA:      |              |   |                         |         |      |   |         |         |   |   |         |       
|             | E-commerce   |   | $                       | (4,103  | )    |   | $       | (2,605  | ) |   | $       | (137   | )
|             | Media        |   |                         | (16,809 | )    |   |         | (6,908  | ) |   |         | (3,065 | )
|             | Record label |   |                         | (262    | )    |   |         |        |   |   |         | (1,396 | )
|             |              |   |                         |         |      |   |         |         |   |   |         |       
|             |              |   | (21,174                 | )       |      |   | (9,513  | )       |   |   | (4,598  | )     
|             | Corporate    |   |                         | (26,866 | )    |   |         | (16,086 | ) |   |         | (6,654 | )
|             |              |   |                         |         |      |   |         |         |   |   |         |       
|             |              | $ | (48,040                 | )       |      | $ | (25,599 | )       |   | $ | (11,252 | )     
|             |              |   |                         |         |      |   |         |         |   |   |         |       

|                                      |                                     |   |                         |         |      |   |         |         |   |   |         |         |  
|------------------------------------- | ----------------------------------- | - | ----------------------- | ------- | ---- | - | ------- | ------- | - | - | ------- | ------- | -
|                                      |                                     |   | Year Ended December 31,
|                                      |                                     |   |                        
|                                      |                                     |   | 2000                    |         | 2001 |   | 2002   
|                                      |                                     |   |                         |         |      |   |        
|                                      |                                     |   | (in thousands)         
|Reconciliation of EBITDA to Net Loss: |                                     |   |                         |         |      |   |         |         |   |   |         |        
|                                      | EBITDA per Segments                 |   | $                       | (48,040 | )    |   | $       | (25,599 | ) |   | $       | (11,252 | )
|                                      | Stock-based compensation            |   |                         | (12,612 | )    |   |         | (20,820 | ) |   |         | (4,981  | )
|                                      | Depreciation and amortization       |   |                         | (6,248  | )    |   |         | (6,512  | ) |   |         | (2,814  | )
|                                      | Amortization of vendor prepaid      |   |                         | (333    | )    |   |         | (139    | ) |   |         |        |  
|                                      | Loss from impairment of goodwill    |   |                         |        |      |   |         | (11,444 | ) |   |         | (788    | )
|                                      | Loss from equity investments        |   |                         | (235    | )    |   |         | (8,998  | ) |   |         | (29,252 | )
|                                      | Interest income, net                |   |                         | 5,969   |      |   |         | 3,585   |   |   |         | 748     |  
|                                      | Income from discontinued operations |   |                         | 2,191   |      |   |         | 47      |   |   |         | 147     |  
|                                      |                                     |   |                         |         |      |   |         |         |   |   |         |        
|                                      |                                     | $ | (59,308                 | )       |      | $ | (69,880 | )       |   | $ | (48,192 | )      
|                                      |                                     |   |                         |         |      |   |         |         |   |   |         |        

The following table summarizes assets as of December 31, 2001 and 2002.

|        |              |   |                |        |      |   |        |        | 
|------- | ------------ | - | -------------- | ------ | ---- | - | ------ | ------ | 
|        |              |   | December 31,  
|        |              |   |               
|        |              |   | 2001           |        | 2002
|        |              |   |                |        |     
|        |              |   | (in thousands)
|Assets: |              |   |                |        |      |   |        |       
|        | Corporate    |   | $              | 56,426 |      |   | $      | 14,455 | 
|        | E-commerce   |   |                | 498    |      |   |        | 432    | 
|        | Media        |   |                | 2,949  |      |   |        | 819    | 
|        | Record label |   |                |       |      |   |        | 219    | 
|        |              |   |                |        |      |   |        |       
|        |              | $ | 59,873         |        |      | $ | 15,925 |       
|        |              |   |                |        |      |   |        |       

Assets by segment are those assets used in the Company operations in each
segment. Corporate assets are principally made up of cash and cash
equivalents, short-term investments, prepaid expenses, computer equipment,
leasehold improvements and other assets.

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As of December 31, 2002, the Company had advanced $30.25 million to its
record label venture, ARTISTdirect Records and recorded losses of approximately
$8.6 million and $29.3 million for the years ended December 31, 2001 and 2002,
respectively. See Note 10 for further discussion.

21. QUARTERLY RESULTS OF OPERATIONS

The following table sets forth unaudited quarterly results of operations
for the eight most recent quarters ended December 31, 2002. This unaudited
quarterly information has been derived from the Companys unaudited financial
statements and, in the Companys opinion, includes all adjustments, consisting
only of normal recurring adjustments, necessary for a fair presentation of the
information for the periods covered. The operating results for any quarter are
not necessarily indicative of the operating results for any future period.



|                                           |                              |       |         |           |       |          |         |               |       |              |         |       |       |   |         |       |       |  
|------------------------------------------ | ---------------------------- | ----- | ------- | --------- | ----- | -------- | ------- | ------------- | ----- | ------------ | ------- | ----- | ----- | - | ------- | ----- | ----- | -
|                                           |                              |       |         | March 31, |       | June 30, |         | September 30, |       | December 31,
|                                           |                              |       |         | 2001      |       | 2001     |         | 2001          |       | 2001        
|                                           |                              |       |         |           |       |          |         |               |       |             
|Net revenue                                |                              | $     | 3,128   |           |       | $        | 2,739   |               |       | $            | 1,989   |       |       | $ | 2,565   |      
|Gross loss                                 |                              |       | (2,152  | )         |       |          | (1,558  | )             |       |              | (2,063  | )     |       |   | (4,076  | )    
|Loss from continuing operations            |                              |       | (17,096 | )         |       |          | (10,908 | )             |       |              | (19,432 | )     |       |   | (22,491 | )    
|Income (loss) from discontinued
operations |                              |       | 14      |           |       |          | (42     | )             |       |              | 71      |       |       |   | 4       |      
|                                           |                              |       |         |           |       |          |         |               |       |              |         |       |       |   |         |      
|Net loss                                   |                              | $     | (17,082 | )         |       | $        | (10,950 | )             |       | $            | (19,361 | )     |       | $ | (22,487 | )    
|Net loss attributed to common
shareholders |                              | $     | (17,246 | )         |       | $        | (11,123 | )             |       | $            | (19,557 | )     |       | $ | (22,645 | )    
|Basic and diluted loss per share:          |                              |       |         |           |       |          |         |               |       |              |         |       |       |   |         |      
|                                           | From continuing operations   |       | $       | (4.56     | )     |          | $       | (3.06         | )     |              | $       | (5.50 | )     |   | $       | (6.45 | )    
|                                           | From discontinued operations |       |         |          |       |          |         | (0.01         | )     |              |         | 0.02  |       |   |         |      |      
|                                           |                              |       |         |           |       |          |         |               |       |              |         |       |       |   |         |      
|                                           |                              | Total |         | $         | (4.56 | )        |         | $             | (3.07 | )            |         | $     | (5.48 | ) |         | $     | (6.45 | )
|                                           |                              |       |         |           |       |          |         |               |       |              |         |       |       |   |         |       |       |  
|                                           |                              |       |         | March 31, |       | June 30, |         | September 30, |       | December 31,
|                                           |                              |       |         | 2002      |       | 2002     |         | 2002          |       | 2002        
|                                           |                              |       |         |           |       |          |         |               |       |             
|Net revenue                                |                              | $     | 1,331   |           |       | $        | 1,441   |               |       | $            | 1,758   |       |       | $ | 1,720   |      
|Gross loss                                 |                              |       | (1,490  | )         |       |          | (1,270  | )             |       |              | (862    | )     |       |   | (868    | )    
|Loss from continuing operations            |                              |       | (13,323 | )         |       |          | (15,201 | )             |       |              | (9,991  | )     |       |   | (9,824  | )    
|Income (loss) from discontinued
operations |                              |       | 158     |           |       |          | (11     | )             |       |              |        |       |       |   |        |      
|                                           |                              |       |         |           |       |          |         |               |       |              |         |       |       |   |         |      
|Net loss                                   |                              | $     | (13,165 | )         |       | $        | (15,212 | )             |       | $            | (9,991  | )     |       | $ | (9,824  | )    
|Net loss attributed to common
shareholders |                              | $     | (13,165 | )         |       | $        | (15,212 | )             |       | $            | (9,991  | )     |       | $ | (9,824  | )    
|Basic and diluted loss per share:          |                              |       |         |           |       |          |         |               |       |              |         |       |       |   |         |      
|                                           | From continuing operations   |       | $       | (3.85     | )     |          | $       | (4.40         | )     |              | $       | (2.89 | )     |   | $       | (2.84 | )    
|                                           | From discontinued operations |       |         | 0.05      |       |          |         |              |       |              |         |      |       |   |         |      |      
|                                           |                              |       |         |           |       |          |         |               |       |              |         |       |       |   |         |      
|                                           |                              | Total |         | $         | (3.80 | )        |         | $             | (4.40 | )            |         | $     | (2.89 | ) |         | $     | (2.84 | )



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ARTISTDIRECT RECORDS, LLC

INDEX TO FINANCIAL STATEMENTS

|                                               |                                           |  |      |    | 
|---------------------------------------------- | ----------------------------------------- |  | ---- | -- | 
|                                               |                                           |  | PAGE
|                                               |                                           |  |     
|ARTISTdirect Records, LLC Financial Statements |                                           |  |      |   
|                                               | Independent Auditors Report              |  |      | 91 | 
|                                               | Balance Sheets                            |  |      | 92 | 
|                                               | Statements of Operations                  |  |      | 93 | 
|                                               | Statements of Changes in Members Deficit |  |      | 94 | 
|                                               | Statements of Cash Flows                  |  |      | 95 | 
|                                               | Notes to Financial Statements             |  |      | 96 | 

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INDEPENDENT AUDITORS REPORT

The Members
ARTISTdirect Records, LLC

We have audited the accompanying balance sheets of ARTISTdirect Records, LLC
(the Company) as of December 31, 2001 and 2002 and the related statements of
operations, changes in members deficit and cash flows for the
period from May 31, 2001 (inception) through
December 31, 2001 and for the year ended
December 31, 2002. These financial statements are the responsibility of the Companys
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.

We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of ARTISTdirect Records, LLC as
of December 31, 2001 and 2002 and the results of its operations and its cash
flows for the period from May 31, 2001
(inception) through December 31, 2001 and for the year ended December 31, 2002, in conformity with accounting principles
generally accepted in the United States of America.

The accompanying financial statements have been prepared assuming that
ARTISTdirect Records, LLC will continue as a going concern. As more fully
described in note 1, the Company has incurred substantial operating losses and
negative cash flows from operations to date. The Company needs additional
capital to fund its operations. These conditions raise substantial doubt
about the Companys ability to continue as a going concern. Managements plans
in regard to these matters are also described in Note 1. The financial
statements do not include any adjustments that might result from the outcome of
this uncertainty.

/s/   KPMG LLP

Los Angeles, CA
February 14, 2003

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ARTISTDIRECT RECORDS, LLC

BALANCE SHEETS
(IN THOUSANDS)

|                                          |                              |                           |        |              |       |              |         |       |        | 
|----------------------------------------- | ---------------------------- | ------------------------- | ------ | ------------ | ----- | ------------ | ------- | ----- | ------ | 
|                                          |                              |                           |        | December 31, |       | December 31,
|                                          |                              |                           |        | 2001         |       | 2002        
|                                          |                              |                           |        |              |       |             
|Assets                                    |                              |                           |        |              |       |              |         |      
|Current assets:                           |                              |                           |        |              |       |              |         |      
|                                          | Cash and cash equivalents    |                           | $      | 65           |       |              | $       |      |       
|                                          | Accounts receivable, net     |                           |        |             |       |              |         | 18    |       
|                                          | Inventory, net               |                           |        |             |       |              |         | 85    |       
|                                          | Prepaid expenses             |                           |        | 59           |       |              |         | 118   |       
|                                          |                              |                           |        |              |       |              |         |      
|                                          |                              | Total current assets      |        |              | 124   |              |         |       | 221    | 
|Property and equipment, net               |                              |                           | 21     |              |       |              | 231     |      
|Other assets, net                         |                              |                           | 115    |              |       |              | 85      |      
|                                          |                              |                           |        |              |       |              |         |      
|                                          |                              | $                         | 260    |              |       | $            | 537     |      
|                                          |                              |                           |        |              |       |              |         |      
|Liabilities and Members Equity
(Deficit) |                              |                           |        |              |       |              |         |      
|Current liabilities:                      |                              |                           |        |              |       |              |         |      
|                                          | Accounts payable             |                           |        | 360          |       |              |         | 531   |       
|                                          | Accrued expenses             |                           |        | 378          |       |              |         | 2,122 |       
|                                          | Due to ARTISTdirect, Inc.    |                           |        | 187          |       |              |         | 1     |       
|                                          | Net liability to distributor |                           |        | 2,500        |       |              |         | 4,113 |       
|                                          |                              |                           |        |              |       |              |         |      
|                                          |                              | Total current liabilities |        |              | 3,425 |              |         |       | 6,767  | 
|Interest payable                          |                              |                           | 135    |              |       |              | 1,276   |      
|Loan advances from related parties        |                              |                           | 5,250  |              |       |              | 35,000  |      
|                                          |                              |                           |        |              |       |              |         |      
|                                          |                              | Total liabilities         |        |              | 8,810 |              |         |       | 43,043 | 
|                                          |                              |                           |        |              |       |              |         |      
|Members Equity                           |                              |                           | (8,550 | )            |       |              | (42,506 | )    
|                                          |                              |                           |        |              |       |              |         |      
|                                          |                              | $                         | 260    |              |       | $            | 537     |      
|                                          |                              |                           |        |              |       |              |         |      

See accompanying notes to financial statements.

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ARTISTDIRECT RECORDS, LLC

STATEMENTS OF OPERATIONS
(IN THOUSANDS)

|                    |                                         |                          |   |                     |        |                   |       |        |         |  
|------------------- | --------------------------------------- | ------------------------ | - | ------------------- | ------ | ----------------- | ----- | ------ | ------- | -
|                    |                                         |                          |   | Period from May 31, |        |                   |       |       
|                    |                                         |                          |   | 2001 (inception) to |        | Year Ended       
|                    |                                         |                          |   | December 31, 2001   |        | December 31, 2002
|                    |                                         |                          |   |                     |        |                  
|Net revenue         |                                         | $                        |  |                     |        | $                 | 3,709 |       
|Cost of revenue:    |                                         |                          |   |                     |        |                   |       |       
|                    | Manufacturing and distribution
expenses |                          |   |                    |        |                   |       | 1,305  |        
|                    | Advances and royalties, net             |                          |   | 3,174               |        |                   |       | 8,788  |        
|                    |                                         |                          |   |                     |        |                   |       |       
|                    |                                         | Total cost of revenue    |   |                     | 3,174  |                   |       |        | 10,093  |  
|                    |                                         | Gross loss               |   |                     | (3,174 | )                 |       |        | (6,384  | )
|Operating expenses: |                                         |                          |   |                     |        |                   |       |       
|                    | Sales and marketing                     |                          |   | 799                 |        |                   |       | 12,029 |        
|                    | General and administrative              |                          |   | 4,549               |        |                   |       | 14,374 |        
|                    | Depreciation                            |                          |   | 2                   |        |                   |       | 36     |        
|                    |                                         |                          |   |                     |        |                   |       |       
|                    |                                         | Total operating expenses |   |                     | 5,350  |                   |       |        | 26,439  |  
|                    |                                         | Loss from operations     |   |                     | (8,524 | )                 |       |        | (32,823 | )
|                    | Interest expense, net                   |                          |   | 126                 |        |                   |       | 1,133  |        
|                    |                                         |                          |   |                     |        |                   |       |       
|                    |                                         | Net loss                 |   | $                   | (8,650 | )                 |       | $      | (33,956 | )
|                    |                                         |                          |   |                     |        |                   |       |       

See accompanying notes to financial statements

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ARTISTDIRECT RECORDS, LLC

STATEMENT OF CHANGES IN MEMBERS EQUITY (DEFICIT)
(IN THOUSANDS)

|                                    |                                             |   |           |         |  
|----------------------------------- | ------------------------------------------- | - | --------- | ------- | -
|                                    |                                             |   | Members' 
|                                    |                                             |   | Equity   
|                                    |                                             |   | (Deficit)
|                                    |                                             |   |          
|Balance at May 31, 2001 (inception) |                                             | $ |          |        
|                                    | Initial capital contribution upon formation |   |           | 100     |  
|                                    | Net loss                                    |   |           | (8,650  | )
|                                    |                                             |   |           |        
|Balance at December 31, 2001        |                                             |   | (8,550    | )      
|                                    | Net loss                                    |   |           | (33,956 | )
|                                    |                                             |   |           |        
|Balance at December 31, 2002        |                                             | $ | (42,506   | )      
|                                    |                                             |   |           |        

See accompanying notes to financial statements.

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ARTISTDIRECT RECORDS, LLC

STATEMENT OF CASH FLOWS
(IN THOUSANDS)

|                                                  |                                                                             |                                    |                                                          |                                                      |   |                     |        |                   |     |       |         |  
|------------------------------------------------- | --------------------------------------------------------------------------- | ---------------------------------- | -------------------------------------------------------- | ---------------------------------------------------- | - | ------------------- | ------ | ----------------- | --- | ----- | ------- | -
|                                                  |                                                                             |                                    |                                                          |                                                      |   | Period from May 31, |        |                   |     |      
|                                                  |                                                                             |                                    |                                                          |                                                      |   | 2001 (inception) to |        | Year Ended       
|                                                  |                                                                             |                                    |                                                          |                                                      |   | December 31, 2001   |        | December 31, 2002
|                                                  |                                                                             |                                    |                                                          |                                                      |   |                     |        |                  
|Cash flows from operating activities:             |                                                                             |                                    |                                                          |                                                      |   |                     |        |                  
|                                                  | Net loss                                                                    |                                    | $                                                        | (8,650                                               | ) |                     | $      | (33,956           | )  
|                                                  | Adjustments to reconcile net loss to net cash
used in operating activities: |                                    |                                                          |                                                      |   |                     |        |                   |    
|                                                  |                                                                             | Depreciation and amortization      |                                                          |                                                      | 2 |                     |        |                   | 36  |      
|                                                  |                                                                             | Allowance for obsolescence         |                                                          |                                                      |  |                     |        |                   | 250 |      
|                                                  |                                                                             | Allowance for sales returns        |                                                          |                                                      |  |                     |        |                   | 800 |      
|                                                  |                                                                             | Changes in assets and liabilities: |                                                          |                                                      |   |                     |        |                   |     |      
|                                                  |                                                                             |                                    | Accounts receivable                                      |                                                      |   |                    |        |                   |     | (18   | )      
|                                                  |                                                                             |                                    | Prepaid expenses and other current assets                |                                                      |   | (59                 | )      |                   |     | (394  | )      
|                                                  |                                                                             |                                    | Other assets                                             |                                                      |   | (115                | )      |                   |     | 30    |        
|                                                  |                                                                             |                                    | Accounts payable, accrued expenses and other liabilities |                                                      |   | 738                 |        |                   |     | 1,673 |        
|                                                  |                                                                             |                                    | Due to ARTISTdirect, Inc.                                |                                                      |   | 187                 |        |                   |     | (186  | )      
|                                                  |                                                                             |                                    | Net liability to distributor                             |                                                      |   | 2,500               |        |                   |     | 813   |        
|                                                  |                                                                             |                                    |                                                          |                                                      |   |                     |        |                  
|                                                  |                                                                             |                                    |                                                          | Net cash used in operating activities                |   |                     | (5,397 | )                 |     |       | (30,952 | )
|Cash flows from investing activities:             |                                                                             |                                    |                                                          |                                                      |   |                     |        |                  
|                                                  | Purchases of property and equipment                                         |                                    |                                                          | (23                                                  | ) |                     |        | (246              | )  
|                                                  |                                                                             |                                    |                                                          |                                                      |   |                     |        |                  
|                                                  |                                                                             |                                    |                                                          | Net cash used in investing activities                |   |                     | (23    | )                 |     |       | (246    | )
|Cash flows from financing activities:             |                                                                             |                                    |                                                          |                                                      |   |                     |        |                  
|                                                  | Proceeds from loan advances from ARTISTdirect, Inc.                         |                                    |                                                          | 5,250                                                |   |                     |        | 25,000            |    
|                                                  | Proceeds from loan advances from BMG                                        |                                    |                                                          |                                                     |   |                     |        | 4,750             |    
|                                                  | Net increase in interest payable                                            |                                    |                                                          | 135                                                  |   |                     |        | 1,141             |    
|                                                  | Net increase in cash overdraft                                              |                                    |                                                          |                                                     |   |                     |        | 242               |    
|                                                  | Proceeds from initial capital contributions                                 |                                    |                                                          | 100                                                  |   |                     |        |                  |    
|                                                  |                                                                             |                                    |                                                          |                                                      |   |                     |        |                  
|                                                  |                                                                             |                                    |                                                          | Net cash provided by financing activities            |   |                     | 5,485  |                   |     |       | 31,133  |  
|                                                  |                                                                             |                                    |                                                          | Net increase (decrease) in cash and cash equivalents |   |                     | 65     |                   |     |       | (65     | )
|Cash and cash equivalents at beginning of period  |                                                                             |                                    |                                                         |                                                      |   |                     | 65     |                  
|                                                  |                                                                             |                                    |                                                          |                                                      |   |                     |        |                  
|Cash and cash equivalents at end of period        |                                                                             | $                                  | 65                                                       |                                                      |   | $                   |       |                  
|                                                  |                                                                             |                                    |                                                          |                                                      |   |                     |        |                  
|Supplemental disclosure of cash flow information: |                                                                             |                                    |                                                          |                                                      |   |                     |        |                  
|                                                  |                                                                             |                                    |                                                          |                                                      |   |                     |        |                  
|                                                  | Cash paid during the period for interest                                    |                                    | $                                                        |                                                     |   |                     | $      |                  |    
|                                                  |                                                                             |                                    |                                                          |                                                      |   |                     |        |                  
|                                                  | Cash paid during the period for taxes                                       |                                    | $                                                        |                                                     |   |                     | $      |                  |    
|                                                  |                                                                             |                                    |                                                          |                                                      |   |                     |        |                  

See accompanying notes to financial statements.

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ARTISTDIRECT RECORDS, LLC

NOTES TO FINANCIAL STATEMENTS

1. BASIS OF PRESENTATION

ORGANIZATION

ARTISTdirect Records, LLC (the Company) was formed in May 2001 as a
50/50 owned record company between ARTISTdirect, Inc.(ARTISTdirect) and Radar
Records Holdings, LLC (Radar Records), an entity owned and controlled by Ted
Field, Chairman and Chief Executive Officer of ARTISTdirect. The Company
commenced operations in July 2001. At the time of formation of the Company,
ARTISTdirect committed to provide funding of up to $50 million over five years,
funding up to $15 million per year. In November 2001, ARTISTdirect agreed to
sell a 5% equity interest in the Company to BMG Music, a wholly-owned
partnership of Bertelsmann Music Group, Inc., the global music division of
Bertelsmann AG (BMG), in connection with entering into a North American
distribution agreement and a worldwide licensing agreement. In April 2002,
these agreements were formally executed. As part of these transactions, BMG
agreed to advance certain monies against net sales proceeds under the
agreements and also assumed $5.0 million of ARTISTdirects funding commitment
to the operations of the Company.

In August 2002, ARTISTdirect agreed to accelerate up to $10 million of its
funding commitment to the Company under a bridge loan agreement. As part of
the consideration for the accelerated funding, the full $10 million having been
advanced during 2002, ARTISTdirects ownership percentage in the Company
increased from 45% to 65% and Radar Records ownership percentage decreased to
30%. BMGs ownership percentage remained at 5%.

GOING CONCERN

The Company has incurred losses and negative cash flows from operations
since inception in 2001 and has an accumulated deficit of $42.5 million as of
December 31, 2002. For the year ended December 31, 2002, the Company incurred a
net loss of $34.0 million and negative operating cash flows of $31.0 million.
The Company has relied on loan and distribution advances to fund its operations
to date. During 2002, the Company received loan advances of $29.75 million
from ARTISTdirect and BMG and has received $35.0 million of loan advances
through December 31, 2002. Management expects its operating losses to continue
for the foreseeable future. The Company will require additional advances or
equity funding in order to meet anticipated needs for working capital and
capital expenditures during the next twelve months. The Company is attempting
to raise additional funding through the sale of its equity, but does not have
any formal commitments as of the date of these financial statements. If such
funding is not available, then the Company may be forced to cease operations
and seek bankruptcy protection or undertake liquidation, potentially resulting
in a total loss for equity holders. The conditions described above raise
substantial doubt about the Companys ability to continue as a going concern.
The financial statements do not include any adjustments that might result from
the outcome of this uncertainty.

2. SIGNIFICANT ACCOUNTING POLICIES

CASH AND CASH EQUIVALENTS

Cash and cash equivalents include deposits in a money-market account that
are readily convertible into cash and have an original maturity date of 90 days
or less.

REVENUE RECOGNITION

Revenue consists primarily of the sale of compact discs by artists signed
under contract with the Company. The Company recognizes revenues upon the
shipment of compact discs from its distributor to retailers and independent
wholesalers and records appropriate reserves for product returns. At the time
of the shipment of the product, the

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following criterion under Statement of Financial Accounting Standards
(SFAS) No. 48, Revenue Recognition When Right of Return Exists, have been
met: the sellers price to the buyer is substantially fixed or determinable at
the date of sale; the buyer has paid the seller, or the buyer is obligated to
pay the seller and the obligation is not contingent on resale of the product;
the buyers obligation to the seller would not be changed in the event of theft
or physical destruction or damage of the product; the buyer acquiring the
product for resale has economic substance apart from that provided by the
seller; the seller does not have significant obligations for future performance
to directly bring about resale of the product by the buyer; the amount of
future returns can be reasonably estimated.

The Company estimates the provision for returns on a quarterly basis by
album based on the amount of time since the initial album release, the actual
returns to date, the trend of sales activity (sales by the retailers and
wholesalers) and the number of unsold units at retailers and wholesalers.
Returns to the Companys distributor are deemed to be returns to the Company.
Revenues recorded for the year ended December 31, 2002 are net of a provision
for actual and estimated future returns of $1.7 million.

COST OF REVENUE

Manufacturing expenses consists of the cost of pressing compact discs,
manufacturing printed booklets and packaging materials and a provision for the
obsolescence of finished goods and components. Distribution expenses consist
of the distribution fee payable to BMG and other distribution expenses
including the cost of processing returns and warehousing inventory. Artist
advances and royalty expenses consist of payments made to artists and others in
connection with the recording of an album.

ARTIST ADVANCES

Artist advances consists of the amounts advanced to artists in connection
with the recording of their albums. In addition, included in artist advances
are costs expended for producer fees, musician fees, engineering and studio
costs, equipment costs, mastering and remix costs, sample clearances and artist
living expenses during recording. Artist advances are typically recoupable
from artist royalties earned from the sale of compact discs. The Company
expenses these advances when incurred as the Companys artists have limited or
no history of album sales.

INVENTORY

Inventory, net of a provision for obsolescence, consists of finished
albums maintained in the warehouse of the Companys distributor and is stated
at the lower of cost or net realizable value.

DEPRECIATION

Depreciation is provided using the straight-line method over the following
estimated useful lives:

|                                |  |         |  |  |  |  |  | 
|------------------------------- |  | ------- |  |  |  |  |  | 
|Computer equipment and software |  | 3 years
|Furniture and fixtures          |  | 7 years
|Studio equipment                |  | 7 years

INCOME TAXES

The Company is treated as a limited liability company for federal and
state income tax reporting purposes whereby income (or losses) of the Company
is reported in the individual income tax returns of the Companys members.

STOCK-BASED COMPENSATION

The Company accounts for stock-based employee compensation in accordance
with the provisions of Accounting Principles Board (APB) Opinion No. 25 and
FASB Interpretation No. 44 (FIN 44), Accounting for Certain Transactions
Involving Stock Compensation, and complies with the disclosure requirements of
SFAS No.

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123, Accounting for Stock-Based Compensation. Under APB No. 25,
compensation expense is recorded based on the difference, if any, between the
fair value of the Companys stock and the exercise price on the measurement
date. The Company accounts for stock issued to non-employees in accordance
with SFAS No. 123, which requires entities to recognize as expense over the
service period the fair value of all stock-based awards on the date of grant
and EITF 96-18, Accounting for Equity Investments that are Issued to Other
Than Employees for Acquiring, or in Conjunction with Selling, Goods or
Services, which addresses the measurement date and recognition approach for
such transactions. The Company recognizes compensation expense related to
variable awards in accordance with FIN 28. For fixed awards, the Company
recognizes expense over the vesting period or the period of service

The Company has not recorded any stock-based compensation expense for the
periods ended December 31, 2001 and 2002.

CONCENTRATION OF CREDIT RISK AND SUPPLIER RISK

Financial instruments that potentially subject the Company to significant
concentrations of credit risk consist principally of cash and cash equivalents
and trade accounts receivable. The Company places its cash and cash
equivalents in high credit quality instruments. Cash balances at certain
financial institutions may exceed the FDIC insurance limits. The Companys
exposure to losses on receivables is dependent upon the financial condition of
its distributor, BMG, who is responsible for credit losses from retail or
wholesale customers.

The Company purchases its inventory from a limited number of suppliers.
However, there are a number of alternative suppliers who can provide
manufacturing services for the Company.

FAIR VALUE OF FINANCIAL INSTRUMENTS

The carrying amounts of financial instruments, which include cash and cash
equivalents, accounts receivable, accounts payable and accrued expenses,
approximate fair value because of the short maturity of these instruments.

ESTIMATES

In preparing financial statements in conformity with generally accepted
accounting principles, management is required to make estimates and assumptions
that affect the reported amounts of assets and liabilities and the disclosures
of contingent assets and liabilities at the date of the financial statements
and revenues and expenses during the reporting period. Some of the more
significant estimates are the allowance for sales returns and inventory
obsolescence. Actual results could differ from those estimates.

RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

In July 2001, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 141, Business
Combinations and SFAS No. 142, Goodwill and Other Intangible Assets. SFAS
No. 141 requires that all business combinations be accounted for under the
purchase method. The statement further requires separate recognition of
intangible assets that meet one of two criteria. The statement applies to all
business combinations initiated after June 30, 2001.

SFAS No. 142 requires that an intangible asset that is acquired shall be
initially recognized and measured based on its fair value. The statement also
provides that goodwill should not be amortized, but shall be tested for
impairment annually, or more frequently if circumstances indicate potential
impairment, through a comparison of fair value to its carrying amount. SFAS No.
142 is generally effective for fiscal periods beginning after December 15, 2001
and the amortization provisions of SFAS No. 142 are effective for acquisitions
subsequent to June 30, 2001. The Company adopted SFAS No. 142 effective January 1, 2002 (See Note 2 and 8).

In October 2001, the FASB issued SFAS No. 144, Accounting for the
Impairment of Long-Lived Assets which addresses financial accounting and
reporting for the impairment or disposal of long-lived assets. While SFAS No. 144 supersedes SFAS No. 121, Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to be Disposed Of, it retains many of the
fundamental provisions of that statement. SFAS No. 144 is

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effective for fiscal years beginning after December 15, 2001. The adoption
of SFAS No. 144 did not have a material impact on the Companys financial
position, result of operation and cash flow.

In April 2002, the FASB issued SFAS No. 145, Rescission of FASB
Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical
Corrections (SFAS 145). SFAS 145 rescinds SFAS 4, which required all gains
and losses from extinguishment of debt to be aggregated and, if material,
classified as an extraordinary item, net of related income tax effect. Upon
adoption of SFAS 145, we will be required to apply the criteria in APB Opinion
No. 30, Reporting the Results of Operations  Reporting the Effects of Disposal
of a Segment of a Business, and Extraordinary, Unusual and Infrequently
Occurring Events and Transactions (Opinion No. 30), in determining the
classification of gains and losses resulting from the extinguishment of debt.
Additionally, SFAS 145 amends SFAS 13 to require that certain lease
modifications that have economic effects similar to sale-leaseback transactions
to be accounted for in the same manner as sale-leaseback transactions. SFAS
145 will be effective for fiscal years beginning after May 15, 2002 with early
adoption of the provisions related to the rescission of SFAS 4 encouraged.
Upon adoption, companies must reclassify prior period items that do not meet
the extraordinary item classification criteria in Opinion No. 30. The adoption
of SFAS 145 for long-lived assets held for use did not have a material impact
on the Companys consolidated financial statements.

In June 2002, the FASB issued SFAS No. 146, Accounting for Costs
Associated with Exit and Disposal Activities. SFAS 146 nullifies Emerging
Issues Task Force (EITF) issue 94-3, Liability Recognition for Certain Employee
Termination Benefits and Other Costs to Exit an Activity (including Certain
Costs Incurred in a Restructuring). Under EITF issue 94-3, a liability for an
exit cost is recognized at the date of an entitys commitment to an exit plan.
Under SFAS 146, the liabilities associated with an exit or disposal activity
will be measured at fair value and recognized when the liability is incurred
and meets the definition of a liability in the FASBs conceptual framework.
This statement is effective for exit or disposal activities initiated after
December 31, 2002. The Company believes that the adoption of SFAS 146 will not
have a material impact on its consolidated financial statements.

In November 2002, the FASB issued Interpretation No. 45, Guarantors
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness to Others (FIN 45), an interpretation of FASB
Statements Nos. 5, 57 and 107 and a rescission of FASB Interpretation No. 34.
FIN 45 elaborates on the disclosures to be made by a guarantor in its interim
and annual financial statements about its obligations under guarantees issued.
FIN 45 also clarifies that a guarantor is required to recognize, at inception
of a guarantee, a liability for the fair value of the obligation undertaken.
The initial recognition and measurement provisions of FIN 45 are applicable to
guarantees issued or modified after December 31, 2002 and are not expected to
have a material effect on the Companys financial position, result of operation
and cash flow. The disclosure requirements are effective for financial
statements of interim and annual periods ended after December 15, 2002.

In November 2002, the FASBs Emerging Issues Task Force (EITF) issued EITF
00-21 Revenue Arrangements with Multiple Deliverables. EITF 00-21 addresses
certain aspects of the accounting by a vendor for arrangements under which it
will perform multiple revenue-generating activities. Specifically, EITF 00-21
addresses how to determine whether an arrangement involving multiple
deliverables contains more than one unit of accounting. In applying EITF
00-21, separate contracts with the same entity or related parties that are
entered into at or near the same time are presumed to have been negotiated as a
package and should, therefore, be evaluated as a single arrangement in
considering whether there are one or more units of accounting. That
presumption may be overcome if there is sufficient evidence to the contrary.
EITF 00-21 also addresses how arrangement consideration should be measured and
allocated to the separate units of accounting in the arrangement. The guidance
in this Issue is effective for revenue arrangements entered into in fiscal
periods beginning after June 15, 2003. Alternatively, companies may elect to
report the change in accounting as a cumulative-effect adjustment. Early
application of this consensus is permitted. The adoption of this accounting
pronouncement is not expected to have a significant impact on the Companys
financial statements.

In December 2002, the FASB issued SFAS No. 148, Accounting for
Stock-Based CompensationTransition and Disclosurean amendment of SFAS No. 123. This statement provides alternative methods of transition for a voluntary
change to the fair value based method of accounting for stock-based employee
compensation. This statement also amends the disclosure requirements of SFAS
No. 123 and APB Opinion No. 28, Interim Financial

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Reporting, to require prominent disclosures in both annual and interim
financial statements about the method of accounting for stock-based employee
compensation and the effect of the method used on reported results. Certain of
the disclosure modifications are required for fiscal years ending after
December 15, 2002 and are included in the Notes to these Consolidated Financial
Statements. The Company will implement SFAS No. 148 effective January 1, 2003
regarding disclosure requirements for condensed financial statements for
interim periods. The Companys management has determined that they will
continue to account for stock-based employee compensation in accordance with
APB No. 25.

In February 2003, the FASB issued Interpretation No. 46, Consolidation of
Variable Interest Entities (FIN 46), which addresses the consolidation by
business enterprises of variable interest entities, which have one or both of
the following characteristics: (1) the equity investment at risk is not
sufficient to permit the entity to finance its activities without additional
financial support from other parties, or (2) the equity investors lack one or
more of the following essential characteristics of a controlling financial
interest: (a) the direct or indirect ability to make decisions about the
entitys activities through voting or similar rights, (b) the obligation to
absorb the expected losses of the entity if they occur, or (c) the right to
receive the expected residual returns of the entity if they occur. FIN 46 will
have a significant effect on existing practice because it requires existing
variable interest entities to be consolidated if those entities do not
effectively disburse risks among parties involved. In addition, FIN 46
contains detailed disclosure requirements. FIN 46 applies immediately to
variable interest entities created after January 31, 2003, and to variable
interest entities in which an enterprise obtains an interest after that date.
It applies in the first fiscal year or interim period beginning after June 15,
2003, to variable interest entities in which an enterprise holds a variable
interest that it acquired before February 1, 2003. This Interpretation may be
applied prospectively with a cumulative-effect adjustment as of the date on
which it is first applied or by restating previously issued financial
statements for one or more years with a cumulative-effect adjustment as of the
beginning of the first year restated. The adoption of this pronouncement may
have a significant impact on the Companys consolidated financial statements.

3. ARTIST ADVANCES

As of December 31, 2002, ARTISTdirect Records had signed recording
agreements with 17 artists and advanced a total of $11.3 million in artist
advances and recording costs. As of December 31, 2001, the Company had signed
seven artists and advanced a total of $3.2 million. The amount of these
advances is recoupable against royalties to be earned by the artists based on
sales. However, given that most of the artists signed by the label have no
previous track record, the venture has expensed the advances as incurred. As
of December 31, 2002, ARTISTdirect Records is contractually committed to
additional minimum artist advances of approximately $2.0 million. This advance
commitment could increase by an additional approximate $2.0 million depending
upon the sales performance of certain initial releases and excludes
approximately $30 million that could be advanced under the
exercise of options for additional albums at the Companys sole
discretion. In January 2003, the Company signed an additional artist and
committed to additional advances of $2.0 million.

4. PROPERTY AND EQUIPMENT

Property and equipment are recorded at cost and consist of the following:

|                                |                             |   |                |    |      |   |     |     | 
|------------------------------- | --------------------------- | - | -------------- | -- | ---- | - | --- | --- | 
|                                |                             |   | December 31,  
|                                |                             |   |               
|                                |                             |   | 2001           |    | 2002
|                                |                             |   |                |    |     
|                                |                             |   | (in thousands)
|Computer equipment and software |                             | $ | 13             |    |      | $ | 71  |    
|Furniture and fixtures          |                             |   | 10             |    |      |   | 29  |    
|Studio equipment                |                             |   |               |    |      |   | 169 |    
|                                |                             |   |                |    |      |   |     |    
|                                |                             |   | 23             |    |      |   | 269 |    
|Less accumulated depreciation   |                             |   | (2             | )  |      |   | (38 | )  
|                                |                             |   |                |    |      |   |     |    
|                                | Property and equipment, net |   | $              | 21 |      |   | $   | 231 | 
|                                |                             |   |                |    |      |   |     |    

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5. ALLOWANCE FOR SALES RETURN RESERVE

A summary of the activity of the reserve for sales returns for the periods
indicated is reflected in the following table:

|                             |  |                   |   |                   |  |   |       |  
|---------------------------- |  | ----------------- | - | ----------------- |  | - | ----- | -
|                             |  | Period Ended      |   | Year Ended       
|                             |  | December 31, 2001 |   | December 31, 2002
|                             |  |                   |   |                  
|                             |  | (in thousands)   
|Balance, beginning of period |  | $                 |  |                   |  | $ |      |  
|Provision for sales returns  |  |                   |  |                   |  |   | 1,689 |  
|Actual returns               |  |                   |  |                   |  |   | (889  | )
|                             |  |                   |   |                   |  |   |       |  
|Balance, end of period       |  | $                 |  |                   |  | $ | 800   |  
|                             |  |                   |   |                   |  |   |       |  

6. ACCRUED EXPENSES

Accrued expenses are comprised of the following:

|                                 |                        |   |                |     |      |   |       |       | 
|-------------------------------- | ---------------------- | - | -------------- | --- | ---- | - | ----- | ----- | 
|                                 |                        |   | December 31,  
|                                 |                        |   |               
|                                 |                        |   | 2001           |     | 2002
|                                 |                        |   |                |     |     
|                                 |                        |   | (in thousands)
|Accrued compensation and related |                        | $ | 94             |     |      | $ | 1,082 |      
|Accrued sales and marketing      |                        |   | 100            |     |      |   | 530   |      
|Accrued royalties                |                        |   |               |     |      |   | 245   |      
|Other accrued expenses           |                        |   | 184            |     |      |   | 265   |      
|                                 |                        |   |                |     |      |   |       |      
|                                 | Total accrued expenses |   | $              | 378 |      |   | $     | 2,122 | 
|                                 |                        |   |                |     |      |   |       |      

7. SIGNIFICANT CONTRACTS

In November 2001, ARTISTdirect Records agreed in principle to enter into a
preliminary North American distribution agreement and worldwide license
agreement with BMG Music ("BMG"), the global music division of Bertelsmann AG. Under the
terms of the agreement, BMG distributes ARTISTdirect Records
releases in North America, and BMG licenses ARTISTdirect Records repertoire in
territories throughout the world. In April 2002, the agreements with BMG were
finalized including BMGs purchase of 5% of the equity of ARTISTdirect Records
from ARTISTdirect, Inc. In connection with the purchase of equity, BMG agreed
to assume $5.0 million of ARTISTdirects funding commitment to ARTISTdirect
Records that it advanced during 2002. This loan advance bears interest at a
rate of LIBOR plus four percent and the principal and interest are not
repayable until December 31, 2015 or upon such time as the Company achieves
certain defined levels of excess cash flow and available cash.

Under the distribution and license agreements, BMG has made non-returnable
advances to the Company of $2.5 million in 2001, $2.5 million in 2002 and $2.0
million in January 2003 that are recoupable from net sales proceeds from the
Companys artist repertoire. The advances are to be recouped on a monthly
basis based on a defined calculation. As of December 31, 2001 and 2002, the
unrecouped balance related to distribution advances from BMG was $2.5 million
and $4.1 million, respectively.

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8. RELATED PARTY TRANSACTIONS

In connection with the formation of the Company, ARTISTdirect, Inc. which
initially owned 50% of the membership units of the Company, committed to fund
100% of the Companys operations up to a total of $50 million over 5 years.
ARTISTdirect, Inc.s funding commitment was reduced to $45 million in
connection with its sale of 5% of the equity of ARTISTdirect Records to BMG who
assumed $5 million of the funding commitment. The loan advances provided to
the Company by ARTISTdirect and BMG bear interest at a rate of LIBOR plus four
percent and the principal and interest are not repayable until December 31,
2015 or upon such time as the Company achieves certain defined levels of excess
cash flow and available cash. As of December 31, 2001 and 2002, the Company
had loans payable to ARTISTdirect, Inc. of $30.25 million and to BMG of $4.75
million, respectively. In addition, as of December 31, 2001 and 2002, the
Company had accrued interest payable to ARTISTdirect, Inc. of $135,000 and $1.1
million, respectively, and to BMG of $0 and $189,000, respectively.

ARTISTdirect, Inc. provides certain services to the Company under a shared
services agreement. These services include the providing of office space,
internet and telephone services and the services of certain ARTISTdirect, Inc.
personnel primarily in the areas of accounting, legal, information technology,
human resources and administration. During the period from May 31 to December 31,
2001 and the year ended December 31, 2002, the Company reimbursed
ARTISTdirect, Inc. $1.35 million and $200,000, respectively.

9. MEMBERS EQUITY

Upon its formation in May 2001, the Company issued 10,000,000 membership
units for total proceeds of $100,000.

A member has entered into contingent compensation agreements whereby
certain employees and non-employees would receive a portion of the proceeds
received by one of the members of the Company upon a sale event as defined in
the contingent compensation agreements. The percentage of the sale proceeds
that these individuals shall receive is subject to vesting provisions of up to
5 years. As of December 31, 2002, the Company had entered into contingent
compensation agreements that would result in the payment of up to approximately
11.8% of the sale proceeds received by the member of the Company that is a
party to these agreements. As of December 31, 2002, approximately 42% of the
11.8%, or a total of approximately 5.0% of the sale proceeds subject to payment
under these agreements, is vested. The Company shall recognized compensation
expense for any payments made under these arrangements upon the occurrence of a
sale event as defined in the contingent compensation agreements. No such event
has occurred as of December 31, 2002.

10. 401(K) PLAN

In 2001, the Company adopted ARTISTdirect, Inc.s Cash or Deferred Profit
Sharing Plan and Trust under Section 401(k) of the Internal Revenue Code (the
401(k) Plan). Under the 401(k) Plan, participating employees may defer a
percentage (not to exceed 15%) of their eligible pretax earnings up to the
Internal Revenue Services annual contribution limit. All employees of the
Company age 21 years or older who complete three months of service are eligible
to participate in the 401(k) Plan. The Company does not match participants
contributions to the 401(k) Plan. Accordingly, there is no expense for the
year ended December 31, 2002 and the period from May 31, 2001 (inception) and
December 31, 2001.

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11. COMMITMENTS AND CONTINGENCIES

Future minimum lease payments under operating leases for certain equipment
are as follows for of the years ended December 31:

|     |       |   |                |    | 
|---- | ----- | - | -------------- | -- | 
|     |       |   | Years Ended   
|     |       |   | December 31,  
|     |       |   |               
|     |       |   | (in thousands)
|2003 |       | $ | 10             |   
|2004 |       |   | 8              |   
|     |       |   |                |   
|     | Total |   | $              | 18 | 
|     |       |   |                |   

Future payments under employment contracts are as follows:

|           |       |   |                |        | 
|---------- | ----- | - | -------------- | ------ | 
|           |       |   | Years Ended   
|           |       |   | December 31,  
|           |       |   |               
|           |       |   | (in thousands)
|2003       |       | $ | 5,324          |       
|2004       |       |   | 2,771          |       
|2005       |       |   | 1,585          |       
|2006       |       |   | 875            |       
|Thereafter |       |   |               |       
|           |       |   |                |       
|           | Total |   | $              | 10,555 | 
|           |       |   |                |       

During 2002, the employment agreement of the Companys chief executive was
amended whereby the executive agreed to defer all of his future salary until
the Company raised new debt or equity financing of at least $20 million. The
future payments under employment contracts as of December 31, 2002 shown above
do not take into account this contractual deferral. If this deferral does not
become payable, the Companys future payment obligations under employment
agreements as shown above would decrease by $1.0 million annually during 2003,
2004 and 2005 and by $500,000 during 2006.

LITIGATION

The Company is subject to various pending and threatened legal actions,
which arise in the normal course of business. The Companys management
believes that the impact of such litigation will not have a material adverse
impact on its financial position or results of operations.

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EXHIBIT INDEX



|            |     |             |  |                                                                                                                                                                                                                                                                                      
|----------- | --- | ----------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|EXHIBIT NO. |     | DESCRIPTION
|            |     |            
|            | 3.1 |             |  | Amended and Restated Certificate of Incorporation of the
Registrant. Incorporated by reference to Exhibit 3.1 in the
Registrants Registration Statement on Form S-1 initially filed
on September 22, 1999 (Registration No. 333-87547), as amended by
Amendment No.s 1 - 7 thereto.
|           
|            | 3.2 |             |  | Amended and Restated Bylaws of the Registrant. Incorporated by
reference to Exhibit 3.2 in the Registrants Registration
Statement on Form S-1 initially filed on September 22, 1999
(Registration No. 333-87547), as amended by Amendment No.s 1 - 7
thereto.                      
|           
|            | 3.3 |             |  | Certificate of Amendment of the Third Amended and Restated
Certificate of Incorporation. Incorporated by reference to
Exhibit 3.3 in the Registrants Quarterly Report on Form 10-Q
filed on August 14, 2001.                                                                        
|           
|            | 3.4 |             |  | Certificate of Amendment, dated June 3, 2002, of the Third
Amended and Restated Certificate of Incorporation. Incorporated
by reference to Exhibit 3.4 in the Registrants Quarterly Report
on Form 10-Q filed on August 14, 2002.                                                   
|           
|            | 4.1 |             |  | See Exhibits 3.1 and 3.2 for provisions of the Registrants
Certificate of Incorporation and Bylaws determining the rights of
holders of the Registrants common stock.                                                                                                              





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|            |      |             |  |                                                                                                                                                                                                                                                                                                                                                       
|----------- | ---- | ----------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|EXHIBIT NO. |      | DESCRIPTION
|            |      |            
|            | 4.2  |             |  | Specimen common stock certificate. Incorporated by reference to
Exhibit 4.2 in the Registrants Registration Statement on
Form S-1 initially filed on September 22, 1999
(Registration No 333-87547), as amended by Amendment No.s 1 - 7 thereto.                                                                                                    
|           
|            | 4.3  |             |  | Registration Rights Letter Agreement dated May 31, 2001 between
the Registrant and Frederick W. Field. Incorporated by reference
to Exhibit 3 filed in connection with the Registrants Definitive
Proxy Statement on June 11, 2001.                                                                                                                  
|           
|            | 10.1 |            |  | Amendment No. 1 dated February 27, 2002 to the Agreement dated
July 19, 2000 between the Registrant and Ticketmaster.
Incorporated by reference to Exhibit 10.35 in the Registrants Quarterly Report on
Form 10-Q filed on May 15, 2002.                                                                                                             
|           
|            | 10.2 |            |  | Escrow Agreement dated March 13, 2002 among the Registrant,
Ticketmaster and JPMorgan Chase Bank. Incorporated by reference
to Exhibit 10.36 in the Registrants Quarterly Report on Form 10-Q filed on
May 15, 2002.                                                                                                                                 
|           
|            | 10.3 |            |  | Agreement dated October 22, 2001 between the Registrant and Old
Glory Boutique Distributing, Inc. Incorporated by reference to Exhibit 10.37 in
the Registrants Quarterly Report on Form 10-Q filed on
August 14, 2002.                                                                                                                              
|           
|            | 10.4 |            |  | Letter Agreement, dated as of December 9, 2002, by and between
ARTISTdirect, Inc. and Frederick Field to amend the Employment
Agreement dated May 31, 2001 between ARTISTdirect, Inc. and Mr
Field. Incorporated by reference to Exhibit 10.38 in the Registrants Current
Report on Form 8-K filed on December 13, 2002.                             
|           
|            | 10.5 |            |  | Letter Agreement, dated as of December 9, 2002, by and between
ARTISTdirect Records, L.L.C. and Frederick Field to amend the
Employment Agreement dated May 31, 2001 between ARTISTdirect
Records, L.L.C. and Mr. Field. Incorporated by reference to
Exhibit 10.39 in the
Registrants Current Report on Form 8-K filed on December 13,
2002.        
|           
|            | 10.6 |             |  | Letter Agreement, dated as of December 23, 2002, by and between
ARTISTdirect, Inc. and Keith Yokomoto to amend the Employment
Agreement dated July 1, 2001 between ARTISTdirect, Inc. and Mr
Yokomoto. Incorporated by reference to Amendment No. 1 to
Exhibit 10.40 in the
Registrants Quarterly Report on Form 10-Q/A filed on
December 23, 2002.  
|           
|            | 10.7 |             |  | Letter Agreement, dated as of December 23, 2002, by and between
ARTISTdirect, Inc. and Marc Geiger to amend the Employment
Agreement dated July 28, 1998, as amended on July 1, 2001,
between ARTISTdirect, Inc. and Mr. Geiger. Incorporated by
reference to Exhibit 10.41 in the Registrants Current Report on Form 8-K filed on
December 23, 2002.
|           
|            | 10.8 |             |  | Letter Agreement dated December 11, 2002 between the Registrant and Benn Co., LLC consenting to the assignment by
Old Glory Boutique Distributing, Inc. to Benn Co., LLC of the
Agreement dated October 22, 2001 between the Registrant and Old Glory Boutique Distributing, Inc.                                                                     
|           
|            | 10.9 |            |  | Agreement for Services dated as of June 13, 2002 between the Registrant and Frankel & Company.                                                                                                                                                                                                                                                        
|           
|            | 21.1 |             |  | Subsidiaries of the Registrant. Incorporated by reference to
Exhibit 21.1 in the Registrants Registration Statement on
Form S-1 initially filed on November 22, 2000 (Registration No 333-50576), as amended by Amendment No.s 1 - 5 thereto.                                                                                                       
|           
|            | 23.1 |             |  | Consent of KPMG LLP with respect to ARTISTdirect, Inc. and
subsidiaries                                                                                                                                                                                                                                                                               
|           
|            | 23.2 |             |  | Consent of KPMG LLP with respect to ARTISTdirect Records, LLC                                                                                                                                                                                                                                                                                         
|           
|            | 24.1 |             |  | Powers of Attorney. See signature page to this Annual Report on
Form 10-K.                                                                                                                                                                                                                                                                            
|           



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| |  | Confidential treatment was requested for certain confidential portions
of this exhibit pursuant to Rule 24b-2 under the Securities Exchange Act of 1934. In accordance
with Rule 24b-2, these confidential portions were omitted from this exhibit
and filed separately with the Securities and Exchange Commission.
|- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------