**United StatesSecurities and Exchange Commission****Washington, D.C. 20549**

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**Form 10-Q**

**x        QUARTERLYREPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES AND EXCHANGE ACT OF1934**

 

**For the quarterly period endedSeptember 30, 2007**

**OR**

**o        TRANSITIONREPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES AND EXCHANGE ACT OF1934**

**Commission File Number 0-27517**

**GAIAM, INC.**(Exact name ofregistrant as specified in its charter)
| **COLORADO**                     |   | **84-1113527**       |
|----------------------------------|--------|----------------------|
| (State or other  jurisdiction of |   | (I.R.S. Employer     |
| incorporation or  organization)  |   | Identification  No.) |

 

| **360  INTERLOCKEN BLVD.  BROOMFIELD, COLORADO 80021**(Address of  principal executive offices) |
|-------------------------------------------------------------------------------------------------|

** **

**(303) 222-3600**(Registrant’stelephone number, including area code)

Indicateby check mark whether the registrant:  (1) has filed all reports requiredto be filed by Section 13 or 15 (d) of the Securities and Exchange Act of 1934during the preceding 12 months (or for such shorter period that the registrantwas required to file such reports) and (2) has been subject to such filingrequirements for the past 90 days.  YES  x    NO  o

Indicateby check mark whether the registrant is a large accelerated filer, anaccelerated filer or a non-accelerated filer. See definition of “acceleratedfiler” and “large accelerated filer” in Rule 12b-2 of the Exchange Act.
| Large  Accelerated Filer  o |   | Accelerated  Filer  x |   | Non-Accelerated  Filer  o |
|---------------------------------------|--------|---------------------------------|--------|-------------------------------------|

 

Indicateby check mark whether the registrant is a shell company (as defined in Rule12b-2 of the Exchange Act).  YES  o   NO  x

Indicatethe number of shares outstanding of each of the issuer’s classes of commonstock, as of the latest practicable date:
| **Class**                                |   | **Outstanding  at November 6, 2007** |
|------------------------------------------|--------|--------------------------------------|
| Class A Common  Stock ($.0001 par value) |   | 19,386,043                           |
| Class B Common  Stock ($.0001 par value) |   |  5,400,000                      |

 

 

 

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**GAIAM, INC.**

**FORM 10-Q**

**INDEX**

 
| **PART I.  FINANCIAL INFORMATION** | ** **                                                                                                       | ** ** |
|------------------------------------|------------------------------------------------------------------------------------------------------------------|------------|
| ** **                         | ** **                                                                                                       | ** ** |
| **Item  1.**                       | **Financial  Statements (Unaudited):**                                                                           |       |   |
| ** **                         | Condensed Consolidated Balance Sheets at September 30,  2007 and December 31, 2006                               |       |   |
| ** **                         | Condensed Consolidated Statements of Operations for  the Three and Nine Months Ended September 30, 2007 and 2006 |       |   |
| ** **                         | Condensed Consolidated Statements of Cash Flows for  the Nine Months Ended September 30, 2007 and 2006           |       |   |
| ** **                         | Notes to Interim Condensed Consolidated Financial  Statements                                                    |       |   |
| ** **                         |                                                                                                             |       |   |
| **Item 2.**                        | Management’s Discussion and Analysis of Financial  Condition and Results of Operations                      |       |   |
| ** **                         |                                                                                                             |       |   |
| **Item 3.**                        | Quantitative and Qualitative Disclosures About Market  Risk                                                      |       |   |
| ** **                         |                                                                                                             |       |   |
| **Item 4.**                        | Controls and Procedures                                                                                          |       |   |
| ** **                         |                                                                                                             |       |   |
| **PART  II. OTHER INFORMATION**    |                                                                                                             |       |
| ** **                         |                                                                                                             |       |   |
| **Item  1.**                       | Legal  Proceedings                                                                                               |       |   |
| ** **                         |                                                                                                             |       |   |
| **Item  1A.**                      | Risk Factors                                                                                                     |       |   |
| ** **                         |                                                                                                             |       |   |
| **Item 2.**                        | Unregistered Sales of Equity Securities and Use of  Proceeds                                                     |       |   |
| ** **                         |                                                                                                             |       |   |
| **Item 3**                         | Defaults Upon Senior Securities                                                                                  |       |   |
| ** **                         |                                                                                                             |       |   |
| **Item 4.**                        | Submission of Matters to a Vote of Security Holders                                                              |       |   |
| ** **                         |                                                                                                             |       |   |
| **Item  5.**                       | Other  Information                                                                                               |       |   |
| ** **                         |                                                                                                             |       |   |
| **Item 6.**                        | Exhibits                                                                                                         |       |   |
| ** **                         |                                                                                                             |       |   |
| ** **                         | SIGNATURES                                                                                                       |       |   |

# ** **

# **2**

# ****

# ** **

**CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS**

# **This report may contain forward-looking statements thatinvolve risks and uncertainties. When used in discussion, the words “anticipate,”“believe,” “plan,” “estimate,” “expect,” “strive,” “future,” “intend” andsimilar expressions as they relate to Gaiam or its management are intended toidentify such forward-looking statements. Gaiam’s actual results could differmaterially from the results anticipated in these forward-looking statements asa result of certain factors set forth under “Management’s Discussion andAnalysis of Financial Condition and Results of Operations,” “Quantitative andQualitative Disclosures about Market Risk” and elsewhere in this report. Risksand uncertainties that could cause actual results to differ include, withoutlimitation, general economic conditions, competition, loss of key personnel,pricing, brand reputation, consumer trends, acquisitions, new initiativesundertaken by Gaiam, security and information systems, legal liability forwebsite content, merchandise supply problems, failure of third parties toprovide adequate service, our reliance on centralized customer service,overstocks and merchandise returns, our reliance on a centralized fulfillmentcenter, increases in postage and shipping costs, E-commerce trends, futureInternet related taxes, control of Gaiam by its founder, fluctuations inquarterly operating results, customer interest in our products, the effect ofgovernment regulation and other risks and uncertainties included in Gaiam’s filingswith the Securities and Exchange Commission. We caution you that noforward-looking statement is a guarantee of future performance, and you shouldnot place undue reliance on these forward-looking statements which reflect ourmanagement’s view only as of the date of this report. We undertake noobligation to update any forward-looking information.**

# ** **

# **PART I.  FINANCIAL INFORMATION**

**Item 1.    Financial Statements (Unaudited)**

# **UnauditedInterim Condensed Consolidated Financial Statements**

The unaudited interim condensed consolidated financialstatements included herein have been prepared by the management of Gaiampursuant to the rules and regulations of the United States Securities andExchange Commission. Certain information and note disclosures normally includedin annual financial statements prepared in accordance with accountingprinciples generally accepted in the United States have been condensed oromitted pursuant to these rules and regulations, although the Company believesthat the disclosures made are adequate to make the information not misleading.In the opinion of management, the unaudited interim condensed financialstatements contain all adjustments (consisting of only normal recurringadjustments) necessary to present fairly, in all material respects, Gaiam’sconsolidated financial position as of September 30, 2007, the interim resultsof operations for the three and nine months ended September 30, 2007 and 2006,and cash flows for the nine months ended September 30, 2007 and 2006. Theseinterim statements have not been audited. The balance sheet as of December 31,2006 was derived from Gaiam’s audited consolidated financial statementsincluded in Gaiam’s annual report on Form 10-K. The interim condensedconsolidated financial statements contained herein should be read inconjunction with Gaiam’s audited financial statements, including the notesthereto, for the year ended December 31, 2006.

 

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**GAIAM, INC.CONDENSED CONSOLIDATED BALANCE SHEETS**

(In thousands, except share information)
| ** **                                                                                                                                                                                 | ** ** | **September 30,** | ** ** | **December 31,** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------|------------|-----------------------|------------|
| ** **                                                                                                                                                                                 | ** ** | **2007**          | ** ** | **2006**              | ** ** |
| ** **                                                                                                                                                                                 | ** ** | **(Unaudited)**   | ** ** | ** **            | ** ** |
| **Assets**                                                                                                                                                                                 |       |              |       |                  |       |
| Current assets:                                                                                                                                                                            |       |              |       |                  |       |
| Cash and cash equivalents                                                                                                                                                                  |       | $                 | 81,565     |                  | $          | 104,876 |   |
| Accounts receivable, net                                                                                                                                                                   |       | 12,879            |       | 25,324                |       |
| Inventory, net                                                                                                                                                                             |       | 27,421            |       | 24,313                |       |
| Deferred advertising costs                                                                                                                                                                 |       | 4,789             |       | 3,965                 |       |
| Deferred tax assets                                                                                                                                                                        |       | 4,700             |       | 3,404                 |       |
| Other current assets                                                                                                                                                                       |       | 6,449             |       | 4,965                 |       |
| Total current assets                                                                                                                                                                       |       | 137,803           |       | 166,847               |       |
|                                                                                                                                                                                       |       |              |       |                  |       |
| Property and equipment, net                                                                                                                                                                |       | 8,673             |       | 7,784                 |       |
| Media library, net                                                                                                                                                                         |       | 35,673            |       | 37,201                |       |
| Goodwill and other intangibles                                                                                                                                                             |       | 39,862            |       | 28,879                |       |
| Deferred tax assets, net                                                                                                                                                                   |       | 4,111             |       | 5,958                 |       |
| Notes receivable and other assets                                                                                                                                                          |       | 987               |       | 4,299                 |       |
| Total assets                                                                                                                                                                               |       | $                 | 227,109    |                  | $          | 250,968 |   |
|                                                                                                                                                                                       |       |              |       |                  |       |
| **Liabilities and stockholders’ equity**                                                                                                                                              |       |              |       |                  |       |
| Current liabilities:                                                                                                                                                                       |       |              |       |                  |       |
| Accounts payable                                                                                                                                                                           |       | $                 | 17,060     |                  | $          | 18,848 |   |
| Accrued liabilities                                                                                                                                                                        |       | 10,531            |       | 7,437                 |       |
| Income taxes payable                                                                                                                                                                       |       | 888               |       | 415                   |       |
| Total current liabilities                                                                                                                                                                  |       | 28,479            |       | 26,700                |       |
|                                                                                                                                                                                       |       |              |       |                  |       |
| Minority interest                                                                                                                                                                          |       | 5,961             |       | 5,662                 |       |
|                                                                                                                                                                                       |       |              |       |                  |       |
| Commitments and contingencies                                                                                                                                                              |       |              |       |                  |       |
|                                                                                                                                                                                       |       |              |       |                  |       |
| Stockholders’ equity:                                                                                                                                                                 |       |              |       |                  |       |
| Class A common stock, $.0001 par value, 150,000,000 shares  authorized, 19,361,373 and 21,749,936 shares issued and outstanding at  September 30, 2007 and December 31, 2006, respectively |       | 2                 |       | 2                     |       |
| Class B common stock, $.0001 par value, 50,000,000 shares authorized,  5,400,000 issued and outstanding at September 30, 2007 and December 31, 2006                                        |       | 1                 |       | 1                     |       |
| Additional paid-in capital                                                                                                                                                                 |       | 170,387           |       | 200,906               |       |
| Accumulated other comprehensive income                                                                                                                                                     |       | 1,131             |       | 873                   |       |
| Retained earnings                                                                                                                                                                          |       | 21,148            |       | 16,824                |       |
| Total stockholders’ equity                                                                                                                                                            |       | 192,669           |       | 218,606               |       |
| Total liabilities and stockholders’ equity                                                                                                                                            |       | $                 | 227,109    |                  | $          | 250,968 |   |

 

*See accompanying notes to theinterim condensed consolidated financial statements.*

 

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**GAIAM, INC.CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS**

(Unaudited)(In thousands, except per share amounts)
| ** **                                                                       | ** ** | **For the Three Months Ended  September 30,** | ** ** | **For the Nine Months Ended  September 30,** | ** ** |
|----------------------------------------------------------------------------------|------------|-------------------------------------------------------------------|------------|------------------------------------------------------------------|------------|
| ** **                                                                       | ** ** | **2007**                                                          | ** ** | **2006**                                                         | ** ** | **2007** | ** ** | **2006** | ** ** |
|                                                                             |       |                                                              |       |                                                             |       |   |   |   |   |
| Net revenue                                                                      |       | $                                                                 | 70,318     |                                                             | $          | 51,786 |   | $ | 181,137 |   | $ | 146,699 |   |
| Cost of goods sold                                                               |       | 24,174                                                            |       | 19,157                                                           |       | 63,886 |   | 54,017 |   |
| Gross profit                                                                     |       | 46,144                                                            |       | 32,629                                                           |       | 117,251 |   | 92,682 |   |
|                                                                             |       |                                                              |       |                                                             |       |   |   |   |   |
| Expenses:                                                                        |       |                                                              |       |                                                             |       |   |   |   |   |
| Selling and operating                                                            |       | 37,875                                                            |       | 27,963                                                           |       | 101,377 |   | 82,885 |   |
| Corporate, general and administration                                            |       | 4,073                                                             |       | 3,656                                                            |       | 11,980 |   | 10,452 |   |
| Total expenses                                                                   |       | 41,948                                                            |       | 31,619                                                           |       | 113,357 |   | 93,337 |   |
|                                                                             |       |                                                              |       |                                                             |       |   |   |   |   |
| Income (loss) from operations                                                    |       | 4,196                                                             |       | 1,010                                                            |       | 3,894 |   | (655 | ) |
|                                                                             |       |                                                              |       |                                                             |       |   |   |   |   |
| Other income                                                                     |       | 1,028                                                             |       | 1,512                                                            |       | 3,375 |   | 2,639 |   |
|                                                                             |       |                                                              |       |                                                             |       |   |   |   |   |
| Income before income taxes and minority interest                                 |       | 5,224                                                             |       | 2,522                                                            |       | 7,269 |   | 1,984 |   |
|                                                                             |       |                                                              |       |                                                             |       |   |   |   |   |
| Income tax expense                                                               |       | 2,060                                                             |       | 977                                                              |       | 2,868 |   | 784 |   |
| Minority interest in net (income) loss of consolidated subsidiaries,  net of tax |       | (246                                                              | )          | 108                                                              |       | (77 | ) | 178 |   |
| Net income                                                                       |       | $                                                                 | 2,918      |                                                             | $          | 1,653 |   | $ | 4,324 |   | $ | 1,378 |   |
|                                                                             |       |                                                              |       |                                                             |       |   |   |   |   |
| Net earnings per share:                                                          |       |                                                              |       |                                                             |       |   |   |   |   |
| Basic                                                                            |       | $                                                                 | 0.12       |                                                             | $          | 0.06 |   | $ | 0.17 |   | $ | 0.06 |   |
| Diluted                                                                          |       | $                                                                 | 0.12       |                                                             | $          | 0.06 |   | $ | 0.17 |   | $ | 0.06 |   |
| Shares used in computing net earnings per share:                                 |       |                                                              |       |                                                             |       |   |   |   |   |
| Basic                                                                            |       | 24,705                                                            |       | 26,705                                                           |       | 25,000 |   | 23,450 |   |
| Diluted                                                                          |       | 24,970                                                            |       | 26,864                                                           |       | 25,222 |   | 23,697 |   |

 

*See accompanying notes to theinterim condensed consolidated financial statements.*

 

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**GAIAM, INC.CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS**

(Unaudited)(In thousands)
| ** **                                                                         | ** ** | **For the Nine Months Ended  September 30,** | ** ** |
|------------------------------------------------------------------------------------|------------|------------------------------------------------------------------|------------|
| ** **                                                                         | ** ** | **2007**                                                         | ** ** | **2006** | ** ** |
| **Operating activities**                                                           |       |                                                             |       |   |   |
| Net income                                                                         |       | $                                                                | 4,324      |   | $ | 1,378 |   |
| Adjustments to reconcile net income to net cash provided by operating  activities: |       |                                                             |       |   |   |
| Depreciation                                                                       |       | 1,395                                                            |       | 1,593 |   |
| Amortization                                                                       |       | 7,215                                                            |       | 3,948 |   |
| Minority interest                                                                  |       | 77                                                               |       | (178 | ) |
| Noncash gain from equity investment                                                |       | (127                                                             | )          | (680 | ) |
| Noncash loss on disposal of property                                               |       | 265                                                              |       | — |   |
| Noncash stock-based compensation                                                   |       | 832                                                              |       | 365 |   |
| Deferred income tax expense                                                        |       | 677                                                              |       | 644 |   |
| Changes in operating assets and liabilities, net of effects from  acquisitions:    |       |                                                             |       |   |   |
| Accounts receivable, net                                                           |       | 13,233                                                           |       | 14,074 |   |
| Inventory, net                                                                     |       | (3,097                                                           | )          | (4,089 | ) |
| Deferred advertising costs                                                         |       | (2,256                                                           | )          | (2,436 | ) |
| Other current assets                                                               |       | (1,757                                                           | )          | (1,111 | ) |
| Accounts payable                                                                   |       | (2,983                                                           | )          | (7,382 | ) |
| Accrued liabilities                                                                |       | 2,297                                                            |       | (5,549 | ) |
| Income taxes payable                                                               |       | 476                                                              |       | — |   |
| Net cash provided by operating activities                                          |       | 20,571                                                           |       | 577 |   |
|                                                                               |       |                                                             |       |   |   |
| **Investing activities**                                                           |       |                                                             |       |   |   |
| Purchase of property, equipment and media rights                                   |       | (5,133                                                           | )          | (1,854 | ) |
| Proceeds from sale of property and equipment                                       |       | —                                                           |       | 637 |   |
| Purchase of acquisitions and investments, net of cash acquired                     |       | (10,801                                                          | )          | (6,582 | ) |
| Proceeds from sale of investments                                                  |       | 3,871                                                            |       | — |   |
| Net cash used in investing activities                                              |       | (12,063                                                          | )          | (7,799 | ) |
|                                                                               |       |                                                             |       |   |   |
| **Financing activities**                                                           |       |                                                             |       |   |   |
| Repurchase of Class A common stock, including related costs                        |       | (32,907                                                          | )          | — |   |
| Proceeds from issuance of common stock, net of related costs                       |       | 753                                                              |       | 96,609 |   |
| Net cash (used in) provided by financing activities                                |       | (32,154                                                          | )          | 96,609 |   |
|                                                                               |       |                                                             |       |   |   |
| Effects of exchange rates on cash and cash equivalents                             |       | 335                                                              |       | 540 |   |
|                                                                               |       |                                                             |       |   |   |
| Net change in cash and cash equivalents                                            |       | (23,311                                                          | )          | 89,927 |   |
| Cash and cash equivalents at beginning of period                                   |       | 104,876                                                          |       | 15,028 |   |
| Cash and cash equivalents at end of period                                         |       | $                                                                | 81,565     |   | $ | 104,955 |   |
|                                                                               |       |                                                             |       |   |   |
| **Supplemental cash flow information**                                             |       |                                                             |       |   |   |
| Income taxes paid                                                                  |       | $                                                                | 3,042      |   | $ | — |   |
| Common stock issued for acquisitions                                               |       | $                                                                | 491        |   | $ | 1,933 |   |

 

*See accompanying notes to theinterim condensed consolidated financial statements.*

 

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###### **Gaiam, Inc.**

###### **Notes to Interim Condensed ConsolidatedFinancial Statements**

###### **(Unaudited)**

###### **September 30, 2007**

###### ** **

###### **1.**              Summary of Significant Accounting Policies

Management believes the following to be criticalaccounting policies whose application has a material impact on Gaiam Inc.’s (“Gaiam”or the “Company”) financial presentation, and involve a higher degree ofcomplexity, as they require management to make judgments and estimates aboutmatters that are inherently uncertain.

No changes were made to our significant accountingpolicies during the three and nine months ended September 30, 2007, except forthe adoption of the Financial Accounting Standards Board’s (“FASB”)Interpretation  No. 48, *Accounting  forUncertainty in Income Taxes — An Interpretation of FASB Statement No. 109*(“FIN 48”). See Gaiam’s significantaccounting policy for *Income Taxes*discussed below.

###### ***Organization and Nature of Operations***

Gaiam is a branded lifestyle media company providing abroad selection of information, media, products and services to customers whovalue personal development, wellness, ecological lifestyles, responsible mediaand conscious community. Gaiam was incorporated under the laws of the State ofColorado on July 7, 1988.

The accompanying unaudited interim condensed consolidatedfinancial statements include the accounts of Gaiam and its subsidiaries inwhich Gaiam’s ownership is greater than 50% and the subsidiary is considered tobe under Gaiam’s control. All material intercompany accounts and transactionbalances have been eliminated in consolidation.

The unaudited condensed consolidated financialposition, results of operations and cash flows for the interim periodsdisclosed in this report are not necessarily indicative of future financialresults.

*Cash and Cash Equivalents*

Cash and cash equivalents include demand depositaccounts and highly liquid instruments, with maturities of three months or lessat the date of purchase. The fair value of the cash and cash equivalentsapproximates their carrying value due to their short maturities.

*Provisions for Doubtful Accounts and Returns*

Gaiam records a provision for doubtful accounts forall receivables not expected to be collected. Gaiam generally does not requirecollateral. Gaiam evaluates the collectibility of accounts receivable based ona combination of factors. In circumstances in which Gaiam is aware of aspecific customer’s inability to meet its financial obligations (e.g.bankruptcy filings), Gaiam records a specific reserve for bad debts againstamounts due. For all other instances, Gaiam recognizes reserves based onhistorical experience and review of individual accounts outstanding.

Gaiam records a provision for product returns to bereceived in future periods at the time the original sale is recognized. Theamount of the returns provision is based upon historical experience and futureexpectations.

 

7

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*Inventory*

Inventory consists primarily of finished goods heldfor sale and is stated at the lower of cost (first-in, first-out method) ormarket. Gaiam identifies the inventory items to be written down forobsolescence based on the item’s current sales status and condition. If theitem is discontinued or slow moving, it is written down based on an estimate ofthe markdown to retail price needed to sell through its current stock level ofthe item.

*Purchase Accounting*

Gaiam accounts for theacquisition of a controlling interest in a company using the purchase methodprescribed by FASB Statement No. 141, *BusinessCombinations* (“SFAS 141”). In determining the estimated fair valueof certain acquired assets and liabilities, management makes assumptions basedupon historical and other relevant information and, in some cases, independentexpert appraisers. Assumptions may be incomplete, and unanticipated events andcircumstances may occur that could affect the validity of such assumptions,estimates, or actual results. The estimated fair value of assets andliabilities acquired in accordance with SFAS 141 during the last quarter of2006 and the first nine months of 2007 are preliminary as of September 30,2007.  We expect to obtain informationnecessary to finalize the estimated values during the remainder of 2007 and thefirst half of 2008.

*Goodwill and Other Intangibles*

Goodwill represents the excess of the purchaseconsideration over the fair value of assets acquired less liabilities assumedin a business acquisition. Gaiam’s other intangibles mainly consist of customerlists. In accordance with SFAS No. 142, *Goodwilland Other Intangible Assets*, goodwill is no longer amortized but isreviewed for impairment annually or more frequently if impairment indicatorsarise, on a reporting unit level. The estimated fair value of a reporting unitis compared with its carrying amount, including goodwill. If the estimated fairvalue of a reporting unit exceeds its carrying amount, goodwill of thereporting unit is considered not impaired.

If the carrying amount of a reporting unit exceeds itsestimated fair value, the goodwill impairment test is performed to measure theamount of impairment loss. Gaiam has allocated goodwill to two reporting units,and uses a market value method for purposes of testing for potentialimpairment. The annual review requires extensive use of financial judgment and estimates.Application of alternative assumptions and definitions, such as a change in thecomposition of a reporting unit, could yield significantly different results.

*Investments*

Investments in limited liability companies in whichGaiam does have the ability to exercise significant influence or control, or inwhich it holds a five percent or more membership interest, are accounted forunder the equity method. Investments in corporations in which Gaiam does havethe ability to exercise significant influence or control, or in which it holdsa twenty percent or more ownership, are also accounted for under the equitymethod. Under the equity method, Gaiam records its share of the income orlosses of the investment by increasing or decreasing the carrying value of itsinvestment and recording the income or expense through the consolidatedstatement of operations. Under the cost method of accounting, investments inprivate companies are carried at cost and are adjusted only forother-than-temporary declines in fair value. Determining whether a decline invalue is other-than-temporary requires a high degree of managementjudgment.  Investments under the cost andequity methods are included on the accompanying unaudited CondensedConsolidated Balance Sheets in Notes receivable and other assets.

 

8

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*Media Library*

The media library asset represents the estimated fairvalue of Gaiam’s library of produced videos acquired through businesscombinations, the purchase price of media rights to both video and audiotitles, and the capitalized cost to produce media products marketed by Gaiam toretailers and direct-mail and online customers. The acquired and purchasedmedia rights are recorded at estimated fair value and amortized on the basis oftheir estimated useful lives. Capitalized costs to produce media products arerecognized as costs of goods sold on an individual film basis in the ratio thatthe current year’s gross revenues bear to management’s estimate of totalultimate remaining gross revenues. Ultimate remaining revenue forecasts, basedprimarily on historical sales statistics, are continually reviewed bymanagement and revised when warranted by changing conditions.  When estimates of total revenues and otherevents or changes in circumstances indicate that a film has a fair value thatis less than its unamortized cost, an impairment loss is recognized in thecurrent period for the amount by which the unamortized cost exceeds the film’sestimated fair value.

*Contractual Obligations*

Gaiam has commitmentspursuant to lease agreements, but does not have any outstanding commitmentspursuant to long-term debt, capital lease, or purchase obligations. Thefollowing table shows Gaiam’s commitments to make future payments under operatingleases (in thousands):
| ** **                  | ** ** | **Total** | ** ** | **< 1 year** | ** ** | **1-3 years** | ** ** | **3-5 years** | ** ** | **> 5 years** | ** ** |
|-----------------------------|------------|-----------|------------|---------------------------|------------|--------------------|------------|--------------------|------------|----------------------------|------------|
| Operating lease obligations |       | $4,872    |       | $2,556                    |       | $1,845             |       | $319               |       | $152                       |       |

 

*Off-Balance Sheet Arrangements*

Gaiam does notparticipate in transactions that generate relationships with unconsolidatedentities or financial partnerships, such as special purpose entities (“SPEs”)or variable interest entities (“VIEs”), which have been established for thepurpose of facilitating off-balance sheet arrangements or other limitedpurposes. As of September 30, 2007, Gaiam is not involved in any unconsolidatedSPEs or VIEs.

*Income Taxes*

Gaiam provides for incometaxes pursuant to the liability method as prescribed in SFAS No. 109, *Accounting for Income Taxes*. The liability method requiresrecognition of deferred income taxes based on temporary differences betweenfinancial reporting and income tax bases of assets and liabilities, usingcurrent enacted income tax rates and regulations.

Effective January 1,2007, Gaiam adopted the provisions of FIN 48. FIN 48 clarifies the accountingfor uncertainty in income taxes recognized in an enterprise’s financialstatements in accordance with FASB Statement No. 109, *Accounting for Income Taxes.* Under FIN 48,Gaiam must recognize the tax benefit from an uncertain tax position only if itis more likely than not that the tax position will be sustained on examinationby the taxing authorities, based on the technical merits of the position. Thetax benefits recognized in the condensed consolidated financial statements fromsuch a position are measured based on the largest benefit that has a greaterthan fifty percent likelihood of being realized upon ultimate resolution. Theapplication of income tax law is inherently complex. Laws and regulations inthis area are voluminous and are often ambiguous. As such, Gaiam is required tomake many subjective assumptions and judgments regarding its income taxexposures. Interpretations of and guidance surrounding income tax law andregulations change over time and may result in changes to the Company’ssubjective assumptions and judgments which can materially affect amountsrecognized in Gaiam’s Condensed Consolidated Balance Sheets and Statements ofOperations.  The Company’s reassessmentof its tax positions in accordance with FIN 48 did not have a material impacton Gaiam’s condensed consolidated financial statements. Gaiam’s tax returns forall years after 2002 are subject to future examination by tax authorities.

 

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*Use of Estimates*

The unaudited interimcondensed consolidated financial statements are prepared in conformity withaccounting principles generally accepted in the United States, which requiremanagement to make judgments, estimates and assumptions that affect thereported amounts of assets, liabilities, revenue and expenses and disclosure ofcontingent assets and liabilities in Gaiam’s interim condensed consolidatedfinancial statements and accompanying notes. Actual results could differ fromthose estimates.

 

*New Accounting Pronouncements*

In September 2006, the FASB issued Statement No. 157, *Fair Value Measurements* (“SFAS 157” or the “Statement”).This Statement defines fair value, establishes a framework for measuring fairvalue in generally accepted accounting principles, and expands disclosuresabout fair value measurements. SFAS 157 applies under other accountingpronouncements that require or permit fair value measurements, the FASB havingpreviously concluded in those accounting pronouncements that fair value is therelevant measurement attribute. Accordingly, this Statement does not requireany new fair value measurements. The Statement is effective for financialstatements issued for fiscal years beginning after November 15, 2007, andinterim periods within those fiscal years. Earlier application is encouraged,provided that the reporting entity has not yet issued financial statements forthat fiscal year, including financial statements for an interim period withinthat fiscal year. Gaiam will adopt the provisions of SFAS 157 in its fiscalyear commencing January 1, 2008. Management currently believes that adoption ofthe provisions of SFAS 157 will not have a material impact on Gaiam’sconsolidated financial statements.

###### **2.**              Notes Receivable and Other Assets

Notes receivable andother assets as of September 30, 2007 consisted of $1.0 million of otherlong-term assets and as of December 31, 2006 was comprised of $1.3 million ofinvestments, $2.4 million in notes and related interest receivable, and $0.6million of other long-term assets.

Gaiam entered into anagreement with Alps Communications LLC (“Alps”) and Life Balance Media HoldingsLLC (“LIME”) on January 5, 2006, to sell 19,968 Series A Preferred Units ofLIME, an investment previously accounted for using the equity method. Thepurchase price per unit was equal to the amount Gaiam paid for its investmentduring 2005. Alps Communications assumed all unpaid Series A CapitalContribution commitments from Gaiam and executed an interest bearing promissorynote due February 28, 2009 in the principal amount of $2,250,000. Afterthe closing of this transaction, Gaiam owned 4,876 units, or less than 4%, ofLIME. This transaction resulted in a gain of $0.5 million which is included inOther income on the Condensed Consolidated Statements of Operations for thenine months ended September 30, 2006. On February 6, 2007, Gaiam entered into astock repurchase agreement with Revolution Living LLC (“Revolution Living”) andAlps. As part of the stock repurchase agreement Alps prepaid its promissorynote principal plus accrued interest in the amount of $2.4 million and acquiredGaiam’s investment in LIME for $1.4 million in cash.

 

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###### **3.**              Stockholders’ Equity

On February 6, 2007, Gaiamentered into a stock repurchase agreement (the “Agreement”) with RevolutionLiving and Alps, whereby as part of the Agreement Gaiam purchased 2.5 millionshares of its Class A common stock from Revolution Living for $13.14 per shareor $32.8 million in cash. The $13.14 per share price agreed to by the partieswas the average price over the last 90 days of Gaiam’s shares prior to theAgreement’s closing. In accordance with the cost method of accounting fortreasury stock, Gaiam recorded the treasury stock at $32.9 million includingacquisition legal fees. Since Gaiam has not yet decided the ultimatedisposition of the re-acquired stock, its cost is reflected in the CondensedConsolidated Balance Sheet at September 30, 2007 as a $32.9 million reduction toAdditional paid-in capital. Following this repurchase, Gaiam had approximately24.8 million Class A and Class B common shares outstanding.

During the nine monthsended September 30, 2007, Gaiam issued a total of 4,662 shares of Class Acommon stock to Gaiam’s independent directors, in lieu of cash compensation,for services rendered in 2006 and 2007 and issued 75,980 shares of Class Acommon stock upon exercise of options granted under Gaiam’s 1999 Long-TermIncentive Plan. In addition, on August 1, 2007, Gaiam issued 30,795 shares ofClass A common stock as part of the consideration to acquire controllingownership of Conscious Enlightenment, Inc. See Note 8 — Mergers and Acquisitions.

###### **4.**              Share-Based Payments

Gaiam’s share-basedcompensation program is a long-term retention program that is intended toattract, retain and provide incentives for talented employees, officers, anddirectors, and to align stockholder and employee interests. Gaiam grantsoptions under its 1999 Long-Term Incentive Plan (the “Plan”), which providesfor the granting of options to purchase up to 3 million shares of Gaiam’scommon stock and terminates no later than June 1, 2009. Options under the Planare generally granted with an exercise price equal to the closing market priceof Gaiam’s stock at the date of the grant and normally vest and becomeexercisable at 2% per month for the 50 months beginning in the eleventh monthafter date of grant. Grants typically expire seven years from the date ofgrant. Gaiam uses the Black-Scholes option pricing model to determine theestimated fair value of stock options and shares issued under the Plan. Thedetermination of fair value stock-based payment awards on the date of grantusing the Black-Scholes option-pricing model is affected by Gaiam’s stock priceas well as assumptions regarding a number of complex and subjective variables.All stock-based payment awards are amortized on a straight-line basis over therequisite service periods of the awards, which are generally five years foremployees and two years for Board members.

During the first ninemonths of 2007, Gaiam granted 300,000 stock options to employees and directorsand 192,200 stock options were cancelled or expired. Total share-basedcompensation recognized was $0.3 million and $0.2 million for the three monthsended September 30, 2007 and 2006, respectively, and $0.8 million and $0.4million for the nine months ended September 30, 2007 and 2006, respectively,and is shown in Corporate, general, and administration expenses on Gaiam’s CondensedConsolidated Statements of Operations.

 

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###### **5.**              Comprehensive Income

Gaiam’s comprehensive income is comprised of netincome and foreign currency translation adjustment, net of income taxes.Comprehensive income, net of related tax effects, was as follows (inthousands):
| ** **                                   | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|----------------------------------------------|------------|-------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                   | ** ** | **2007**                                        | ** ** | **2006**                                            | ** ** | **2007** | ** ** | **2006** | ** ** |
|                                         |       |                                            |       |                                                |       |   |   |   |   |
| Net income                                   |       | $                                               | 2,918      |                                                | $          | 1,653 |   | $ | 4,324 |   | $ | 1,378 |   |
| Foreign currency translation adjustment, net |       | 174                                             |       | 6                                                   |       | 258 |   | 405 |   |
| Comprehensive income, net of taxes           |       | $                                               | 3,092      |                                                | $          | 1,659 |   | $ | 4,582 |   | $ | 1,783 |   |

 

**6.****             ****Earnings Per Share**

Basic earnings per share excludes any dilutive effectsof options, warrants and dilutive securities. Basic earnings per share iscomputed using the weighted average number of common shares outstanding duringthe period. Diluted earnings per share is computed using the weighted averagenumber of common and common stock equivalent shares outstanding during theperiod. Common equivalent shares of 152 thousand and 391 thousand are excludedfrom the computation of diluted earnings per share for the three and ninemonths ended September 30, 2007, respectively, because their effect isantidilutive. The following table sets forth the computation of basic anddiluted earnings per share (in thousands, except per share data):
| ** **                                          | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|-----------------------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                          | ** ** | **2007**                                             | ** ** | **2006**                                            | ** ** | **2007** | ** ** | **2006** | ** ** |
|                                                |       |                                                 |       |                                                |       |   |   |   |   |
| Numerator for basic and diluted earnings per share  |       | $                                                    | 2,918      |                                                | $          | 1,653 |   | $ | 4,324 |   | $ | 1,378 |   |
| Denominator:                                        |       |                                                 |       |                                                |       |   |   |   |   |
| Weighted average share for basic earnings per share |       | 24,705                                               |       | 26,705                                              |       | 25,000 |   | 23,450 |   |
| Effect of dilutive securities:                      |       |                                                 |       |                                                |       |   |   |   |   |
| Weighted average of common stock and stock options  |       | 265                                                  |       | 159                                                 |       | 222 |   | 247 |   |
| Denominators for diluted earnings per share         |       | 24,970                                               |       | 26,864                                              |       | 25,222 |   | 23,697 |   |
|                                                |       |                                                 |       |                                                |       |   |   |   |   |
| Net earnings per share—basic                   |       | $                                                    | 0.12       |                                                | $          | 0.06 |   | $ | 0.17 |   | $ | 0.06 |   |
| Net earnings per share—diluted                 |       | $                                                    | 0.12       |                                                | $          | 0.06 |   | $ | 0.17 |   | $ | 0.06 |   |

 

 

**7.****             ****Segment Information**

Gaiam manages its business and aggregates itsoperational and financial information in accordance with two reportablesegments. The direct to consumer segment contains the Internet, catalog, directresponse marketing, and subscription community sales channels, while thebusiness segment comprises the retailers, media, and corporate accountchannels.

Although Gaiam is able to track revenue by saleschannel, the management, allocation of resources and analysis and reporting ofexpenses is solely on a combined basis, at the reportable segment level.

 

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Contribution margin is defined as net sales, less costof goods sold and direct and allocated expenses. Financial information forGaiam’s segments was as follows (in thousands):
| ** **                                                                       | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|----------------------------------------------------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                                       | ** ** | **2007**                                             | ** ** | **2006**                                            | ** ** | **2007** | ** ** | **2006** | ** ** |
| Net revenue:                                                                     |       |                                                 |       |                                                |       |   |   |   |   |
| Direct to consumer                                                               |       | $                                                    | 40,239     |                                                | $          | 32,624 |   | $ | 104,656 |   | $ | 85,741 |   |
| Business                                                                         |       | 30,079                                               |       | 19,162                                              |       | 76,481 |   | 60,958 |   |
| Consolidated net revenue                                                         |       | 70,318                                               |       | 51,786                                              |       | 181,137 |   | 146,699 |   |
| Contribution margin (loss):                                                      |       |                                                 |       |                                                |       |   |   |   |   |
| Direct to consumer                                                               |       | 570                                                  |       | 587                                                 |       | (2,059 | ) | (723 | ) |
| Business                                                                         |       | 3,626                                                |       | 423                                                 |       | 5,953 |   | 68 |   |
| Consolidated contribution margin (loss)                                          |       | 4,196                                                |       | 1,010                                               |       | 3,894 |   | (655 | ) |
| Reconciliation of contribution margin (loss) to net income:                      |       |                                                 |       |                                                |       |   |   |   |   |
| Other income                                                                     |       | 1,028                                                |       | 1,512                                               |       | 3,375 |   | 2,639 |   |
| Income tax expense                                                               |       | 2,060                                                |       | 977                                                 |       | 2,868 |   | 784 |   |
| Minority interest in net (income) loss of consolidated subsidiaries,  net of tax |       | (246                                                 | )          | 108                                                 |       | (77 | ) | 178 |   |
| Net income                                                                       |       | $                                                    | 2,918      |                                                | $          | 1,653 |   | $ | 4,324 |   | $ | 1,378 |   |
|                                                                                  |            |                                                      |            |                                                     |            |  |  |  |  |  |  |  |  |  |  |  |

# ** **

**8.****             ****Mergers and Acquisitions**

During the third quarter of2007, Gaiam acquired varying amounts of controlling ownership interest in fourentities for a total cost of approximately $12.4 million, including directacquisition costs and other liabilities, of which $10.9 million was paid incash, $0.5 million in Gaiam Class A common stock, and $1.0 million in assumedliabilities.  One of the acquisitionscalls for additional consideration of $1.7 million in cash contingent uponeither the achievement of a certain membership threshold within the next twoyears or the sale of the acquired business or its assets by Gaiam.  Gaiam has not yet recognized the contingentconsideration because its amount is not determinable beyond a reasonable doubt.

The four acquired companiesinclude  Zaadz, a leading socialnetworking site in the LOHAS space, Lime, a multimedia lifestyle company withmultiple platforms focused on leading a healthier, greener, and more balancedlifestyle, Conscious Enlightenment, an on-line and off-line community, and aneco adventure travel company.

Gaiam has preliminarilyrecognized $5.9 million and $2.9 million of direct to consumer and businesssegment goodwill, respectively, which are expected to be deductible for taxpurposes, $1.7 million of intangibles subject to amortization (with anweighted-average amortization period of 3.8 years), and $0.4 million ofindefinite life intangibles for brand and domain names.  The amortizable intangibles are media of $1.0million, amortized over 5 years, and other intangibles of $0.7 million,amortized over 1.5 to 3 years.  Gaiam isstill in the process of finalizing its assessment of the estimated fair valueof the net assets acquired and, thus, the amount of goodwill and otherintangibles is subject to refinement.

 

 

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

# **The following discussion and analysis of Gaiam’s financialcondition and results of operations should be read in conjunction with theunaudited condensed consolidated financial statements and related notesincluded elsewhere in this document.**

# **Adopted New Accounting Policies**

# **In July 2006, the FASB issued Interpretation No. 48, *Accounting for Uncertainty in Income Taxes* (“FIN 48”), whichbecame effective for Gaiam January 1, 2007. FIN 48 addressed the determination of how tax benefits claimed orexpected to be claimed on a tax return should be recorded in the financialstatements. Under FIN 48, the Company must recognize the tax benefit from anuncertain tax position only if it is more likely than not that the tax positionwill be sustained on examination by the taxing authorities, based on thetechnical merits of the position. The benefits recognized in the financialstatements from such a position are measured based on the largest benefit thathas a greater than fifty percent likelihood of being realized upon ultimateresolution. The Company’s reassessment of its tax positions in accordance withFIN 48 did not have a material impact on the results of operations, financialcondition or liquidity. For additional information regarding the adoption ofFIN 48, see Note 1 — Summary of Significant Accounting Policies - *Income Taxes* to the Interim Condensed Consolidated FinancialStatements.**

#### **Overviewand Outlook**

Gaiam is a lifestyle mediacompany providing a broad selection of information, media, products andservices to customers who value personal development, wellness, ecologicallifestyles, responsible media and conscious community. Gaiam’s media brand is built around its ability to develop and offermedia content, products, lifestyle solutions and community to consumers in theLifestyle of Health and Sustainability (“LOHAS”) and the emerging Media thatMatters (“MTM”) markets.

Gaiamoffers its customers the ability to make purchasing decisions and findresponsible content based on these values while providing quality offerings ata price comparable to mainstream alternatives. Gaiam markets its media andproducts through a multi-channel approach including traditional media channels,direct to consumers via the Internet, catalog, direct response marketing,community and subscription clubs, and through national retailers and corporateaccounts.

Gaiam’scontent forms the basis of its proprietary offerings, which then drive demandfor parallel product and service offerings. Gaiam’s operations are verticallyintegrated from content creations, through product development and sourcing, tocustomer service and distribution. Gaiam markets its products and servicesacross two segments, business and direct to consumer. Products are distributedin each of these sales segments from a single fulfillment center ordrop-shipped directly to customers.

Through its diverse mediareach, the direct to consumer segment provides an opportunity to launch andsupport new media releases. This direct link to the consumer provides asounding board for new product testing, promotional opportunities, a growingloyal community, and customer feedback concerning the focus and future of Gaiamand the LOHAS industry as a whole. During 2006, Gaiam completed severalacquisitions targeted toward expanding and enhancing its media content andreach. These acquisitions included acquiring the remaining minority interestsin Conscious Media, Inc., a multimedia company, and

 

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Newmark Media, Ltd., aretail distributor in the natural grocery and drug channel. Gaiam also acquiredan 85% interest in a DVD subscription club that provides inspirational andspiritual family films.  During the thirdquarter of 2007 Gaiam acquired varying ownership interests in four lifestylecompanies to further develop its community business.

We believe our growth willbe driven by information, media content, products, and community delivered tothe consumer via broadcast, catalog, Internet, retailers, internationallicensing and electronic downloads and subscription systems. Gaiam hasincreased its focus on media content creation and distribution, whichstrategically provides increased branding opportunities, significantly higheroperating contribution and greater mainstream penetration. Gaiam plans toinvest in its community and membership businesses over the next two years tobetter capitalize on strong relationships with its loyal consumer audience andgrowing broadband subscription trends. This will allow Gaiam to focus on betterleveraging its content through subscription clubs and community.

Factors that Gaiam believesare important to its long-term success include building brand equity, increasinginternational growth by expanding into new markets primarily through licensearrangements, extending product lines into wellness and children’s programs,leveraging its Real Goods sustainable living franchise including solar, andenhancing the multimedia platform community through new media opportunities,new club and membership programs, initiatives and acquisitions.

 

#### **Resultsof Operations**

The following table sets forth certain financial dataas a percentage of revenue for the periods indicated:
| ** **                                                                       | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|----------------------------------------------------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                                       | ** ** | **2007**                                             | ** ** | **2006**                                            | ** ** | **2007** | ** ** | **2006** | ** ** |
|                                                                             |       |                                                 |       |                                                |       |   |   |   |   |
| Net revenue                                                                      |       | 100.0                                                | %          | 100.0                                               | %          | 100.0 | % | 100.0 | % |
| Cost of goods sold                                                               |       | 34.4                                                 | %          | 37.0                                                | %          | 35.3 | % | 36.8 | % |
| Gross profit                                                                     |       | 65.6                                                 | %          | 63.0                                                | %          | 64.7 | % | 63.2 | % |
|                                                                             |       |                                                 |       |                                                |       |   |   |   |   |
| Expenses:                                                                        |       |                                                 |       |                                                |       |   |   |   |   |
| Selling and operating                                                            |       | 53.9                                                 | %          | 54.0                                                | %          | 56.0 | % | 56.5 | % |
| Corporate, general and administration                                            |       | 5.8                                                  | %          | 7.0                                                 | %          | 6.6 | % | 7.1 | % |
| Total expenses                                                                   |       | 59.7                                                 | %          | 61.0                                                | %          | 62.6 | % | 63.6 | % |
|                                                                             |       |                                                 |       |                                                |       |   |   |   |   |
| Income (loss) from operations                                                    |       | 5.9                                                  | %          | 2.0                                                 | %          | 2.1 | % | (0.4 | )% |
| Other income                                                                     |       | 1.5                                                  | %          | 2.9                                                 | %          | 1.9 | % | 1.7 | % |
| Income tax expense                                                               |       | 2.9                                                  | %          | 1.9                                                 | %          | 1.6 | % | 0.5 | % |
| Minority interest in net (income) loss of consolidated subsidiaries,  net of tax |       | (0.4                                                 | )%         | 0.2                                                 | %          | (0.0 | )% | 0.1 | % |
| Net income                                                                       |       | 4.1                                                  | %          | 3.2                                                 | %          | 2.4 | % | 0.9 | % |

 

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#### **ThreeMonths Ended September 30, 2007 and 2006**

        Revenueof $70.3 million during the three months ended September 30, 2007 was 35.8%higher than the $51.8 million in revenue generated in the third quarter of2006. The increase in revenue includes Gaiam’s successful entrance into thebusiness segment’s international market and the continued success of its weband direct response marketing.  Revenue in Gaiam’s direct to consumersegment was $40.2 million for the three months ended September 30, 2007, anincrease of $7.6 million or 23.3% over 2006 third quarter revenue of $32.6million. Total revenue generated by Gaiam’s business segment was $30.1 millionfor the quarter ended September 30, 2007 compared to $19.2 million for thethree months ended September 30, 2006.

Gross profit, which consistsof revenue less cost of goods sold (primarily merchandise cost plus inboundfreight and duties), increased to $46.1 million in the third quarter of 2007from $32.6 million for the three months ended September 30, 2006. As apercentage of revenue, gross profit improved to 65.6% for the quarter endedSeptember 30, 2007 compared to the 63.0% for the same quarter last year.

Selling and operatingexpenses increased to $37.9 million for the three months ended September 30,2007 compared to $28.0 million in the same period of 2006, primarily resultingfrom increased sales and investments made in community, personnel, advertising,and marketing programs. As a percentage of revenue, selling and operatingexpenses decreased slightly to 53.9% in the third quarter of 2007 from 54.0%during the quarter ended September 30, 2006 reflecting increased leverage onthe higher revenue base partially offset by planned investments in ourcommunity business.

Corporate, general andadministration expenses increased to $4.1 million for the third quarter of 2007from $3.7 million for the three months ended September 30, 2006 primarily dueto Gaiam’s investment in personnel and infrastructure to support the growingthe revenue base.  As a percent ofrevenue, corporate, general and administration expenses decreased to 5.8% ofrevenue during the third quarter of 2007 compared to 7.0% of revenue for thesame period in 2006.

Income from operations was$4.2 million for the quarter ended September 30, 2007, up from the $1.0 millionoperating income for the third quarter of 2006, reflecting higher sales,lowered cost of goods sold, and improved selling and operating and corporate,general and administration expenses.  Asa percent of revenue, income from operations improved to 5.9% during the threemonths ended September 30, 2007, as compared to a 2.0% of revenue operationalincome for the third quarter of 2006.

Gaiam recorded other incomeof $1.0 million during the third quarter of 2007 compared to $1.5 millionduring the same period in 2006.  Otherincome was mainly comprised of interest earned on cash investments. Thedecrease in 2007 reflected the use of cash to repurchase 2.5 million shares ofGaiam Class A common stock on February 6, 2007 and acquire businesses duringthe third quarter of 2007.

Gaiam recorded income taxexpense of $2.1 million in the third quarter of 2007 compared to a $1.0 milliontax expense in the same period of 2006. Gaiam’s consolidated effective tax ratefluctuates based upon the distribution of earnings/losses between its domesticand foreign operations.

As a result of the factorsdescribed above, Gaiam improved its 2007 third quarter financial performanceover that of the three months ended September 30, 2006. For the quarter endedSeptember 30, 2007, Gaiam produced a net income of $2.9 million, or $0.12 pershare, as compared to a net income in the same period of 2006 of $1.7 million,or $0.06 per share.

 

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#### **NineMonths Ended September 30, 2007 and 2006**

Revenue of $181.1 millionduring the nine months ended September 30, 2007 was 23.5% higher than the$146.7 million in revenue generated in the same period of 2006. The increase inrevenue includes Gaiam’s successful entrance into the business segment’sinternational market, the continued success of its web and direct responsemarketing, and revenues from businesses acquired over the last year. Revenue inGaiam’s direct to consumer segment was $104.7 million for the nine months endedSeptember 30, 2007, an increase of $18.9 million or 22.1% over the same periodof 2006 revenue of $85.7 million. Total revenue generated by Gaiam’s businesssegment was $76.5 million for the nine months ended September 30, 2007 comparedto $61.0 million for the nine months ended September 30, 2006.

 Gross profit increased to $117.3 million inthe first nine months of 2007 from $92.7 million for the nine months endedSeptember 30, 2006. As a percentage of revenue, gross profit improved 150 basispoints to 64.7% for the nine months ended September 30, 2007 compared to the63.2% for the same period last year.

Selling and operatingexpenses increased to $101.4 million for the nine months ended September 30,2007 compared to $82.9 million in the same period of 2006, primarily resultingfrom increased sales and investments made in community, branding, personnel,advertising, and marketing programs. As a percentage of revenue, selling andoperating expenses decreased to 56.0% in the first nine months of 2007 from56.5% for the nine months ended September 30, 2006 reflecting increasedleverage on the higher revenue base.

Corporate, general andadministration expenses increased to $12.0 million for the first nine months of2007 from $10.5 million for the nine months ended September 30, 2006 primarilydue to Gaiam’s planned investments to support the increased revenue base. As apercent of revenue, corporate general and administration expenses decreased to6.6% of revenue during the first nine months of 2007 compared to 7.1% ofrevenue for the same period in 2006.

Income from operations was$3.9 million for the nine months ended September 30, 2007, a substantialimprovement over the $0.7 million loss for the same period of 2006, reflectinghigher sales, lower cost of goods sold, and improved operating expenses.  As a percent of revenue, income fromoperations improved to 2.1% of revenue during the first nine months of 2007, ascompared to a 0.4% of revenue loss for the nine months ended September 30,2006.

Gaiam recorded other incomeof $3.4 million during the first nine months of 2007 compared to $2.6 millionduring the same period in 2006. The increase in 2007 to other income primarilyconsisted of interest on cash investments. In the first nine months of 2006,Gaiam’s other income was mainly comprised of a $0.5 million gain on sale of aninvestment and interest earned on cash investments.

Gaiam recorded income taxexpense of $2.9 million for the nine months ended September 30, 2007 comparedto a $0.8 million tax expense in the same period of 2006. Gaiam’s consolidatedeffective tax rate fluctuates based upon the distribution of earnings/lossesbetween its domestic and foreign operations.

As a result of the factorsdescribed above, Gaiam improved its first nine months of 2007 financialperformance over that of the nine months ended September 30, 2006. For thefirst nine months of 2007, Gaiam produced net income of $4.3 million, or $0.17per share, as compared to a net income in the same period of 2006 of $1.4million or $0.06 per share.

 

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Seasonality

Gaiam’s sales areaffected by seasonal influences. On an aggregate basis, Gaiam generates itsstrongest revenues and net income in the latter half of the year due toincreased holiday spending.

Liquidity and Capital Resources

Gaiam’s capital needsarise from working capital required to fund our operations, capitalexpenditures related to acquisition and development of media content,development of our Internet platform and new products, acquisitions of newbusinesses, replacements, expansions and improvements to Gaiam’sinfrastructure, and future growth. These capital requirements depend onnumerous factors, including the rate of market acceptance of Gaiam’s productofferings, the ability to expand Gaiam’s customer base, the cost of ongoingupgrades to Gaiam’s product offerings, the level of expenditures for sales andmarketing, the level of investment in distribution systems and facilities andother factors. The timing and amount of these capital requirements are variableand cannot accurately be predicted. Additionally, Gaiam will continue to pursueopportunities to expand its media libraries, evaluate possible investments inbusinesses, products and technologies, and increase its sales and marketingprograms and brand promotions as needed.

Gaiam has a creditagreement with Wells Fargo, which permits borrowings of up to $15 million basedupon the collateral value of Gaiam’s accounts receivable, inventory, andcertain property and equipment. At September 30, 2007, Gaiam had no amountsoutstanding under this agreement; however, $2.8 million was reserved foroutstanding letters of credit. Gaiam has complied with all of the financialcovenants. The credit agreement originally expired on July 31, 2007 and Gaiamobtained extensions of the agreement until October 22, 2007 when Gaiam andWells Fargo finalized an amendment to the agreement extending the term untilOctober 2009. Under the amended credit agreement, if Gaiam chooses to borrow,outstanding advances would bear interest at the lower of prime rate less 75basis points or LIBOR plus 275 basis points. Borrowings are secured by a pledgeof Gaiam’s assets, and the agreement contains various financial covenants,including those requiring compliance with certain financial ratios.

Gaiam’soperating activities provided net cash of $20.6 million for the nine monthsended September 30, 2007, primarily reflecting cash provided from net income of$4.3 million, noncash adjustments to net income of $10.3 million, and improvedaccounts receivable collections of $13.2 million, partially offset by the useof funds to increase inventory in preparation for the upcoming holiday seasonof $3.1 million, to reduce accounts payable by $3.0 million, and to invest $2.2million in deferred advertising. During the nine months ended September 30, 2006, Gaiam’soperating activities provided net cash of $0.6 million, primarily reflectingthe use of funds to reduce accounts payable and accrued liabilities by $7.4million and $5.6 million, respectively, and to increase inventory, advancemedia production, and acquire media programming and other current assets by$4.1 million, $2.4 million and $1.1 million, respectively. This use of fundswas partially offset by cash provided from the decrease in accounts receivableof $14.1 million and noncash charges to net income of $5.7 million.

Gaiam’s investingactivities for the nine months ended September 30, 2007 used net cash of $12.1million reflecting the acquisition of businesses for $10.8 million, net ofacquired funds, and the purchase of property, equipment and media rights for$5.1 million, partially offset by proceeds from the sale of the LIME investmentfor $1.4 million and prepayment of the Alps promissory note principal andinterest for $2.4 million. Gaiam’s investing activities for the ninemonths ended September 30, 2006 used net cash of $7.8 million to acquire abusiness for $6.6 million, net, and to acquire property, equipment and mediarights for $1.9 million, partially offset by cash provided from the sale ofproperty and equipment of $0.6 million.

 

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Gaiam’s financingactivities used net cash of $32.1 million for the nine months ended September30, 2007 primarily to repurchase 2.5 million shares of Gaiam Class A commonstock for $32.9 million, which was partially offset by net proceeds of $0.8million from the exercise of stock options under Gaiam’s 1999 Long TermIncentive Plan. For the nine months ended September 30, 2006, Gaiam’s financingactivities provided net cash of $96.6 million reflecting net cash provided bythe common stock offering of $93.0 million and the exercise of stock optionsduring the first nine months of 2006 for $3.5 million.

On April 7, 2006, Gaiam filed a shelf registrationstatement on Form S-3 with the Securities and Exchange Commission for Class ACommon Stock, par value $.0001, with a total offering price not to exceed$100,000,000.  During May 2006, Gaiam filedan amended Form S-3 to register 5,000,000 shares of Class A Common Stock, plusadditional shares to cover over-allotments, if any.  On May 24,2006, Gaiam sold5,000,000 shares of Class A Common Stock and on June 13, 2006 sold 690,000shares of Class A Common Stock in underwritten offerings under the registrationstatement.  The combined stock salesgenerated gross proceeds of $99.6 million.

Gaiam believes itsavailable cash, cash expected to be generated from operations, borrowingcapabilities, and future sales of its securities should be sufficient to fundits operations on both a short-term and long-term basis. However, Gaiam’sprojected cash needs may change as a result of acquisitions, productdevelopment, unforeseen operational difficulties or other factors.

In the normal course ofour business, Gaiam investigates, evaluates and discusses acquisition, jointventure, minority investment, strategic relationship and other businesscombination opportunities in the LOHAS and MTM markets. For any futureinvestment, acquisition or joint venture opportunities, Gaiam may considerusing then-available liquidity, issuing equity securities or incurringadditional indebtedness.

RiskFactors

There are risks anduncertainties that could cause Gaiam’s actual results to be materiallydifferent from those indicated by forward-looking statements that it makes fromtime to time in filings with the Securities and Exchange Commission, newsreleases, proxy statements, annual reports, registration statements and otherwritten communications, as well as oral forward-looking statements made fromtime to time by representatives of Gaiam. These risks and uncertaintiesinclude, but are not limited to, those listed in Gaiam’s Annual Report on Form10-K for the year ended December 31, 2006. These risks and uncertainties andadditional risks and uncertainties not presently known to Gaiam or that arecurrently deemed immaterial may cause its business, financial condition,operating results and cash flows to be materially adversely affected. Except for the historical information contained herein, the matters discussedin this analysis are forward-looking statements that involve risk anduncertainties, including, but not limited to, general economic and businessconditions, competition, pricing, brand reputation, consumer trends, and otherfactors which are often beyond Gaiam’s control. Gaiam does not undertake anyobligation to update forward-looking statements except as required by law.

 

##### **Item 3.    Quantitativeand Qualitative Disclosures About Market Risk**

Gaiam is exposed to market risks, which includechanges in U.S. interest rates and foreign exchange rates. Gaiam does notengage in financial transactions for trading or speculative purposes.

Any borrowings Gaiam might make under its bank creditfacility would bear interest at the lower of prime rate less 75 basis points orLIBOR plus 275 basis points. Gaiam does not have any amounts outstanding underits credit facility, so any change in interest rates would not have a materialimpact on Gaiam’s results from operations or cash flows unless Gaiam makesborrowings in the future.

 

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Gaiam purchases a significant amount of inventory fromvendors outside of the U.S. in transactions that are primarily U.S. dollardenominated transactions. Because the percentage of Gaiam’s internationalpurchases denominated in currencies other than the U.S. dollar is small, anycurrency risks related to these transactions are immaterial to Gaiam. A declinein the relative value of the U.S. dollar to other foreign currencies could,however, lead to increased purchasing costs. In order to mitigate thisexposure, Gaiam makes virtually all of its purchase commitments in U.S.dollars.

In 2003, Gaiam purchased a 50.1% interest in GaiamLimited (also known as Leisure Systems International Limited), a U.K. baseddistributor. Because Gaiam Limited’s revenue is primarily denominated inforeign currencies, this investment exposes Gaiam to accounting risk associatedwith foreign currency exchange rate fluctuations. However, Gaiam has determinedthat no material market risk exposure to its consolidated financial position,results of operations or cash flows existed as of September 30, 2007.

**Item 4.     Controls and Procedures**

**Evaluation of Disclosure Controls and Procedures**

Gaiam’s chief executive officer and chief financialofficer conducted an evaluation of the effectiveness of the design andoperation of Gaiam’s disclosure controls and procedures, as defined in Rule13a-15(e) and Rule 15d-15(e) under the Exchange Act. Based upon theirevaluation as of September 30, 2007, Gaiam’s chief executive officer and chieffinancial officer have concluded that those disclosure controls and proceduresare effective.

**Changes in Internal Control over Financial Reporting**

No changes in Gaiam’s internal control over financialreporting occurred during the quarter or nine months ended September 30, 2007that have materially affected, or are reasonably likely to materially affect,Gaiam’s internal control over financial reporting.

## **PARTII.    OTHER INFORMATION**

**Item 1.     Legal Proceedings**

                Fromtime to time, Gaiam is involved in legal proceedings that it considers to be inthe normal course of business. Gaiam does not believe that any of theseproceedings will have a material adverse effect on its business.

**Item 1A. Risk Factors**

No material changes.

**Item 2.     Unregistered Sales of Equity Securities and Use of Proceeds**

None.

**Item 3.     Defaults Upon Senior Securities**

None.

 

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**Item 4.     Submission of Matters to a Vote of Security Holders**

None.

**Item 5.     Other Information**

None.

**Item 6.     Exhibits**

a)     Exhibits.
| **Exhibit No.** | ** ** | **Description**                                                                                                                                                                |
|-----------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|            |       |                                                                                                                                                                           |
| 31.1            |       | Certification of the  Chief Executive Officer pursuant to Rule 13a-14(a) under the Securities  Exchange Act of 1934 (filed herewith).                                          |
| 31.2            |       | Certification of the  Chief Financial Officer pursuant to Rule 13a-14(a) under the Securities  Exchange Act of 1934 (filed herewith).                                          |
| 32.1            |       | Certification of the  Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (furnished  herewith). |
| 32.2            |       | Certification of the  Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (furnished  herewith). |

 

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### **Signatures**

Inaccordance with the requirements of the Securities and Exchange Act, theregistrant caused this report to be signed on its behalf, by the undersigned,thereunto duly authorized.
|   | Gaiam, Inc.      |
|--------|------------------|
|   | (Registrant)     |
|   | November 9, 2007 |
|   |             |   |
|   | By:              | /s/ Jirka Rysavy |
|   |             | Jirka Rysavy |
|   |             | Chief Executive  Officer |
|   |             |   |
|   | By:              | /s/ Vilia  Valentine |
|   |             | Vilia Valentine |
|   |             | Chief Financial  Officer |
|   |             | (principal  accounting officer) |

# ** **

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