RISK FACTORS

 

Our business involves a high degree of risk. Therefore, in evaluating us and our business you should carefully consider the risks set forth below.

 

Risks Relating To Our Company

 

Because we have only recently commenced business operations, it is difficult to evaluate our prospects and we face a high risk of business failure.

 

We were incorporated in August 2004 and shipped our first two games in our second fiscal quarter of 2006 and an additional six games in fiscal 2007. We therefore face the risks and problems associated with businesses in their early stages in a competitive environment and have a limited operating history on which an evaluation of our prospects can be made. Until we develop our business further by publishing and developing more games or implementing our proposed distribution system, it will be difficult for an investor to evaluate our chances for success. Our prospects should be considered in light of the risks, expenses and difficulties frequently encountered in the establishment of any business in a competitive environment.

 

We have not yet generated any income and may never become profitable.

 

During the years ended March 31, 2007 and 2006, we incurred net losses of $8,038,894 and $4,849,678, respectively. Our ability to generate revenues and to become profitable depends on many factors, including the market acceptance of our products and services, our ability to control costs and our ability to implement our business strategy. There can be no assurance that we will become or remain profitable.

 

We have not yet generated positive gross margins.

 

During the years ended March 31, 2007 and 2006, we incurred negative gross margins of $2,655,914 and $976,293, respectively. Our ability to generate positive gross margins depends on many factors, including the market acceptance of our products, the selling prices of our products, our ability to control the costs of developing and  manufacturing our products and the costs of royalties paid to licenses of any IPs we have licensed. There can be no assurance that we will begin generating or be able to sustain positive gross margins.

 

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If we are unable to raise additional financing, we will be unable to fund our planned expansion.

 

We have never achieved positive cash flow from operations and there can be no assurance that we will do so in the future. We need additional financing to fund our product development costs and the operating losses we anticipate incurring over the next several quarters. Our current cash on hand with our expected cash flows from operating activities will enable us to continue operating until the end of our first fiscal quarter of 2008. We anticipate needing an additional $20,000,000 in addition to our cash flow from operations to bring our existing products under development to market and finance our day to day operations.

 

Because we have significant accumulated deficit and negative cash flows from operations, our independent registered accounting firm has qualified its opinion regarding our ability to continue as a going concern.

 

We have a significant accumulated deficit and have sustained negative cash flows from operations since our inception. The opinion of our independent registered accounting firm for the years ended March 31, 2007 and 2006 is qualified subject to uncertainty regarding our ability to continue as a going concern. In fact, the opinion states that these factors raise substantial doubt as to our ability to continue as a going concern. In order for us to operate and not go out of business, we must generate and/or raise capital to stay operational. The continuity as a going concern is dependent upon the continued financial support of our current shareholders, current debenture holders and new investors. There can be no assurance that we will be able to generate income or raise additional capital.

 

If we are unable to hire and retain key personnel, then we may not be able to implement our business plan.

 

The success and growth of our business will depend on the contributions of our Chairman and Chief Executive Officer, Chester Aldridge and our President and Chief Operating Officer, Glenn Wong, as well as our ability to attract, motivate and retain other highly qualified personnel. Competition for such personnel in the publishing industry is intense. We do not have employment agreements with Mr. Aldridge, Mr. Wong or any of our other employees. The loss of the services of any of our key personnel, or our inability to hire or retain qualified personnel, could have a material adverse effect on our business.

 

If our business plan fails, our company will dissolve and investors may not receive any portion of their investment back.

 

If we are unable to realize profitable operations, or raise sufficient capital, we will be unable to implement our business strategy. If we cannot self publish in North America, we will have to continue licensing our games to co-publishers, and our profit and operating margins will remain lower, making it more difficult to achieve profitability, and our business will eventually fail. In such circumstances, it is likely that we will dissolve and, depending on our remaining assets at the time of dissolution, we may not be able to return any funds back to investors.

 

Our business depends on the availability and installed base of current and next generation video game platforms and will suffer if an insufficient quantity of these platforms is sold.

 

Most of our anticipated revenues will be generated from the development and publishing of games for play on video game platforms produced by third parties. Our business will suffer if the third parties do not manufacture and sell an adequate number of platforms to meet consumer demand or if the installed base of the platforms is insufficient.

 

If we do not continually develop and publish popular games, our business will suffer.

 

The lifespan of any of our games is relatively short, in many cases less than one year. It is therefore important for us to be able to continually develop games that are popular with the consumers.

 

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During the last two fiscal years, we have sold four Console or Handheld games and six PC only games. We are currently involved in the development of three games, one of which is expected to ship during fiscal 2008 and two of which are expected to ship during fiscal 2009. If we are unable to continually identify, develop and publish games that are popular with the consumers on a regular basis, our business will suffer. Our business will also suffer if we do not receive additional financing to be used for research and development of new games.

 

We have shipped the following Console or Handheld games: (i) Heroes of the Pacific for the PS2, Xbox and PC platforms which first began shipping in September, 2005; (ii) GripShift for the PSP platform which first began shipping in September 2005; (iii) Crusty Demons for the PS2 and Xbox platforms which first began shipping in July 2006; (iv) Lucinda Green’s Equestrian Challenge for the PS2 and PC which first began shipping in November 2006.  On the PC, we have shipped: (i) Disney’s Aladdin Chess Adventures which first began shipping in February 2006; (ii) El Matador, which first began shipping in October 2006; (iii) Dual Sudoku, which first began shipping in September 2006; (iv) Timothy and Titus, which first began shipping in November 2006; (v) Aircraft Power Pack, which first began shipping in December 2006; and (vi)  Lucinda Green’s Equestrian Challenge, which we first began shipping in November 2006. We are currently involved in the development of thee games: (i) Jackass for the PS2, PSP, and DS; (ii) Sin city for the PS3 and Xbox 360; and (iii) a sequel to Heroes of the Pacific based in the European theatre for the Xbox 360, PS3, and PC.

 

The cyclical nature of video game platforms and the video game market may cause our operating results to suffer, and make them more difficult to predict. We may not be able to adapt our games to the next generation platforms.

 

Video game platforms generally have a life cycle of approximately six to ten years, which has caused the market for video games to also be cyclical. Sony’s PlayStation 2 was introduced in 2000 and Microsoft’s Xbox and the Nintendo GameCube were introduced in 2001. Microsoft introduced the Xbox 360, Sony the PlayStation3 and Nintendo the Wii in 2006. These introductions have created a new cycle for the video game industry which will require us to make significant financial and time investments in order to adapt our current games and develop and publish new games for these new consoles. We cannot assure you that we will be able to accomplish this or that we will have the funds or personnel to do this. Furthermore, we expect development costs for each game on the new consoles to be significantly greater than in the past. If the increased costs we incur due to next generation consoles are not offset by greater sales, we will continue to incur losses.

 

We depend on our platform licensors for the license to publish games for their platforms and to establish the royalty rates for the license.

 

We are dependent on our platform licensors for the license to the specifications needed to develop software for their platforms. These platform licensors set the royalty rates that we must pay in order to publish games for their platforms. These royalty rates will vary based on the expected wholesale price point of the game. Certain of our platform licensors have retained the ability to change their royalty rates. It is possible that a platform licensor may terminate or not renew our license.  Our gross margins and operating margins will suffer if our platform licensors increase the royalty rates that we must pay, terminate their licenses with us, do not renew their licenses with us, or do not grant us a license to publish on the next generation consoles.

 

We have the following platform licenses:

Platform		Term
Microsoft Xbox 360		Three years from first commercial release of platform. Then automatic renewal unless noticed 60 days prior to expiration of non-renewal. Royalty rates are fixed during the term.
Microsoft Xbox		Initial term expires on November 15, 2007. Then automatic renewal unless noticed 60 days prior to expiration of non-renewal. Royalty may change on July 1st of any year.
Sony PS2 and PSP		Initial term expires on March 31, 2007. Then automatic renewal unless noticed 60 days prior to expiration of non-renewal. Royalty rates are subject to change with 60 days notice.

 

 

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Sony PS3

Initial term expires on March 31, 2012. Then automatic renewal for one-year terms, unless noticed on or before January 31 of the year in which the term would renew. Royalty rates are subject to change with 60 days notice.

Nintendo Gamecube		Expires on August 17, 2007. Royalty rates are subject to change with 60 days notice. Cost of manufacture is subject to change at any time.
Nintendo Wii and DS		Expires June 12, 2010
PCs		There are no platform licenses required for the PCs

 

In addition, each platform licensor has its own criteria for approving games for its hardware platform. In addition, each platform licensor has different criteria depending on the geographical territory of the game release. These criteria are highly subjective. Without such approval, we would not be able to publish our games nor have the games manufactured. Failure to obtain these approvals on the games we are currently developing and any games that we develop in the future will preclude any sales of such products and, as such, negatively affect our margins and profits.

 

Our financial performance will suffer if we do not meet our game development schedules.

 

We expect that many of our future games will be developed and published in connection with the releases of related movie titles and other significant marketing events, or more generally in connection with higher sales periods, including our third quarter ending December 31. As such, we will establish game development schedules tied to these periods. If we miss these schedules, we will incur the costs of procuring licenses without obtaining the revenue from sales of the related games.

 

It may become more difficult or expensive for us to license intellectual property, thereby causing us to publish fewer games.

 

Our ability to compete and operate successfully depends in part on our acquiring and controlling proprietary intellectual property. Our games embody trademarks, trade names, logos, or copyrights licensed from third parties. An example is MTVN’s Jackass^TM, which utilizes rights licensed from MTVN. If we cannot maintain the licenses that we currently have, or obtain additional licenses for the games that we plan to publish, we will produce fewer games and our business will suffer. Furthermore, some of our competitors have significantly greater resources than we do, and are therefore better positioned to secure intellectual property licenses. We cannot assure you that our licenses will be extended on reasonable terms or at all, or that we will be successful in acquiring or renewing licenses to property rights with significant commercial value.

 

Infringement claims regarding our intellectual property may harm our business.

 

Our business may be harmed by the costs involved in defending product infringement claims. We can give no assurances that infringement or invalidity claims (or claims for indemnification resulting from infringement claims) will not be asserted or prosecuted against us or that any such assertions or prosecutions will not materially adversely affect our business. The images and other content in our games may unintentionally infringe upon the intellectual property rights of others despite our best efforts to ensure that this does not occur.

 

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It is therefore possible that others will bring lawsuits against us claiming that we have infringed on their rights. Regardless of whether any such claims are valid or can be successfully asserted, defending against such lawsuits could be expensive and cause us to stop publishing certain games or require us to license the proprietary rights of third parties. Such licenses may not be available upon reasonable terms, or at all.

 

The content of our games may become subject to increasing regulation and such regulation may limit the markets for our games.

 

Legislation is periodically introduced at the local, state and federal levels in the United States and in foreign countries that is intended to restrict the content and distribution of games similar to the ones that we develop and produce, and could prohibit certain games similar to ours from being sold to minors. Additionally, many foreign countries have laws that permit governmental entities to censor the content and advertising of interactive entertainment software. We believe that similar legislation will be proposed in many countries that are significant markets for our games, including the United States. If any of this proposed legislation is passed, it could have the effect of limiting the market for our games and/or require us to modify our games at an additional cost to us.

 

If we or others are not successful in combating the piracy of our games, our business could suffer.

 

The games that we develop and publish are often the subject of unauthorized copying and distribution, which is referred to as pirating. The measures taken by the manufacturers of the platforms on which our games are played to limit the ability of others to pirate our games may not prove successful. Increased pirating of our games throughout the world negatively impacts the sales of our games.

 

If any of our games are found to contain hidden, objectionable content, our business may be subject to fines or otherwise be harmed.

 

Some game developers and publishers include hidden content in their games that are intended to improve the experience of customers that play their games. Additionally, some games contain hidden content introduced into the game without authorization by an employee or a non-employee developer. Some of this hidden content has in the past included graphic violence or sexually explicit material. In such instances, fines have been imposed on the publisher of the game and the games have been pulled off the shelves by retailers. The measures we have taken to reduce the possibility of hidden content in the games that we publish may not be effective, and if not effective our future income will be negatively impacted by increased costs associated with fines or decreased revenue resulting from decreased sales volume because of ownership of games that cannot be sold.

 

Our business is subject to economic, political, and other risks associated with international operations.

 

Because we have distribution agreements with entities located in foreign countries, our business is subject to risks associated with doing business internationally. Accordingly, our future results could be harmed by a variety of factors, including less effective protection of intellectual property, changes in foreign currency exchange rates, changes in political or economic conditions, trade-protection measures and import or export licensing requirements. Effective protection of intellectual property rights is unavailable or limited in certain foreign countries. There can be no assurance that the protection afforded our proprietary rights in the United States will be adequate in foreign countries. Furthermore, there can be no assurance that our business will not suffer from any of these other risks associated with doing business in a foreign country.

 

We are currently dependent on a small number of customers, the loss of any of which could cause a significant decrease in our revenue.

 

As of March 31, 2007, we had two customers who accounted for 49.1% (Navarre Corporation) and 28.1% (GameStop) of our consolidated accounts receivable and three customers who accounted for 48.1% (Navarre Corporation), 18.1% (GameStop) and 14.7% (Koch Media) of consolidated revenue.

 

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As of March 31, 2006, we had two customers who accounted for 80.7% (Codemasters) and 18.5% (Sony On-Line Entertainment) of our consolidated accounts receivable and three customers who accounted for 44.4% (Ubisoft), 28.6% (Codemasters) and 26.5% (Sony On-Line Entertainment) of consolidated revenue. If Navarre Corporation or GameStop were to decrease their purchase volume or discontinue their relationship with us, our revenue would decrease significantly unless we were able to find new customers to replace the lost volume. There can be no assurance that such new customers could be found, or if found, that they would purchase the same quantity as the current customers.

 

Because we have not internally developed any of the games that we have sold, our business is dependent upon external sources over which we have very little control.

 

 We have not yet developed any games that we sell and our business has been derived from the sale of games developed by external development studios. If the developers of our games were to discontinue their relationship with us, we may not be able to find a replacement. If our developers were to increase the fees that we pay for development, our costs would increase, making it more difficult to achieve positive margins and profitability and we would be forced to find alternative developers. There can be no assurance that we would be able to find alternative developers, or even if such developers are available, that they will be available on terms acceptable to us.

 

We will incur increased costs as a result of being a public company, which could adversely affect our operating results.

As a public company, we will incur significant legal, accounting and other expenses that we did not incur as a private company. In addition, the Sarbanes-Oxley Act of 2002 and the new rules subsequently implemented by the Securities and Exchange Commissions, the National Association of Securities Dealers, Inc., and the Public Company Accounting Oversight Board have imposed various new requirements on public companies, including requiring changes in corporate governance practices. We expect these rules and regulations to increase our legal and financial compliance costs and to make some activities more time-consuming and costly. We also expect these new rules will require us to incur substantial costs to obtain the same or similar insurance coverage. These additional costs will have a negative impact on our income and make it more difficult for us to achieve profitability. 

Our Games

 

We currently are actively publishing or distributing three games. We commissioned the development of Lucinda Green’s Equestrian Challenge for the PS2 and PC with Australia based developer IR Gurus PTY LTD (“IR Gurus”) in April 2005. We published this game in North America in November 2006. We will begin distributing this game in Europe in our first fiscal quarter of 2008. In the game, a player gets to ride in the dressage, cross country and jumping events against world class equestrians at some of the world’s top equestrian event courses. The game features accurate scoring as well as expert commentary.

We acquired the North American distribution rights for a PC add-on product named Aircraft Power Pack (Power Pack) from a Texas based developer in August 2006. We marketed this game in North America in December 2006. This add-on works in conjunction with Microsoft’s highly popular Flight Simulator X, Flight Simulator 2004 or Combat Flight Simulator 3.  Power Pack provides the game player with an entirely new set of aircraft to use in the game.

In February 2005, we acquired the Crusty Demons license from Fluent Entertainment, Inc. for the right to develop and publish a multiplatform video game based on the highly successful motocross videos and then completed the development with Climax Action Ltd.  In December 2005, we entered into a European co-publishing agreement with Koch Media (Koch) for a non-refundable advance against royalties and a royalty based on actual sales of the game.  The game was completed on the Xbox platform in North America and the PS2 platform in Europe and Australia. The intellectual property Crusty Demons of Dirt is licensed from Fleshwound Films. The game features a number of extreme motor sports stars.  It enables players to ride as a Crusty Demon, a group of MX riders featured in their own popular DVD series. The object of the game is to perform the most outrageous stunts possible.  

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Our Games Under Development

 

The lifespan of any of our games is relatively short, in many cases less than one year. It is therefore important for us to be able to continually develop games that are popular with the consumers. As of March 31, 2007, we have spent approximately $15.9 million on research and development of our games, all paid to external developers.

We are currently involved in the development of three games. All of these games are expected to be published during Fiscals 2008 and 2009.

 

We entered into a multi-year license agreement with MTVN through 2010 (including extensions through 2012) to develop and publish video games based on MTVN’s popular Jackass brand and on August 11, 2005 signed a development contract with New Zealand based Sidhe Studios to develop a Jackass game for the PSP and PS2.  Jackass enables players to direct the antics of Johnny Knoxville and his posse as they ride, jump and hurl their way through a series of madcap stunts. Development is currently in progress and we have obtained second stage approval from Sony for the PS2 and PSP. We are also developing Jackass for the Nintendo DS Platform. We expect Jackass to be available for shipment worldwide in the second fiscal quarter of 2008 for the PSP and PS2 platforms and in the third fiscal quarter of 2008 for the DS Platform.

 

IR Gurus is also working on an Xbox 360, PS3 and PC sequel to Heroes of the Pacific, which will be based in the European theatre during World War II. We expect this game to be available in fiscal 2009.

 

Manufacturing and Suppliers

 

The suppliers we use to manufacture our games can be characterized in three types:

	•	Manufacturers that press our game disks,
	•	Companies that print our game instruction booklets, and
	•	Companies that package the disks and printed game instruction booklets into the jewel cases and boxes for shipping to customers.

 

In most instances, there are multiple potential sources of supply for most materials, except for the disk component of our PS2, PSP, and DS disk products which the console manufacturer provides. To date, neither we, nor our co-publishers have experienced any material difficulties or delays in production of our software and related documentation and packaging. However, a shortage of components, manufacturing delays by Sony, Microsoft, or Nintendo, or other factors beyond our control could impair our ability to manufacture, or have manufactured, our products.

 

Intellectual Property

 

Intellectual property is essential to our business. Some of this intellectual property is in the form of software code, patented technology, and other technology and trade secrets that we use to develop our games and to make them run properly on the platforms. Other intellectual property is in the form of audio-visual elements that consumers can see, hear and interact with when they are playing our games - we call this form of intellectual property “content.”

 

Each of our products embodies a number of separate forms of intellectual property protection: the software and the content of our products are copyrighted; our product brands and names may be trademarks of ours or others; our products may contain voices and likenesses of actors, athletes and/or commentators and often contain musical compositions and performances that are also copyrighted. Our products may also contain other content licensed from others, such as trademarks, fictional characters, storylines and software code.

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We acquire the rights to include these kinds of intellectual property in our products through license agreements that are typically limited to use of the licensed rights in products for specific time periods.     

 

We own the trademark to the name “Red Mile Entertainment”. This trademark was issued in June 2006.

 

As of June 15, 2007, we have the following significant license agreements:

 

1.

Heroes of the Pacific – We have the exclusive right to publish the game for PS2, PCS, Xbox, and PSP worldwide. This license expires as to PS2, PCS and Xbox on January 21, 2008 and on PSP January 21, 2015.  In addition, we have the exclusive rights to publish a sequel, on the Xbox 360, PS3 and PC, which will be based in the European theatre during World War II.

2.	GripShift – We have the exclusive right to publish the game on PSP worldwide through September 27, 2008.

3.	Jackass – We have the exclusive right to use on any gaming platform in any country where MTVN has registered the trademark (all major video game markets). This license expires 3/31/2010 with an extension provision through 12/31/2012.

4.	Disney’s Aladdin Chess Adventures – We have the exclusive right to use the name on one personal computer game worldwide until September 30, 2007.

5.	Crusty Demons of Dirt – We have the exclusive right to use on video games for any gaming platform, worldwide. This license expires on May 5, 2008 with an extension provision through May 5, 2011.

6.	Equestrian Challenge – We have the exclusive right to publish the game on PS2, PC and Xbox worldwide through April 22, 2010.

7.	Aircraft Power Pack – We have exclusive North American distribution rights on PC through August 23, 2011.

8.	Marshmallow Gun and Marshmallowville – We have the exclusive right to use on video games for any gaming platform, worldwide.  This license expires 10 years after the initial shipment of the first product at retail.

9.	Sin City – We have the exclusive right to use on video games for any gaming platform, worldwide.  This license expires on May 17, 2012 with an extension provision through May 17, 2017.

 

 Competition

 

Our products compete with motion pictures, television, music and other forms of entertainment for the leisure time and money of consumers.

 

We currently compete with Sony, Microsoft, and Nintendo, each of which develop and publish software for their respective console platforms. We also compete with numerous companies which are, like us, licensed by the console manufacturers to develop and publish software games that operate on their consoles.

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These competitors include Activision, Atari, Capcom, Eidos, Electronic Arts, Koei, Konami, LucasArts, Midway, Namco, Sega, Take-Two Interactive, THQ, Ubisoft and Vivendi Universal Games, among others. Diversified media companies such as Time Warner, Viacom and Disney have also indicated their intent to significantly expand their software game publishing efforts in the future.

 

We believe that the software games segment is best viewed as a segment of the overall entertainment market. We believe that large software companies and media companies are increasing their focus on the software games segment of the entertainment market and as a result, may become more direct competitors. Several large software companies and media companies (e.g., Microsoft and Sony) have been publishing products that compete with ours for a long time, and other diversified media/entertainment companies (e.g., Time Warner, Disney and MTV) have announced their intent to significantly expand their software game publishing efforts in the future.

 

Our competitors vary in size from very small companies with limited resources to very large, diversified corporations with greater financial and marketing resources than ours. Our business requires the continuous introduction of popular games, which require ever-increasing budgets for development and marketing. As a result, the availability of significant financial resources has become a major competitive factor in developing and marketing of software games.

 

In addition to competing for product sales, we face heavy competition from other software game companies to obtain license agreements granting us the right to use intellectual property included in our products. Some of these content licenses are controlled by the diversified media companies, which intend to expand their software game publishing divisions.

 

Finally, the market for our products is characterized by significant price competition and we regularly face pricing pressures from our competitors and customers. These pressures may, from time to time, require us to reduce our prices on certain products. Our experience has been that software game prices tend to decline once a generation of consoles has been in the market for a significant period of time due to the increasing number of software titles competing for acceptance by consumers and the anticipation of the next-generation of consoles.

 

Seasonality

 

Our business is highly seasonal. We typically experience our highest revenue in the calendar year-end holiday season (October through December) and a seasonal low in revenue in our first fiscal quarter (April through June). This seasonal pattern is due to the increased demand for software games during the year-end holiday season and the reduced demand for the games during the summer.

 

Employees

 

We currently have ten full time employees and two part time employees. We also utilize one full-time and five part-time consultants to assist us.  We use a third party sales representative organization to help solicit sales for us.   We also have a Marketing Group and Public Relations firm assisting us. Our third party developers have approximately 150 employees and consultants working on our games full time.

 

We plan to hire an additional three employees and three outside consultants in the next 12 months to support our expansion plans including taking direct responsibility for marketing our products to consumers.

 

Acquisitions

 

In January 2007, Red Mile entered the “Casual Games” business by acquiring the assets of an existing casual game distribution portal, Roverinteractive.com, which has now become the brand for Red Mile’s wholly owned casual game division under the brand “Rover”.

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In connection with the acquisition of these assets, we issued a total of 33,333 shares of our common stock valued at $3.75 per common shares to the sellers of the assets.

Casual Games are different from core games which are typically larger-budget console or PC games in that Casual Games:

 

a)	Cater to a different demographic; 65% female

b)	Are relatively small in memory size, typically not larger than 50MB

c)	Easy to learn but hard to master

d)	Typically cost $19.99 or less

Casual Games represent one of the fastest-growing segments of the interactive entertainment industry.

IR Gurus

 

On September 1, 2005, we optioned the right to purchase all the outstanding common stock of IR Gurus, a developer of interactive video games headquartered in Melbourne, Australia. The agreement with IR Gurus provided that we would acquire 24% of the outstanding common stock of IR Gurus over the twelve months ending August 2006, for a total purchase price of $600,000. It also provided us with an option to purchase the entire company for a fixed price through August 2006.

 

Pursuant to the terms of a separate agreement, we earned (i) 2.5% of the outstanding common stock of IR Gurus upon signing of a development agreement for Equestrian Challenge, (ii) an additional 2.5% of the outstanding common stock of IR Gurus upon signing of a development agreement for the next version of Heroes of the Pacific on the PSP and (iii) an additional 5% of the outstanding common stock of IR Gurus upon signing of a development agreement for a Heroes of the Pacific sequel on Xbox, PS3 and PCs. In addition, we also purchased an equity position in IR Gurus for cash. As of June 15, 2007, we own a total of 18% of the outstanding shares of IR Gurus.

 

In December 2005, we notified IR Gurus of our desire to exercise the purchase option and we are currently continuing to negotiate the definitive agreement to acquire that portion of IR Gurus not already owned by us for $4.1 million in cash and shares of our common stock valued at $1.4 million. There can be no assurances this acquisition will be consummated.

 

IR Gurus incubated and owns the intellectual property of Heroes of the Pacific, which we have licensed. We have the right of first refusal with respect to sequels of Heroes of the Pacific. IR Gurus also develops video games for other publishers including Sony Computer Entertainment Europe (Sony), AFL Premiership 2005 and Gaelic Games Football. In addition to a next generation versions of Heroes of the Pacific, IR Gurus is currently working on AFL Premiership 2007 for Sony and a croquet game for another publisher.

 

IR Gurus has also licensed the rights to certain venues, horses and riders for use in Equestrian Challenge. We have a license to the rights for this game and a right of first refusal for sequels.

ITEM 2. DESCRIPTION OF PROPERTY

 

Our corporate offices are in Sausalito California and consist of approximately 2,500 square feet of leased space leased at $2.49 per square feet.  This lease expires on March 1, 2008.  We believe that if we lost this lease, we could promptly relocate within ten miles on similar terms.

 

ITEM 3. LEGAL PROCEEDINGS

 

We are not party to any pending legal proceedings.

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

On December 28, 2006, the holders of our common shares representing 54.0% of our voting power executed a written consent giving our Board of Directors the authority to effect a reverse stock split of each share of our common stock at a ratio of one share for every three shares of common stock outstanding. On January 2, 2007, the Board of Directors authorized this transaction and the reverse split became effective on February 8, 2007.

On March 9, 2007, the holders of our common shares representing 54.7% of our voting power executed a written consent giving our Board of Directors the authority to amend our 2005 Stock Option Plan (the “Plan”) to increase the number of shares of common stock reserved or grant and issuance under the Plan from 666,666 shares to 2,500,000 shares. On March 9, 2007, the Board of Directors authorized this transaction and the increase in authorized shares became effective on May 14, 2007.

PART II

ITEM 5.  MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

Our stock has been traded on the Over-the-Counter Bulletin Board (“OTCBB”) market since February 26, 2007.  Prior to February 26, 2007, there was no public market for our common stock and our stock had not traded on any listing or exchange.

The following table sets forth the quarterly high and low sales prices of the common stock for the year ended March 31, 2007, as quoted on the OTCBB market since February 26, 2007.

 

	High	Low
Fiscal Year 2007
First Quarter *	—	—
Second Quarter *	—	—
Third Quarter *	—	—
Fourth Quarter	$5.00	$3.99

 

* The Company began trading on February, 26, 2007; therefore, there is no trading history prior to this date.

On June 25, 2007, there were approximately 177 registered holders of record of the common stock.  This number does not include beneficial owners from whom shares are held by nominees in street name.

We have not paid any cash dividends on our common stock to date, and we have no intention of paying cash dividends in the foreseeable future. Whether we declare and pay dividends is determined by our board of directors at their discretion, subject to certain limitations imposed under Delaware corporate law. The timing, amount and form of dividends, if any, will depend on, among other things, our results of operations, financial condition, cash requirements and other factors deemed relevant by our board of directors.

Recent Sales of Unregistered Securities; Uses of Proceeds from Registered Securities

From December 2004 through March 2005, we closed on a $2,780,000 private placement to three investors of 926,667 shares of Preferred A Redeemable Convertible Stock and 926,667 warrants to purchase 593,000 shares of common stock. Each investment unit consisted of one share of Preferred A Redeemable Convertible Stock and a warrant to purchase .55% of a share of common stock. The preferred shares are convertible into common stock on a one to one basis and the warrants are exercisable at $3.30 per share of common stock. All Preferred A shares automatically converted to shares of our common stock on May 15, 2006, pursuant to their terms, the date the company filed its SB-2 registration statement.

 

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In January 2005, we purchased $1.9 million in secured debt of Fluent Entertainment, Inc. (See "Certain Relationships and Related Transactions") from two third parties for 1,273,333 shares of Preferred A Redeemable Convertible Stock. In connection with this transaction, we recorded a debt inducement conversion charge of $1,967,917 in our consolidated statement of operations. Then, in February 2005, the Company purchased certain assets of Fluent Entertainment, Inc. including the title to three video games in development. In connection with this purchase, we retired the previously purchased $1.9 million of secured debt and issued an additional 3,168,275 shares of our common stock. We also assumed the liability to pay the developers that were developing the three video games.

In September 2005, the Company issued 666,667 shares of Preferred A Redeemable Convertible stock to retire $1 million of debt. In connection with this transaction, we recorded a debt inducement conversion charge of $1,000,000 in our consolidated statement of operations.

 

In September and October 2005, we closed on a $1,300,000 private placement to sixteen investors of 433,333 shares of Preferred A Redeemable Convertible Stock. These investors included both U.S. and non U.S. investors.

 

In September 2005, we acquired 39.9% of 2WG, a newly formed developer and publisher of personal computer games, in exchange for a commitment to fund 2WG up to $500,000 in operating expenses and new product development. 2WG LLC owned the remaining 60.1% interest. In December 2005, we merged 2WG into a newly formed wholly-owned subsidiary and exchanged all of the outstanding stock of 2WG owned by 2WG LLC for 66,667 shares of our common stock and an earn-out where we might have issued an additional 166,667 shares of common stock in order to position ourselves to take advantage of relationships which 2WG has developed.  The earn-out period has passed and no additional shares were earned.

 

In December 2005, we issued 152,333 investment units outside the U.S. to six non U.S. investors for $571,250. A unit consisted of one share of Series A Redeemable Convertible Preferred stock and a warrant to purchase an additional share of common stock before May 1, 2008 for $4.50 per share.

 

In March and May 2006, Red Mile issued 845,333 investment units outside the U.S. to thirty two non U.S. investors for $3,170,000. A unit consisted of one share of Series B Redeemable Convertible Preferred stock and a warrant to purchase an additional share of Series B Redeemable Convertible Preferred stock before May 1, 2008 for $4.50 per share.

 

From January through March 2006, Red Mile issued 332,953 investment units outside the U.S. to twenty seven non U.S. investors for $1,248,575. A unit consisted of one share of Series C Redeemable Convertible Preferred stock and a warrant to purchase an additional share of Series C Redeemable Convertible Preferred stock before May 1, 2008 for $4.50 per share.

 

In addition, From March through the beginning of May 2006, nine US investors purchased 100,000 units for a total of $375,000. A unit consisted of one share of Series C Redeemable Convertible Preferred stock and a warrant to purchase an additional share of Series C Redeemable Convertible Preferred stock before May 1, 2008 for $4.50 per share.

 

On May 15, 2006, all of Red Mile’s outstanding Preferred A shares automatically converted to common shares when Red Mile filed its registration statement on Form SB-2.  On December 13, 2006, all of Red Mile’s outstanding Preferred B and C shares converted to common shares when our common shares were approved for trading on the OTC Bulletin Board.

On October 19, 2006, the Company, pursuant to an Agency Agreement with J.F. Mackie & Company, Ltd. (the “Agent”) issued $5,824,000 of Senior Secured Convertible Debentures.  Pursuant to the terms of the Agency Agreement, the Agent facilitated the purchase of 5,824 convertible debentures to 74 Debenture Holders for an aggregate principal face amount of $5,824,000. Of the 74 Debenture Holders, 71 were residents of Canada, 2 were residents of Argentina, and 1 was a resident of the Bahamas.

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The Debentures mature on October 19, 2008 and are convertible into shares of the Common Stock of the Company at a ratio of $5.25.

On November 20, 2006, the Company, pursuant to an Agency Agreement with the same agent, issued $2,420,000 of Senior Secured Convertible Debentures.  Pursuant to the terms of the Agency Agreement, the Agent facilitated the purchase of 2,420 convertible debentures to 7 Debenture Holders for an aggregate principal face amount of $2,420,000. Of the 7 Debenture Holders, 6 were residents of Canada, and 1 was a resident of the Bahamas. These Debentures mature on November 20, 2008 and are convertible into shares of the Common Stock of the Company at a ratio of $5.25.

The conversions on the above mentioned Debentures may be exercised at the election of the holders of the Debentures at any time after a minimum non-conversion period of 12 months from the issue date. The conversions can also be exercised by the Company after a minimum non-conversion period of 12 months from the issue date so long as the Company’s Common Shares have begun trading on a recognized exchange and have traded at a minimum volume weighted average price of $9.00/share (after the effect of the one for three reverse stock split which occurred on February 8, 2007) for 20 consecutive trading days, subject to certain limitations.

On the maturity dates of the two sets of Debentures, the Company retains the right to redeem the Debentures in cash, in kind, or in cash and in kind with Common Shares of the Company. The Company also has the right to redeem the Debentures at a redemption price equal to 115% of the principal face value at any time after a period of 12 months so long as the Company’s Common Shares have begun trading on a recognized exchange and have traded at a minimum volume weighted average price of $9.00/share for 20 consecutive trading days, subject to certain limitations.

 

The Debentures carry a coupon rate of 5.5% per annum, non-compounded, and the interest is payable semi-annually on March 15 and September 15 in cash, or in kind. 

The Debentures are secured direct senior obligations of the Company secured against all present and after acquired assets of the Company except for accounts receivable in which case the Debenture holders rank less senior to other creditors for the security interest in accounts receivable. The Debentures have full rights to piggyback registration after a period of 12 months.

     

The Agent is an independent equity investment firm located in Calgary, Canada.  In aggregate, on the 2 sets of debentures, the Company has paid the Agent a 6% commission on each set, totaling an aggregate of $494,640 which was paid upon the closings of the respective transactions. The total capitalized fees were $610,453, with the $494,640 in agent’s commissions comprising the majority of the capitalized fees. The remaining $115,813 in fees was primarily legal fees.

 

The Debentures were issued in two private placement transactions to investors who are not "U.S. persons" pursuant to the exemption from registration provided by Rules 901 and 903 of Regulation S under the Securities Act of 1933, as amended.

On June 25 through June 27, 2007, the Company issued an aggregate of $2,050,000 of Convertible Promissory Notes (“Notes”) to a total of 19 note holders with the Agent acting as the placement agent.  The Company is obligated to pay the Agent a commission equal to 6% of the principal amount of the Notes.  The Company also issued on June 25, 2007,  without the assistance of the Agent, $350,000 of a Convertible Promissory Note to one note holder. All of these notes mature on the terms described in Note 17 to the accompanying financial statements.

 

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Our authorized capital consists of 100 million shares of common stock, par value $.01 per share and 20 million shares of preferred stock.  As of June 15, 2007, the Company’s capitalization is as follows:

		Number of shares				Approximate Number of shareholders
Common shares			9,661,740				177
TOTAL			9,661,740

 

 

We have reserved the following common shares for issuance:

 

 

Conversion of debentures:			1,570,286
Exercise of warrants:			2,794,176
Exercise of stock options			2,500,000
Total			6,864,462

Equity Compensation Plan Information

	Number of securities to be issued upon exercise of outstanding stock options	Weighted average exercise price of outstanding stock options	Number of securities remaining available for future issuance under equity compensation plans
Red Mile Entertainment Amended 2005 Stock Option Plan	1,988,745	$2.28	511,255

ITEM 6. MANAGEMENT’S DISCUSSION AND ANALYSIS OR PLAN OF OPERATIONS

 

Liquidity and Capital resources

 

Fiscal 2007

During fiscal 2007, we issued approximately $2.5 million (net of closing costs) in preferred shares through private financings.  In addition, we issued $8.2 million of senior secured convertible debentures, a portion of which will mature in October 2008 and a portion in November 2008.  In addition, five investors exercised warrants for common stock with net proceeds to the company of approximately $859,916.  These funds were primarily used to continue development of our video games.  We continued development of one game (Jackass on multiple platforms) and cancelled development of a Port; Heroes of the Pacific on the PSP platform.  We also started a new sequel to Heroes of the Pacific which will be thematically similar, but will take place in the European theatre during World War II and will be playable on multiple next generation game consoles.  We expect these games to be completed in fiscal 2008 and 2009, respectively.

 

Fiscal 2006

During the year, we raised approximately $5.0 million (net of closing costs) in preferred equity through private offerings.

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These funds were primarily used to fund overhead and complete the development of two games (Heroes of the Pacific and GripShift) and begin development of additional games.

Fiscal 2008

On June 25 through June 27, 2007, we issued $2,050,000 of Convertible Promissory Notes to a total of 19 note holders.  In addition, on June 25, 2007, we issued $350,000 of a Convertible Promissory Note to 1 note holder.  The notes mature on the terms as described in Note 17 to the accompanying financial statements.

We require additional funding of at least $20.0 million to be able to support and execute on our expansion plans which includes completing games currently under development, beginning development of new games for fiscal 2008 through 2010 releases, and expanding our self-publishing initiatives in North America. We anticipate using a portion of these funds to sign long-term licenses for additional intellectual properties which we believe have the potential to become franchises in the video game market. A franchise is a video game which has significant sales potential and where we have the rights to create sequels to the original game. We are also contemplating one or more additional acquisitions which will require additional cash resources. We will be unable to develop or publish additional games, or consummate any acquisitions if we are unable to raise additional financing.

 

If we are unable to raise the funds required to self-publish our games in North America, we will continue with our co-publishing model for all or a portion of our games. Under the co-publishing model, we believe our current cash on hand of approximately $2,250,000 million as of June 26, 2007, in addition to anticipated cash flow from operations, would enable the company to continue operating into its second fiscal quarter of 2008.

 

In addition to funds needed for development of new games, we will also need capital to fund the expansion of our staff. It is currently anticipated that we will hire an additional three employees and three outside consultants in the next 12 months to support our expansion plans, including taking direct responsibility for marketing our products to consumers in North America.   

Results of Operations

 

The results of operations for the fiscal years ending March 31, 2007 and 2006 were as follows:

 

Summary of Statements of Operations

 

		2007				2006				% change
Revenue		$	1,017,927			$	4,500,959				(77	%)
Cost of sales			3,673,841				5,477,252				(33	%)
Gross margin			(2,655,914	)			(976,293	)
Operating expenses			5,322,841				3,879,702				37	%
Net loss before interest and provision for income taxes			(7,978,755	)			(4,855,995	)
Interest income (expense), net			(57,739	)			7,117
Income tax expense			2,400				800				200	%
Net loss			(8,038,894	)			(4,849,678	)			65	%
Accretion on redeemable convertible preferred stock			(101,200	)			(5,990	)
Net loss attributable to common shareholders		$	(8,140,094	)		$	(4,855,668	)
Net loss per common share - Basic and diluted		$	(.97	)		$	(1.10	)
Shares used in computing basic and diluted net loss per share (in 000’s)			8,280				4,414

 

 

 

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Operating Expenses

 

Operating expenses for the fiscal years ended March 31, 2007 and 2006, respectively, were as follows:

 

		Year ended March 31, 2007				Percent  of total				Year ended March 31, 2006				Percent Of total				Percent Increase
Research and development costs		$	525,796				9.8	%		$	244,080				6.3	%			115.4	%
General and administrative costs			3,251,326				61.1	%			1,500,196				38.6	%			116.7	%
Marketing, sales and business development costs			1,545,719				29.1	%			667,896				17.2	%			131.4	%
Public shell acquisition costs			--				--	%			467,530				12.1	%			--
Debt conversion inducement costs			--				--	%			1,000,000				25.8	%			--
Total operating expenses		$	5,322,841				100.0	%		$	3,879,702				100.0	%			37.2	%

 

In fiscal 2007, we completed and shipped Lucinda Green’s Equestrian Challenge and Crusty Demons.  We also licensed the rights to and shipped El Matador, Dual Sudoku, Aircraft Power Pack, and Timothy and Titus.  In fiscal 2006, we shipped Heores of the Pacific and Gripshift. The increase in games shipped in Fiscal 2007 increased the workload and lead to the more than doubling of our internal research and development costs from the prior year. We also began migrating from co-publishing our products with larger publishers in North America to a self-publishing model.  We incurred a 131.4% increase in marketing, sales and business costs associated with this self publishing model.  Self-publishing allows us to retain more of the wholesale revenue for our products as well as giving us control of the sales and marketing efforts. We currently plan to continue to use third party publishers, distributors or a hybrid of the two for sales outside of North America.  We also tried to enter the DVD games market during the year.  Due to difficulties obtaining retailer acceptance of these products, we have discontinued that effort.

In fiscal 2006, we completed the development of our first two products using third party development studios. We also stopped development of one game and restarted the development with a new developer. Also during the year, we entered into co-publishing agreements with 3 co-publishers, began development of new games, and acquired a publishing company (2WG Media, Inc.)  In addition, we also moved management of our game development from third party contractors to our own internal development staff.

 

During fiscal 2006, we purchased Edmonds 1, Inc., a non-trading public shell company. The entire cost of this acquisition was $467,530 and was expensed at the time of acquisition.  Shares of the Company’s common stock and cashless warrants were also issued to the sellers of Edmonds 1, Inc. as part of the transaction.

 We also took a debt inducement charge of $1.0 million during the year related to converting a $1.0 million convertible note into 666,667 shares of Preferred A Redeemable Convertible Stock.

Fiscal 2007

Revenues

For the year ended March 31, 2007, our revenue consisted principally of sales to retailers and distributors for games self-published in North America and royalties for older games and from licenses to other video game publishers for sales outside North America. We shipped six new video games as compared to two in fiscal 2006. Year over year revenue decreased 77%.  Our business is a hit driven business, with product life cycles often shorter than one year.  In fiscal 2006, both Heroes of the Pacific and GripShift each generated more than $1 million in revenue, but yielded minimal revenues in fiscal 2007.  In fiscal 2007, our two most successful new products generated less than $400,000 each in revenues.  We expect these two products, which also shipped this year, to continue to generate revenues in fiscal 2008.  This year, we generated 77% of revenue or $785,000 from direct product shipments and 23% or $233,000 from royalties. North America contributed 85% of revenue and the rest of the world 15%.

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If we are successful in raising additional working capital during the first half of fiscal 2008, we expect to continue to self-publish our games under development for release in North America. Self publishing in North America enables us to retain a greater portion of the wholesale revenue from these games. We also take responsibility for consumer and trade advertising for these games. We believe this greater control will result in higher overall revenues.  Due to our size and fragmented markets, we plan to continue using third party co-publishers in Europe and Asia.

 

Cost of sales

Cost of sales for the year consisted of:

Amortization of capitalized software development costs and manufacturing and distribution costs		$	630,416
Royalties to third party game developers			234,431
Write down of inventory costs to net realizable value Write down of software development costs to net realizable value			259,320  2,549,674
Total		$	3,673,841

During the year, we shipped six new video games. At year end, five of the games had capitalized costs that were not expected to be recovered.   Therefore, we wrote off development costs or prepaid royalties of $1,607,099.  We also cancelled a port to the PSP platform of one game in development and expensed the capitalized value of non-reusable game assets of $942,575.

Research and development

Our research and development (R&D) expenses consist of the costs incurred in our internal development group which are not capitalized into our games under development as well as costs incurred prior to a game reaching technological feasibility as described in FAS 86. All direct game development during the year was performed by third party developers under fixed fee contracts. These external costs are capitalized upon the company determining that the game has passed the technological feasibility standard of FAS 86 and expensed using the greater of the ratio of the total revenue in the period to the total projected revenue for the life of the product or straight-line over the estimated life of the product. Certain internal costs are capitalized as part of the development costs of a game. During the year approximately $341,000 of internal costs were capitalized and $450,000 of external costs were expensed as incurred as costs prior to the related game reaching technological feasibility.

We increased our internal development staff from two people to four during fiscal 2007. This increase in staff and related costs directly resulted in research and development expenses increasing from approximately $244,000 in fiscal 2006 to $526,000 (115% increase) in fiscal 2007.  Virtually all internal R&D expenses were for salaries and related expenses or travel expenses of staff to visit our developers.

General and administrative costs

Total G&A costs increased 116.7% from $1.5 million in Fiscal 2006 to $3.3 million in fiscal 2007. Employee salaries and related costs had a year over year increase of 28% ($183,000).  In Fiscal 2007, salaries and related costs accounted for 26% of total G&A costs versus 44% in Fiscal 2006. The decrease was a direct result of other larger percentage increases described below relating to the costs of going public and being a public company as well as the cost of issuing stock options to consultants and bad debts.  Professional fees, principally including accounting, audit and tax and legal costs increased 79% ($321,000) to $726,000. This increase was the result of increased audit and quarterly reviews, and legal costs associated with various SEC filings. Legal costs also included significant sums paid for assistance with a lengthy, and not yet completed, negotiation to acquire the rights to a new intellectual property.  In addition, we incurred approximately $129,000 in amortization costs associated with the costs of issuing $8.2 million in Senior Secured Convertible debentures. We also wrote off as uncollectible $94,000 in accounts receivable.  Consulting costs increased 266% ($455,000) due to in large part the expensing of stock options issued to consultants ($329,000).  In addition, we have an additional consultant in Canada to assist us in communicating with our Canadian shareholders.

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Marketing, sales and business development costs

Total marketing, sales and business development expenses increased 131.4% ($877,823) from Fiscal 2006 to Fiscal 2007.  The increase was the direct result of the company’s transition from co-publishing to self-publishing in North America.  During the year, we hired a Senior Director of Sales and Marketing and a commission only sales

representative organization to place our products with retailers. We spent $156,000 in sales costs compared to zero in 2006.  We expect these costs to continue to increase as our revenues from North America grow.  Marketing costs increased 268% ($707,341) as we began to perform all aspects of marketing in North America which were previously performed by and paid for by our co-publishing partners.  78% of our marketing costs were for public relations efforts to make our products known to the end consumer.

With the expected release of Jackass: The Game in September 2007, we expect marketing costs in fiscal 2008 to increase substantially.  We plan a major television and print advertising campaign behind this new game.

Fiscal 2006

Revenues

For the year ended March 31, 2006, our revenue consisted of development fees and royalties on two products developed by third parties for us and licensed to three other video game co-publishers. A third product shipped in our fourth fiscal quarter of 2006 but this product was immaterial to our operations. During the year we derived 78% or $3.5 million from royalty revenue and 22% or $1.0 million from development revenue. Of these amounts, 71% or $3.2 million of revenue was derived from North America and 29% or $1.3 million was derived from Europe and Asia.

Cost of sales

Cost of sales for fiscal 2006 consisted of:

Amortization of capitalized software costs & distribution costs		$	3,577,300
Royalties to third party game developers			345,747
Write down of software development costs to net realizable value			1,554,205
Total		$	5,477,252

During the year, we shipped our first two games, GripShift and Heroes of the Pacific (Heroes). We also shipped a third game, Disney’s Aladdin Chess Adventures but this game was immaterial to our operations. With GripShift, we expensed the entire cost of development upon initial shipment of the game as the game was developed under a development contract where we earned the entire development fee upon acceptance of the game by the platform licensor. In the case of Heroes, the costs of development were fully amortized by March 31, 2006 as we determined that the future estimated unit shipments would be minimal. Royalties to third parties reflects a share of the profits made on both GripShift and Heroes that were shared with the third party developers of both games.

 

During the year, we determined that the costs capitalized of one game under development (Crusty Demons of Dirt), exceeded our estimate of the net realizable value of the game. Accordingly, we took a charge of approximately $1.6 million to write down the capitalized costs of the game to net realizable value.

 

Research and development

We increased our internal development staff from one to two people during fiscal 2006. This increase in staff and related costs directly resulted in research and development expenses increasing from approximately $89,000 in fiscal 2005 to $244,000 (174% increase) in fiscal 2006.   

General and administrative costs

General and administrative (G&A) costs were comprised primarily of employee salaries and benefits, professional fees (legal, accounting, investor relations and consulting), facilities expenses, and insurance costs. 

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Total G&A costs increased from $196,000 in fiscal 2005 to approximately $1.5 million in fiscal 2006. Approximately 322% of this 750% increase can be attributed to fiscal 2005 being a partial fiscal year. The acquisition of 2WG in fiscal 2006 contributed to an additional $159,000 of the increase in G&A costs.

 

The following analysis is based on annualizing Red Mile’s fiscal 2005 costs and comparing them to fiscal 2006. Audit and tax costs increased 485% to nearly $160,000. This increase was the result of several quarterly audits performed, the cost to complete our initial annual audit, the costs of our initial tax returns, and increased accounting costs. Legal expenses increased 336% due to acquisition related fees and fees related to our becoming a publicly reporting company. In addition, in fiscal 2006, we accrued $96,000 in employee bonuses. $88,500 of these employee bonuses were payable if our shares became traded on a public exchange or over the counter market.  There were no employee bonuses accrued in fiscal 2005. Insurance costs increased $35,000 as we expanded the depth and breadth of our coverage when we moved out of development stage. While we incurred no consulting fees in fiscal 2005, we incurred $171,000 in consulting fees in fiscal 2006. The 2006 consulting fees were primarily related to investor relations fees. We also hired a consultant to assist us in the process of becoming a public company.

Marketing, sales and business development costs

Total marketing, sales and business development expenses increased 385% from $139,000 in fiscal 2005 to $668,000 in fiscal 2006. Annualizing fiscal 2005 costs, the year over year increase was approximately 20%. Employee salaries and bonuses increased 21%, which included $51,000 in employee bonuses accrued. On an annualized basis, consulting expenses increased 222% or $51,000, as we increased the utilization of a marketing consultant. We expect to further increase the utilization of this consultant in fiscal 2007. We expect that marketing expenses will increase substantially in the second half of fiscal 2007.

Indemnification of officers and directors

 

Our Certificate of Incorporation provides that we may indemnify our officers and/or directors for liabilities, which can include liabilities arising under the securities laws. Therefore, our assets could be used or attached to satisfy any liabilities subject to such indemnification.

 

Critical Accounting Policies

 

Red Mile's financial statements and related public financial information are based on the application of accounting principles generally accepted in the United States ("GAAP"). GAAP requires the use of estimates; assumptions, judgments and subjective interpretations of accounting principles that have an impact on the assets, liabilities, revenue and expense amounts reported. These estimates can also affect supplemental information contained in our external disclosures including information regarding contingencies, risk and financial condition. We believe our use of estimates and underlying accounting assumptions adhere to GAAP and are consistently applied. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances. Actual results may differ materially from these estimates under different assumptions or conditions. We continue to monitor significant estimates made during the preparation of our financial statements.

 

Our significant accounting policies are summarized in Note 1 of our consolidated financial statements. While all these significant accounting policies impact its financial condition andresults of operations, Red Mile views certain of these policies as critical. Policies determined to be critical are those policies that have the most significant impact on Red Mile's consolidated financial statements and require management to use a greater degree of judgment and estimates. Actual results may differ from those estimates. Our management believes that given current facts and circumstances, it is unlikely that applying any other reasonable judgments or estimate methodologies would cause a material effect on our consolidated results of operations, financial position or liquidity for the periods presented in this report.

 

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Revenue recognition

 

Red Mile’s revenue recognition policies are in accordance with the American Institute Of Certified Public Accountants (“AICPA”) Statement of Position (“SOP”) 97-2 “Software Revenue Recognition” as amended by SOP

98-9 ”Modification of SOP 97-2, Software Revenue Recognition, With Respect to Certain Transactions” and SOP 81-1 “Accounting for Performance of Construction Type and Certain Production-Type Contracts”.

 

In some cases, Red Mile ships finished products to a major third party game distributor who will then sell these products to retailers. At the end of fiscal 2007, under the terms of this distributor agreement, shipments to the distributor were treated as consignment sales.  Therefore, we do not record any revenue on these shipments until the distributor ships the games to its customers.  Revenue is recorded at the net amount the distributor is obligated to pay us.

Red Mile may receive minimum guaranteed royalties or development advances from its co-publisher(s) or distributor(s) prior to and upon final delivery and acceptance of a completed game. Under these agreements, such payments do not become non-refundable until such time as the game is completed and accepted by the co-publisher(s). Pursuant to SOP 81-1, the completed contract method of accounting is used and these cash receipts are credited to deferred revenue when received.

 

In cases where the contract with the co-publisher(s) is a development contract, revenue is recognized once the product is completed and accepted by the co-publisher(s). This acceptance by the co-publisher(s) is typically concurrent with approval from the third party hardware manufacturer for those products where approval is required from the third party hardware manufacturer.

 

In cases where the agreement with the co-publisher(s) or distributor(s) calls for these payments to be recouped from royalties earned by Red Mile from sales of the games, we do not recognize revenue from these payments until the game begins selling. Accordingly, we recognize revenue as the games are sold by the co-publisher(s) or distributor(s) using the stated royalty rates and definitions in the respective contract(s). Periodically, we review our deferred revenue balances and if the product is no longer being sold or when our current forecasts show that a portion of the revenue will not be earned out through forecasted sales of the games, the excess balance in deferred revenue is recognized as revenue.

 

Determining when and the amount of revenue to be recognized often involves assumptions and judgments that can have a significant impact on the timing and amount of revenue we report. For example, in recognizing royalty revenue, we must make assumptions as to the total number of units a product will sell, the average selling price of these units, potential returns and potential price protection of the product which could result incredits to retailers for their unsold inventory. Changes in any of these assumptions or judgments could cause a material increase or decrease in the amount of net revenue we report in a particular period.

 

Software Development Costs

 

Software development costs include the costs of milestone payments made to independent software developers and other third parties under development contracts. Such costs are accounted for in accordance with Statement of Financial Standards No. 86 “Accounting For The Costs Of Computer Software To Be Sold, Leased or Otherwise Marketed”.

 

Software development costs are capitalized once technological feasibility is established and such costs are determined to be recoverable from future sales of the game. For products where proven technology exists, this may occur very early in the development cycle. Technological feasibility is determined on a game by game basis.

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Capitalized costs for such games that are cancelled or abandoned are charged immediately to cost of sales. Recoverability of capitalized software is evaluated on the expected performance of the specific games for which the costs relate. Once the product is completed and released, capitalized software and development costs are amortized to cost of sales using the greater of the ratio of the total revenue in the period to total projected revenue for the life of the product or straight line over the estimated life of the product. For products released in prior periods, we evaluate the future recoverability of capitalized amounts on a quarterly basis or when events or circumstances indicate the capitalized costs may mot be recoverable.

Determining the amount to be expensed in a period and the ultimate recoverability requires judgments and assumptions that can have a significant impact on the timing and amount of the cost of sales that we report. For example, because the computation of cost of sales requires us to periodically forecast the worldwide lifetime unit shipments of a game, an increase or decrease in this assumption of total lifetime shipments could cause a material increase or decrease in the amount of cost of sales we report in a particular period.

 

ITEM 7.  FINANCIAL STATEMENTS

See pages F-1 through F-19

ITEM 8.  CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURES.

None

ITEM 8A.  CONTROLS AND PROCEDURES

The Company maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in the Company’s reports under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Commission’s rules and forms and that such information is accumulated and communicated to the Company’s management, including its chief executive officer and its chief financial officer, to allow for timely decisions regarding required disclosure.

 

As required by Commission Rule 13a-15(b), the Company carried out an evaluation, under the supervision and with the participation of the Company’s management, including the Company’s chief executive officer and chief financial officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures as of the end of the year covered by this report. Based on the foregoing evaluation, the Company’s chief executive officer and chief financial officer concluded that these disclosure controls and procedures were effective as of March 31, 2007.

There has been no change in the Company’s internal control over financial reporting during the Company’s most recent fiscal year that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

The Company is not an “accelerated filer” for the 2007 fiscal year because it is qualified as a “small business issuer.” Hence, under current law, the internal controls certification and attestation requirements of Section 404 of the Sarbanes-Oxley Act do not apply to the Company.

 

AUDIT COMMITTEE AND AUDIT COMMITTEE FINANCIAL EXPERT

 

Four of our five board of directors serve on our audit committee.  The board has determined that James McCubbin is a “financial expert” serving on its audit committee, and that Mr. McCubbin is independent, as that term is used in Item 7(d)(3)(iv) of Schedule 14A under the Exchange Act.

27

 

 

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To date, we have conducted limited operations and generated only minimal revenue since inception. In light of the foregoing, and upon evaluating our internal controls, our board of directors determined that our internal controls are adequate to ensure that financial information is recorded, processed, summarized and reported in a timely and accurate manner in accordance with applicable rules and regulations of the SEC.

ITEM 8B.  OTHER INFORMATION

None

PART III

ITEM 9.  DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS: COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT

 

Our directors and officers, as of June 15, 2007, are set forth below. The directors hold office for their respective term and until their successors are duly elected and qualified. Vacancies in the existing Board are filled by a majority vote of the remaining directors. The officers serve at the will of the Board of Directors.

 

The directors, officers and key employees of the company are as follows:

 

Name	Age	Position
Chester Aldridge	35	Director, Chairman and Chief Executive Officer
Richard Auchinleck	55	Director
James McCubbin	43	Director
Geoffrey Heath	62	Director
Kenny Cheung	32	Director
Glenn Wong	49	President and Chief Operating Officer
Ben Zadik	32	Chief Financial Officer, Treasurer and Secretary

 

The business experience, principal occupations and employment of each of the above persons during at least the last five years are set forth below.

 

CHESTER ALDRIDGE. In May 2006, Mr. Aldridge became a member of our board of directors and our Chairman, President and Chief Executive Officer. He was Red Mile Florida’s chairman and chief executive officer since its formation in December 2004. Beginning in April 2000, Mr. Aldridge was employed by Fluent Entertainment, Inc. (“Fluent”), a video game developer that assisted in developing such titles as Sim City and Reader Rabbit. Fluent was placed into receivership in mid-2005. From April 2000 until December 2003, Mr. Aldridge was chief executive officer and chairman of Fluent. From January 2004 through December 2004, he was vice president business development of Fluent. Mr. Aldridge is also the managing partner of The Etude Group which is primarily a family-owned investment vehicle.

 

RICHARD AUCHINLECK. Mr. Auchinleck joined Red Mile Florida’s board of directors in December 2005 and joined our board of directors in connection with the merger. Mr. Auchinleck was employed by Gulf Canada Resources Ltd., a Canadian based oil and gas company (“Gulf’), for 25 years, retiring in 2001 as president and chief executive officer after the sale of the company to Conoco Inc. He continues an association with the company as a member of the ConocoPhillips board of directors. From 1999 to 2001, he was the president and chief executive officer of Gulf. He is also a member of the board of directors of Enbridge Commercial Trust and Telus.

 

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JIM McCUBBIN.  Mr. McCubbin joined the Board of Directors in November 2006. He is also chairman of the audit committee.  Mr. McCubbin is and has been the Chief Financial Officer and a Director of Widepoint Corporation since 1998.  Prior to joining Widepoint in 1997, Mr. McCubbin held various financial management positions with several companies in the financial and government sectors.

 

GEOFFREY HEATH. Mr. Heath joined Red Mile Florida’s board of directors in December 2005 and joined our board of directors in connection with the merger. Mr. Heath has been the chief executive officer of NCsoft Europe since September 2004. Prior to that, Mr. Heath was an independent consultant.

 

KENNY CHEUNG. Mr. Cheung joined Red Mile Florida’s board of directors in December 2004 and joined our board of directors in connection with the merger. In 1996, Mr. Cheung founded and remains the sole shareholder of Tiger Paw Capital, which is an investment company primarily involved in oil, gas and real estate ventures.

 

GLENN WONG. Mr. Wong joined Red Mile in March 2007.  Prior to joining Red Mile, Mr. Wong was President and General Manager of Electronic Arts Canada, the world’s largest videogame software development studio.  Before joining EA, Mr. Wong was President of Rogers Cable TV British Columbia. 

 

Mr. Wong began his career at Procter and Gamble.

 

BEN ZADIK. Mr. Zadik joined us in April 2006 as Chief Financial Officer, Treasurer and Secretary. From April 2004 to April 2006, he was the International Controller for AMB Property Corporation. From March 2001 to March 2004, he was the Assistant Controller for Sangstat Medical Corporation. Prior to that, he was a senior financial analyst with Netopia Inc. and a senior associate with PricewaterhouseCoopers LLP.

Audit Committee and Audit Committee Financial Expert

 

Our audit committee is comprised of Richard Auchinleck, James McCubbin, Geoffrey Heath, and Kenny cheung. The audit committee is responsible for recommending the Company’s independent public accounting firm and reviewing management’s actions in matters relating to audit functions. The Committee reviews with the Company’s independent public accountants the scope and results of its audit engagement and the Company’s system of internal controls and procedures. The Committee also reviews the effectiveness of procedures intended to prevent violations of laws. Our board has determined that all of audit committee members are independent under applicable Commission regulations. Our board has determined that James McCubbin is an “audit committee financial expert” as that term is used in Section 407 of the Sarbanes-Oxley Act of 2002.

 

To date, we have conducted limited operations and generated only minimal revenue since inception. In light of the foregoing, and upon evaluating our internal controls, our board of directors determined that our internal controls are adequate to insure that financial information is recorded, processed, summarized and reported in a timely and accurate manner in accordance with applicable rules and regulations of the SEC.

 

Compliance with Section 16(a) of the Exchange Act

 

Section 16(a) of the Exchange Act requires our executive officers and directors, and persons who beneficially own more than 10% of our equity securities, to file reports of ownership and changes in ownership with the Securities and Exchange Commission. Officers, directors and greater than 10% shareholders are required by SEC regulation to furnish us with copies of all Section 16(a) forms they file. Fluent Entertainment, Inc. which is a more than ten percent owner of the Company's Common Stock, has not currently filed a Form 3 stating such ownership percentage. Based on our review of the copies of such forms we received, we believe that during the fiscal year ended March 31, 2007, all other such filing requirements applicable to our officers and directors were complied with.

  

29

 

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Code of Ethics

 

The Company has adopted a Code of Ethics applicable to its Chief Executive Officer and Chief Financial Officer. The Code of Ethics is designed to deter wrong-doing and promote honest and ethical behavior.

CORPORATE GOVERNANCE

Director Independence

The board of directors is responsible for directing the management of our business and affairs. The board holds regular meetings each year and holds additional special meetings as required. Directors are expected to attend board meetings and to spend the time needed and meet as frequently as necessary to properly discharge their responsibilities. Although participation by conference telephone or other communications equipment is allowed, personal attendance is encouraged.

The board has affirmatively determined, after considering all of the relevant facts and circumstances, that all of the directors other than Chester Aldridge are independent from our management. This means that the independent directors do not have any direct or indirect material relationship with the Company that would interfere with their exercise of independent judgment in carrying out their responsibilities as a director.

Board Meetings and Committees; Annual Meeting Attendance

 

The board has an audit committee, a nominating and a compensation committee, which functions are handled by the board of directors. The board of directors held four meetings during the fiscal year ended March 31, 2007. Each of the directors attended at least 80% of the meetings of the board of directors held during the 2007 fiscal year while he was a member of the board.

 

 

 

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ITEM 10.   EXECUTIVE COMPENSATION

Summary Compensation Table

 

The following table discloses the total compensation we paid to our principal executive officer and our two other most highly compensated executive officers in our 2007 and 2006 fiscal years.

 

Name and Principal Position	Fiscal Year		Salary ($)		Bonus ($)		Stock Awards ($)		Option Awards ($) (4)		Non-Equity Incentive Plan Compensation ($)		Non-Qualified Deferred Compensation Earnings ($)		All Other Compensation ($)	Totals ($)
Chester Aldridge (1)  Chairman, Chief Executive Officer	2007		150,000		23,625		0		588,000		0		0		0	761,625
Glenn Wong, (2) President, Chief Operating Officer	2007		56,667		0		0		1,207,500		0		0		0	1,264,167
Ben Zadik, (3) Chief Financial  Officer, Treasurer, and Secretary	2007		150,000		23,625		0		588,000		0		0		0	761,625

 

(1)	On April 1, 2007, Mr. Aldridge’s base salary was increased to $175,000.

 

(2)	On February 28, 2007, Mr. Wong was appointed President and Chief Operating Officer at a base salary of $200,000. Mr. Wong formerly held the position of Vice President Operations of the Company since December 4, 2006 at a base salary of $5,000 per month.

 

(3)	On April 1, 2007, Mr. Zadik’s base salary was increased to $175,000.

 

(4)

The fair value of each option is estimated on the date of grant using the Black-Scholes option-pricing model. The weighted average assumptions used for the valuation of these option awards are as follows: Expected dividends 0%; Expected volatility 74%. Risk free interest rate ranging from 4.50% to 5.13%.  Expected life of options ranging from 4.2 to 6.5 years.

 

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OUTSTANDING EQUITY AWARDS AT FISCAL YEAR-END TABLE

The following table discloses information regarding outstanding equity awards as of March 31, 2007 for each of our senior executive officers.

 

		Option Awards										Stock Awards
Name (a)		Number of Securities Underlying Unexercised Options (#) (Exercisable) (b)		Number of Securities Underlying Unexercised Options (#) (Unexercisable) (c)		Equity Incentive Plan Awards: Number of Securities Underlying Unexercised Unearned Options (#) (d)		Option Exercise Price ($) (e)		Option Expiration Date (f)		Number of Shares or Units of Stock That Have Not Vested (#) (g)		Market Value of Shares or Units of Stock That Have Not Vested ($) (h)			Equity Incentive Plan Awards: Number of Unearned Shares, Units or Other Rights That Have Not Vested (#) (i)		Equity Incentive Plan Awards: Market or Payout Value of Unearned Shares, Units or Other Rights That Have Not Vested ($) (j)
Chester Aldridge Chairman, Chief Executive Officer		24,400		-		-		$0.66		03/27/2016
		50,000		50,000		-		0.66		04/01/2016
		-		200,000		-		4.00		03/31/2017
Glenn Wong, President, Chief Operating Officer		8,333		-		-		0.66		12/19/2015
		-		50,000		-		3.30		12/05/2016
		-		400,000		-		4.00		03/31/2017
Ben Zadik, Chief Financial  Officer, Treasurer, and Secretary		113,333		53,333		-		0.66		04/01/2016
				200,000		-		4.00		03/31/2017

 

Employment Agreements

 

The Company has not entered into any employment agreements with its executive or any other employees of the Company.

 

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Restricted Stock Agreements

 

The Company has not entered into any restricted stock agreements with its executive employees or directors.

 

Report on Repricing of Options

 

None.

 

DIRECTOR COMPENSATION TABLE

 

Name (a)		Fees Earned or Paid in Cash ($) (b)		Stock Awards ($) (c)		Option Awards ($) (d)		Non-Equity Incentive Plan Compensation ($) (e)		Change in Pension Value and Nonqualified Deferred Compensation Earnings ($) (f)		All Other Compensation ($) (g)		Total ($) (h)
Chester Aldridge		0		0		0		0		0		0			0
Kenny Cheung		0		0		0		0		0		0			0
Richard Auchinleck		0		0		0		0		0		0			0
Geoff Heath		0		0		0		0		0		0			0
James McCubbin (2)		8,000		0		23,805		0		0		0			31,805
David Baker (1)		0		0		0		0		0		0			0

 

(1)	On September 28, 2006, David Baker resigned from the Company’s Board of Directors.

(2)	On November 21, 2006, James McCubbin joined the Company’s Board of Directors.  Mr. McCubbin is compensated for serving in his capacity as Chairman of the Company’s Audit Committee.

 

Director Compensation

 

No options were granted or payments made as compensation for services rendered by any of the Company’s directors, with the exception of $8,000 paid to Mr. James McCubbin, who is compensated for serving in his capacity as Chairman of the Company’s Audit Committee.

 

Employment Agreements

 

The Company has not entered into any employment agreements with its executive or any other employees of the Company.

 

Restricted Stock Agreements

 

The Company has not entered into any restricted stock agreements with its executive employees or directors.

 

Report on Repricing of Options

 

None.

 

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ITEM 11.  SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

 

The following table sets forth certain information regarding the beneficial ownership of our common stock as of March 31, 2007 by the following persons:

 

·	each person who is known to be the beneficial owner of more than five percent (5%) of our issued and outstanding shares of common stock;

 

·	each of our directors and executive officers; and

 

·	all of our directors and executive officers as a group.

 

The following table is computed based on 9,661,740 common shares issued. Except as set forth in the footnotes to the table, the persons names in the table have sole voting and investment power with respect to all shares of common stock shown as beneficially owned by them, subject to community property laws where applicable. A person is considered the beneficial owner of any securities as of a given date that can be acquired within 60 days of such date through the exercise of any option, warrant or right. Shares of common stock subject to options, warrants or rights which are currently exercisable or exercisable within 60 days are considered outstanding for computing the ownership percentage of the person holding such options, warrants or rights, but are not considered outstanding for computing the ownership percentage of any other person.

 

 

Name And Address(1)		Beneficially Owned				Percentage Owned
Chester Aldridge (2)			249,400				2.56	%
Glenn Wong (3)			8,333				*
Ben Zadik (4)			130,000				1.33	%
Kenny Cheung (5)			2,426,546				22.91	%
Richard Auchinleck (6)			65,833				*
Geoff Heath (7)			21,042				*
James McCubbin (8)			4,167				*
Fluent Entertainment, Inc.			2,542,623				26.32	%
JJJ   Joseph Abrams (9)			570,942				5.86	%
All current directors and executive officers as a group (7 persons) (10)			2,905,321				26.78	%

 

 

* Less than 1% of the outstanding shares of common stock.

 

(1) Unless otherwise noted, the address for each person is 4000 Bridgeway, Suite 101, Sausalito, CA 94965

 

(2) Includes 74,400 options to purchase shares of Common Stock of the Company

 

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(3)	Includes 8,333 options to purchase shares of Common Stock of the Company

(4)	Includes 113,000 options to purchase shares of Common Stock of the Company

(5)	Includes 66,667 options and 862,222 warrants to purchase shares of Common Stock of the Company

(6)	Includes 12,500 options and 26,667 warrants to purchase shares of Common Stock of the Company

(7)	Includes 17,708  options to purchase shares of Common Stock of the Company

(8)	Includes 4,167  options to purchase shares of Common Stock of the Company

(9)	Includes 78,445 warrants to purchase shares of Common Stock of the Company

(10)	Includes 297,108 options and 888,889 warrants to purchase shares of Common Stock of the Company

 

Changes in Control

 

None.

ITEM 12.  CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.

 

Neither our directors and executive officers, any person who beneficially owns, directly or indirectly, shares representing more than 5% of our common stock, any other related person as defined in Item 404 of Regulation S-B promulgated under the Securities Act of 1933, nor any members of the immediate family (including spouse, parents, children, siblings, and in-laws) of any of the foregoing persons, has any material interest, direct or indirect, in any transaction that we have entered since the beginning of our last fiscal year, or any proposed transaction in which the amount involved exceeds $120,000 except that in January 2007, the Company acquired all of the assets of Roveractive, Inc., a Canadian Corporation, in exchange for 33,000 shares of common stock in the Company.  Messrs. Aldridge and Abrams were shareholders of  Roveractive, Inc.

 

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ITEM 13. EXHIBITS

 

3.1	Articles of Incorporation(1)
3.2	By-Laws (1)
3.3	Certificate of Amendment to Certificate of Incorporation (2)
4.1	Articles of Merger (3)
4.2	Certificate of Merger (3)
4.3	Certificate of Amendment to Certificate of Incorporation (4)
4.3	Fiscal 2007 Employee Incentive Bonus Plan (5)
10.1	Co-publishing Agreement  with Sony Online Entertainment, Inc. (3)
10.2	Software License Agreement with Ubisoft Entertainment S.A. (3)
10.3	Software Development and Licensing Agreement between Fluent Entertainment, Inc. and Sidhe Interactive including transfer to Registrant (3)
10.4	Licensing Agreement with the Codemasters Software Company Limited for Heroes of the Pacific (3)
10.5	Software Development and Licensing Agreement with IR Gurus Interactive dated January 21, 2005 (3)
10.6	Software Development and Licensing Agreement with Sidhe Interactive dated August 11, 2005 (3)
10.7	MTVN Merchandise License Agreement (3)
10.8	Software Development and Licensing Agreement with IR Gurus Interactive for Heroes of the Pacific (3)
10.9	Software Publishing and Distribution Agreement with Strategy First, Inc.(3)
10.10	Software Development and Licensing Agreement with IR Gurus Interactive dated December 21, 2005 (3)
10.11	Software Development and Licensing Agreement with IR Gurus Interactive dated March 3, 2006 (3)
10.12	Development and Publishing Agreement between 2WG and the Cannery for “Who Rocks”(3)
10.13	Development and Publishing Agreement between 2WG and the Cannery for “Bible Stumpers” (3)
10.14	Development and Publishing Agreement between 2WG and White Knight Games Pty Ltd. (3)
10.15	Software Distribution Agreement between 2WG and White Park Bay (3)
10.16	Software Licensing Agreement between 2WG and Cenega Publishing s.r.o. (3)
10.17	Software Licensing Agreement with Frank Miller, Inc. (6)
14.1	Code of Ethics (7)
21.1	Subsidiaries of the registrant:      Name                            Place of Incorporation      2WG Media, Inc.                                         Delaware      Red Mile Australia PTY LTD                    Australia      Roveractive Inc.                                          Delaware
31.1	Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (8)
31.2	Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (8)
32.1	Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (8)
32.2	Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (8)

(1)	Incorporated by reference to our Form 10-SB filed on December 1, 2004
(2)	Incorporated by reference to our Form 8-K filed on May 2, 2006
(3)	Incorporated by reference to our Form 8-K filed on May 10, 2006
(4)	Incorporated by reference to our Form 8-K filed on February 6, 2007
(5)	Incorporated by reference to our Form 8-K filed on October 30, 2006
(6)	Incorporated by reference to our Form 8-K filed on May 23, 2007
(7)	Incorporated by reference to our Form 10-KSB for March 31, 2006
(8)	Filed herewith

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ITEM 14.  PRINCIPAL ACCOUNTANT FEES AND SERVICES

 

Audit Fees

For the Company's fiscal years ended March 31, 2007, and 2006, we were billed approximately $70,000 and $65,000, respectively, for professional services rendered for the audit of our financial statements. We also were billed approximately $48,000 and $15,000 for the review of financial statements included in our periodic and other reports filed with the Securities and Exchange Commission for our years ended March 31, 2007, and 2006, respectively.

 

Audit Related Fees

 

There were no other fees for audit related services for the fiscal years ended March 31, 2007 and 2006.

 

Tax Fees

 

For the Company's fiscal years ended March 31, 2007, and 2006 we were billed $12,000 and $5,000, respectively, for professional services rendered for tax compliance, tax advice, and tax planning.

 

All Other Fees

 

The Company did not incur any other fees related to services rendered by our principal accountant for the fiscal years ended March 31, 2007 and 2006.

 

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

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SIGNATURES

 

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, there unto duly authorized.

 

	RED MILE ENTERTAINMENT, INC.
June 28, 2007	By: /s/ Chester Aldridge Chester Aldridge Chief Executive Officer

 

 

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

 

 

NAME		TITLE	DATE
/s/ Chester Aldridge		Chairman and Chief Executive Officer	June 28, 2007
Chester Aldridge		(Principal Executive Officer)
/s/ Ben Zadik		Chief Financial Officer	June 28, 2007
Ben Zadik		(Principal Financial Officer)
/s/ Glenn Wong		President and Chief Operating Officer	June 28, 2007
Glenn Wong
/s/ Kenny Cheung		Director	June 28, 2007
Kenny Cheung
/s/ Richard Auchinleck		Director	June 28, 2007
Richard Auchinleck
/s/ James McCubbin		Director	June 28, 2007
James McCubbin
/s/ Geoffrey Heath		Director	June 28, 2007
Geoffrey Heath

 

 

 

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INDEX TO FINANCIAL STATEMENTS

Report of Independent Registered Public Accounting Firm		F-1
Consolidated Balance Sheets		F-2
Consolidated Statements of Operations		F-3
Consolidated Statements of Changes in Stockholders’ Equity		F-4
Consolidated Statements of Cash Flows		F-5
Notes to Consolidated Financial Statements		F-6 - F-20

 

 

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Report of independent registered public accounting firm

To the Board of Directors and Stockholders

Red Mile Entertainment, Inc.

We have audited the accompanying consolidated balance sheets of Red Mile Entertainment, Inc. and its subsidiaries (the “Company”) as of March 31, 2007 and 2006, and the related consolidated statements of operations, stockholders’ equity, and cash flows for the years then ended.  These consolidated financial statements are the responsibility of the Company’s management.  Our responsibility is to express an opinion on these consolidated financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States).  Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement.  The Company is not required to have, nor have we been engaged to perform an audit of the Company’s internal control over financial reporting.  Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements.  An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation.  We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Red Mile Entertainment, Inc. and its subsidiaries as of March 31, 2007 and 2006, and the results of their operations and their cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America.

The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 1 to the consolidated financial statements, the Company has suffered recurring losses and negative cash flows from operations and has an accumulated deficit of $17.2 million at March 31, 2007. These conditions raise substantial doubt about its ability to continue as a going concern. Management’s plans regarding those matters also are described in Note 1. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.

As discussed in Note 1 and Note 13 to the consolidated financial statements, on April 1, 2006 the Company changed its method of accounting for stock-based compensation as a result of adopting Statement of Financial Accounting Standard No. 123 (revised 2004), “Share Based Payments” applying the prospective method.

/S/ Burr, Pilger & Mayer LLP

San Francisco, California

June 28, 2007

F-1

 

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RED MILE ENTERTAINMENT, INC. AND SUBSIDIARIES

Consolidated Balance Sheets		March 31,
		2007				2006
Assets
Current assets:
Cash and cash equivalents		$	1,912,992			$	769,926
Marketable securities			-				10,313
Accounts receivable, net of reserves of $265,765 and $113,432			245,843				355,861
Inventory, net			77,232				-
Prepaid expenses and other assets			302,431				22,883
Current portion of issuance costs on senior secured convertible debentures			305,226				-
Software development costs and advanced royalties			6,072,849				3,280,769
Total current assets			8,916,573				4,439,752
Property and equipment, net			241,171				101,588
Long term portion of  issuance costs on senior secured convertible debentures, net     Intangible assets, net			176,321 114,240				- -
Other assets			313,244				205,000
Total assets		$	9,761,549			$	4,746,340
Liabilities, redeemable convertible preferred stock and stockholders’ deficit
Current liabilities:
Accounts payable		$	994,675			$	472,880
Accrued liabilities			1,124,398				531,645
Deferred revenue			-				27,500
Total current liabilities			2,119,073				1,032,025
Senior secured convertible debentures			8,244,000				--
Total liabilities			10,363,073				1,032,025
Commitments and contingencies:
Redeemable, convertible preferred stock, $0.001 par value; 15,000,000   shares authorized; 0 and 12,075,860 shares issued and outstanding, respectively; the aggregate redemption value and liquidity preference of $0 and $12,419,127, respectively.			-				12,077,075
Warrants on convertible redeemable preferred stock			-				342,052
			-				12,419,127
Stockholders’ deficit:
Common stock, $0.01 par value, authorized 100,000,000 shares; 9,661,740 and 4,806,957 shares outstanding, respectively			96,617				48,070
Additional paid-in capital			16,518,164				426,414
Accumulated other comprehensive income			1,885				--
Accumulated deficit			(17,218,190	)			(9,179,296	)
Total stockholders’ deficit			(601,524	)			(8,704,812	)
Total liabilities, redeemable convertible preferred stock  and stockholders’ deficit		$	9,761,549			$	4,746,340

 

The accompanying notes are an integral part of these financial statements.

F-2

 

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RED MILE ENTERTAINMENT, INC. AND SUBSIDIARIES

 

Consolidated statements of operations

 

		For the years ending March 31,
		2007				2006
Revenues, net		$	1,017,927			$	4,500,959
Cost of sales			3,673,841				5,477,252
Gross margin			(2,655,914	)			(976,293	)
Operating expenses
Research  and development costs			525,796				244,080
General and administrative costs			3,251,326				1,500,196
Sales, marketing and business development costs			1,545,719				667,896
Public shell acquisition costs			-				467,530
Debt conversion inducement costs			-				1,000,000
Total operating expenses			5,322,841				3,879,702
Net loss before interest and provision for income taxes			(7,978,755	)			(4,855,995	)
Interest income (expense), net			(57,739	)			7,117
Net loss before income tax expense			(8,036,494	)			(4,848,878	)
Income tax expense			2,400				800
Net loss			(8,038,894	)			(4,849,678	)
Accretion on redeemable convertible preferred stock			(101,200	)			(5,990	)
Net loss attributable to common shareholders		$	(8,140,094	)		$	(4,855,668	)
Net loss per common share, basic and diluted		$	(.97	)		$	(1.10	)
Shares used in computing basic and diluted loss per share			8,280,302				4,413,860

 

 

The accompanying notes are an integral part of these financial statements.

F-3

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RED MILE ENTERTAINMENT INC. AND SUBSIDIARIES

Consolidated Statements of Changes in Stockholders’ Deficit

 

		Common Stock												Cumulative								Total
		Number of								Additional				Translation				Accumulated				Stockholders’
		Shares				Amount				Paid- in Capital				Adjustment				Deficit				Deficit
Balance, March 31, 2005			4,168,275			$	12,505			$	-			$	-			$	(4,329,618	)		$	(4,317,113	)
Common stock issued in connection with two acquisitions			638,682				35,565				385,965				-				-				421,530
Stock based compensation			-				-				46,439				-				-				46,439
Accretion of redeemable, convertible preferred stock			-				-				(5,990	)			-				-				(5,990	)
Net loss			-				-				-				-				(4,849,678	)			(4,849,678	)
Balance, March 31, 2006			4,806,957				48,070				426,414				-				(9,179,296	)			(8,704,812	)
Common stock issued in connection with  acquisition			33,333				333				124,667				-				-				125,000
Common stock cancelled in connection with non earnout on acquisition			(166,667	)			(1,667	)			(108,333	)			-				-				(110,000	)
Accretion of redeemable, convertible preferred stock			-								(101,200	)							-				(101,200	)
Translation adjustment			-				- -				-				1,885				-				1,885
Stock based compensation			-				-				366,879				-				-				366,879
Common stock issued in connection with conversion of preferred stock			4,988,117				49,881				15,809,737				-				-				15,859,618
Net loss			-				-				-				-				(8,038,894	)			(8,038,894	)
Balance March 31, 2007			9,661,740			$	96,617			$	16,518,164			$	1,885			$	(17,218,190	)		$	(601,524	)

 

 

The accompanying notes are an integral part of these financial statements.

 

 

F-4

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RED MILE ENTERTAINMENT INC. AND SUBSIDIARIES

Consolidated Statements of Cash Flows

		March 31,
		2007				2006
Cash flows from operating activities:
Net loss		$	(8,038,894	)		$	(4,849,678	)
Adjustments to reconcile net loss to net cash used in operating activities
Depreciation			131,038				52,839
Amortization of software development costs			430,190				3,333,000
Amortization of senior secured convertible debenture issuance costs			128,906				-
Amortization of intangibles			10,760				-
Debt conversion inducement costs			-				1,000,000
Loss on disposal of assets			885				-
Impairment of inventory			259,320				-
Impairment of software development and licensing costs			2,549,674				1,554,205
Public  shell acquisition costs			-				467,530
Stock based compensation			366,879				46,439
Valuation allowance for price protection			171,841				-
Bad debt expense			93,924				-
Changes in current assets and liabilities
Accounts receivable			(155,747	)			444,139
Inventory			(336,552	)			-
Prepaid expenses and other current assets			(279,548	)			(1,585	)
Licenses							322,205
Inventory							-
Software development costs			(5,881,944	)			(6,612,879	)
Other assets							5,000
Accounts payable			521,795				223,011
Accrued liabilities			592,753				469,811
Deferred revenue			(27,500	)			(772,500	)
Net cash used in operating activities			(9,462,220	)			(4,318,463	)

Cash flows from investing activities:
Purchases of marketable securities			-				(617,109	)
Sales of marketable securities			10,313				906,938
Acquisition of property and equipment			(271,064	)			(108,300	)
Amount related to public shell acquisition			-				(130,000	)
Cash paid for other investment			(108,244	)			(200,000	)
Net Cash flows used in investing activities			(368,995	)			(148,471	)
Cash flows from financing activities:
Proceeds from issuances of redeemable preferred stock and warrants			3,504,916				4,019,825
Cost of redeemable convertible preferred stock issuances			(165,624	)			(85,245	)
Proceeds from issuance of senior secured convertible debentures			8,244,000				1,000,000
Costs from issuances of senior secured convertible debentures			(610,453	)			-
Net cash provided by financing activities			10,972,839				4,934,580
Effect of exchange rate changes on cash			1,442				-
Net increase in cash			1,143,066				467,646
Cash and cash equivalents, beginning of period			769,926				302,280
Cash and cash equivalents, ending of period		$	1,912,992			$	769,926
Supplementary cash flow information:
Cash paid for interest expense		$	132,296			$	-
Cash paid for taxes			2,400				-
Supplemental Disclosure of Non-Cash Financing Transactions
Conversion of convertible debt to preferred stock			-				1,000,000
Shares issued – public shell acquisition Net share settlement on exercise of warrants			- 1,840				267,530  -
Shares (cancelled) issued – 2WG acquisition			(110,000	)			154,000
Shares issued – Rover acquisition			125,000				-
Accretion of redeemable convertible preferred stock			101,200				5,990
Relative fair value of warrants issued for preferred stock							342,052
Cash due – public shell acquisition			-				70,000

The accompanying notes are an integral part of these financial statements.

F-5

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RED MILE ENTERTAINMENT, INC.

 

Notes to Consolidated Financial Statements

 

March 31, 2007 and March 31, 2006

 

NOTE 1 — ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Business— Red Mile Entertainment, Inc. (“Red Mile” or “the Company”) was incorporated in Delaware in August of 2004. The Company is a developer and publisher of interactive entertainment software across multiple hardware platforms, with a focus on creating or licensing intellectual properties.  The Company sells its games directly to distributors and retailers in North America. In Europe and Australia, the Company licenses its games with major international game distributors or co-publishers in exchange for payment to the Company of either development fees or guaranteed minimum royalties. The guaranteed minimum royalties are recoupable by the partner against royalties computed under the various agreements. Once the partner recoups the guaranteed minimum royalties, the Company is entitled to additional royalties as computed under the agreements. The Company operates in one business segment, interactive software publishing.

 

Going Concern— The accompanying financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America, which contemplates continuation of the Company as a going concern. However, the Company has sustained substantial operating losses since inception of $17,218,190 at March 31, 2007, and has incurred negative cash flows from operations.

 

The Company shipped its first products in August and September of 2005 generating its initial revenue. The Company expects that sales growth from existing as well as new products will continue. The continuation of the Company as a going concern is dependent upon the continued financial support of current shareholders, current debenture holders, and new investors, of which management cannot make any assurances.

 

The accompanying financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts or the amounts and classifications of liabilities or any other adjustment that might result from these uncertainties.

On January 30, 2007 the company amended its Certificate of Incorporation to affect a 1 for 3 reverse stock split of the company’s common stock. The consolidated financial statements for the current and prior periods have been adjusted to reflect the change in the number of shares.

 

Principals of Consolidation— The consolidated financial statements of Red Mile include the accounts of the Company, and its wholly-owned subsidiaries, 2WG Media, Inc., Roveractive, Inc. and Red Mile Australia Pty Ltd.  All intercompany accounts and transactions have been eliminated in consolidation.

Use of Estimates– The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Such estimates include sales returns and allowances, price protection estimates, provisions for doubtful accounts, accrued liabilities, estimates regarding the recoverability of prepaid royalties, inventories, software development costs, long lived assets, and deferred tax assets. These estimates generally involve complex issues and require us to make judgments, involve analysis of historical and future trends, can require extended periods of time to resolve, and or subject to change from period to period. Actual results could differ materially from our estimates.

Reclassification – Certain prior period items have been reclassified to conform to the current period’s presentation. These items include the reclassification of amounts from Common Stock to Additional Paid in Capital for the one for three reverse stock split which went into effect on February 8, 2007. These reclassifications had no impact on consolidated net income or total stockholders’ equity (deficit) as previously reported.

 

Cash, Cash Equivalents and Marketable Securities— The Company considers all highly liquid investments purchased with an original maturity of three months or less and money market funds to be cash equivalents.

 

Marketable securities generally mature between three and twelve months. All our short-term investments are classified as available for sale and are carried at their fair market value.

 

Concentration of Credit Risk— Financial instruments which potentially subject us to concentration of credit risk consist of temporary cash investments and accounts receivable. During the periods ended March 31, 2007 and March 31, 2006, we had deposits in excess of the Federal Deposit Insurance Corporation (“FDIC”) limit at one U.S. based financial institution. At March 31, 2007 and 2006, Red Mile had uninsured bank balances and certificates of deposit totaling approximately $1,731,829 and $669,000, respectively.

 

F-6

 

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Receivable Allowances – Receivables are stated net of allowances for price protection, returns, discounts and doubtful accounts.

 

We grant price protection or discounts to, and sometimes allow product returns from, our customers under certain conditions.  Therefore, we record an allowance for price protection, returns and discounts at each balance sheet date.  The provision related to this allowance is reported in net revenues.  Price protection means credits relating to retail price markdowns on our products previously sold by us to customers.  We base these allowances on expected trends and estimates of potential future price protection, product returns and discounts related to current period product revenue.  Actual price protection, product returns and discounts may materially differ from our estimates as our products are subject to changes in consumer preferences, technological obsolescence due to new platforms or competing products.  Changes in these factors could change our judgments and estimates and result in variances in the amount of allowance required.  If customers request price protection in amounts exceeding the rate expected and if management agrees to grant it, then we may incur additional charges.

 

Our co-publishers will reserve a portion of their estimated sales for returns. Red Mile’s royalty revenue bears a direct relationship to the revenue of our co-publishers and our co-publishers have extensive history on which to estimate future returns. Therefore, Red Mile will often book its returns and price protection reserves using the same reserve factors as its co-publisher in determining net royalty revenues.  Our returns and price protection reserves for the period ended March 31, 2007 and March 31, 2006 was $171,841 and $113,432, respectively.

 

Distribution Costs — Distribution costs, including shipping and handling costs of video games sold to customers, are included in cost of sales.

 

Advertising Expenses— We expense advertising costs as incurred which are included in Sales, Marketing and Business Development Costs. Advertising costs in the periods ended March 31, 2007 and March 31, 2006 were $102,973 and 0, respectively.

 

Income Taxes— The Company accounts for income taxes using an asset and liability approach, which requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of temporary differences between the financial statement and tax basis of assets and liabilities at applicable enacted tax rates. A valuation allowance is required against deferred tax assets if, based on the weight of available evidence, it is unlikely that the net deferred tax asset will be realized.

 

Foreign Currency Translation— The functional currency of our foreign subsidiary is its local currency. All assets and liabilities of our foreign subsidiary are translated into U.S. dollars at the exchange rate in effect at the end of the period, and revenue and expenses are translated at weighted average exchange rates during the period. The resulting translation adjustments are reflected as a component of accumulated other comprehensive income (loss) in shareholders’ equity. The functional currency of the Company’s assets and liabilities denominated in foreign currencies is the US dollar.

F-8

 

 

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Stock-Based Compensation Plans— On April 1, 2006, we adopted the provisions of Statement of Financial Accounting Standards (“SFAS”) 123(R), “Share-Based Payment” (the “Statement or “SFAS 123(R)”), requiring us to recognize expense related to the fair value of our stock-based compensation awards. Prior to April 1, 2006, the Company used the minimum value method in estimating the value of employee option grants as allowed by SFAS 123, amended by SFAS 148 “ Accounting for stock based compensation - transition and disclosure”. Accordingly, we have elected to use the prospective transition method as permitted by SFAS 123(R) and therefore have not restated our financial results for prior periods. Under this transition method, stock-based compensation expense for the twelve months ended March 31, 2007 includes compensation expense for all stock option awards granted subsequent to March 31, 2006 based on the grant date fair value estimated in accordance with the provisions of SFAS 123(R). We recognize compensation expense for stock option awards on a straight-line basis over the requisite service period of the award.

 

In March 2005, the SEC issued SAB No. 107, which offers guidance on SFAS 123(R). SAB 107 was issued to assist preparers by simplifying some of the implementation challenges of SFAS 123(R) while enhancing the information that investors receive. SAB 107 creates a framework that is premised on two overarching themes: (a) considerable judgment will be required by preparers to successfully implement SFAS 123(R), specifically when valuing employee stock options; and (b) reasonable individuals, acting in good faith, may conclude differently on the fair value of employee stock options. Key topics covered by SAB 107 include valuation models, expected volatility and expected term. The Company is applying the principles of SAB 107 in conjunction with its adoption of SFAS 123(R).

 

		Year ended March 31, 2007				Year ended March 31, 2006
Basic weighted average shares outstanding			8,280,302				4,413,860
Total stock options outstanding			1,988,744				940,966
Less: anti-dilutive stock options due to loss			(1,988,744	)			(940,966	)
Total redeemable convertible preferred stock outstanding			—				4,025,287
Less: anti-dilutive redeemable convertible preferred stock due to loss			—				(4,025,287	)
Total senior secured convertible debentures			1,570,286				—
Less. Anti-dilutive senior secured convertible debentures			(1,570,286)				—
Total warrants outstanding			2,794,176				3,394,287
Less: anti-dilutive warrants due to loss			(2,794,176	)			(3,394,287	)
Diluted weighted average shares outstanding			8,280,302				4,413,860

 

F-9

 

 

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Recent Accounting Pronouncements

FIN 48

 

In June 2006, the FASB issued FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes — an interpretation of FASB Statement No. 109” (“FIN 48”), which clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with SFAS No. 109, “Accounting for Income Taxes.” FIN 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. FIN 48, which is effective for fiscal years beginning after December 15, 2006, also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition. The Company plans on reviewing in detail its tax situation to determine whether there are any uncertain tax positions but does not presently believe that there are any material such matters.

 

SFAS 157

 

In September 2006, FASB issued SFAS 157 ‘Fair Value Measurements’. This Statement defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles (GAAP), and expands disclosures about fair value measurements. This Statement applies under other accounting pronouncements that require or permit fair value measurements, the Board having previously concluded in those accounting pronouncements that fair value is the relevant measurement attribute. Accordingly, this Statement does not require any new fair value measurements. However, for some entities, the application of this Statement will change current practice. This Statement is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. The management is currently evaluating the effect of this pronouncement on financial statements.

 

SFAS 158

 

In September 2006, FASB issued SFAS 158 ‘Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans—an amendment of FASB Statements No. 87, 88, 106, and 132(R)’ This Statement improves financial reporting by requiring an employer to recognize the overfunded or underfunded status of a defined benefit postretirement plan (other than a multiemployer plan) as an asset or liability in its statement of financial position and to recognize changes in that funded status in the year in which the changes occur through comprehensive income of a business entity or changes in unrestricted net assets of a not-for-profit organization. This Statement also improves financial reporting by requiring an employer to measure the funded status of a plan as of the date of its year-end statement of financial position, with limited exceptions. An employer with publicly traded equity securities is required to initially recognize the funded status of a defined benefit postretirement plan and to provide the required disclosures as of the end of the fiscal year ending after December 15, 2006. An employer without publicly traded equity securities is required to recognize the funded status of a defined benefit postretirement plan and to provide the required disclosures as of the end of the fiscal year ending after June 15, 2007. However, an employer without publicly traded equity securities is required to disclose the following information in the notes to financial statements for a fiscal year ending after December 15, 2006, but before June 16, 2007, unless it has applied the recognition provisions of this Statement in preparing those financial statements. The requirement to measure plan assets and benefit obligations as of the date of the employer’s fiscal year-end statement of financial position is effective for fiscal years ending after December 15, 2008. The management is currently evaluating the effect of this pronouncement on financial statements.

 

SAB 108

 

In September 2006, the Securities and Exchange Commission issued Staff Accounting Bulletin No. 108, Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements (“SAB 108”). SAB 108 provides guidance on consideration of the effects of prior year misstatements in quantifying current year misstatements for the purpose of a materiality assessment. SAB 108 is effective for fiscal years ending after November 15, 2006. The adoption of SAB 108 did not have an impact on our consolidated financial statements.

 

EITF 00-19-2

 

In December 2006, the FASB issued FASB Staff Position EITF 00-19-2, Accounting for Registration Payment Arrangements (“FSP EITF 00-19-2”). FSP EITF 00-19-2 specifies that the contingent obligation to make future payments or otherwise transfer consideration under a registration payment arrangement, whether issued as a separate agreement or included as a provision of a financial instrument or other agreement, should be separately recognized and measured in accordance with FASB Statement No. 5, Accounting for Contingencies.

 

F-10

 

 

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A registration payment arrangement is defined in FSP EITF 00-19-2 as an arrangement with both of the following characteristics: (1) the arrangement specifies that the issuer will endeavor (a) to file a registration statement for the resale of specified financial instruments and/or for the resale of equity shares that are issuable upon exercise or conversion of specified financial instruments and for that registration statement to be declared effective by the US SEC within a specified grace period, and/or (b) to maintain the effectiveness of the registration statement for a specified period of time (or in perpetuity); and (2) the arrangement requires the issuer to transfer consideration to the counterparty if the registration statement for the resale of the financial instrument or instruments subject to the arrangement is not declared effective or if effectiveness of the registration statement is not maintained. FSP EITF 00-19-2 is effective for registration payment arrangements and the financial instruments subject to those arrangements that are entered into or modified subsequent to December 21, 2006. For registration payment arrangements and financial instruments subject to those arrangements that were entered into prior to the issuance of FSP EITF 00-19-2, this guidance is effective for financial statements issued for fiscal years beginning after December 15, 2006, and interim periods within those fiscal years. We do not expect the adoption of FSP EITF 00-19-2 to have a material impact on our consolidated financial statements.

 

SFAS 159

 

 

NOTE 2 — MARKETABLE SECURITIES

 

The value of the Company’s investments by major security type is as follows:

		Cost				Unrealized Gain				Unrealized Losses				Fair Value
March 31, 2007 Certificates of deposit		$	—			$	—			$	—			$	—
March 31, 2006 Certificates of deposit		$	10,313			$	—			$	—			$	10,313

 

 

NOTE 3 — SOFTWARE DEVELOPMENT COSTS AND ADVANCED ROYALTIES

 

During the period ended March 31, 2007, we cancelled two projects under development and took a charge of $942,575 to Costs of Sales, included in impairment of software development costs in the table below.  The following table reconciles the beginning and ending capitalized product development cost balances for the following periods:

		Year ended March 31, 2007				Period ended March 31, 2006
Beginning balance		$	3,280,769			$	1,723,300
Capitalized licenses and software development costs			5,881,944				6,444,674
Impairment of software development costs			(2,659,674	)			(1,554,205	)
Amounts amortized to cost of sales			(430,190	)			(3,333,000	)
Ending balance		$	6,072,849			$	3,280,769

 

 

F-11

 

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NOTE 4 — PROPERTY AND EQUIPMENT, NET

 

Property and equipment, net was comprised of the following:

			March 31,
			2007				2006
	Computer equipment and software		$	424,169			$	153,783
	Office furniture and other equipment			14,292				14,292
	Total cost of property and equipment			452,753				168,075
	Less accumulated depreciation			(197,290	)			(66,487	)
	Property and equipment, net		$	241,171			$	101,588

 

 

NOTE 5 — INTANGIBLE ASSETS

 

		March 31,
		2007				2006
Website		$	120,000				-
Customer list			2,500				-
Trade name			1,250				-
Domain name			1,250				-
Total cost of intangibles			125,000				-
Less accumulated amortization			(10,760	)			-
Intangible assets, net		$	114,240				-

 

In January 2007, the Company acquired all of the assets of Roveractive, Inc., a Canadian Corporation.  The purchase price of $125,000 was in exchange for 33,000 shares of common stock in the Company.  Amortization expense is computed using the straight-line method over the estimated useful lives, ranging from 12 to 36 months.  Amortization of these intangible assets totaled $10,760 and $0 for the years ended March 31, 2007 and 2006, respectively.

 

Expected amortization of these intangible assets over the next five years is as follows:

 

Year		Amount
2008		$	42,417
2009			40,542
2010			30,438
2011			125
2012			125
		$	113,647

 

This transaction was not deemed to be a material business combination, as it was determined, based on the facts and circumstances, that it was not an operating business at the date of acquisition under Statement of Financial Accounting Standards No. 141 (FAS # 141) and as result, no pro forma results are required.  At the date of acquisition, the website had no specific operating expenses or revenue.

 

 

F-12

 

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NOTE 6 — ACCRUED LIABILITIES

			March 31,
			2007				2006
	Accrued royalties payable		$	50,676				170,898
	Accrued bonuses			87,314				169,000
	Accrued milestone payments to      developers			420,000				50,000
	Accrued Marketing     Accrued paid time off			175,000 38,741				— 45,323
	Accrued liability for purchase of Edmonds 1			—				35,000
	Accrued liability to related party for purchase of Edmonds 1			—				35,000
	Accrued professional fees			217,370				20,000
	Accrued Commissions			42,094				—
	Other			93,203				6,424
	Total		$	1,124,398			$	531,645

 

 

		March 31,
		2007				2006
Current tax assets:
Accrued paid time off		$	70,599			$	18,000
Net operating loss			5,620,311				2,456,000
Contribution carryforward			1,219				—
Stock based compensation			154,037				—
Depreciation			24,346				—
Intangibles			3,655				—
Section 280C research credit			42,974				—
Total current tax assets			5,917,141				2,474,000
Net current tax assets			5,917,141				2,474,000
Valuation allowance			(5,917,141	)			(2,474,000	)
Net deferred tax assets			—				—

 

 

Year ended March 31
2008		$	5,177,526
2009			1,363,392
Total		$	6,540,918

 

Lease Commitments

 

Operating Leases — Red Mile leases its office space under a twelve month lease expiring March 2008 with monthly base rental of $6,240 per month. Rent expense for the years ended March 31, 2007 and 2006 was $97,390 and $62,400, respectively.

 

The minimum future lease payments for the above leases as of March 31, 2007 are $68,640 for the fiscal year ended March 31, 2008. No payments are due in future fiscal years beyond 2008.

 

NOTE 10 — REDEEMABLE CONVERTIBLE PREFERRED STOCK

In the twelve months ended March 31, 2007, the Company issued 658,667 investment units consisting of one share of Series B Redeemable Convertible Preferred Stock and a warrant to purchase an additional share of Redeemable Convertible Preferred Stock with a strike price of $4.50 and an expiration date of May 1, 2008 for $2,470,000. During the first quarter of fiscal 2007, the Company also issued 46,667 investment units consisting of one share of Series C Redeemable Convertible Preferred Stock and a warrant to purchase an additional share of Redeemable Convertible Preferred Stock with a strike price of $4.50 and an expiration date of May 1, 2008 for $175,000. Using the Black-Scholes option pricing model, the relative fair values of the Preferred Series B warrants and Preferred Series C warrants of $395,748 and $28,040 were allocated to Preferred Series B and Preferred Series C warrants on redeemable convertible preferred stock. The Series B and C redeemable convertible preferred stock were being accreted to their redemption values through the redemption date using the effective interest method. Accretion of redeemable convertible preferred stock was $101,200 and $5,990 for the periods ending March 31, 2007 and 2006, respectively.

 

In May 2006, all 3,452,333 shares of Series A Redeemable Convertible Preferred Stock converted into common stock. In December 2006, all 1,278,287 shares of Series B and C Redeemable Convertible Preferred Stock converted into common stock.

The Series B Redeemable Convertible Preferred Stock had a security interest in all the assets of the Company. This security interest terminated upon the Series B Redeemable Convertible Preferred Stock converting to common shares. All shares of preferred stock voted on an “as if converted” basis (that is, one share of preferred equals one share of common) with the common.

 

The Redeemable Convertible Preferred Stock had a preference such that in the event of any liquidation or winding up of the Company, the holders of the Redeemable Convertible Preferred Stock would be entitled to receive in preference to the holders of the Common Stock an amount equal to an amount of their original purchase price, plus any declared and unpaid dividends. After the payment of the Liquidation Preference to the holders of the Redeemable Convertible Preferred Stock, the remaining assets would be distributed ratably to the holders of Common Stock and the Redeemable Convertible Preferred Stock until the Redeemable Convertible Preferred Stock holders would have received three times their original investment. All remaining assets, if any, would then have been distributed to the holders of Common Stock.

 

F-15

 

 

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The following table displays the net proceeds from Preferred Stock and the related warrants during the Company’s fiscal year 2007.

 

Series B Redeemable Convertible Preferred Stock proceeds		$	2,470,000
Series C Redeemable Convertible Preferred Stock proceeds			175,000
Series B and C Redeemable Convertible Preferred Stock warrants proceeds			859,916
Cost of redeemable convertible preferred stock issuances			(165,624	)
Total proceeds		$	3,339,292

NOTE 11 — SENIOR SECURED CONVERTIBLE DEBENTURES

On October 19, 2006, the Company issued $5,824,000 of Senior Secured Convertible Debentures.  Pursuant to the terms of the Agency Agreement, the Agent facilitated the purchase of 5,824 convertible debentures to 74 Debenture Holders for an aggregate principal face amount of $5,824,000. The Debentures mature on October 19, 2008 and are convertible into shares of the Common Stock of the Company at a ratio of $5.25 per Common Share (the “Conversion Price).

On November 20, 2006, the Company, issued $2,420,000 of Senior Secured Convertible Debentures.  Pursuant to the terms of the Agency Agreement, the Agent facilitated the purchase of 2,420 convertible debentures to 7 Debenture Holders for an aggregate principal face amount of $2,420,000. These Debentures mature on November 20, 2008 and are convertible into shares of the Common Stock of the Company at a ratio of $5.25 per Common Share (the “Conversion Price).

The conversions on the above mentioned Debentures may be exercised at the election of the holders of the Debentures at any time after a minimum non-conversion period of 12 months from the issue date. The conversions can also be exercised by the Company after a minimum non-conversion period of 12 months from the issue date so long as the Company’s Common Shares have begun trading on a recognized exchange and have traded at a minimum volume weighted average price of $9.00/share for 20 consecutive trading days, subject to certain limitations.

On the maturity dates of the two sets of Debentures, the Company retains the right to redeem the Debentures in cash, in kind, or in cash and in kind with Common Shares of the Company. The Company also has the right to redeem the Debentures at a redemption price equal to 115% of the principal face value at any time after a period of 12 months so long as the Company’s Common Shares have begun trading on a recognized exchange and have traded at a minimum volume weighted average price of $9.00/share for 20 consecutive trading days, subject to certain limitations.

The total capitalized fees were $610,453, with the $494,640 in agent’s commissions comprising the majority of the capitalized fees. The remaining $115,813 in fees was primarily legal fees.

 

The Debentures carry a coupon rate of 5.5% per annum, non-compounded, and the interest is payable semi-annually on March 15 and September 15 in cash, or in kind.  The accrued interest at March 31, 2007 is $19,876. This is included within the Accrued Liabilities account.  For the year ended 2007, interest expense was $190,817, of which $58,521 was capitalized to software development costs, in accordance with SFAS 34, “Capitalization of Interest Cost.”  .

The Debentures are secured direct senior obligations of the Company secured against all present and after acquired property of the Company except for accounts receivable in which case the Debenture holders rank less senior to other creditors for the security interest in accounts receivable. The Debentures have full rights to piggyback registration after a period of 12 months.

 

NOTE 12 — COMMON STOCK

 

On December 24, 2004, the Company issued 3,000,000 of its common stock to founders for cash of $3,000.

 

In connection with the purchase of certain assets and taking responsibility for certain liabilities of Fluent Entertainment, Inc., we issued a total of 3,168,275 shares. Included in the assets acquired were three games under development; Jackass, Crusty demons and GripShift with related licenses. Subsequently, the Jackass game development project was terminated and restarted with a new developer.

 

In October 2005, we acquired Edmonds 1, Inc. for 405,348 shares of common stock, warrants to purchase 132,667 shares of common stock and $200,000.

 

In December 2005, we acquired 2WG Media, Inc. for 66,667 shares of common stock and an earn-out where we might have issued an additional 166,667 shares of common stock.  The earn-out period has passed and no additional shares were earned.  The 166,667 shares of common stock have been cancelled.

 

F-16

 

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NOTE 13 — STOCK OPTIONS AND STOCK COMPENSATION

The fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model with the following assumptions:

 

		Year Ended March 31, 2007
Expected life (in years)			4.2 - 6.5
Risk free rate of return			4.5% - 5.13%
Volatility			50% - 80%
Dividend yield			-
Forfeiture rate			9% - 15%

 

The following table sets forth the total stock-based compensation expense for the period ended March 31, 2007, resulting from options awarded to employees and consultants during period ended March 31, 2007.  No employee option expense was recorded for the period ended March 31, 2006 as we elected to adopt 123(R) on April 1, 2006.  All research and development costs, and sales, marketing, and business development costs in this table are related to employees. General and administrative costs are broken out between those related to consultants and those related to employees.

 

		Year Ended  March 31, 2007				March 31, 2006
Research and development costs		$	16,517			$	-
Sales, marketing, and business development costs			14,569				-
General and administrative costs—consultants			329,048				46,439
General and administrative costs—employees			6,745				-
Stock-based compensation before income taxes			366,879				46,439
Income tax benefit			-				-
Total stock-based employee compensation expense after income taxes		$	366,879			$	46,439

The following table sets forth the total stock-based compensation expense for the periods ended March 31, 2007 and 2006, resulting from options awarded to both employees and consultants during the periods ended March 31, 2007 and 2006.

 

		Year Ended March 31, 2007				March 31, 2006
Stock-based employee compensation expense before income taxes		$	37,831			$	-
Stock-based consultant compensation expense before income taxes			329,048				46,439
Stock-based compensation before income taxes			366,879				46,439
Income tax benefit			-				-
Total stock-based employee compensation expense after income taxes		$	366,879			$	46,439

 

During the year ended March 31, 2007, 148,333 common stock options were granted to non-employees. In the case where shares have been granted to third parties, the fair value of such shares is recognized as an expense in the period issued. Using the Black-Scholes option pricing model, the fair value of such options issued for the period ending March 31, 2007 and 2006 was $329,048 and $46,439.

F-17

 

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On April 8, 2005, the Board of Directors approved the Red Mile Entertainment 2005 Stock Option Plan which permits the Board of Directors to grant to officers, directors, employees and third parties incentive stock options (“ISOs”), non-qualified stock options, restricted stock and stock appreciation rights (“SARs”). As of March 15, 2007, the Board of Directors and stockholders holding a majority of voting power voted to authorize the board of directors, at its discretion, to amend the 2005 Stock Option Plan. This amendment would take effect no sooner than May 14, 2007. Under the Amended Plan, options for 2,500,000 shares of common stock are reserved for issuance.  At March 31, 2007, 511,255 options are available for grant.  Options have been issued with exercise prices of between $0.66 and $4.00 per share as follows:

Options Outstanding								Options Exercisable
		Number		Weighted Avg.		Weighted Avg.		Number		Weighted Avg.
Range of Exercise Prices		Outstanding		Remaining Life		Exercise Price		Exercisable		Exercise Price
$0.66 - $1.49		902,910		8.78		0.71		534,362		0.74
$1.50 - $2.37		96,667		12.02		2.89		60,417		1.89
$2.38 - $4.00		989,167		10.34		4.03		12,222		3.30
		1,988,744				$             3.02		607,000		$             0.83

Option activity under the Amended Plan is as follows:

 

Options		Shares			Weighted Average Exercise Price			Weighted Average Remaining Contractual Term			Aggregate Intrinsic Value
Outstanding at April 1, 2005			-		$	-					$	-
Granted			940,966			0.75
Exercised			-			-
Forfeited or expired			-			-			-			-
Outstanding at March 31, 2006			940,966		$	0.75			-			-
Exercisable at March 31, 2006			177,620		$	0.90			-			-
Granted			1,124,167			3.75
Exercised			-			-
Forfeited or expired			(76,388	)	$	2.73			-			-
Outstanding at March 31, 2007			1,988,745		$	2.28			9.71		$	3,420,166
Exercisable at March 31, 2007			607,000		$	0.83			8.65		$	1,926,537

 

 

F-20