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Bidz 10-Q 2007

Documents found in this filing:

  1. 10-Q
  2. Ex-31.1
  3. Ex-31.2
  4. Ex-32.1
  5. Ex-32.1

 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

x

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

 

 

For the quarterly period ended March 31, 2007

 

 

o

TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT

 

 

 

For the transition period                 to

Commission file number 000-51257

BIDZ.COM, INC.

(Exact name of Registrant as specified in its charter)

Delaware

95-4728109

(State or other jurisdiction of

(I.R.S. Employer

incorporation or organization)

Identification Number)

 

3562 Eastham Drive
Culver City, California
90232

(Address, including zip code, of principal executive office)

 

(310) 280-7373

(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.     Yes x   No  o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non accelerated filer. See definition of “accelerated filer and large filer” in Rule 12b-2 of the Exchange Act). (Check one):

Large accelerated filer o

Accelerated filer o

Non-accelerated filer x

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

o  Yes    x  No

Number of shares outstanding of Registrant’s common stock, $0.001 par value, as of April 30, 2007: 23.252,654

 




TABLE OF CONTENTS

PART I. FINANCIAL INFORMATION

Item 1.

Financial Statements

 

3

 

Condensed Balance Sheets as of December 31, 2006 and March 31, 2007 (unaudited)

 

3

 

Condensed Statements of Income for three month periods ended March 31, 2006 and 2007 (unaudited)

 

4

 

Condensed Statements of Cash Flows for three month periods ended March 31, 2006 and 2007 (unaudited)

 

5

 

Notes to Financial Statements (unaudited)

 

6

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

13

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

 

17

Item 4.

Controls and Procedures

 

17

Item 4T

Controls and Procedures

 

18

 

 

 

 

PART II. OTHER INFORMATION

18

Item 1.

Legal Proceedings

 

18

Item 1A

Risk Factors

 

18

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

 

28

Item 6.

Exhibits

 

29

SIGNATURES

 

 

30

 

This quarterly report includes forward looking statements. All statements other than statements of historical facts contained in this registration statement, including statements regarding our future financial position, business strategy and plans and objectives of management for future operations, are forward looking statements. The words “believe,” “may,” “will,” “estimate,” “continue,” “anticipate,” “intend,” “expect” and similar expressions, as they relate to us, are intended to identify forward looking statements. We have based these forward-looking statements largely on our current expectations and projections about future events and financial trends that we believe may affect our financial condition, results of operations, business strategy and financial needs. These forward looking statements are subject to a number of risks, uncertainties and assumptions discussed throughout this filing.

2




PART I. FINANCIAL INFORMATION

 ITEM 1. FINANCIAL STATEMENTS

Bidz.com, Inc.

Condensed Balance Sheets

(In thousands, except share data)

 

 

December 31,

 

March 31,

 

 

 

2006

 

2007

 

 

 

 

 

(Unaudited)

 

Assets

 

 

 

 

 

Current assets:

 

 

 

 

 

 Cash

 

$

359

 

$

174

 

 Accounts receivable

 

1,930

 

1,395

 

 Inventories, net of reserves of $461 and $543
at December 31, 2006 and March 31, 2007 respectively

 

31,183

 

31,422

 

 Prepaid inventory

 

3,125

 

1,296

 

 Other current assets

 

1,192

 

938

 

Total current assets

 

37,789

 

35,225

 

Property and equipment, net

 

478

 

631

 

Intangible asset

 

150

 

150

 

Deposits

 

125

 

125

 

Total assets

 

$

38,542

 

$

36,131

 

 

 

 

 

 

 

Liabilities and Stockholders’ Equity

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 Revolving credit line

 

3,941

 

7,662

 

 Accounts payable (includes related party amounts of $4,331 and $1,751
at December 31, 2006 and March 31, 2007 respectively

 

21,987

 

14,450

 

 Accrued expenses

 

1,952

 

1,743

 

 Deferred revenue

 

3,935

 

1,970

 

Total current liabilities

 

31,815

 

25,825

 

 

 

 

 

 

 

Commitments and contingencies

 

 

 

 

 

 

 

 

 

Stockholders’ equity:

 

 

 

 

 

 Preferred stock: par value $0.001; authorized 4,000,000 shares; none issued
and outstanding at December 31, 2006 and March 31, 2007, respectively

 

 

 

 Common stock: par value $0.001; authorized 100,000,000 shares; issued and
outstanding 23,233,904 and 23,252,654 at December 31, 2006 and
March 31, 2007, respectively

 

23

 

23

 

 Additional paid in capital

 

28,352

 

28,496

 

 Shares held in treasury, at cost, 15,000 shares at March 31, 2007

 

(90

)

(90

)

 Accumulated deficit

 

(21,558

)

(18,123

)

Total stockholders equity

 

6,727

 

10,306

 

 

 

$

38,542

 

$

36,131

 

 

The accompanying notes form an integral part of these condensed financial statements.

3




Bidz.com, Inc.

Condensed Statements of Income (Unaudited)

(In thousands, except share and per share data)

 

 

Three Months Ended March 31,

 

 

 

2006

 

2007

 

 

 

 

 

 

 

Net revenue:

 

 

 

 

 

 Merchandise sales

 

$

34,636

 

$

44,639

 

 Commissions

 

57

 

85

 

 Advertising

 

1

 

 

 

 

 

 

 

 

 

 

34,694

 

44,724

 

 

 

 

 

 

 

Cost of revenue

 

25,516

 

33,596

 

 

 

 

 

 

 

Gross Profit

 

9,178

 

11,128

 

 

 

 

 

 

 

Operating expenses:

 

 

 

 

 

 General and administrative

 

3,352

 

4,843

 

 Sales and marketing

 

2,407

 

2,600

 

 Depreciation and amortization

 

54

 

74

 

 

 

 

 

 

 

Total operating expenses

 

5,813

 

7,517

 

 

 

 

 

 

 

Income from operations

 

3,365

 

3,611

 

 

 

 

 

 

 

Other income - interest income

 

17

 

1

 

Other expense - interest (expense)

 

 

(82

)

 

 

 

 

 

 

Income before income tax expense

 

3,382

 

3,530

 

 

 

 

 

 

 

Income tax expense

 

90

 

95

 

 

 

 

 

 

 

Net income

 

$

3,292

 

$

3,435

 

 

 

 

 

 

 

Net income per share available to common shareholders - basic

 

$

0.14

 

$

0.15

 

 

 

 

 

 

 

Net income per share available to common shareholders - diluted

 

$

0.14

 

$

0.14

 

 

 

 

 

 

 

Weighted average number of shares outstanding - basic

 

23,312,500

 

23,245,987

 

 

 

 

 

 

 

Weighted average number of shares outstanding - diluted

 

23,826,758

 

23,724,657

 

 

The accompanying notes form an integral part of these condensed financial statements.

4




Bidz.com, Inc.

Condensed Statements of Cash Flows (Unaudited)

(in thousands)

 

 

Three Months Ended March 31,

 

 

 

2006

 

2007

 

 

 

 

 

 

 

Cash flows provided by (used for) operating activities:

 

 

 

 

 

Net income

 

$

3,292

 

$

3,435

 

 

 

 

 

 

 

Adjustments to reconcile net income to net cash
provided by (used for) operating activities:

 

 

 

 

 

Depreciation and amortization

 

54

 

74

 

Change in inventory reserve

 

147

 

82

 

Amortization of deferred stock-based compensation

 

50

 

 

Stock-based compensation

 

 

144

 

Changes in assets and liabilities:

 

 

 

 

 

 (Increase) decrease in assets:

 

 

 

 

 

Accounts receivable

 

177

 

535

 

Inventories

 

(1,751

)

(321

)

Prepaid Inventory

 

 

1,829

 

Other current assets

 

(103

)

254

 

Deposits

 

(253

)

 

 Increase (decrease) in liabilities:

 

 

 

 

 

Post-dated check financing

 

817

 

 

Accounts payable

 

(2,248

)

(7,537

)

Accrued expenses

 

324

 

(209

)

Deferred revenue

 

(386

)

(1,965

)

Net cash provided by (used for) operating activities

 

120

 

(3,679

)

 

 

 

 

 

 

Cash flows (used for) investing activities:

 

 

 

 

 

 Capital expenditures

 

(127

)

(227

)

Cash flows provided by financing activities:

 

 

 

 

 

Increase in revolving credit line balance

 

 

3,721

 

 

 

 

 

 

 

Net (decrease) in cash

 

(7

)

(185

)

Cash, beginning of period

 

7

 

359

 

Cash, end of period

 

$

 

$

174

 

 

 

 

 

 

 

Supplemental disclosure of cash flow information:

 

 

 

 

 

Interest paid

 

$

 

$

82

 

Income taxes paid

 

$

 

$

10

 

 

The accompanying notes form an integral part of these condensed financial statements.

5




BIDZ.COM, INC.
NOTES TO FINANCIAL STATEMENTS
(NUMBERS IN THOUSANDS, EXCEPT FOR PER SHARE NUMBERS)
(UNAUDITED)

1.                                      Basis of Presentation and Nature of Business Operations

Basis of Presentation

The accompanying unaudited financial statements have been prepared in accordance with the instructions to Form 10-Q and do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements.  These financial statements and related notes should be read in conjunction with the Company’s audited financial statements for the fiscal year ended December 31, 2006 filed in the form 10-K Annual Report by the Company on March 12, 2007. In the opinion of management, these financial statements reflect all adjustments which are of a normal recurring nature and which are necessary to present fairly the financial position of Bidz.com, Inc. as of March 31, 2007 and the results of operations for the three month periods ended March 31, 2006 and 2007 and the cash flows for the three month periods ended March 31, 2006 and 2007.  The results of operations for the three months ended  March 31, 2007 are not necessarily indicative of the results which may be expected for the entire fiscal year.

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 disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. We have made estimates for return and allowance reserve, inventory reserve, accrued expenses, and valuation allowance for deferred tax assets.

Nature of Business Operations

Bidz.com, Inc. was founded in November of 1998 as a California corporation with its principal location of business in Los Angeles, California. We operate a website located at www.bidz.com for the purpose of selling merchandise, utilizing our unique sales auction platform.

We sell our products throughout the United States and have expanded the reach of our customer base to Europe and Asia. Revenue generated from the United States accounted for approximately 82.2% and 79.5% of net revenue for the three months ended March 31, 2006 and 2007, respectively.

For the three month period March 31, 2007, we reported net income of $3.4 million and net cash provided from operating activities of $42,000. As of March 31, 2007, we had current assets of $35.2 million and current liabilities of $25.8 million or working capital of $9.4 million.

During the year ended December 31, 2006, we reported net income of $5.4 million and net cash provided by operating activities of $1.5 million. As of December 31, 2006, we had current assets of $37.8 million and current liabilities of $31.8 million or working capital of $6.0 million.

Recent Developments

In April 2007 our Board of Directors authorized us to initiate steps to list and trade the shares of our common stock. We have determined that, in order to provide liquidity to our shareholders and as a prerequisite to listing on The NASDAQ Stock Market, we will establish a public market for our common stock on the Over the Counter Bulletin Board (“OTCBB”), which we anticipate will occur sometime in May 2007, and apply for listing on The NASDAQ Capital Market.  The Board of Directors has authorized the use of up to $5 million to repurchase shares of the Company.

We have provided financial guidance in our press releases. Our most recent press release provided for expected net revenue of $170 million to $180 million, gross profit margin of 24% to 25% and net income before tax of $13 million to $14 million for the 2007 fiscal year. For the three months ended June 30, 2007 we expect net revenue of $38 million to $40 million and net income before tax of $2.8 million to $3.3 million.

6




We are a defendant in a lawsuit brought by Yossi Gatlin in October 2005 for an automobile purchased from us in March 2002 for $28,000. Gatlin alleges that we did not provide prior registration so that Gatlin was not able to register the vehicle. In April 2007, we have reached an agreement in principle to settle the case.

Recent Accounting Pronouncements

In September 2006, the FASB issued FAS 158, “Employers’ Accounting for Defined Benefit Pension and Other Postretirement plans-an amendment of FASB Statements No. 87, 88, and 132R.” The statement requires employers to account for the over or under funded status of defined benefit postretirement plans as an asset or liability and recognized changes in the funded status through comprehensive income.  This statement currently has no impact on our financial statements.

In February 2007, the FASB issued Statement No. 159 (“FAS 159”) which expanded FAS No. 157, “Fair Value Measurements,” which defines fair value, establishes guidelines for measuring fair value and expands disclosures regarding fair value measurements. FAS 159 does not require any new fair value measurements but rather eliminates inconsistencies in guidance found in various prior accounting pronouncements. SFAS 159 is effective for fiscal years beginning after November 15, 2007. Earlier adoption is permitted, provided the company has not yet issued financial statements, including for interim periods, for that fiscal year. The Company is currently evaluating the impact of FAS 159, but does not expect the adoption of FAS 159 to have a material impact on our financial statements.

In July 2006, the FASB issued Interpretation No. 48, “Accounting for Uncertainty in Income Taxes, an interpretation of FAS  109 “(“FIN 48”) which clarifies the accounting for uncertainty in income taxes recognized in accordance with FAS 109, “Accounting for Income Taxes.” FIN 48 is a comprehensive model for how a company should recognize, measure, present, and disclose in its financial statements uncertain tax positions that the company has taken or expects to take on a tax return. If an income tax position exceeds a more likely than not (greater than 50%) probability of success upon tax audit, the company will recognize an income tax benefit in its financial statements. Additionally, companies are required to accrue interest and related penalties, if applicable, on all tax exposures consistent with jurisdictional tax laws. This interpretation is effective on January 1, 2007.  The adoption of this statement does not have a material impact on our financial statements.

In June 2006, the Board of the FASB ratified the conclusion reached by the EITF and contained therein in Issue No. 06-03.  The Task Force reached a conclusion that the presentation of taxes on either a gross or net basis is an accounting policy decision that should be disclosed pursuant to Opinion 22.  We present sales tax liability on a net basis.  Sales are not grossed up with the attendant taxes and deducted as a separate line item. The EITF becomes effective for interim and annual reporting periods beginning after December 15, 2006.  The adoption of this statement has no impact on our financial statements.

In February 2006, the FASB issued FAS 155, “Accounting for Certain Hybrid Financial Instruments-an amendment of FASB Statements No. 133 and 140.”  The pronouncement, among other things, permits fair value measurements for hybrid financial instruments.  In March of 2006, the FASB issued FAS 156, “Accounting for Servicing of Financial Assets-an amendment of FASB Statement No. 140.”  This pronouncement requires entities to recognize a servicing asset or servicing liability under certain circumstances.  Neither of these pronouncements have any impact on our financial statements.

7




2.                                      Earnings Per Common Share

In accordance with SFAS No. 128, “Earnings Per Share,” the basic earnings per common share is calculated by dividing net income available to common stockholders less preferred dividends by the weighted average number of common shares outstanding. Diluted earnings per common share is computed similarly to basic earnings per common share, except that the denominator is increased to include the number of additional common shares that would have been outstanding if the potential common shares had been issued and if the additional common shares were not anti-dilutive.

The dilutive effect of outstanding stock options and warrants is reflected in diluted earnings per share by application of the treasury stock method for the three month periods ended March 31, 2006 and 2007.  The following table sets forth the computation of basic and diluted net income per share.

(in thousands, except share and per share data)

 

 

Three Months Ended

 

 

 

March 31,

 

 

 

2006

 

2007

 

 

 

 

 

 

 

Basic and diluted net income per share:

 

 

 

 

 

 

 

 

 

 

 

Numerator:

 

 

 

 

 

Net income

 

$

3,292

 

$

3,435

 

 

 

 

 

 

 

Denominator:

 

 

 

 

 

 

 

 

 

 

 

Weighted common shares outstanding

 

23,312,500

 

23,245,987

 

 

 

 

 

 

 

Effect of dilutive securities

 

514,258

 

478,670

 

 

 

 

 

 

 

Denominator for diluted calculation

 

23,826,758

 

23,724,657

 

 

 

 

 

 

 

Net income per share, basic

 

$

0.14

 

$

0.15

 

 

 

 

 

 

 

Net income per share, diluted

 

$

0.14

 

$

0.14

 

 

3.             Revolving Credit Line

In July 2006, we entered into a revolving credit line agreement with LaSalle Bank, ABN AMRO, to provide working capital financing secured by inventories and tangible assets. The agreement allows for us to initially draw on a line of credit up to $10 million, with a provision to increase the limit up to $15 million with the future consent of the bank’s loan committee. During the three month period ended March 31, 2007 we successfully increased the limit to $15 million. The revolving credit line agreement expires in July of 2010. As of March 31, 2007, there was an outstanding balance of $7.7 million under the revolving credit line and remaining availability of $5.8 million after deducting a reserve of $1.5 million for minimum required excess availability which is a reserve of the $15 million credit line that we cannot utilize.

Under the terms and conditions of the revolving credit line agreement, the Company is subject to certain restrictive covenants including the following restrictive financial covenants: -

Minimum TTM EBITDA: Actual Trailing Twelve Month (TTM) EBITDA compliance is measured on a monthly basis, and shall not vary negatively from the Dollar amount for planned LTM EBITDA, set forth in an agreed upon schedule, for the applicable period, and is subject to resetting in Lender’s discretion based upon a business plan for subsequent periods acceptable to Lender.

Capital Expenditures: Borrower shall not make capital expenditures in excess of an agreed upon amount for each fiscal year covered by the loan agreement. All capital expenditures limits are subject to resetting on an annual basis at the Lender’s discretion based upon a business plan for subsequent periods and are acceptable to the Lender.

Minimum Excess Availability: We are to maintain an Excess Availability of  $1.5 million, when the Maximum Revolver Amount is $15 million. This covenant is subject to resetting at the Lender’s discretion based upon a business plan for subsequent periods and is acceptable to Lender.

8




4.                                      Stock Based Compensation

In December 2004, the FASB issued SFAS No. 123R, “Share Based payment: An Amendment of FASB Statements No. 123 and 95.” This statement requires that we recognize in our financial statements the cost resulting from all share- based payment transactions. In addition, in March 2005 the Securities and Exchange Commission (“SEC”) released SEC Staff Accounting Bulletin No. 107, “Share-Based Payment” (“SAB 107”), which provides the SEC staff’s position regarding the application of SFAS 123R and certain SEC rules and regulations, and also provides the staff’s views regarding the valuation of share-based payment arrangements for public companies. On January 1, 2006, we adopted SFAS 123R, which eliminates our ability to account for share-based compensation transactions, as we formerly did, using the intrinsic value method as prescribed by APB 25 and generally requires that we recognize in our statements of operations all share-based payments to employees, including grants of stock options based on their fair values.

The Company adopted SFAS 123R using the modified prospective method which requires the application of the accounting standard as of January 1, 2006. The Company’s financial statements as of and for the three months ended March 31, 2006 and 2007, respectively, reflect the impact of adopting SFAS 123R.

Under SFAS 123R stock-based compensation expense recognized during the period is based on the value of the portion of stock-based payment awards that is ultimately expected to vest. Compensation expense for the stock-based payment awards granted subsequent to December 31, 2005, will be based on the grant date fair value estimated in accordance with SFAS 123R. As stock-based compensation expense recognized in the statements of income is based on awards ultimately expected to vest, it will be reduced for estimated forfeitures. SFAS 123R requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates.

Under SFAS 123R, we will continue to use the Black-Scholes model to estimate the fair value of options. Our assessment of the estimated compensation charges will be affected by our stock price as well as assumption regarding a number of subjective variables and the related tax impact. These variables include, but are not limited to, our stock price volatility and employee stock option exercise behaviors. The stock-based compensation expense from stock options for the three months ended March 31, 2006 and  2007 totaled $0 and $32,000, respectively.

Stock Award

We awarded and issued as director compensation a total of 18,750 shares of common stock for the three months ended March 31, 2007. Our non-employee directors, Man Jit Singh and Peter Hanelt, received stock awards of 8,750 and 10,000 shares, respectively, in lieu of stock options. We grant annually to each non-employee director options to purchase 10,000 shares of our common stock. In lieu of receiving such stock options, non-employee directors may elect to receive one share of common stock for each option to purchase two shares of common stock. Non-employee directors also will receive stock options (or restricted stock in lieu thereof) for committee service per year in addition to the standard non-employee director compensation: options to purchase an additional 5,000 shares of common stock to the Chairman of the Audit Committee, and options to purchase an additional 2,500 shares of common stock to each member of our Audit Committee (other than the Chairman), Compensation Committee and Corporate Governance and Nominating Committee. The fair market value of the shares granted was $6.00 per share, which was determined based on a combination of factors that include recent share transactions between shareholders and an independent valuation of the Company. The stock-based expense from stock awards for the three months ended March 31, 2006 and 2007 totaled $0 and $112,000, respectively.

Stock Option Plan

We adopted our 2001 Stock Option Plan, our 2002 Special Stock Option Plan and our 2006 Award Plan (collectively, the ‘‘Plans’’), in January 2001, January 2002, and March 2006, respectively. The 2006 Plan provides for the granting of awards in the form of incentive stock options, nonqualified stock options, stock appreciation rights, shares of restricted common stock, bonus stock in lieu of obligations, or other stock-based awards to employees, directors, and independent contractors who provide valuable services to our company.  The vesting requirements, performance thresholds and other terms and conditions of options granted under the Plans will be determined by our Compensation Committee and Board of Directors.

The following is a summary of stock option activity as of March 31, 2007, and changes during the three months ended March 31, 2007.

9




 

Options

 

Shares

 

Weighted-
Average
Exercise
Price

 

Weighted
Average
Remaining
Life of
Contract

 

Aggregate
Intrinsic
Value

 

Outstanding at December 31, 2006

 

8,353,000

 

$

5.64

 

3.8

 

$

2,976,750

 

Granted

 

490,000

 

$

6.50

 

 

 

 

 

Exercised

 

 

 

 

 

 

 

Forfeited

 

 

 

 

 

 

 

Expired

 

(9,000

)

$

6.00

 

 

 

 

 

Outstanding at March 31, 2007

 

8,834,000

 

$

5.69

 

3.6

 

$

2,976,750

 

Vested and Exercisable at March 31, 2007

 

8,229,000

 

$

5.64

 

3.5

 

$

2,976,750

 

 

The following table summarizes information about stock options outstanding and exercisable at March 31, 2007.

 

 

 

 

 

 

 

Options Outstanding and Exercisable

 

 

 

 

 

 

 

 

 

 

 

as of March 31, 2007

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Options Outstanding

 

Options Exercisable

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Weighted

 

Weighted

 

 

 

 

 

 

 

 

 

Number

 

Average

 

Average

 

Number

 

Weighted

 

Range of

 

Outstanding

 

Remaining

 

Exercise

 

Exercisable

 

Average

 

Exercise Prices

 

As of 03/31/07

 

Contractual

 

Price

 

As of 03/31/07

 

Exercise Price

 

$3.01

 

$4.00

 

1,056,000

 

0.71

 

$3.75

 

1,056,000

 

$3.75

 

$4.01

 

$5.00

 

400,500

 

1.68

 

$4.50

 

400,500

 

$4.50

 

$5.01

 

$6.00

 

6,887,500

 

4.06

 

$6.00

 

6,772,500

 

$6.00

 

$6.01

 

$7.00

 

490,000

 

4.94

 

$6.50

 

0

 

$0.00

 

$3.01

 

$7.00

 

8,834,000

 

3.60

 

$5.69

 

8,229,000

 

$5.64

 

 

As of March 31, 2007, stock options to purchase 605,000 shares were not fully vested. The unamortized stock-based compensation expense as of March 31, 2007 is $1.2 million.

During the three months ended March 31, 2007, we issued 490,000 stock options to purchase shares in our common stock. No options were exercised during three months ended March 31, 2007 and there was no recognized tax benefit related thereto. We recognize compensation expense on a straight-line basis over the requisite service period for each stock option grant. The stock options were granted at prices above the fair market value of our common stock on the date of grant and have a four year vesting period with 25% vesting on each subsequent anniversary of the grant date. The stock options expire 5 years from the grant date. No options were granted or exercised for the three months ended March 31, 2006.

The weighted-average grant date fair value of options granted during the three months ended March 31, 2007 was $2.00. Options granted during the three months ended March 31, 2007 were valued in accordance with SFAS 123R. The fair value of these options was calculated using a Black-Scholes option pricing model using the following assumptions: (1) risk-free interest rates of 4.33%, (2) an expected life of five years, (3) expected volatility of 33%, (4) expected forfeitures of 0%, and (5) a dividend yield of 0%. Because there was no public market for our common stock and in accordance with SFAS 123R, we used the calculated method to determine volatility.

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5.                                      Segment Information:

Net revenue by geographic area is presented based upon the country of destination. No foreign country represented 10% or more of net revenue for three-month periods ended March 31, 2006 and 2007. Net revenue by geographic area was as follows:

(in thousands, except percentage data)

 

 

Three Months Ended

 

 

 

March 31,

 

 

 

2006

 

2007

 

 

 

 

 

 

 

 

 

 

 

Geographic area

 

Amount

 

Percent

 

Amount

 

Percent

 

United States

 

$28,522

 

82.2

%

$35,574

 

79.5

%

International

 

6,172

 

17.8

%

9,150

 

20.5

%

 

 

 

 

 

 

 

 

 

 

Total

 

$34,694

 

100.0

%

$44,724

 

100.0

%

 

6.                                      Concentrations

Purchases from two vendors amounted to $12.4 million and $5.6 million representing 48.8% and 21.5% of the total purchases during the three months ended March 31, 2006 and 2007, respectively. Outstanding accounts payable to the two vendors totaled $4.5 million and $1.8 million as of December 31, 2006 and March 31, 2007, respectively. Loss of either of these vendors may have a negative impact on the operations of the Company.

7.                                      Related Party Transactions

During the three months ended March 31, 2006 and 2007, we purchased approximately 40.0% and 7.0%, respectively, of our merchandise from LA Jewelers, Inc. One of the owners of LA Jewelers, Saied Aframian, owns 1,228,000 shares of our common stock as of March 31, 2007.

Our Vice-President of Technology is a major shareholder of Technolect, Inc. which provided technology consulting services to us in the amount of $12,000 and $0 for the three months ended March 31, 2006 and 2007, respectively. We own 10% of the common stock of Technolect, Inc. which we acquired for nominal consideration at the inception of Technolect, and have otherwise made no investments in Technolect. As of March 31, 2007, we have a cost basis of $0 in Technolect.

8.             Income Tax — FIN 48

We adopted the provisions of FASB Interpretation 48, Accounting for Uncertainty in Income Taxes, on January 1, 2007. Previously, we had accounted for tax contingencies in accordance with Statement of Financial Accounting Standards 5, Accounting for Contingencies. As required by Interpretation 48, which clarifies Statement 109, Accounting for Income Taxes, we recognize the financial statement benefit of a tax position only after determining that the relevant tax authority would more likely than not sustain the position following an audit. For tax positions meeting the more-likely-than-not threshold, the amount recognized in the financial statements is the largest benefit that has a greater than 50 percent likelihood of being realized upon ultimate settlement with the relevant tax authority. At the adoption date, we applied Interpretation 48 to all tax positions for which the statute of limitations remained open. Our preliminary analysis of the implementation of Interpretation 48 reveals that there is no material effect on our financial statements.

The amount of unrecognized tax benefits as of January 1, 2007, was $5.9 million (without regard to impact from alternative minimum tax in a future period) which, if ultimately recognized, will reduce our annual effective tax rate. There have been no material changes in unrecognized tax benefits, except for utilization of net operating loss carryforwards applied against net income for the three months ended March 31, 2007.

We are subject to income taxes in the U.S. federal jurisdiction and California. Tax regulations within each jurisdiction are subject to the interpretation of the related tax laws and regulations and require significant judgment to apply. With few exceptions, we are no longer subject to U.S. federal and California examinations by tax authorities for the years before 2003.

We will be under examination by the Internal Revenue Service for the 2004 and 2005 tax years. We expect the examination to be concluded and settled in the next 12 months. The Company, which has recorded unrecognized tax benefits of $5.9

11




million related primarily to tax net operating loss deductions, believes it is reasonably possible that the resolution of these examinations could result in no additional tax due.

We had not accrued interest and penalties at January 1, 2007 because in management’s judgment there are not tax positions requiring the accrual.

9.             Contingencies

We are subject to various legal proceedings and claims that arise in the ordinary course of business.  Although the Company believes it has defenses to the allegations and intends to pursue them vigorously, management does not currently have sufficient information to assess the validity of the claims or the amount of potential damages.  Company management currently believes, however, that resolution of such legal matters will not have a material adverse impact on the Company’s financial position, results of operations or cash flows.

Yossi Gatlin  v. Bidz.com

We are a defendant in a lawsuit brought by Yossi Gatlin in October 2005 for an automobile purchased from us in March 2002 for $28,000. Gatlin alleges that we did not provide prior registration so that Gatlin was not able to register the vehicle. Gatlin is claiming his payment of $28,000, the value of the automobile represented to be $350,000, and loss of the use of the automobile in the amount of $100,000. In April 2007, we have reached an agreement in principle to settle the case.

Cartier v. Bidz.com

We are a defendant in a lawsuit filed by Cartier, and Cartier International, B.V., in the United States District Court Southern District of New York in April 2006. The lawsuit alleges that Cartier has proprietary rights, including trade dress, patents, trademarks, copyrights and others, in watch designs known as a Tank, Tank Francaise, Tank Americaine, Panthere and Pasha De Cartier Grille, and Tank Devan, and further alleges that we have infringed upon those rights by selling watches bearing copies of one or more of the watch designs. We intend to defend the lawsuit vigorously. We do not believe the outcome of the case will have a materially adverse effect on our financial position.  The court has yet to set a trial date.

Shareholder lawsuits

Bidz.com and David Zinberg are defendants in two lawsuits brought by three shareholders, who invested a total of $85,000, and are seeking a return of their investments. We do not believe the outcome of these cases  will have a materially adverse effect on our financial position and we intend to defend the lawsuits vigorously.

Prior Sales of Securities

From our inception until mid-2003, we raised over $20.5 million in gross equity capital by selling shares of our common stock to approximately 830 investors at prices ranging from $4.00 to $6.00 per share with a weighted average share price of $4.50. We also issued shares of common stock to about 30 persons in exchange for services and other non-cash consideration valued in excess of $5.5 million and issued approximately 250 stock option grants to purchase common stock at a weighted average exercise price of $4.45. After conducting these sales of our securities, we determined that these sales were not exempt from the registration requirements under the Securities Act of 1933 and similar provisions of laws of the states in which our stockholders reside, because certain of our employees who solicited investors engaged in a “general solicitation” of securities. In addition, these employees received compensation for selling our common stock and were required to be licensed as broker-dealers with the Securities and Exchange Commission, or SEC, and various state authorities, but they were not so licensed. In such situations, a number of remedies may be available to regulatory authorities and the investors who purchased common stock in those offerings, including a right of rescission, civil penalties, a restraining order or injunction, and a court order to pay restitution and costs.

If we were ordered to rescind all purchases of our common stock by stockholders not affiliated with us, we could be required to make an aggregate payment to the holders of these shares of up to approximately $20.5 million, in addition to statutory interest of $11.9 million, as of March 31, 2007. We may also be liable for the $5.5 million of services rendered and property exchanged in consideration for the issuance of common stock, in addition to interest of approximately $3.0 million through March 31, 2007. In addition, we may be liable for the $1.3 million that we anticipate offering to non-management optionees as the optionees did not receive information regarding our potential liability for these violations of federal and state securities laws. In addition, regulators could impose monetary fines or other sanctions as provided under these laws.

12




The probability that stockholders would assert a claim against us and the extent of the our liability, if any, are contingent on a number of factors, including a stockholder’s desire to rescind his or her investment, applicable legal precedent, and statutes of limitation. As of the date of this filing, three of our shareholders have filed actions seeking a return of their investment in our common stock, in the aggregate of $85,000, and unspecified damages.  Based on current facts known to management at this time, management does not believe that assertion of any such claims by the Company’s shareholders in a material amount is probable. Accordingly, no accruals for either potential amounts payable or reserves have been made at this time.

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

The following discussion should be read in conjunction with the financial statements and related notes which appear elsewhere in this form. This discussion contains forward-looking statements. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of various factors, including various risks and uncertainties discussed below and throughout this report.

Overview

We are a leading online retailer of jewelry, featuring a live auction format. We have established our retail brand in the online marketplace by offering high-quality merchandise, a unique user-friendly shopping experience, and the opportunity for buyers to achieve significant cost savings versus traditional retail channels. A key to our success has been our ability to efficiently and effectively source closeout and regular merchandise, and rapidly respond to changing consumer demands for certain jewelry. We offer our products through a continuous live format, featuring “no reserve” auctions, a $1 minimum opening bid and a unique 15-second auction extension period that allows our auctions to continue until all bids are received.  The majority of our auctions are short-term, often lasting less than one hour, providing immediate gratification to our customers and encouraging frequent visits and active viewing of our website. Our product inventory includes gold, platinum, and silver jewelry set with diamonds, rubies, emeralds, sapphires, and other precious and semi-precious stones; and watches.  We believe we are the second largest online retailer of jewelry based on revenue and the largest online jewelry auction site based on web traffic.

In assessing our business, we consider operational and non-financial performance metrics, such as average selling price per order, average orders per day, average items sold per day, acquisition cost per new buyer, and number of new buyers. We averaged daily sales of approximately 9,482 items or 3,317 orders with an average sales transaction amount per order of $154 in the three month period ended March 31, 2007.

We sell to consumers and resellers looking for reliable bargains on jewelry. Because we purchase and retain all of our jewelry inventory onsite, we can provide our customers with timely service and delivery of their purchases. In addition, each item is inspected by one of our trained product specialists prior to its placement on our website, which assures our customers of the quality of our products. We operate in a highly competitive market with low barriers to entry. By selling our own merchandise, we provide a buying environment in which we minimize fraudulent activity and questionable product quality frequently associated with purchase transactions from third-party sellers. We also provide a 15-day return policy on all merchandise. We believe that many of our customers resell merchandise that they purchase from our auctions on eBay, at local auctions, and through other retail channels. Our auctions are conducted 24 hours a day, seven days a week. We also offer 24-hour online customer support.

Critical Accounting Policies

The preparation of our financial statements requires us to make certain estimates and judgments that affect amounts reported and disclosed in our financial statements and related notes. We base our estimates on historical experience and on other assumptions that we believe to be reasonable under the circumstances. Actual results may differ from these estimates. The following are the critical accounting policies that we believe require significant estimation and judgment.

Revenue Recognition

We derive our revenue from five sources: merchandise sales, shipping revenue, auction transaction fee revenue, commission revenue and advertising revenue. In accordance with SAB 104, we recognize revenue from all five sources when the following revenue recognition criteria are met: (1) persuasive evidence of an arrangement exists; (2) the product has been shipped or the service has been rendered and the customer takes ownership and assumes the risk of loss; (3) the selling price is fixed or determinable; and (4) collection of the resulting receivable is reasonably assured.

 

13




We recognize merchandise sales upon shipments made to consumers that are fulfilled from our warehouse. We generally require online payment by credit card or other electronic payment methods at the point of sale. We record amounts received or billed prior to shipment of goods to customers as deferred revenue. We reduce gross sales by returns and chargebacks from customers.

 We present sales tax liability on a net basis in accordance with Emerging Issues Task Force (“EITF”) Issue No. 06-03.  Sales are not grossed up with the attendant taxes and deducted as a separate line item. The EITF becomes effective for interim and annual reporting periods beginning after December 15, 2006.

We report shipping and handling fees and costs in accordance with Emerging Issues Task Force (“EITF”) issue No. 00-10, “Accounting for Shipping and Handling Fees and Costs.” As such, in the Statement of Operations all amounts billed to customers by us related to shipping and handling are included in “Net revenue” and our shipping costs are included in “Cost of revenue.”

We include auction transaction fee revenue in net revenue. The 3% auction transaction fee is applied to all merchandise sales, including shipping and handling, but not to sales tax.

We derive commission’s revenue from sales of Certified Merchant merchandise that is owned by third parties and recognize that revenue when services have been rendered. For commission revenue, we recognize as revenue only the commission portion of the price our customers pay for the purchased products because we are acting as an agent in such transactions. Commissions are also reduced by the impact of returns and other discounts redeemed to obtain such sales.

We recognize advertising revenue from allowing other companies to advertise on our web site when the services are rendered and the advertising revenue is known and collectible.

Return and Allowance Reserve

We estimate potential future product returns and chargebacks  related to current period revenue. We analyze historical returns and changes in customer demand and acceptance of our products when evaluating the adequacy of the sales returns reserve and other allowances in any accounting period. If actual returns and chargebacks are greater than our estimates, we will record additional returns and allowances in addition to our estimates, which will result in lower net revenue recorded during that period.

Prepaid Inventory

We record payments made to our suppliers for purchases we have yet to receive as prepaid inventory until they are in our physical procession and satisfactorily examined; we then categorize them as inventory.

Inventory Reserve

We record reserves against our inventory for lower of cost or market equal to the difference between the cost of inventory and the estimated market value based upon assumptions about future demand and market conditions. We also record reserves of 100% of the value of inventory held for more than one year..

Stock-Based Compensation

On January 1, 2006, we adopted SFAS No. 123 (revised 2004), ‘‘Share-Based Payment’’ (‘‘SFAS 123R’’) requiring that share-based payment transactions be recognized in the financial statements based on the fair value of the equity or liability instrument issued. We use the Black-Scholes option pricing model to estimate the value of our options in implementing SFAS 123R and the calculated method to determine expected volatility. Under SFAS 123R stock-based compensation expense recognized during the period is based on the value of the portion of stock-based payment awards that is ultimately expected to vest. Accordingly, stock-based compensation expense recognized in the statements of income will be reduced for estimated forfeitures. SFAS 123R requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates.

14




Description of Our Revenue, Costs, and Expenses

The following table presents our historical results of operations for the periods indicated as a percentage of net revenue.

 

 

Three Months Ended March 31,

 

 

 

2006

 

2007

 

 

 

 

 

 

 

Net Sales

 

100.0

%

100.0

%

Gross Profit

 

26.5

 

24.9

 

Operating Expenses:

 

 

 

 

 

 General & Administrative

 

9.7

 

10.8

 

 Sales & Marketing

 

6.9

 

5.8

 

 Depreciation & Amortization

 

0.2

 

0.2

 

Total Operating Expenses

 

16.8

 

16.8

 

Profit from Operations

 

9.7

 

8.1

 

Interest income

 

0.1

 

0.0

 

Interest expense

 

 

0.2

 

Income tax expense

 

0.3

 

0.2

 

Net Income

 

9.5

%

7.7

%

 

Net Revenue

Substantially all of our net revenue consists of jewelry sold via the Internet, net of returns. We also generate net revenue from shipping and handling, auction transaction fee, commissions from Certified Merchants, and advertising revenue.

The following table presents our sources of revenue for the periods indicated as a percentage of net revenue.

 

Three Months Ended March 31,

 

 

 

2006

 

2007

 

 

 

 

 

 

 

Net Sales

 

 

 

 

 

 Merchandise sales

 

85.0

%

85.9

%

 Shipping & handling

 

11.7

 

10.8

 

 Transaction fees

 

3.1

 

3.1

 

 Commissions

 

0.2

 

0.2

 

 Advertising

 

0.0

 

0.0

 

Total Net Sales

 

100.0

%

100.0

%

 

Gross Profit

Our gross profit consists of net revenue less the cost of sales. Our cost of sales consists of the cost of merchandise sold to customers, inbound and outbound shipping costs, packaging and shipping supplies, insurance on shipments, product repair and service costs, and credit card and other transaction fees associated with payments.

General and Administrative Expenses

Our general and administrative expenses consist primarily of payroll and related benefit costs for our employees. These expenses also include fulfillment, customer service, technology, professional fees, other general corporate expenses, and stock-based compensation, consisting substantially of stock option grants and stock grants to employees and consultants.

Sales and Marketing Expenses

Our marketing expenses consist primarily of costs associated with paid website search marketing, online banner marketing, e-mail campaigns, affiliate programs and optimization services. These marketing programs, which are designed to drive buyers to our website, are the most important factors in increasing demand for our jewelry products and increasing net revenue.

15




Comparison of Three Months Ended March 31, 2006 to Three Months Ended March 31, 2007

Net income in the three months ended March 31, 2007 was $3.4 million, or $0.15 and $0.14 per basic and diluted share, respectively. In the three months ended March 31, 2006, net income was $3.3 million and net income per basic and diluted share was $0.14. Net revenue increased by 28.9% in the three months ended March 31, 2007 compared to the three months ended March 31, 2006 while the net income increased by 4.3% over the same period. The increase in net income was due primarily to increased revenue offset by lower gross profit margins as a percentage of revenue.

Net Revenue

Net revenue increased 28.9% to $44.7 million in the three months ended March 31, 2007 from $34.7 million in the three months ended March 31, 2006. This increase in net revenue was due primarily to the growth in demand for our jewelry products and the increase in average sales amount per order.

We anticipate that the net revenue will be lower for the second and third quarter periods of 2007 compared to the three months ended March 31, 2007 as the second and third quarters are seasonally weak periods for jewelry sales.

Gross Profit

Gross profit increased 21.2% to $11.1 million in the three months ended March 31, 2007 from $9.2 million in the three months ended March 31, 2006. The increase in gross profit resulted from the increase in sales revenue which rose by 28.9% for the three months ended March 31, 2007 from the three months ended March 31, 2006 offset by the lower gross profit margin of 24.9% in three months ended March 31, 2007 compared to 26.5% in the three months ended March 31, 2006.

Gross profit margins improved starting in February 2007 after we stopped free shipping promotions toward the end of January 2007. In the three months ended March 31, 2006, there was no free shipping promotions. Since we do not anticipate any major free shipping promotions in the foreseeable future, gross profit margins for the remainder of the fiscal year is expected to be better than the corresponding period of the prior year, when we had free shipping promotions.

General and Administrative Expenses

General and administrative expenses increased 44.5% to $4.8 million in the three months ended March 31, 2007 from $3.4 million in three months ended March 31, 2006. The increase in general and administrative expenses was due to our overall growth and includes increases in payroll and payroll related expenses, outsourcing and administrative expenses. General and administrative expenses as a percentage of net revenue increased to 10.8% in the three months ended March 31, 2007 from 9.7% in the three months ended March 31, 2006.

Sales & Marketing Expenses

Sales and marketing expenses increased 8.0% to $2.6 million in the three months ended March 31, 2007 from $2.4 million in the three months ended March 31, 2006. Sales and marketing expenses as a percentage of net revenue decreased to 5.8% in the three months ended March 31, 2007 from 6.9% in the three months ended March 31, 2006. Our efforts to control the sales and marketing expenses have been successful in keeping the rate of increase below the growth rate in net revenue.

In line with expected lower revenue in the second and third quarter periods of 2007 compared to the three months ended March 31, 2007 sales and marketing expenses are also expected to be lower in the second and third quarters of the year..

Additional Quarterly Data

 

Three Months Ended March 31,

 

 

 

2006

 

2007

 

 

 

 

 

 

 

Average selling price per order (gross)

 

$

142

 

$

154

 

Average orders per day

 

2,901

 

3,317

 

Average items sold per day

 

7,173

 

9,482

 

Acquisition costs per new buyer

 

38

 

45

 

Number of new buyers

 

63.618

 

58,056

 

 

16




Liquidity and Capital Resources

The significant components of our working capital are inventory and liquid assets such as cash and accounts receivable, reduced by revolving credit line, accounts payable, accrued expenses and deferred revenue. Our business model contains beneficial working capital characteristics: while we collect cash from sales to customers within several business days of the related sale, we typically have extended payment terms with our suppliers.

As of March 31, 2007, we had a working capital surplus of $9.4 million and have no long-term debt obligations. Net cash provided by operating activities was $42,000 in the three months ended March 31, 2007 compared to net cash provided of $120,000 in the three months ended  March 31, 2006. Cash in the three months ended March 31, 2007 was primarily affected by changes in net income, inventories, accounts payable and deferred revenue. The net cash in the three months ended March 31, 2006 was affected mainly by changes in net income, inventories and  accounts payable.

We recorded net income of $3.4 million in the three months ended  March 31, 2007 compared to $3.3 million in the three months ended  March 31, 2006. Cash flows from net income were used to meet our working capital requirements. In the three months ended  March 31, 2007, inventories increased by $321,000, prepaid inventory decreased by $1.8 million, accounts payable decreased by $7.5 million and deferred revenue decreased by $2.0 million. In the three months ended  March 31, 2006, inventories increased by $1.8 million and accounts payable decreased by $2.2 million. Inventories and accounts payable is affected by our revenue growth and changes in our inventory strategy. Our inventory strategy is influenced by our ability to secure inventory that we believe will improve our margins and the current revenue trend.

Net cash used in investing activities was $227,000 in the three months ended  March 31, 2007 compared to $127,000 in the three months ended  March 31, 2006. During the three months ended March 31, 2006 and 2007, respectively, net cash used for investing activities related mainly to capital expenditures for office and computer equipment and software. We expect capital expenditures in 2007 to be significantly higher than in 2006 as we upgrade our technology infrastructure. The sources of funds will be provided from our operating cash flows.

Net cash of $3.7 million and $0 were provided by financing activities in the three months ended March 31, 2007 and 2006, respectively. The financing activities were all related to our revolving credit line.

We believe that cash and cash equivalents currently on hand, cash flows from operations and the availability of a $15 million revolving line of credit will be sufficient to continue our operations and to pursue our growth strategy for the foreseeable future. Our future capital requirements will depend on many factors, including the rate of our revenue growth; the timing and extent of spending to enhance our website, network infrastructure, and transaction processing systems; the extent of our advertising and marketing programs; the levels of the inventory we carry; and other factors relating to our business. Enhancement of our website, network infrastructure, and transaction processing systems will require us to spend significantly more than we have in the past. Moreover, to date our spending in these areas has been lower than industry averages. We anticipate increasing our system expenditures to accommodate these needs in the future.

Related Party Transactions

During the three months ended March 31, 2006 and 2007, we purchased approximately 40.0% and 7.0%, respectively, of our merchandise from LA Jewelers, Inc. One of the owners of LA Jewelers, Saied Aframian, owns 1,228,000 shares of our common stock as of March 31, 2007.

ITEM 3 - QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK

Market risk represents the risk of loss arising from adverse changes in market rates and foreign exchange rates. We do not believe that a change in market interest rates would have a material effect on our results of operations or financial condition. Although we derive a portion of our sales outside of the United States, all of our sales are denominated in U.S. dollars. We have limited exposure to financial market risks, including changes in interest rates and foreign currency exchange rates.

ITEM 4 - CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

Management evaluated, with the participation of the Chief Executive Officer and Chief Financial Officer, the effectiveness of our disclosure controls and procedures as of the end of the period covered by this report. Based on that evaluation, we have concluded that there was a material weaknesses in the internal control environment related to the recording of merchandise inventory and cost of goods sold and, consequently, that the related disclosure controls and procedures are ineffective.

During the first quarter ended March 31, 2007, we identified errors in reconciling inventory purchases between our accounting system and our proprietary inventory system. Inventory purchases that were not properly recorded resulting in amounts improperly applied to cost of goods sold. The deficiency in internal controls was discovered during the account analysis and reconciliation process at period end. We immediately proceeded to develop new procedures to address this deficiency. The new procedures are scheduled to be operational in the next quarter.

17




ITEM 4T — CONTROLS AND PROCEDURES

Disclosure pursuant to this Item is not applicable to us until we become either a “large accelerated filer” or  an “accelerated filer,” as those terms are defined in Rule 12b-2 under the Securities Exchange Act of 1934, or until after the fiscal year ended on December 15, 2007 but before December 15, 2008.

PART II. OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

Yossi Gatlin v. Bidz.com

We are a defendant in a lawsuit brought by Yossi Gatlin in October 2005 for an automobile purchased from us in March 2002 for $28,000. Gatlin alleges that we did not provide prior registration so that Gatlin was not able to register the vehicle. Gatlin is claiming his payment of $28,000, the value of the automobile represented to be $350,000, and loss of the use of the automobile in the amount of $100,000.  In April 2007, we have reached an agreement in principle to settle the case.

Cartier v. Bidz.com

We are a defendant in a lawsuit filed by Cartier, and Cartier International, B.V., in the United States District Court Southern District of New York in April 2006. The lawsuit alleges that Cartier has proprietary rights, including trade dress, patents, trademarks, copyrights and others, in watch designs known as a Tank, Tank Francaise, Tank Americaine, Panthere and Pasha De Cartier Grille, and Tank Devan, and further alleges that we have infringed upon those rights by selling watches bearing copies of one or more of the watch designs. We intend to defend the lawsuit vigorously. We do not believe the outcome of the case will have a materially adverse effect on our financial position. The court has yet to set a trial date.

Shareholder lawsuits

Bidz.com and David Zinberg are defendants in two lawsuits brought by three shareholders, who invested a total of $85,000, and are seeking a return of their investments. We do not believe the outcome of these cases will have a materially adverse effect on our financial position and we intend to defend the lawsuits vigorously.

ITEM 1.A. RISK FACTORS

We believe the risks and uncertainties described below are the most significant we face. The occurrence of any of the following risks could harm our business. In that case, the value of our common stock could decline, and you may lose part or all of your investment. Additional risks and uncertainties not presently known to us or that we currently deem immaterial may also impair our operations.

We intend to establish a public market for our common stock on the OTC Bulletin Board (OTCBB) as a prerequisite to applying to list on The Nasdaq Stock Market; trading in our common stock may be illiquid and the market price may be volatile.

Presently, there is no public market for our common stock.  In order to provide liquidity to our shareholders, and as a prerequisite to listing on The NASDAQ Stock Market, we will establish a public market for our common stock on the OTCBB, which we anticipate will occur sometime in May 2007.  We will thereafter apply for listing on The NASDAQ Capital Market.  Our common stock may trade in low volumes, which would result in an illiquid market for our securities.  If the trading volume of our common stock is low, sales of even small amounts of our common stock may cause the price of our common stock to fluctuate greatly.  If limited trading in our stock continues, it may be difficult for investors to sell their shares in the public market at any given time at prevailing prices. An active public market for our common stock may not develop or be sustained.

Morevover, sales of a substantial number of shares in the public market, or the perception that such sales may occur, could

18




result in significant downward pressure on the price of our common stock. As of March 31, 2007, there were 23,252,654 shares of common stock outstanding. Of these shares, 45% are held by non-affiliates of the Company who have held those shares for more than two years and, pursuant to Rule 144 under the Securities Act, such shares may be sold without restriction. Shares held by affiliates of our company are subject to the resale limitations of Rule 144 described below.  As we did not consummate our planned initial public offering in 2006, any “lock up” agreements (i.e., agreements between us and a shareholder restricting the transferability of the shareholder’s shares for a period of time) are no longer effective..

Furthermore, we plan to register for offer and sale the shares of common stock that are reserved for issuance pursuant to stock options covered by our incentive stock option plans. Shares covered by such registration statements upon the exercise of stock options or warrants generally will be eligible for sale in the public market, except that affiliates will continue to be subject to volume limitations and other requirements of Rule 144. The issuance or sale of such shares could depress the market price of our common stock.

In general, under Rule 144 as currently in effect, any person, or persons whose shares are aggregated for purposes of Rule 144, who beneficially owns restricted securities with respect to which at least one year has elapsed since the later of the date the shares were acquired from us, or from an affiliate of ours, is entitled to sell within any three-month period a number of shares that does not exceed the greater of 1% of the then outstanding shares of our common stock and the average weekly trading volume in common stock during the four calendar weeks preceding such sale. Sales under Rule 144 also are subject to certain manner-of-sale provisions and notice requirements and to the availability of current public information about us.

We must continue to generate a high volume of visitor traffic to our website and convert those visitors into buyers

Our net revenue depends to a significant extent on the number of customers who visit our website to purchase merchandise and the dollar amount of their purchases. Generating increased traffic to our website and converting that traffic into buyers requires us to achieve effective results from our marketing campaigns; offer a wide variety of products that our customers can purchase at favorable prices; maintain a user-friendly shopping experience; ensure the satisfactory availability, performance, and reliability of our website, network infrastructure, and transaction processing systems; and provide high-quality customer service. Our business will be harmed if we are unable to increase our customer base and the dollar volume of the orders customers place with us.

We do not have a guaranteed supply of jewelry products, and we have a heavy concentration of inventory purchases from our top two suppliers.

The success of our business depends, in part, on our ability to offer our customers a wide variety of jewelry that they can purchase at prices that are substantially below those of traditional jewelry retailers. We do not have any formal or binding supply agreements with any of our manufacturers, distributors, or other suppliers for our supply of jewelry products. As a result, we do not have a guaranteed supply of jewelry products at favorable prices. Our inability to maintain and expand our jewelry supply relationships or the inability of our suppliers to continue to supply us with jewelry products at favorable prices would substantially harm our business and results of operations.

In addition, we have a heavy concentration of inventory purchases from a small number of suppliers. Our top two suppliers accounted for approximately 48.8% and 21.5% of our total purchases during the three months ended March 31, 2006 and 2007, respectively

The satisfactory availability, performance, and reliability of our website, network infrastructure, and transaction processing systems are critical to our ability to attract, retain, and service customers.

Any problems with the availability, performance, or reliability of our website, network infrastructure, or transaction processing systems could result in decreased customer traffic, reduced orders, reduced order fulfillment performance, and lower net revenue as well as negative publicity and damage to our reputation. In order to remain competitive, we must continually seek to improve and expand the functionality and features of our website, network infrastructure, transaction processing systems, and delivery and shipping functions to accommodate any substantial increase in the volume of traffic to and orders from our website. We may not be successful in these efforts, and we may not be able to project accurately the rate or timing of increases, if any, in the use of or sales from our website, or timely expand or upgrade our website, infrastructure, or systems to accommodate any such increases. Additionally, we may not be able to remedy any such availability, performance, or reliability problems in a timely manner, or at all, because we depend in part on third parties for such availability, performance, and reliability.

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Our business and results of operations could be harmed due to the lack of a comprehensive test bed for quality assurance and software application implementation

Our business depends in part on the efficient and uninterrupted operation of our electronic data processing systems. We do not employ a comprehensive test bed that would ensure high quality assurance when implementing changes to our internally developed application systems. Any problems with implementing software upgrades without going through a proper test environment could impact our business by decreasing customer traffic, reducing selling prices, reducing order fulfillment, or lowering net revenue and gross margins, all of which could produce negative publicity and damage our reputation. We plan to build a full featured test environment that will support all changes to our production applications. We are in the process of evaluating and implementing a test and staging environment for validating all changes to our production environment.

Our business operations could be disrupted due to the lack documentation of our internally developed software application systems and dependence on key system developers to maintain the system

Our business depends in part on continuous and uninterrupted online availability to our customers. Our internally developed software application systems are not fully documented and this makes it more difficult to locate and trouble shoot problems that may occur in our systems. Any delays in resolving system problems will result in longer disruptions to the service available to our customers and/or prevent our employees from performing their functions efficiently. The internally developed Auction platform, Billing, Shipping, and Inventory Control systems are not fully documented. We are dependent on institutional knowledge of our key system developers to provide ongoing support and functional enhancements. If we were to lose the services of these key systems support personnel, operations may suffer from system down time that would take longer than desirable to correct and return to normal operations.

We may face increasing costs to acquire new customers.

The acquisition of new customers is a key factor in increasing demand for our jewelry products and increasing our revenue. We currently attract new customers by driving traffic to our website using a marketing and advertising strategy that includes targeted keyword searches, online banner advertising, targeted e-mail advertising, and participation in affiliate programs. We do not maintain long-term contracts or arrangements with any companies, including any search engines, Internet portals, or other websites, and we may not successfully enter into additional relationships or maintain existing ones. Recently, we have experienced significantly higher rates for keyword search advertising. We expect that we may have to pay increasing fees to maintain, expand, or enter into new relationships with third-party search engines, Internet portals, and websites. In addition, traffic to our website could decline if our online marketing programs become less effective or the traffic decreases to the search engines, Internet portals, and websites with which we advertise. Our business could be materially and adversely affected if any substantial number of companies on which we advertise experience financial or operational difficulties or experience other corporate developments that adversely affect their performance. A failure to maintain or expand existing online advertising relationships or to establish additional online advertising relationships that generate a significant amount of traffic from other websites could result in decreased sales or limit the growth of our business.

Competition from online auctioneers and other online companies with greater brand recognition may adversely affect our sales.

The market for online auctions is rapidly evolving and intensely competitive. We expect competition to intensify further in the future. Barriers to entry are relatively low, and current and new competitors can launch new websites at relatively low cost using commercially available software.

We currently compete with a number of other companies, and other competitors may appear in the future. Our competitors currently include various online auction services and retailers that offer jewelry, including eBay, Blue Nile, Overstock, and uBid. We also encounter competition from national jewelry retail chains, such as Zales, Kay Jewelers, and Finlay Fine Jewelry, and mass retailers and other enterprises that sell jewelry, such as Wal-Mart, Target, J. C. Penney, Costco, QVC, and Home Shopping Network. Many of our competitors have greater brand recognition, longer operating histories, larger customer bases, and significantly greater financial, marketing, and other resources than we do. Smaller competitors may enter into strategic or commercial relationships with larger, more established, and well-financed companies. Other competitors may enter into exclusive distribution agreements with our suppliers that deny us access to suppliers’ products. Competitors may also devote greater resources to marketing and promotional campaigns and to website and systems technology than we do. We may not be able to compete successfully against current and future competitors or address increased competitive pressures. Furthermore, attempts have been made in the past to develop and market synthetic stones and gems to compete in the market for gemstones and gemstone jewelry. We expect such efforts to continue in the future. If any such efforts are successful in creating widespread demand for synthetic or alternative gemstone products, demand and price levels for our products could decline and our business and results of operations would be substantially harmed.

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We rely heavily on the sale of jewelry for our net revenue, and demand for these products could decline.

Luxury products, such as jewelry, are discretionary purchases for consumers. The volume and dollar amount of such purchases may be affected by adverse trends in the general economy and consumer perceptions of those trends, and purchases may significantly decrease during economic downturns. The success of our business depends in part on macroeconomic factors, such as employment levels, salary levels, tax rates, and credit availability, all of which affect disposable income and consumer spending. Any reduction in disposable income or consumer spending may affect us more significantly than companies in other industries.

Our net revenue and results of operations depend in part on the demand for jewelry. Consumers’ tastes are subject to frequent, significant, and sometimes unpredictable changes. Should prevailing consumer tastes for jewelry change or the demand for jewelry decrease, the sale of our products could decline and our business and results of operations would suffer.

Furthermore, our ability to increase our net revenue and enhance our profitability may depend on our ability to expand our product offerings beyond our current offerings. If we offer new products that are not accepted by customers, our brand and reputation could be adversely affected, our sales may fall short of expectations, and we may incur substantial expenses that are not offset by increased sales.

Because we carry all of our jewelry products in inventory, our net revenue and gross margin may decrease if we are unable to predict and plan for changes in consumer demand.

If our sales increase, we will be required to increase our inventory proportionately. Consumer tastes and preferences for jewelry products can change rapidly, thereby exposing us to significant inventory risks. Currently, because the products we sell also consist of closeout merchandise from manufacturers, distributors, and other suppliers, we have less control over the specific items that we offer for sale than we would if we primarily ordered goods for manufacture for us. In addition, it is important that we are able to purchase jewelry that we perceive to be in demand. The demand for specific products can change between the time we order items and when we sell them. As a result, we may be required to take significant inventory markdowns, which could reduce our gross margin, if we do not accurately predict these trends or if we overstock unpopular merchandise.

We rely on suppliers and third-party carriers as part of our fulfillment process, and these third parties may fail to meet shipping schedules or requirements.

We rely on suppliers to deliver our orders promptly, which we then carry in inventory to ensure availability and expedited delivery to our customers. We also rely on third-party carriers to ship our products to our customers. As a result, we are subject to various risks, including employee strikes and inclement weather, associated with the ability of third-party carriers to provide delivery services to meet our shipping needs and those of our suppliers. The failure of our suppliers and third-party carriers to deliver products to us or our customers in a timely manner or otherwise to serve us or our customers adequately would damage our reputation and brand and substantially harm our business and results of operations.

Increases in the cost of precious metals and precious and semi-precious stones would increase the cost of our jewelry products.

The jewelry industry is affected by fluctuations in the prices of precious metals and precious and semi-precious stones. The availability and prices of gold, silver, platinum, and other precious metals and precious and semi-precious stones may be influenced by such factors as cartels, political instability in exporting countries, changes in global demand, and inflation. Shortages of these materials or an increase in their prices could reduce the quantity of products we have available for sale and our ability to sell our products for more than our cost, causing reduced sales or lower margins.

Our business and results of operations would be harmed in the event of any failure of our auction and bidding systems hardware, which is located at a single third-party co-location facility, or any failure of our fulfillment and administrative hardware.

Our business depends in part on the efficient and uninterrupted operation of our computer and communications hardware. The servers and other hardware necessary to operate our website, including our auction and bidding systems, are located at a single third-party co-location facility in downtown Los Angeles. We rely on that facility to provide Internet access with the speed, capacity, and reliability we require. Our servers and other hardware that run our transaction processing, order fulfillment, and office administration tasks are located at our headquarters. Our servers and other hardware are vulnerable to damage or interruption from human error, fire, flood, power loss, telecommunications failure, terrorist attacks, acts of war, break-ins, earthquakes, and similar events. We do not currently have redundant systems in multiple locations or a formal disaster recovery plan, and our business interruption insurance may be insufficient to compensate us for any losses that may

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occur. In addition, our servers are vulnerable to computer viruses, physical or electronic break-ins, and similar disruptions, which could lead to interruptions, delays, loss of critical data, the inability to accept and fulfill customer orders, or the unauthorized disclosure of confidential customer data. System disruptions or failures would also create a large number of customer questions and complaints that need to be addressed by our customer service support personnel. The occurrence of any of the foregoing risks could substantially harm our business and results of operations. Our systems are vulnerable to damage or interruption from earthquakes, floods, fires, power loss, telecommunication failures, terrorist attacks, computer viruses, computer denial-of-service attacks, and similar events.

We may not be able to increase our capacity or respond to rapid technological changes in a timely manner or without service interruptions, which may harm our business.

We may not be able to accommodate any substantial growth in traffic or user demand on our website, network infrastructure, and transaction processing systems in a timely manner or without substantial costs. If we are unable to upgrade our existing technology, network infrastructure, and transaction processing systems to accommodate any increased sales volume, our potential customers may be dissatisfied and may purchase merchandise from our competitors. We may also fail to provide enough capacity in our customer service and sales support functions to provide a high level of customer service. A failure to implement new systems and increase customer service capacity effectively could adversely affect our sales. Enhancement of our website, network infrastructure, and transaction processing systems will require us to spend a significantly higher amount than we have in the past. Moreover, to date our spending in these areas as a percentage of revenue has been lower than industry averages. We anticipate increasing our system expenditures to accommodate these needs in the future.

We also intend to introduce additional or enhanced features and services to retain current customers and attract new customers to our website. We may experience difficulties that could delay or prevent us from introducing new features and services. If we introduce a feature or a service that is not favorably received, our current customers may not use our website as frequently and we may not be successful in attracting new customers. These new features or services also may contain errors that are discovered only after their introduction, and we may need to modify significantly the design of these features or services to correct errors.

Our growth will depend on our ability to increase the popularity of our website, and we may not be able to do so effectively.

We believe that continuing to increase the popularity of our website will be critical to expanding our business. Promoting and positioning our website will depend largely on the success of our marketing efforts and our ability to provide a variety and sufficient quantity of high-quality products at attractive prices in a convenient manner. Promoting our website will require us to increase our marketing budget and otherwise increase our financial commitment to creating and maintaining brand loyalty among users. Brand promotion activities may not yield increased revenue, and even if they do, any increased revenue may not offset the expenses we incur in building our website popularity and our brand. If we do attract new users to our website, they may not conduct transactions on a frequent basis or in sufficient dollar amounts. If we fail to promote and maintain our website or incur substantial expenses in an unsuccessful attempt to promote and maintain our brand, our business would be harmed.

We anticipate expanding our international sales activities, causing our business to become increasingly susceptible to numerous risks that could affect our profitability.

In the three months ended March 31, 2006 and 2007, 17.8% and 20.5%, respectively, of our net revenue was generated by shipments to customers outside of the United States. We plan, over time, to expand our reach into international markets. We do not, however, currently have any overseas fulfillment, distribution, or server facilities or any website content localized for foreign markets. We cannot be certain that we will be able to expand our global presence. In addition, there are certain risks associated with doing business on an international basis, including regulatory requirements, legal uncertainty regarding liability, tariffs, and other trade barriers, longer payment cycles, and potentially adverse tax consequences, any of which could adversely affect our business. Although our foreign sales historically have been denominated in U.S. dollars, we also may be subject to increased risks relating to foreign currency exchange rate fluctuations to the extent we decide to denominate our sales in foreign currencies.

Our ability to grow our business will be impaired by delays, interruptions, or failures of the Internet.

Our success depends on the continued growth and maintenance of the Internet. The Internet has experienced, and is likely to continue to experience, significant growth in the numbers of users and amount of traffic. If Internet usage continues to grow as anticipated, the infrastructure may not be able to support the level of usage and its performance and reliability may decline. If outages or delays on the Internet increase, overall Internet usage could grow more slowly or decline. In addition, the performance of the Internet may be harmed by increased number of users or bandwidth requirements or by viruses, worms,

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and similar issues. The Internet has experienced a variety of outages and other delays as a result of damage to portions of its infrastructure, and it could face outages and delays in the future. These outages and delays could reduce the level of Internet usage.

We depend on the continued growth and acceptance of online commerce, and our business will be substantially impaired if the growth of online commerce slows or does not grow as expected.

The business of buying and selling goods over the Internet is relatively new and dynamic. Our success depends on the widespread acceptance and use of the Internet as an effective medium for commerce by consumers. The acceptance and use of the Internet may not continue to expand as expected, and a sufficient broad base of consumers necessary for its continued growth may not adopt the Internet as a medium for commerce. Consumers who historically have used traditional means of commerce may have concerns about privacy, the inability to physically inspect merchandise before buying, delivery time, product damage during shipment, and the costs and inconvenience involved in returning purchased items, which may inhibit their crossover to e-commerce. In order to expand our user base, we must appeal to and acquire consumers who historically have used traditional means of commerce to purchase goods. If these new customers execute fewer or lower dollar amounts of orders than our historical users, and we are unable to gain efficiencies in our operating costs, including the cost of acquiring new customers, our business and profits could be adversely affected.

Our failure to protect confidential information of our customers and our network against security breaches could damage our reputation and substantially harm our business and results of operations .

A significant barrier to online commerce and communications is the secure transmission of confidential information over public networks. Third parties may have the technology or expertise to breach the security of customer transaction data. Our security measures may not prevent security breaches that could result in substantial harm to our business and results of operations and damage to our reputation. Currently, a majority of our sales are billed to our customers’ credit card accounts directly. Under current credit card practices, we are liable for fraudulent credit card transactions because we do not obtain cardholder signatures. We rely on encryption and authentication technology licensed from third parties to effect secure transmission of confidential information, including credit card numbers. We do not currently carry insurance against this risk. Advances in computer capabilities, new discoveries in the field of cryptography, or other developments may result in a compromise or breach of the technology we use to protect customer transaction data. In addition, anyone who is able to circumvent our security measures could misappropriate proprietary information or cause interruptions in our operations. Any such compromise of our security could damage our reputation and brand and expose us to a risk of loss or litigation and possible liability, which would substantially harm our business and results of operations.

We are vulnerable to fraudulent activities on our website, including unauthorized use of customer information and identity theft by third parties .

Our network security measures to prevent third parties from penetrating our network and improperly accessing our customers’ personal information or credit card information may not be successful. Although we have not experienced any theft of our customers’ credit card information to date, as new discoveries in the field of cryptography and advances in computer capabilities occur, our security measures may not effectively prevent others from obtaining improper access to our customer information. In addition, third parties may target our customers directly with fraudulent identity theft schemes designed to appear as legitimate e-mails from us. In March 2006, one such third party attempted to solicit customer information through a tactic, commonly known as “phishing,” whereby an e-mail purporting to be from us solicited customer information from recipients of the e-mail. Any such security breach or fraud perpetrated on our customers could expose us to increased costs and could harm our business and results of operations.

Increased product returns and the failure to predict product returns could substantially harm our business and results of operations .

As we expand our business and product offerings, rates of product return may increase. Any significant increase in product returns above our return assumptions and allowances could substantially harm our business and results of operations.

Our inventory is vulnerable to damage or loss caused by fire, flood, earthquakes, and similar events, and we face the risk of theft of our products from inventory or during shipment.

All our inventory is stored at our warehouse/office facility in Culver City, California. Consequently, our merchandise supply is vulnerable to fire, flood, earthquakes, and similar events that may impact our facility. Any damage to or loss of all or a significant portion of our inventory could cause significant delays in shipment of goods to our customers, resulting in negative publicity about and diminished customer confidence in our website. In addition, we may experience theft of our products while they are being held in inventory or during the course of their shipment to our customers by third-party

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carriers. We have implemented security measures to prevent such theft and maintain insurance to cover losses resulting from theft. Nevertheless, we could incur significant losses from theft, which would substantially harm our business and results of operations, if our security measures fail, losses exceed our insurance coverage, or we are not able to maintain insurance at a reasonable cost.

Customer complaints or negative publicity about our customer service could adversely affect our reputation and, as a result, our business could suffer.

Customer complaints or negative publicity about our customer service could severely diminish consumer confidence in and the use of our website. Effective customer service requires significant personnel expense, and this expense, if not managed properly, could significantly impact our profitability. The failure to manage or train our customer service representatives properly could compromise our ability to handle customer inquiries and complaints effectively. If we do not handle customer inquiries and complaints effectively, we may lose customer confidence. As a result, our revenue could suffer and our operating margin may decrease.

Increases in credit card processing fees could increase our costs.

Visa, MasterCard, American Express, and Discover Card could increase the interchange fees that they charge for transactions using their cards. Increases in interchange fees may result in increased operating costs and reduced profit margin.

Our limited operating history makes it difficult for us to forecast accurately net revenue and appropriately plan our expenses.

We have a limited operating history. As a result, it is difficult to forecast accurately our sales or operating expenses. We base our estimated expense levels on our operating forecasts and estimates of future sales. Sales and results of operations are difficult to forecast because they generally depend on the number, dollar volume, and timing of the orders we receive, which are uncertain. Some of our expenses are fixed, making it difficult to adjust our spending in a timely manner to take into account any unexpected shortfall in sales. We may also be unable to adjust spending in a timely manner to compensate for any unexpected sales shortfall, which could cause our net income in a given quarter to be lower than expected.

We incurred losses from operations prior to fiscal 2004 and have accumulated a significant deficit.

Prior to fiscal year 2004 we experienced significant operating losses. At March 31, 2007, we had an accumulated deficit of $18.1 million. We cannot be certain that the improvements in our operations resulting since 2004 will continue in the future. See “Management’s discussion and analysis of financial condition and results of operations—Liquidity and Capital Resources.”

We may default on our obligations, if we are unable to generate sufficient cash through sales in a timely manner.

Since our formation, we have funded our operations through the sale of equity securities and cash generated from operations. The working capital characteristics of our business have allowed us to collect cash from sales to customers within several business days of the related sale, while we typically have extended payment terms with our suppliers. We do not, however, have any formal or binding supply agreements with any of our suppliers, manufacturers, distributors, or other suppliers or any other formal agreements with them on payment terms. Accordingly, there is a risk that we may default on our obligations if we are unable to generate sufficient cash through sales in a timely manner or through our credit facility.

Seasonal fluctuations in our net revenue could cause our quarterly results to fluctuate and cause our results of operations to be below expectations .

Historically, sales in the jewelry industry are seasonal and have been higher in the fourth quarter of the calendar year as a result of higher consumer spending during the December holiday season. Approximately 29.3%, 33.9% and 28.5% of our net revenue in 2004, 2005 and 2006, respectively, was generated during the fourth quarter. As we continue to grow, we expect to experience more pronounced seasonal fluctuations in our net revenue and anticipate a disproportionate amount of our revenue will occur in the fourth quarter. In anticipation of any increased sales activity during the fourth quarter, we may incur significant additional expenses, including higher sales and marketing costs and additional staffing in our fulfillment and customer support operations. If we were to experience lower than expected sales during any future fourth quarter, it would have a disproportionately large impact on our results of operations for that year. In the future, our seasonal sales patterns may become more pronounced, may strain our personnel and fulfillment activities, and may cause a shortfall in sales compared with expenses in a given period, which would substantially harm our business and results of operations.

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Sales growth in prior periods may not be indicative of our future growth.

Our sales have fluctuated significantly in the past, in part, as a result of varying amounts of funds we have spent on advertising and inventory levels and may fluctuate significantly in the future because of increasing advertising and inventory costs. These factors may prevent the meaningful use of period-to-period comparisons of financial results. For these and other reasons, investors should not rely on past sales growth rates as a prediction of our future sales growth.

We have grown quickly, and our business will suffer if we fail to manage our growth .

We have expanded our operations at a rapid pace. This expansion has placed a significant strain on our management, operations, and financial resources. We anticipate adding personnel in the future, including managerial, technical, and operations personnel. In order to manage any further growth of our operations, we also will be required to improve existing and implement new transaction-processing, operational and financial systems, procedures, and controls. If we are unable to manage growth effectively, our business and results of operations will be harmed.

Descriptions of our jewelry items are not guarantees and may confuse, mislead, or disappoint our customers .

In an effort to provide accurate descriptions of jewelry posted on our website, we provide appraisal summaries from third-party gemological laboratories for some of our jewelry items. All other jewelry and watch descriptions are provided by our full-time Gemological Institute of America, or GIA, trained gemologists and several experienced product specialists. Nevertheless, there is a subjective component involved with respect to assessing the clarity, color, and carat characteristics of diamonds and other gemstones. In addition, mistakes or omissions of important information in our descriptions may occur. Even if our descriptions are accurate, buying a product online may lead to disappointment resulting in returned merchandise. For example, a customer may determine that a piece does not have the expected look, feel, and overall appearance of the merchandise that the buyer envisioned from the website photograph.

Additionally, in response to customer requests and as a courtesy to resellers, we provide “Compare” and/or “Close Now” prices for jewelry items listed on our website. Compare and Close Now prices are not meant to reflect fair market values or manufacturer suggested retail prices, and in fact, may be higher than prices found in local retail stores. As a consequence, perceived misrepresentations in item descriptions by disappointed buyers may occur, resulting in negative publicity about and diminished customer confidence in our website.

We may not be able to maintain our domain name uniqueness.

Our Internet domain name is critical to our success. Under current domain name registration practices, no other entity can obtain an identical domain name, but can obtain a similar name or the identical name with a different suffix, such as “.net” or “.org,” or with a different country designation, such as “jp” for Japan. We have not registered our domain name with different suffixes nor have we registered our name in any other jurisdiction. As a result, third parties may use domain names that are similar to our domain name, which may result in confusion to potential customers and lost sales. We are aware that other businesses have registered the name “bidz” with other suffixes and in other countries.

We may be unable to protect or enforce our own intellectual property rights adequately, and we may become subject to intellectual property litigation .

We regard the protection of our trademarks, copyrights, domain name, trade dress, and trade secrets as critical to our success. We rely on a combination of common law as well as trademark, copyright, trade dress, and trade secret laws to protect our intellectual property rights. We also have entered into confidentiality and invention assignment agreements with our employees and relevant contractors and nondisclosure agreements with relevant parties with whom we conduct business in order to limit access to and disclosure of our proprietary information. These contractual arrangements and other steps we have taken to protect our intellectual property may not prevent misappropriation of our intellectual property or deter independent development of similar intellectual property by others. We also are pursuing the registration of our domain name, trademarks, and service marks in the United States and internationally. Effective trademark, copyright, patent, trade dress, trade secret, and domain name protection is very expensive to maintain and may require litigation. We must protect our trademarks, copyrights, patents, and domain names in an increasing number of jurisdictions, a process that is expensive and may not be successful in every location.

Third parties may from time to time claim that we have infringed their intellectual property relating to our business model or auction systems. We expect that participants in our market increasingly will be subject to infringement claims as the number of services and competitors in our industry segment grows. Any claim like this, whether meritorious or not, could be time-consuming, result in costly litigation, cause service upgrade delays, or require us to enter into royalty or license agreements. These royalty or license agreements may not be available on acceptable terms or at all. As a result, any such claim could harm our business.

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We may be unable to enforce protection of our intellectual property rights under the laws of other countries.

We anticipate that we will become increasingly subject to international intellectual property risks, including differing intellectual property laws, which may be insufficient to protect our intellectual property, unique local laws, and lack of applicable law or clear precedent.

Various legal rules and regulations related to privacy and the collection, dissemination, and security of personal information may adversely affect our marketing efforts.

We are subject to increasing regulation at the federal, state, and international levels relating to privacy and the use of personal user information designed to protect the privacy of personally identifiable information as well as to protect against its misuse. These laws include the Federal Trade Commission Act, the CAN-SPAM Act of 2003, the Children’s Online Privacy Protection Act, the Fair Credit Reporting Act, the Homeland Security Act, and related regulations. Several states have proposed legislation that would limit the use of personal information gathered online or require online services to establish privacy policies. Moreover, proposed legislation in the United States and existing laws in foreign countries require companies to establish procedures to notify users of privacy and security policies, obtain consent from users for collection and use of personal information, and/or provide users with the ability to access, correct, and delete personal information stored by companies. These regulations and other laws, rules, and regulations enacted in the future may adversely affect our ability to collect, disseminate, or share demographic and personal information about users and our ability to e-mail or telephone users, which could be costly and adversely affect our marketing efforts .

We may be subject to a tax liability for past sales and our future sales may decrease if we are required to collect sales and use taxes on the products we sell .

In accordance with current industry practice and our interpretation of current law, we do not currently collect sales or other taxes with respect to shipments of goods into states other than California. However, one or more states or foreign countries may seek to impose sales or other tax obligations on us in the future. A successful assertion by one or more states or foreign countries that we should be collecting sales or other taxes on the sale of our products could result in substantial tax liabilities for past and future sales, discourage customers from purchasing products from us, decrease our ability to compete with traditional retailers, and otherwise substantially harm our business, financial condition, and results of operations.

We may be subject to regulations governing the conduct and liability of auctioneers, which could affect the way in which we conduct our business or otherwise increase our cost of doing business.

Numerous states and foreign jurisdictions, including California, where our headquarters is located, have regulations regarding how auctions may be conducted and the liability of auctioneers in conducting such auctions. No final legal determination has been made whether the California regulations apply to our business, and little precedent exists in this area. Several states and some foreign jurisdictions have attempted, and may attempt in the future, to impose regulations that could affect us or our users, which could harm our business.

We are subject to regulations relating to consumer privacy, which could increase the cost of our doing business, expose us to litigation costs, increase our service or delivery costs, and otherwise harm our business.

Several states have proposed, and California, Minnesota, Utah, and Vermont have recently passed, legislation that would limit the uses of personal user information gathered online or offline. Many states already have such laws and continually consider strengthening them, especially against online services. However, the Fair Credit Reporting Act, or FCRA, a federal statute enacted in 1970 to protect consumer privacy, includes a provision preempting conflicting state laws on the sharing of information between corporate affiliates. The preemptive provisions of FCRA were permanently extended in 2002, thereby ensuring that we are not subject to the laws of each individual state with respect to matters within the scope of FCRA, but remain subject to the other provisions of FCRA.

The Federal Trade Commission also has settled several proceedings against companies regarding the manner in which personal information is collected from users and provided to third parties. Specific statutes intended to protect user privacy have been passed in many foreign jurisdictions. Compliance with these laws, given the tight integration of our systems across different countries and the need to move data to facilitate transactions among our users, such as payment companies and shipping companies, is both necessary and difficult. Failure to comply could subject us to lawsuits, fines, criminal penalties, statutory damages, adverse publicity, and other losses that could harm our business. Changes to existing laws or the passage of new laws intended to address these issues could directly affect the way we do business or could create uncertainty on the use of the Internet. This could reduce demand for our products, increase the cost of our doing business, expose us to litigation costs, increase our service or delivery costs, or otherwise harm our business.

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New and existing regulations could harm our business .

We are subject to the same foreign and domestic laws as other companies conducting both online and offline business. There are still relatively few laws specifically directed towards online business. However, due to the increasing popularity and use of the Internet and online services, many laws relating to the Internet are being debated at all levels of government around the world, and it is possible that such laws and regulations will be adopted. These laws and regulations could cover issues such as user privacy, freedom of expression, pricing, fraud, content and quality of products and services, taxation, advertising, intellectual property rights, and information security. Applicability to the Internet of existing laws governing issues, such as property ownership, copyrights and other intellectual property issues, taxation, libel and defamation, obscenity, and personal privacy is uncertain. The vast majority of these laws was adopted prior to the advent of the Internet and related technologies and, as a result, do not contemplate or address the unique issues of the Internet and related technologies. Those laws that do reference the Internet, such as the U.S. Digital Millennium Copyright Act and the European Union’s Directive on Distance Selling and Electronic Commerce, have only recently begun to be interpreted by the courts and implemented by the European Union member states, so their applicability and scope remain uncertain. As our activities and the types of goods listed on our website expand, regulatory agencies may claim that we or our users are subject to licensure in their jurisdiction, either with respect to our business in general, or in order to allow the sale of certain items, such as real estate, event tickets, boats, and automobiles.

In addition, because our products are available over the Internet in multiple states and because we sell merchandise to consumers residing in multiple states, we could be required to qualify to do business as a foreign corporation in each state in which our products are available. Our failure to qualify as a foreign corporation in a jurisdiction in which we are required to do so could subject us to penalties. Any new legislation or regulation, or the application of laws or regulations from jurisdictions whose laws do not currently apply to our business could have a material adverse affect on our business.

We depend to a very significant extent on David Zinberg, our Chairman of the Board, President, and Chief Executive Officer.

Our performance depends substantially upon David Zinberg, our Chairman of the Board, President, and Chief Executive Officer, who has extensive experience with the purchase and sale of jewelry. We rely on Mr. Zinberg to make critical operational decisions on a daily basis, such as product offerings and purchases, and to make key strategic plans. We have an employment agreement with Mr. Zinberg extending through 2009. The loss of the services of Mr. Zinberg would adversely affect our business and operations.

Holders of common stock issued by us in prior offerings are entitled to rescind their purchases.

From our inception until mid-2003, we raised over $20.5 million in gross equity capital by selling shares of our common stock to approximately 830 investors at prices ranging from $4.00 to $6.00 per share with a weighted average share price of $4.50. We also issued shares of common stock to about 30 persons in exchange for services and other non-cash consideration valued in excess of $5.5 million and issued approximately 250 stock option grants to purchase common stock at a weighted average exercise price of $4.45. After conducting these sales of our securities, we determined that these sales were not exempt from the registration requirements under the Securities Act of 1933 and similar provisions of laws of the states in which our stockholders reside, because certain of our employees who solicited investors engaged in a “general solicitation” of securities. In addition, these employees received compensation for selling our common stock and were required to be licensed as broker-dealers with the Securities and Exchange Commission, or SEC, and various state authorities, but they were not so licensed. In such situations, a number of remedies may be available to regulatory authorities and the investors who purchased common stock in those offerings, including a right of rescission, civil penalties, a restraining order or injunction, and a court order to pay restitution and costs.

If we were ordered to rescind all purchases of our common stock by stockholders not affiliated with us, we could be required to make an aggregate payment to the holders of these shares of up to approximately $20.5 million, in addition to statutory interest of $11.9 million, as of March 31, 2007. We may also be liable for the $5.5 million of services rendered and property exchanged in consideration for the issuance of common stock, in addition to interest of approximately $3.0 million through March 31, 2007. In addition, we may be liable for the $1.3 million that we will offer to non-management optionees as the optionees did not receive information regarding our potential liability for these violations of federal and state securities laws. In addition, regulators could impose monetary fines or other sanctions as provided under these laws.

Federal securities laws do not provide that a rescission offer will terminate a purchaser’s right to rescind a sale of stock that was not registered as required or was not otherwise exempt from such registration requirements. If any or all of the offerees reject a rescission offer, we may continue to be liable under federal and state securities laws for up to an amount equal to the value of all options and common stock granted or issued since the date of issuance plus any statutory interest we may be required to pay.

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We do not intend to pay dividends on our common stock, and, consequently, your only opportunity to achieve a return on your investment is if the price of our common stock appreciates.

We have never declared or paid any cash dividends on our common stock and do not intend to pay dividends on our common stock for the foreseeable future. We intend to invest any future earnings to fund our business. Therefore, stockholders likely will not receive any dividends on our common stock for the foreseeable future. Investors cannot be certain that they will receive a positive return on their investment when they sell their shares or that they will not lose the entire amount of their investment.

The concentration of our capital stock ownership with our founder and executive officers and directors and their affiliates will limit your ability to influence corporate matters.

Our founder, executive officers, and directors together own approximately 34.9% of our common stock as of March 31, 2007. Marina Zinberg, our Vice President, who is the sister of David Zinberg, our Chairman, President and Chief Executive Officer, owns an additional 33.1% of our common stock.  As a result, these individuals will have significant influence over our management and affairs and over all matters requiring stockholder approval, including the election of directors and the approval of significant corporate transactions, such as a merger or a sale of our company or its assets, for the foreseeable future. This concentrated control will limit the ability of other stockholders to influence corporate matters. Because of this, we may take actions that some of our stockholders do not view as beneficial. As a result, the market price of our common stock could be adversely affected because stockholders may not view favorably the concentration of control in the hands of management.

Our charter documents and Delaware law could make it more difficult for a third party to acquire us, and discourage a takeover .

On June 22, 2006, we reincorporated in Delaware, and the Delaware certificate of incorporation and the Delaware General Corporation Law, or DGCL, contain provisions that may have the effect of making more difficult or delaying attempts by others to obtain control of our company, even when these attempts may be in the best interests of our stockholders. The Delaware certificate of incorporation also authorizes our Board of Directors, without stockholder approval, to issue one or more series of preferred stock, which could have voting and conversion rights that adversely affect or dilute the voting power of the holders of common stock. Delaware law also imposes conditions on certain business combination transactions with “interested stockholders.” The Delaware certificate of incorporation divides our Board of Directors into three classes, with one class to stand for election each year for a three-year term after the initial election. The classification of directors tends to discourage a third party from initiating a proxy solicitation or otherwise attempting to obtain control of our company and may maintain the incumbency of our Board of Directors, as this structure generally increases the difficulty of, or may delay, replacing a majority of directors. The Delaware bylaws authorize our Board of Directors to fill vacancies or newly created directorships. A majority of the directors then in office may elect a successor to fill any vacancies or newly created directorships.

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

On February 2, 2007, we awarded and issued as director compensation a total of 18,750 shares of common stock to our non-employee directors, Man Jit Singh and Peter Hanelt, stock awards of 8,750 and 10,000 shares, respectively, in lieu of stock options. These shares were issued in reliance on the exemption from registration under Section 4(2) under the Securities Act of 1933. We grant annually to each non-employee director options to purchase 10,000 shares of our common stock. In lieu of receiving such stock options, non-employee directors may elect to receive one share of common stock for each option to purchase two shares of common stock. Non-employee directors also will receive stock options (or restricted stock in lieu thereof) for committee service per year in addition to the standard non-employee director compensation: options to purchase an additional 5,000 shares of common stock to the Chairman of the Audit Committee, and options to purchase an additional 2,500 shares of common stock to each member of our Audit Committee (other than the Chairman), Compensation Committee and Corporate Governance and Nominating Committee. The fair market value of the shares granted was $6.00 per share, which was determined based on a combination of factors that include recent share transactions between shareholders and an independent valuation of the Company. The stock-based expense from stock awards for the three months ended March 31, 2006 and 2007 totaled $0 and $112,000, respectively.

During the three months ended March 31, 2007, we issued 490,000 stock options to purchase shares in our common stock under our 2006 Award Plan. The stock options were granted at prices above the fair market value of our common stock on the date of grant and have a four year vesting period with 25% vesting on each subsequent anniversary of the grant date. The stock options expire 5 years from the grant date. These options to purchase common stock were issued in reliance on the exemption from registration under Section 4(2) under the Securities Act of 1933.

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ITEM 6. EXHIBITS.

31.1

 

Principal Executive Officer Certification Pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934

 

 

 

31.2

 

Principal Financial Officer Certification Pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934

 

 

 

32.1

 

Certifications Pursuant to Rule 13a-14(b) of the Securities Exchange Act of 1934

 

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SIGNATURES

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

 

BIDZ.COM, INC.

 

 

 

 

By:

/s/ DAVID ZINBERG

 

 

 

 

 

David Zinberg

 

 

President and Chief Executive Officer

 

 

 

 

By:

/s/ LAWRENCE KONG

 

 

 

 

 

Lawrence Kong

 

 

Principal Accounting Officer

 

 

 

Dated: April 30, 2007

 

 

 

 

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