Kaboose Inc Annual Report

Transcription

1 Kaboose Inc Annual Report kaboose.com funschool.com zeeks.com birthdayinabox.com

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3 Fellow Shareholders: I am pleased to report that Kaboose s performance in fiscal 2005 exceeded management s expectations. We achieved revenue of 6.58 million, an increase of 184% over the 2.32 million recorded in fiscal In addition, having successfully raised 10 million through a private placement in November 2005, Kaboose finished the year with a strengthened balance sheet, including cash or cash equivalents of million, assets of million and no debt. These results have provided Kaboose with a solid financial foundation from which to pursue its growth initiatives. In 2005, we achieved several significant financial and operational milestones: Reported revenue for the year of 6.58 million, compared to 2.32 in the previous year, an increase of 184%; Strengthened our balance sheet including total cash or cash equivalents of million, assets of million and no debt; Successfully raised 10 million through a private placement in November; Added a number of new, high-profile clients, including General Motors, Heinz, General Electric, Sara Lee, Sony and Frito-Lay; Reached over 8 million unique monthly users in December 2005, the highest number of unique monthly users in the Company s history, according to WebTrends; Graduated to the Toronto Stock Exchange in February 2006, three months after initial listing on TSX Venture Exchange, making it one of the fastest graduations to the senior exchange Launched its first international website, Kaboose.ca, in June, targeting users and advertisers in Canada; and, Acquired Birthday In A Box, a leading online provider of birthday party supplies directly to consumers. Subsequent to year-end, on May 1, 2006, we announced that we had signed a definitive agreement to purchase BabyZone.com, Inc., the largest independent online property focused on pregnancy and parenting. Then on May 11, we announced the closing of our acquisition of substantially all of the assets of Two Peas In A Bucket, the largest online scrapbooking community in the United States. The acquisition of BabyZone marks a significant opportunity for Kaboose to strengthen its market position and become a top five North American player in the online media space focusing on kids and families. BabyZone will also enable Kaboose to increase its user base, broaden its advertising reach and strengthen its financial position. By the time we hold our annual general meeting of shareholders, we expect to announce the closing of the BabyZone acquisition. DYNAMIC INDUSTRY GROWTH Kaboose operates in an exciting and fast growing segment of the media industry. According to a survey conducted by PricewaterhouseCoopers and sponsored by the Internet Advertising Bureau, internet advertising revenues have increased from approximately US267 million in 1996 to approximately US12.5 billion in This figure is expected to reach US21.9 billion by In addition, industry research provider, emarketer, predicts that the movement of advertising dollars from traditional media to the online medium will continue as consumers increase their time spent online. Kaboose helps advertisers reach a very targeted audience of moms and their kids ages 3 to 14. This segment is particularly attractive to advertisers because while the entire population is spending more of its media consumption time online, these two segments spend an above-average amount of time online and are both spending more time online than watching TV. As a result, advertisers are reallocating their budgets according to where their consumers can be found. The use of online advertising is particularly suited to demographically focused campaigns, which are important to advertisers seeking a cost-effective method to ensure their message is reaching a concentrated target audience. These trends have created very exciting growth prospects for the industry and for Kaboose specifically. Letter to Shareholders 1

4 LOOKING AHEAD Fiscal 2006 is already shaping up to be another exciting year for Kaboose. We have re-launched Kaboose.com and we are expecting to re-launch our FunSchool.com and Zeeks.com properties over the next several months. These new sites will not only make it easier for our users to find the content they seek, but also provide more opportunity for advertisers to reach our coveted audience. With the acquisitions of BabyZone and Two Peas, we anticipate that we will continue to achieve significant growth in revenues and users over the next year while accelerating our path to profitability. We expect to leverage BabyZone s revenues, unique monthly users and strong management team to further our strategy of becoming one of the leading online media companies in the family sector. In addition, it is our intent to leverage Two Peas strong community of users and position in the growing scrapbooking industry to generate additional revenues and cross-promotional opportunities with other Kaboose properties. These strategies to grow both our user and client base over the next year will help enhance and secure our leadership position in the market. Finally, I would like to personally thank all of our employees for their dedication to providing excellence in product experience for our users and service and value to our advertising clients. I would also like to express my gratitude for their hard work in maintaining those relationships, which we view as foremost in our ability to meet the expectations of our shareholders. From the entire Kaboose team, thank you for your continued support. We look forward to seeing you at our Annual Meeting of Shareholders on Wednesday, June 28, On behalf of management, Jason DeZwirek Chair and Chief Executive Officer 2 Kaboose Inc Annual Report

5 Management s Discussion and Analysis The following is a discussion and analysis of the audited financial position, results of operations and cash flows of Kaboose Inc. ( Kaboose or the Company ) for the three-month and twelve-month periods ended December 31, 2005 and 2004, and is intended to provide readers with an overview of the operations of Kaboose and a more detailed explanation of its financial results. The effective date of this management s discussion and analysis is April 24, This discussion and analysis should be read in conjunction with the Company s most recent audited financial statements as at and for the year ended December 31, The Company reports its financial results in Canadian dollars and under Canadian generally accepted accounting principles ( GAAP ). FORWARD-LOOKING STATEMENTS This discussion includes certain forward-looking statements that are based upon current expectations, which involve risks and uncertainties associated with the Company s business and the economic environment in which the business operates. Any statements contained herein that are not statements of historical facts may be deemed to be forward-looking statements, including those identified by the expressions anticipate, believe, plan, estimate, expect, intend and similar expressions to the extent they relate to the Company or its management. The forward-looking statements are not historical facts, but reflect Kaboose s current expectations regarding future results or events. These forward-looking statements are subject to a number of risks and uncertainties that could cause actual results or events to differ materially from current expectations, including the matters discussed under Risks and Uncertainties. OVERVIEW Kaboose is the largest independent online media company in the kids and family market in North America and is a top-10 global Internet destination for kids and families looking for entertaining, interactive and educational content. With over 1,000 games for kids and 12,000 pages of content for parents covering various topics, Kaboose helps families plan their lives together and, in December 2005, reached in excess of 8 million unique users (source: WebTrends). Kaboose generates revenues from branded advertising on its websites, as well as commerce transactions through its Birthday In A Box ( Birthday ) subsidiary. Annual Highlights and Summary [ 000s omitted] Revenue increased by 184% to 6,582 for the year ended December 31, 2005 from 2,317 for the year ended December 31, 2004; Kaboose s cash and cash equivalents totaled 11,453 as at December 31, 2005; Kaboose significantly increased the awareness for its properties with both users and advertisers, which translated into important sales accomplishments. The Company not only experienced an increase in average campaign size, but also added a number of new clients to its Fortune 500 client list, including General Motors, Heinz, General Electric, Sara Lee, Sony and Frito-Lay. With its new clients, Kaboose was able to break into a number of new categories, such as consumer products, financial services, pharmaceutical and automotive; Reached over eight million unique monthly users in December 2005 its highest unique monthly users ever; In the first quarter of Fiscal 2005, Kaboose acquired the assets of Birthday, one of the leading online children s party supply retail businesses in the U.S., which helped Kaboose increase its sales and users and provides its advertising clients with a full-profile client list to help them reach their target audience of moms with kids; While Kaboose is a Canadian company, its revenue and users are primarily in the U.S. As such, in June 2005, Kaboose launched its first international website, Kaboose.ca, targeting users and advertisers in Canada; In November 2005, Kaboose raised 10 million through a private equity placement; and On November 28, 2005, Kaboose began trading on the TSX Venture Exchange under the symbol KAB having completed a Qualifying Transaction with Iron Springs Capital Corp. ( Iron Springs ) (see Reverse Takeover below). Subsequent to year end, on February 14, 2006, Kaboose graduated to the Toronto Stock Exchange, making it one of the fastest graduating companies on the TSX. Reverse Takeover During November 2005, the Company amalgamated with Iron Springs (already listed on TSX Venture Exchange) and the amalgamated company continued operations as Kaboose Inc. The amalgamation is accounted for as a reverse-takeover that does not constitute a business combination. Subsequent to this amalgamation, the Company became a public company and began trading on the TSX Venture Exchange. Management s Discussion and Analysis 3

6 GROWTH STRATEGY Continued Exclusive Focus on Niche Market Management intends to continue to focus exclusively on the kids and family demographic. Kaboose believes that it is poised to benefit greatly from the growth of online advertising in general and the amount directed at this segment specifically. An accelerating percentage of new online ad spending is being directed towards demographically targeted online properties and the kids and family demographic spends an above average amount of time online. Mothers are the primary purchaser in the household, spending over US1.7 trillion per year. In addition, kids between the ages of 4 and 12 spend over US27 billion per year and have influence on over US300 billion in consumer spending per year. Deepen Client Relationships Kaboose is able to offer its clients industry-leading integrated advertising solutions with a full range of rich media and standard media advertising units that provide a mix of high-impact ads strategically placed on any one of Kaboose s leading properties. Unlike a number of Kaboose s competitors that are more focused on promoting their own consumer products, Kaboose is independent and dedicated to providing clients with unique integrated opportunities to meet their brand and advertising needs. Through these unique capabilities, Kaboose intends to continue to expand and deepen its existing client relationships, as well as adding new clients to its Fortune 500 list. Target New Clients With its expanded and experienced sales team, Kaboose intends to continue to target new clients in a wide range of categories. Having already begun to add new clients in the areas of automotive, pharmaceutical and financial services, Kaboose will pursue more clients in these areas, in addition to targeting further brands in the consumer packaged goods area. Through the introduction of new products and services, Kaboose expects be able to also attract new clients on a broader range with both national and local focuses. Increase User Base To grow its user base, in 2005, Kaboose commenced the project of redesigning all its properties to make them more user and advertiser friendly. In addition, in the fourth quarter of 2005, Kaboose began marketing its properties online. In deploying these new marketing initiatives, Kaboose hopes to increase its total number of users, advertising clients, CPM rates and volume of ad impressions sold. Kaboose s CPM rates are still relatively low compared to many other online properties and traditional full page magazine spreads. In general, these rates are rising as advertisers begin to understand the effectiveness of online advertising as measured by direct and indirect methods. Continued Consolidation Kaboose has been a consolidator in the sector, having successfully completed and integrated six acquisitions since its inception. Kaboose expects to continue to selectively acquire companies that complement its exclusive focus on the kids and family demographic. Potential acquisitions may be located in the United States and other countries around the world. International Expansion Currently, Kaboose is heavily focused in the United States deriving over 95% of revenues in that market. Canada represented Kaboose s first international expansion. However, Kaboose also has users in many other countries and, with moms and kids in every market, Kaboose has the opportunity to expand to other international markets where it has users, such as the United Kingdom, Australia and the Netherlands. FUTURE OUTLOOK With the relaunch of Kaboose.com and graduation to the TSX both in February 2006, fiscal 2006 is shaping up to be another productive year for Kaboose. With the expected growth in the online advertising sector and continuing shifts of advertising dollars to online media, management expects that revenues for Kaboose will continue to increase through the addition of new clients and the growth of existing client buys. As well, with its strong balance sheet and financial position, Kaboose will be able to capitalize on acquisition opportunities that may become available and fit into its strategy of focusing on the niche mom and kid segments. 4 Kaboose Inc Annual Report

7 REVENUES Kaboose s revenue model encompasses revenues from online advertising and commerce transactions. Online Advertising Kaboose s business model is based on advertising revenue derived from the sale of space on its network of websites to different advertisers which purchase impression-based advertising, where fees are earned from the number of times an advertisement is viewed by users, and activity-based advertising, where fees are earned when users click on an advertisement or text link to visit the advertiser s website or download a software application or a whitepaper. Commerce Transactions Kaboose earns commerce revenues from online purchase transactions at Birthday on a per-transaction basis. Customers make online purchases over the Internet on Birthday and pay for the purchase by credit card. Kaboose receives the funds for the orders and then goods are shipped to the customers. EXPENSES Kaboose s expenses are comprised of cost of sales and sales, operating, general and administrative costs. Sales, Operating, General and Administrative Costs Kaboose s sales, operating, general and administrative costs are broken down into the following four categories: (i) compensation, commission and consulting, (ii) advertising and marketing, (iii) ad-serving, hosting and server maintenance, and (iv) other general and administrative. (i) (ii) (iii) (iv) Compensation, commission and consulting relates to personnel and related costs, and professional consulting expenses. Advertising and marketing consists of costs related to advertisements and marketing functions, as well as brand development fees, media placement fees, trade show fees and promotional expenses. Ad-serving, hosting and server maintenance consists of costs related to hosting fees, website, costs related to ad serving and computer hardware maintenance expenses. General and administrative consists of office and administration expenses and other general corporate expenses and related costs of facilities and equipment. Cost of Commerce Transactions Kaboose s cost of commerce transactions consists primarily of the cost of commerce merchandise associated with Birthday. CRITICAL ACCOUNTING ESTIMATES AND POLICIES The Company s financial statements for the year ended December 31, 2005 have been prepared in accordance with Canadian generally accepted accounting principles ( Canadian GAAP ). Management has made certain estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the year. The most significant assumptions made by management in the preparation of the Company s financial statements include, but are not limited to, inventory valuation, the determination of allowance of doubtful accounts, fair value of stock options, fair value of barter transactions, valuation allowances for income taxes, the useful lives and recoverability of property, plant and equipment, valuation of note payable and the valuation and recoverability of goodwill. Actual results could differ from those estimates. In management s determination of accounts receivable, including the allowance for doubtful accounts, it relies on current customer information, payment history and trends as well as future business and economic conditions. The recoverability of long-lived assets is determined based on the future undiscounted cash flow expected to be generated from such assets. The fair value of stock options is based on certain estimates applied to the Black-Scholes option pricing model. The estimation of useful lives of its various classes of property, plant and equipment is based upon history and experience of the same within each class. Actual results may differ from management s estimates. Management s Discussion and Analysis 5

8 The following are the significant accounting policies of the Company: Revenue Recognition The Company recognizes revenue when it is realized or realizable and earned. Revenues are earned through online advertising, website content and product sales. The Company considers revenue realized or realizable and earned when it has persuasive evidence of an arrangement, the product has been delivered or the services have been provided to the customer, the sales price is fixed or determinable and the collectibility is reasonably assured. Advertising revenue is recognized commencing when the advertisements are posted on the websites and is recognized based on the number of impressions or hits generated through each advertisement on a monthly basis. Fixed fees for advertisements placed on the Company s website are recognized on a straight-line basis over the period of the contract. Commerce transactions are sales of party supplies that are recognized upon the shipment of goods to customers when collectibility of proceeds is reasonably assured. Barter revenues include advertising revenue which represents the exchange of advertising space on the Company s website for reciprocal advertising space on a customer s product labels. Barter advertising revenues and the corresponding barter advertising expenses are recognized when the advertisements are posted on Kaboose s properties and are based on the number of impressions or hits generated through each advertisement on a monthly basis. In arrangements that include more than one element of revenue recognition, the Company allocates the total arrangement fee among each deliverable based on the relative fair value of each of the deliverables determined based on vendor specific objective evidence. Goodwill Goodwill represents the excess of the purchase consideration over the fair value of the net tangible and intangible assets acquired at the date of acquisition. Goodwill is not amortized and is tested for impairment annually on October 1. The impairment test is carried out in two steps. In the first step, the carrying amount of the reporting unit is compared with its fair value. When the fair value of a reporting unit exceeds its carrying amount, goodwill of the reporting unit is considered not to be impaired and the second step of the impairment test is not required. The fair value of the reporting unit is based on management s estimates of future discounted cash flows. The second step is carried out when the carrying amount of a reporting unit exceeds its fair value. In that case, the implied fair value of the reporting unit s goodwill is compared with its carrying amount to measure the amount of the impairment loss, if any. The implied fair value of goodwill is determined in the same manner as the value of goodwill is determined in a business combination described in the preceding paragraph, using the fair value of the reporting unit as if it was the purchase consideration. When the carrying amount of a reporting unit s goodwill exceeds the implied fair value of the goodwill, an impairment loss is recognized in an amount equal to the excess. The Company is also required to evaluate goodwill for impairment between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. Certain indicators of potential impairment that could impact the Company s reporting unit include, but are not limited to, the following: [i] [ii] a significant long-term adverse change in the online media industry that is expected to cause a substantial decline in sales and/or gross margins, and a significant technological change that results in a substantially different way to serve advertisements within the online media environment. As at December 31, 2005, the Company had two reporting units. The Company calculated the fair value of the reporting unit to which the entire goodwill applies. As at December 31, 2005, the Company compared the fair value of this reporting unit to the carrying amount of the goodwill and determined that no impairment existed. Stock-based Compensation Plan Stock options and warrants awarded to non-employees are accounted for using the fair value method. Stock options awarded to employees on or after January 1, 2003 are accounted for using the fair value method. The fair value of stock options granted is recognized on a straight-line basis over the applicable stock option vesting period as compensation expense included in selling, general and administrative expenses in the statements of operations and deficit and contributed surplus within shareholders equity on the balance sheets. On the exercise of stock options, the total of the consideration received 6 Kaboose Inc Annual Report

9 and the accumulated contributed surplus is credited to share capital. Fair value is calculated using the Black-Scholes option pricing model. Foreign Currency Translation The assets and liabilities of the Company s self-sustaining operations having a functional currency other than Canadian dollars are translated into Canadian dollars using the exchange rate in effect at the consolidated balance sheet dates, and revenue and expenses are translated at the average rate during the year. Exchange gains or losses on translation of the Company s net equity investment in these operations are deferred as a separate component of shareholders equity. For integrated foreign operations, monetary items are translated into Canadian dollars at exchange rates in effect at the consolidated balance sheet dates and non-monetary items are translated at rates of exchange in effect when the assets were acquired or obligations incurred. Revenue and expenses are translated at foreign exchange rates in effect at the time of the transaction. Foreign exchange gains and losses are included in net loss for the year. FINANCIAL HIGHLIGHTS The table below sets out the statement of operations for the years ending December 31, 2005 and 2004 [ 000s omitted]. Statement of Operations Data Year ending December Revenue 6,582 2,317 Expenses Selling, operating and administrative 8,351 3,175 Cost of commerce transactions 913 Interest expense Interest income (75) Amortization Net loss for the year (3,313) (1,348) Supplementary Financial Data Loss per share (basic and diluted) (0.19) (0.29) Basic and diluted weighted average number of shares outstanding [ 000] 17,181 4,714 Balance Sheet Data Cash and cash equivalents 11,453 1,585 Working capital (including cash and cash equivalents) 12,156 2,090 Total assets 15,086 3,328 Long-term liabilities, excluding current portion 23 2,661 Total shareholders equity 13, Management s Discussion and Analysis 7

10 RESULTS OF OPERATIONS Comparison of the twelve-month and three-month periods ended December 31, 2005, compared to the twelve-month and three-month periods ended December 31, 2004 [ 000s omitted] REVENUE For the twelve-month periods ended December 31, 2005 and 2004, revenue was 6,582 and 2,317, respectively. In February 2005, the Company acquired the assets of Birthday, one of the leading online children s party supply retail businesses in the U.S., which fits Kaboose s target of audience/users moms with kids aged 0 14 and helped Kaboose increase its sales and users. The growth in revenue is also due to an increase in online advertising. Revenue for the three months ended December 31, 2005 increased by 215% to 2,741 from 870 for the same period in The growth in revenue is due to the increase in online advertising and the acquisition of Birthday. During the year ended December 31, 2005, the Company entered into a barter arrangement with a customer whereby advertising on the Company s online media properties and web development services are being provided in exchange for reciprocal advertising space on the customer s product labels. The arrangement commenced during September 2005 and ends during July The transaction is recorded at the fair value of the advertising provided by the Company. The fair value of the advertising is based on the Company s own historical cash based advertising transactions with other advertising customers unrelated to the parties of this barter arrangement. During 2005, the Company included in both revenue and selling, operating and administrative expenses an amount of approximately 492 related to this non-monetary transaction. EXPENSES Sales, Operating, General and Administrative Expenses Compensation, commissions and consulting expenses for fiscal 2005 increased by 160% to 5,103 from 1,961 for fiscal In 2005, the Company increased its development and sales employees thereby incurring significant employee-related expenses. Also during 2005, Kaboose s web offering services were enhanced through development and upgrades, which resulted in additional employee related expenses. Compensation, commissions and consulting expenses increased by 165% to 1,775 in the three-month period ended December 31, 2005, compared with 671 for the same period in Costs incurred in both these periods were principally related to employee compensation and sales commissions. For the year ended December 31, 2005, advertising and marketing expenses increased by 880% to 1,343, compared to 137 for year ended December 31, The increase in advertising and marketing during 2005, compared to 2004, was attributable primarily to significant expenses related to brand development, increased marketing efforts and advertising costs, trade-shows and sales promotions. During the three months ended December 31, 2005, advertising and marketing expenses increased to 844 from 41 during the same three months of The increase was mainly due to significantly higher expenses for promoting Kaboose as a brand and higher expenses related to sales promotion and marketing. For fiscal 2005, the ad-serving, hosting and server maintenance expenses increased by 6% to 472, compared to 445 for fiscal The increase is primarily due to the increase in ad-serving costs because of growth in the business leading to higher advertisement managing costs partially offset by savings from the renegotiation of the contract with the hosting service provider. For the fourth quarter of fiscal 2005, ad-serving, hosting and server maintenance expenses decreased by 16% to 92 from 110 for the fourth quarter of fiscal The decrease is due largely to a decrease in hosting and server maintenance fees which has been as a result of the renegotiation of the contract with the hosting service provider. For the year ended December 31, 2005, general and administrative expenses were 1,433, an increase of 127% over the 632 incurred for the year ended December 31, The increase was a result of several factors, including expenses related to the Company going public such as higher legal, audit and advisory fees, as well as investor-related expenses. As well, general and administrative expenses increased with the need to add resources to support the higher level of sales, which included an increase to the space leased to support additional staff. During the three months ended December 31, 2005, general and administrative expenses increased by 124% to 541, compared to 242 for the three months ended December 31, The increase was primarily due to increases in professional fees, space for larger office facilities and other administrative charges. Cost of Commerce Transactions Cost of commerce transactions totalled 913 for the year ended December 31, 2005, compared to NIL for the year ended December 31, Cost of commerce transactions consists of variable costs related to merchandise costs for the commerce business which commenced with the acquisition of Birthday. Cost of commerce transactions for the quarter ended December 31, 2005 was Kaboose Inc Annual Report

11 Interest Income and Expense For fiscal 2005, interest expense on Retractable Preference Shares increased by 65% to 349, compared to 211 for fiscal The Retractable Preference Shares were outstanding for a period of 10 months in 2005 before being converted into common shares compared to only six months in 2004 as the Retractable Preferred Shares were issued in June During fiscal 2004, interest expense on Convertible Debentures was 128. These debentures were converted into Class A Preferred Shares during June For the fourth quarter of 2005, interest expense decreased by 66% to 36 from 106 for the same period in Interest expense during the three months ended December 31, 2005 was largely attributable to imputed interest on Retractable Preference Shares for one month compared to three months in 2004 since, in November 2005, all the outstanding Retractable Preference Shares were converted into equity. Interest income is comprised primarily of interest earned from the investing of Kaboose s corporate funds. For the twelve months ended December 31, 2005, interest income was 75, compared to NIL in The interest income was principally a result of investment of the Company s November 2005 public offering and May 2005 special warrant proceeds. During the three-month period ended December 31, 2005, interest income was 59 compared to NIL for the fourth quarter of fiscal Amortization Amortization consists of amortization related to property, plant and equipment, development costs and intangible assets. In fiscal 2005, amortization related to these assets, increased by 136% to 357 from 151 in fiscal The increase in amortization was related to capital spending to support the growth in the scale of operations and the capitalization and amortization of development costs related to CampSearch.com and Kaboose s proprietary search engine. Amortization related to plant and equipment, development costs and intangible assets increased by 46% to 73 in the fourth quarter of 2005, compared to 50 in the same period of 2004 due mainly to amortization of Kaboose s search engine and additional computer hardware and software purchased during the year. SUMMARY OF UNAUDITED QUARTERLY RESULTS [ 000s OMITTED] In February 2005, the Company acquired the assets and liabilities of Birthday, located in the state of Maryland, for 271. The purchase price was satisfied through payment of cash. This business combination has been recorded under the purchase method of accounting with the results of operations of the acquired business being included in the accompanying consolidated financial statements since the date of acquisition. The following table sets forth unaudited consolidated statements of operations data for the most recent quarters as prepared in accordance with Canadian GAAP. The information has been derived from the Company s unaudited consolidated financial statements that, in management s opinion, have been prepared on a basis consistent with the audited financial statements for the years ended December 31, 2005 and 2004 and include all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of information presented. 000s omitted Q4 Q3 Six months June 2005 (1)(2) Q4 Q3 Six months June 2004 (2) Revenues 2,741 1,813 2, ,003 Net loss (896) (817) (1,601) (332) (439) (577) Net loss per share: basic and diluted (0.02) (0.02) (0.04) (0.02) (0.02) (0.03) (1) Note: The Company has revised its previously reported revenues and expenses in connection with the acquisition date of Birthday which was previously consolidated in the Company s financial statements from the effective date of the acquisition of January 1, 2005 rather than the closing date of February 25, Revenues and expenses for the six-month period have been reduced by 305. (2) The Company has not previously prepared and reported separate quarterly financial information for Q1 and Q2 of fiscal 2004 and Management s Discussion and Analysis 9

12 LIQUIDITY AND FINANCIAL RESOURCES [ 000s OMITTED] Kaboose has historically financed its operations through the sale of shares and debentures and, in fiscal 2005, the Company completed two such financings. In May 2005, the Company completed a private placement of Special Warrants for gross proceeds of 4,613. Cash issuance costs for this offering were 205, which resulted in net proceeds of 4,408. Then, in November 2005, Kaboose completed its initial public offering, which raised 10,000 in gross proceeds. Cash issuance costs were 930, which resulted in net proceeds to Kaboose of 9,070. As at December 31, 2005, Kaboose had cash and cash equivalents of 11,453. These capital raises have strengthened the Company s balance sheet and provided the Company with the capital necessary to fund its business plan and growth strategy. In fiscals 2005 and 2004, cash used in operating activities was 3,233 and 1,361, respectively. Cash used in operations in fiscal 2005 was primarily the result of net losses and increases in accounts receivable, which was partially offset by increases in accounts payable. Cash used in operations in fiscal 2004 was largely from net losses from operations, as well as an increase in working capital requirements. During the fourth quarters of fiscals 2005 and 2004, cash used in operating activities was 766 and 638, respectively. Cash used in operations during the three months ended December 31, 2005 was primarily the result of net losses, an increase in accounts receivable and the drawdown of deferred revenue, which was partially offset by an increase in accounts payable and accrued charges. Cash used in operations during the three months ended December 31, 2004 was mainly a result of net losses from operations, as well as increases in working capital requirements. For the years ended December 31, 2005 and 2004, cash used in investing activities was 538 and 459 respectively. For the most part, cash used in investing activities during 2005 was a result of the purchase of Birthday and the purchase of computer hardware and software required by the increase in scale of operations of the Company. Cash used in investing activities in 2004 resulted principally from the purchase of computer hardware, software and intangible assets. Cash used in investing activities during the three-month periods ended December 31, 2005 and 2004 was 107 and 160, respectively. The cash was used primarily for the purchase of computer hardware, software and intangible assets. In the twelve-month periods ended December 31, 2005 and 2004, cash provided by financing activities was 13,639 and 3,365, respectively. Cash provided by financing activities in fiscal 2005 was largely from the net proceeds of the Company s public offering and private placement of special warrants, which was partially offset by repayments made for the note payable and capital lease obligations. Cash provided by financing activities in fiscal 2004 was mostly from the private placements of the Company s Retractable Preference Shares. For the fourth quarter of 2005 and 2004, cash provided by/(used in) financing activities was 9,280 and (51), respectively. Cash provided by financing activities during the fourth quarter of fiscal 2005 was primarily due to public offering of 10 million less cash expenses related to this offering of 930 resulting in net proceeds of 9,070. Cash used in financing activities during the fourth quarter of fiscal 2004 was related to payment of a note payable. SUMMARY OF CONTRACTUAL OBLIGATIONS [ 000s OMITTED] Total Less than 1 year 1 3 years 4 5 years After 5 years Note payable Capital lease obligations Operating Leases Total CAPITAL RESOURCES The Company expects to use its cash on the balance sheet to acquire select online media companies where available. Kaboose has invested in and developed websites and technology that will scale to meet the anticipated market requirements. OFF-BALANCE SHEET ARRANGEMENTS The Company does not have any off-balance sheet arrangements. 10 Kaboose Inc Annual Report

13 RECENT ACCOUNTING PRONOUNCEMENTS Non-monetary Transactions In June 2005, the CICA released CICA Handbook Section 3831, Non-monetary Transactions, replacing the former Section 3830, Non-monetary Transactions. The new Section requires all non-monetary transactions to be measured at fair value unless: The transaction lacks commercial substance; The transaction is an exchange of a product or property held for sale in the ordinary course of business for a product or property to be sold in the same line of business to facilitate sales to customers other than the parties to the exchange; Neither the fair value of the assets or services received nor the fair value of the assets or services given up is reliably measurable; or The transaction is a non-monetary, non-reciprocal transfer to owners that represents a spin-off or other form of restructuring or liquidation. Commercial substance replaces culmination of the earnings process as the test for fair value measurement. A transaction is deemed to have commercial substance if it causes an identifiable, measurable change in the economic circumstances of the entity. Commercial substance is a function of the cash flows expected by the reporting entity. The Company is currently evaluating the impact of applying the new standards. Financial Instruments In January of 2005, the CICA released CICA Handbook Section 3855, Financial Instruments Recognition and Measurement, and two related standards, Section 3865, Hedges, and Section 1531, Comprehensive Income. These standards reflect the view that fair value, not historical cost, is the appropriate way for measuring financial instruments. This new section is expected to be effective for the 2007 fiscal year. Under the new standards, the only financial instruments that can be carried at historical costs are items such as trade receivables, trade payables and certain financial liabilities. Otherwise, financial instruments should generally be classified as trading, held to maturity or available for sale. Financial instruments that are classified as trading will generally be stated at fair value, with unrealized gains and losses being recorded through income. Financial instruments that are classified as held to maturity should be carried at amortized cost. Financial instruments that are designated as available for sale must also be stated as fair value, but unrealized gains and losses will be applied directly to shareholders equity in a new category called other comprehensive income. Realized gains and losses and impairments in values on available for sale securities will continue to be reflected through income. Equity accounted investments will continue to be accounted for based on the principles of equity accounting. Furthermore, Section 3865 restricts which hedging relationships qualify for hedge accounting. For example, it restricts the ability to designate a nonderivative financial instrument as the hedging instrument to hedge certain foreign currency risks. The Company is currently evaluating the impact of applying the new standards. TRANSACTIONS WITH RELATED PARTIES [ 000s OMITTED] During fiscal 2005, the Company paid rent of 111 ( ) to a corporation controlled by a director of the Company. All related party transactions are in the normal course of operations and are measured at the exchange amount, which is the amount of consideration established and agreed to by both parties. SHARE CAPITAL As at April 24, 2006 there were 56,396,012 common shares outstanding. PROPOSED TRANSACTIONS The Company does not have any proposed transactions to disclose at this time. FINANCIAL INSTRUMENTS AND OTHER INSTRUMENTS The fair value of all financial assets and liabilities approximates their carrying value based on management estimates. The Company may undertake sales and purchase transactions in foreign currencies and, therefore, it is subject to gains or losses due to fluctuations in foreign currencies. The Company does not use derivative instruments to minimize its exposure to foreign currency risks. EVALUATION AND EFFECTIVENESS OF DISCLOSURE CONTROLS AND PROCEDURES The Company has established and maintains disclosure controls and procedures over financial reporting. The certifying officers have evaluated the effectiveness of the Company s disclosure controls and procedures as of December 31, 2005 and have concluded that such procedures are adequate and effective to ensure accurate and complete disclosures in annual filings. There have not been any material changes in these controls as at April 24, Management s Discussion and Analysis 11

14 RISKS AND UNCERTAINTIES The following factors should be considered carefully in evaluating an investment in the securities of the Company. Profitability and Losses Even though the Company s revenues have grown substantially over the past two years, the Company s cash reserves and cash flow, if any, from its operations, might not be sufficient to fund its operations and the Company may be unable to raise additional financing or borrow the funds needed to meet anticipated and unanticipated working capital requirements. If adequate funds are not available to satisfy either short- or long-term capital requirements, the Company might be required to limit its operations significantly or delay or abandon future expenditures, any of which actions could harm its business and its growth plans. Competitive Environment The Company s future success depends in large part on its ability to increase and sustain online advertising revenue. The markets in which it operates are highly competitive, and some of its competitors may be more successful in attracting and retaining customers. In addition, advertisers have a variety of media in which they can elect to advertise and generally have sufficient leverage to dictate many of the terms of their orders. If the Company cannot meet performance terms with its advertising clients or offer competitive advantages to its advertising clients, the number of advertising campaigns awarded to the Company and the number of clients it services may suffer. Moreover, increased competition could result in price reductions, particularly in advertising rates, and reduced margins, which could have a material adverse effect on the Company s future revenue and net income. Maintaining User Base The Company must continue to attract and retain users to compete successfully for advertising and subscription revenue. The Company cannot assure you that it will compete successfully with current or future competitors in sustaining or growing its web site traffic levels and subscriber levels. If it fails to attract and retain more users, its market share, brand acceptance and revenue would decline, which would have a material adverse effect on its business, financial condition and results of operations. Dependence on Key Personnel The Company s success depends to a great extent upon the continued services of its senior management group and its ability to identify, attract, retain and motivate highly skilled and dedicated, key employees and other personnel in a competitive job environment. If the Company loses key personnel or is unable to hire additional qualified personnel, or if its management team is unable to perform effectively, the Company will not be able to implement its growth plans or operate its business effectively. Protection of Domain Names The Company has registered various domain names relating to its brands. If it fails to maintain these registrations or a third party acquires domain names similar to the Company s and engages in a business that may be harmful to its reputation or confusing to its users and customers, the Company s revenue may decline and it may incur additional expenses in maintaining its brand and defending its reputation. Acquisitions of Other Companies The Company has been a consolidator in the online media space focusing on kids and parents and expects new business acquisitions to be a recurring and important part of its growth strategy. The process of integrating these acquired companies and future acquired companies and businesses is risky and may create unforeseen operating difficulties and expenditures. Reliance on Third Parties to Measure User Base It is important to the Company s advertisers that it accurately measures the demographics of its user base and the delivery of advertisements on its web sites. The Company depends on third parties to provide many of these measurement services and to do so accurately and reliably. If these third parties are unable or unwilling to provide these services in the future, the Company would need to perform them internally or obtain them from another provider causing it to incur additional costs or cause interruptions in its business. Companies may choose not to advertise on the Company s web sites or may pay less for advertising if they perceive the demographic measurements as unreliable. Maintaining Insurance The Company contracts for insurance to cover potential risks and liabilities. Insurance companies are increasingly specific about what they will and will not insure. As a result, it is possible that the Company may not be able to get enough insurance to meet its needs, may have to pay very high prices for the coverage that it receives or may not be able to acquire any insurance for certain types of business risks, leaving it exposed to potential claims. If the Company or its officers or directors were found liable for a significant claim in the future, its operating results could be negatively impacted. 12 Kaboose Inc Annual Report

15 Government Regulation The Company is subject to federal, provincial, local and international laws affecting companies conducting business on the Internet, including user privacy laws, laws giving special protection to children, regulations prohibiting unfair and deceptive trade practices and laws addressing issues such as freedom of expression, pricing and access charges, quality of products and services, taxation, advertising, intellectual property rights and information security. The restrictions imposed by and the costs of complying with, current and possible future laws and regulations related to its business could limit the Company s growth and reduce its membership base and revenue. Volatility of Market Price The Company s common stock first became publicly traded in Canada on November 28, 2005 and, as of February 14, 2006, began trading on the Toronto Stock Exchange ( TSX ). Accordingly, the Company does not have a sufficient history as a publicly traded company to know how much its stock price will fluctuate. In addition, broad market and industry factors may adversely affect the market price of the Company s common stock, regardless of actual operating performance and there is no assurance that the market value of the Company will not decline significantly in the future. Future Sales of Common Stock The Company cannot predict the effect, if any, that future sales of shares of its common stock, or the availability of shares of its common stock for future sale, will have on the market price of its common stock. Sales of substantial amounts of its common stock, including shares issued in connection with acquisitions, upon the exercise of stock options or warrants or the conversion of debt securities or the perception that such sales could occur, are likely to adversely affect prevailing market prices for the Company s common stock. Share Dilution The Company s articles permit the issuance of an unlimited number of common shares and if the Company was to issue a significant number common shares, it would reduce the relative voting power of previously outstanding common shares. Such future issuances could be at prices less than the shareholders paid for their common shares of the Company. Significant issuances of the Company s common shares, or the perception that such issuances may occur, could impact, negatively or otherwise, the trading price of the Company s common shares. Because the success of the Company is highly dependent upon its employees, directors and consultants, it has and intends in the future to grant to some or all of its key employees, directors and consultants options or warrants to purchase shares of its common stock as non-cash incentives. Subject to certain limitations, those options may be granted at exercise prices below those for the common stock prevailing in the public trading market at the time, or may be granted at exercise prices equal to market prices at times when the public market is depressed. To the extent that significant numbers of such options may be granted and exercised, the interests of the other stockholders of the Company may be diluted. The Company is required to expense options issued. Insider Control As of the date hereof, the Company s principal stockholders, directors and executive officers and entities affiliated with them owned approximately 40% of the outstanding shares of common stock, not including options or warrants to purchase shares of common stock. As a result, these stockholders, acting together, would be able to influence or control matters requiring approval by the Company s stockholders, including the election of directors, the adoption of equity incentive plans and the approval of mergers or other extraordinary transactions. These stockholders may have interests that differ from stockholders with smaller holdings. The concentration of ownership of the Company s common stock could have the effect of delaying, preventing or deferring a change in control of the Company, deprive its stockholders of an opportunity to receive a premium for their common stock as part of a sale of the Company and affect the market price of its common stock. Payment of Dividends The Company has never paid dividends to holders of its common stock and does not anticipate that it will pay any cash dividends to holders of its common stock in the foreseeable future. The Company intends to invest its future earnings, if any, to fund growth. ADDITIONAL INFORMATION Additional information related to the Company can be found on SEDAR at Registered trademark of Kaboose Inc., Trademark of Kaboose Inc. Management s Discussion and Analysis 13