INDIEPUB ENTERTAINMENT, INC. - 10-Q - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

(Edgar Glimpses Via Acquire Media NewsEdge) The following discussion should be read in conjunction with, and is qualified in its entirety by, the financial statements and the notes thereto included in this report. In this discussion, the words "Company," "we," "our," and "us" refer to the Company and its operating subsidiaries, Zoo Games, Zoo Publishing, and indiePub, Inc. This discussion contains certain forward-looking statements that involve substantial risks, assumptions and uncertainties. When used in this report, the words "anticipates," "believes," "estimates," "projects," "plans," "seeks,""expects," "may," "should," "will" and similar expressions, or the negative versions thereof, are intended to identify such forward-looking statements. Our actual results, performance or achievements could differ materially from those expressed in, or implied by, these forward-looking statements as a result of various factors, including, but not limited to, those presented under "Risk Factors" disclosed in the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2011, other reports we file with the Securities and Exchange Commission and elsewhere herein. Historical operating results are not necessarily indicative of the trends in operating results for any future period.

We are a developer and publisher of downloadable games for "connected services" including mobile devices, Microsoft's Xbox Live Arcade ("XBLA"), Sony's PlayStation Network ("PSN"), Nintendo's DsiWare, Facebook, and Steam, a platform for hosting and selling downloadable PC/Mac software.

Our current overall business strategy has shifted with the changes we are seeing within the industry. In 2011, we began phasing out our retail business and focusing on the digital market. Our digital business strategy centers on bringing fresh, innovative content to digital distribution channels and mobile devices. We utilize our indiePub website (www.indiePub.com), as an innovative content creation site that is designed to unearth content for future development and eventual publication. indiePub intends to release a unique distribution platform that will allow anyone to sell and monetize apps. In May 2012, we changed our name from Zoo Entertainment, Inc. to indiePub Entertainment, Inc. to reflect our change in focus to a digital business.

Currently, we have determined that we operate in one segment in the United States.

Results of Operations For the Three Months Ended September 30, 2012 as Compared to the Three Months Ended September 30, 2011 The following table sets forth, for the period indicated, the amount and percentage of net revenue for significant line items in our consolidated condensed statements of operations and comprehensive (loss) income: 25 (Amounts in Thousands Except Per Share Data) For the Three Months Ended September 30, 2012 2011 Revenue $ 154 100 % $ 1,166 100 % Cost of goods sold 131 85 1,837 158 Gross income (loss) 23 15 (671 ) (58 ) Operating expenses:General and administrative 779 506 1,418 122 Selling and marketing 100 65 396 34 Depreciation and amortization 18 12 252 21 Total operating expenses 897 583 2,066 177 Loss from operations (874 ) (568 ) (2,737 ) (235 ) Gain on extinguishment of liabilities 1,068 694 - - Other income 9 6 - - Interest expense (391 ) (254 ) (1,354 ) (116 )Loss from operations before income taxes (188 ) (122 ) (4,091 ) (351 ) Income taxes - - - - Net loss $ (188 ) (122 )% $ (4,091 ) (351 )%Loss per common share - basic $ (0.02 ) $ (0.53 ) Loss per common share - diluted $ (0.02 ) $ (0.53 ) Net Revenues. Net revenues for the three months ended September 30, 2012 were approximately $154,000, compared to approximately $1.2 million for the comparable 2011 period. Our revenue for the quarter was derived primarily from royalty revenue from the sub-publishing and distribution agreement for our Minute to Win It game on the Microsoft gaming platform.

During the third quarter of 2011, our sales consisted primarily of casual game sales in North America. The breakdown of gross sales by platform for the third quarter of 2011 was approximately 75% for the Nintendo Wii platform, approximately 23% for the Nintendo DS platform, approximately 1% for the Sony PS3 platform, and approximately 1% for the Microsoft Xbox 360 platform. The 2011 period consisted of approximately 218,000 units sold in North America at an average gross price of $5.12 per unit. Consistent with our shift to a digital strategy, we reduced our development of new boxed games in 2011, and therefore had fewer new products in the marketplace. In addition, in July 2011, we began selling our legacy console games via a distribution agreement at prices ator marginally above cost.

Gross Income (Loss). Gross income for the three months ended September 30, 2012 was approximately $23,000, or 15% of net revenue, while gross loss for the three months ended September 30, 2011 was approximately $(671,000), or (58)% of net revenue. The costs included in cost of goods sold consist of manufacturing and packaging costs, royalties due to licensors relating to the current period's revenues and the amortization of product development costs relating to the current period's revenues. During the third quarter of 2012, net revenues were derived primarily from royalty revenue related to the sub-publishing and distribution agreement for our Minute to Win It game on the Microsoft gaming platform. Cost of goods sold was negatively impacted during the third quarter of 2012 due to downwardly-revised sales expectations for one game currently in production, which resulted in an additional $16,000 of product development cost during the period. The 2011 sales were primarily catalogue product sold at cost or marginally above, therefore generating minimal gross profit. Additionally during the 2011 period, in conjunction with our distribution agreement, approximately $160,000 of per-unit tech fees were deferred pending receipt of reports from the distributor indicating the revenue had been earned. The gross margin was adversely affected by the acceleration of approximately $214,000 of product development amortization on our catalogue products due to a combination of reforecasting of projected future sales for each game in conjunction with the Company's move towards its digital strategy, and low margins on the sales of our catalogue products, which required additional amortization of product development costs which could not be recouped from the sales price of the goods.

Increased inventory reserves for product being sold below cost or for product that we could be unable to sell accounted for approximately $266,000 of additional expense during the quarter, and approximately $24,000 of additional royalty expense was recorded as a result of changes in estimated unit salesfor certain of our products.

26 General and Administrative Expenses. General and administrative expenses for the three months ended September 30, 2012 were approximately $779,000 as compared to approximately $1.4 million for the comparable period in 2011. Non-cash stock-based compensation included in general and administrative expenses for the three months ended September 30, 2012 was approximately $59,000. For the three months ended September 30, 2011, non-cash stock-based compensation was approximately $147,000, and included approximately $45,000 of expense related to the modification of stock option awards granted to our former Chief Operating Officer. The departmental costs included in general and administrative expenses include executive, finance, legal, information technology, product development, administration, warehouse operations and digital/indiePub initiatives. The decrease in general and administrative expenses was due primarily to savings in salaries and associated benefits and payroll taxes of approximately $360,000.

The decrease was due to a reduction in headcount in the 2012 period compared to the 2011 period, combined with cost savings from benefit plan changes that took effect in the third quarter of 2011. In addition, rent expense was reduced by approximately $56,000 due to the relocation of our corporate office to a location more compatible with our anticipated space requirements. Legal and professional fees declined by approximately $152,000 in the 2012 period due to fewer legal and accounting matters during the period. The 2011 period also included approximately $72,000 of expenses related to the early retirement and commitment fees paid to terminate the WCS and Wells Fargo financing facilities and related professional fees. For the 2012 period, the fees associated with our credit facilities approximated $50,000. Other taxes for the third quarter of 2012 decreased by approximately $40,000 compared to the same period in 2011 due to the reduction in authorized shares approved at the May 2012 Annual Meeting of Stockholders. The indiePub and digital initiative costs included in general and administrative expenses for the 2012 period were approximately $140,000, compared to approximately $181,000 for the comparable 2011 period. The savings was due to reduced head count in the 2012 period, the capitalization of certain costs in 2012 related to the development of the indiePub website, and the reduction in advertising during the 2012 period.

Selling and Marketing Expenses. Selling and marketing expenses decreased from approximately $396,000 for the three months ended September 30, 2011 to approximately $100,000 for the three months ended September 30, 2012. Beginning in April 2011, we began eliminating the majority of our sales force associated with our retail boxed games. In July 2011, this elimination was substantially completed when we entered into a distribution agreement for the sale of our legacy console products.

Depreciation and Amortization Expenses. Depreciation expense for the three months ended September 30, 2012 was approximately $18,000 compared to depreciation expense of approximately $34,000 for the comparable 2011 period.

The reduction is due to fixed assets that became fully depreciated during the period. In addition, during the 2011 period we had amortization expense of approximately $218,000 for the amortization of intangible assets. The intangible assets were fully amortized as of December 31, 2011, resulting in no further amortization expense.

Interest Expense. Interest expense for the three months ended September 30, 2012 was approximately $391,000, compared to approximately $1.4 million for the three months ended September 30, 2011. The 2012 period interest expense includes approximately $9,000 of default interest related to our Panta agreement (as described below under Limited Recourse Agreement), approximately $127,000 related to our MMB Loan (as described below under Loan Agreement), and approximately $255,000 of interest related to the amortization of deferred debt discount associated with warrants issued and the beneficial conversion feature associated with our convertible loans. The 2011 period includes approximately $1.3 million related to the Panta agreements, approximately $65,000 of default interest related to the Panta agreements, and approximately $27,000 related to our various promissory notes. All interest related to the Panta agreements was accelerated at September 30, 2011, due to our default under the terms of the agreements.

Gain on Extinguishment of Liabilities. During the first nine months of 2012, we entered into agreements with multiple unsecured creditors for the settlement of amounts due to them. During the third quarter of 2012, we recorded a gain on completed settlements of approximately $540,000. We settled these liabilities with a combination of cash and shares of our common stock. In addition, during the third quarter of 2012 we terminated our distribution and sub-publishing agreements. In conjunction with the settlement of amounts owed between us and the other parties, we recorded a gain on the transaction of approximately $528,000.

Income Taxes. For the three months ended September 30, 2012, we recorded a no tax benefit on a pre-tax loss of approximately $(188,000). For the period, a federal tax benefit of 34.0%, state tax expense, net of federal benefit, of (0.8)%, and miscellaneous adjustments, primarily comprised of non-cash interest expense, of (47.1)% were fully offset by a decrease in the valuation allowance of 13.9%. For the three months ended September 30, 2011, we recorded a pre-tax loss of approximately $(4.1) million. All income tax benefits related to this loss were fully offset by an increase in the valuation allowance against our deferred tax assets, as we could not conclude that it was more likely than not that the benefit would be realized.

27 (Loss) Income Per Common Share. Basic and diluted loss per share for the three months ended September 30, 2012 was approximately $(0.02) based on weighted average shares outstanding for the period of approximately 10.2 million shares.

The basic and diluted loss per share for the three months ended September 30, 2011 was $(0.53) based on weighted average shares outstanding for the period of approximately 7.7 million shares. In each period, basic shares was equal to diluted shares due to our net loss position.

For the Nine Months Ended September 30, 2012 as Compared to the Nine Months Ended September 30, 2011 The following table sets forth, for the period indicated, the amount and percentage of net revenue for significant line items in our condensed consolidated statements of operations and comprehensive (loss) income: (Amounts in Thousands Except Per Share Data) For the Nine Months Ended September 30, 2012 2011 Revenue $ 628 100 % $ 8,598 100 % Cost of goods sold 881 140 12,628 147 Gross loss (253 ) (40 ) (4,030 ) (47 ) Operating expenses: General and administrative 3,394 540 6,356 74 Selling and marketing 273 44 2,156 25 Research and development - - 2,263 26Impairment of intangible assets - - 1,749 20 Depreciation and amortization 73 12 1,158 14 Total operating expenses 3,740 596 13,682 159 Loss from operations (3,993 ) (636 ) (17,712 ) (206 )Gain on extinguishment of liabilities 7,629 1,215 - - Other expense (56 ) (9 ) - - Interest expense (741 ) (118 ) (2,033 ) (24 ) Income (loss) from operations before income taxes 2,839 452 (19,745 ) (230 ) Income taxes - - - - Net income (loss) $ 2,839 452 % $ (19,745 ) (230 )%Income (loss) per common share - basic $ 0.30 $ (2.91 ) Income (loss) per common share - diluted $ 0.16 $ (2.91 ) Net Revenues. Net revenues for the nine months ended September 30, 2012 were approximately $628,000, compared to approximately $8.6 million for the comparable 2011 period. Consistent with our shift to a digital strategy, in July 2011, we entered into a distribution agreement for the sale of our legacy console product. Under the distribution agreement, we sold our legacy games at prices at or slightly above the value of the inventory, plus a per-unit tech fee, which represented an unearned advance against future profit sharing with our distributor on such sales. All unearned advances invoiced were deferred until such time when we received information from our distributor that allowed us to conclude that all components of the earnings process had been completed.

During the first nine months of 2012, we recognized into revenue approximately $437,000 of royalties under the distribution agreement. In July 2011, we also entered into a sub-publishing and distribution agreement for our Minute to Win it game on the Microsoft gaming platform. We recognized royalties of approximately $116,000 under this agreement during the first nine months of 2012. In August 2012, these agreements were terminated. The remainder of our revenue was derived primarily from sales of our digital games and international royalties.

During the first nine months of 2011, our sales consisted primarily of casual game sales in North America. The breakdown of gross sales by platform for the first nine months of 2011 was approximately 71% for the Nintendo Wii platform, approximately 23% for the Nintendo DS platform, approximately 3% for the Sony PS3 platform, and approximately 3% for the Xbox 360 platform. The 2011 period consisted of approximately 872,000 units sold in North America at an average gross price of $11.08 per unit.

28 Gross Loss. Gross loss for the nine months ended September 30, 2012 was approximately $(253,000), or (40)% of net revenue, while gross loss for the nine months ended September 30, 2011 was approximately $(4.0) million, or (47)% of net revenue. The costs included in cost of goods sold consist of manufacturing and packaging costs, royalties due to licensors relating to the current period's revenues and the amortization of product development costs relating to the current period's revenues. During the first nine months of 2012, net revenues were derived primarily from royalties earned under our sales and distribution agreement, for which sales we had previously recorded royalty and product development expense in 2011, which positively impacted our gross margin. In addition, during the second and third quarters of 2012, we downwardly revised sales expectations for several products currently in production, as well as for two games currently being sold, which resulted in an additional $419,000 of product development costs during the period. The 2011 sales were primarily catalogue product sold at a price at or slightly above the value of the inventory, therefore generating minimal gross profit. Additionally, in conjunction with our distribution agreement, during the 2011 period, we deferred approximately $160,000 of per-unit tech fees, which were realized and recorded in 2012. The gross margin was adversely affected by the acceleration of approximately $2.6 million of product development amortization on our catalogue products due to their shortened expected lives, as we moved towards our digital strategy. In addition, during 2011, we downwardly revised sales expectations for two products that we intended to release in late 2011, which resulted in an additional $272,000 of product development costs. Increased inventory reserves for product being sold below cost or that we could be unable to sell accounted for approximately $1.7 million of additional expense during 2011, and approximately $482,000 of additional royalty expense as a result of changes in estimated unit sales for certain of our products.

General and Administrative Expenses. General and administrative expenses for the nine months ended September 30, 2012 were approximately $3.4 million as compared to approximately $6.4 million for the comparable period in 2011. Non-cash stock-based compensation included in general and administrative expenses was approximately $193,000 and $899,000 for the nine months ended September 30, 2012 and 2011, respectively. Non-cash stock-based compensation included in general and administrative expenses for the nine months ended September 30, 2012 included approximately $13,000 of expense related to the modification of stock option awards previously granted to our former Chief Financial Officer. Non-cash stock-based compensation included in general and administrative expenses for the nine months ended September 30, 2011 included approximately $579,000 of expense related to the modification of stock option awards granted primarily to our Chief Executive Officer, former Chief Operating Officer and our former President. The department costs included in general and administrative expenses include executive, finance, legal, information technology, product development, administration, warehouse operations and digital/indiePub initiatives. The decrease in general and administrative expenses was due primarily to savings in salaries and associated benefits and payroll taxes of approximately $1,336,000 as a result of a reduction in headcount in the 2012 period compared to the 2011 period, combined with cost savings from benefit plan changes that took effect in the third quarter of 2011. The expiration of fee agreements with certain of our current and former executives for their guarantees of our previous accounts receivable factoring facility accounted for an additional savings of approximately $168,000 during the nine-month period. In addition, cost-saving measures implemented in late 2011 accounted for a reduction in office expense of approximately $121,000. Other taxes decreased by approximately $88,000 during the 2012 period due to a reduction in the number of authorized shares of common stock approved at our May 2012 Annual Meeting of Stockholders. In addition, we had fewer legal and accounting matters during the 2012 period, resulting in a savings of approximately $266,000 for outside services. These savings were partially offset by increased net rent expense of approximately $204,000. During the first quarter of 2012, we relocated our corporate office to a location more compatible with our expected future space requirements, which also provides significant cost savings. In conjunction with our relocation, we recorded approximately $466,000 of rent expense for the remaining lease term of the office location we were no longer using. During the second quarter of 2012, we negotiated a settlement with our former landlord and eliminated the majority of the liability for the unsatisfied lease term, which settlement was included in Gain on Extinguishment of Liabilities in our condensed consolidated statements of operations and comprehensive (loss) income. In addition, we had increased consulting costs of approximately $80,000 in 2012 due to the utilization of services of various consultants due to our reduced headcount. The 2011 period also includes approximately $537,000 of expenses related to early retirement and commitment fees paid to terminate the WCS and Wells Fargo financing facilities and related professional fees. The fees for our current loans approximated $130,000 during the first nine months of 2012. The indiePub and digital initiative costs included in general and administrative expenses for the 2012 period were approximately $351,000, compared to approximately $535,000 for the comparable 2011 period. The savings was due to reduced head count in the 2012 period, the capitalization of certain costs in 2012 related to the development of the indiePub website, the elimination of office space leased in the 2011 period for indiePub employees, and elimination of attendance at trade shows and reduced advertising in the 2012 period.

29 Selling and Marketing Expenses. Selling and marketing expenses decreased from approximately $2.2 million for the nine months ended September 30, 2011 to approximately $273,000 for the nine months ended September 30, 2012. Beginning in April 2011, we began eliminating the majority of our sales force associated with our retail boxed games. In July 2011, this elimination was substantially completed when we entered into a distribution agreement for the sale of our legacy console products.

Research and Development. We incurred research and development expenses of approximately $2.3 million during the first nine months of 2011 to expense costs relating to the development of games that were abandoned during the period.

There were no write-offs during the comparable 2012 period.

Impairment of Intangible Assets. During the first six months of 2011, we continued to incur significant losses due primarily to a decline in the retail market for our products. In July 2011, our wholly-owned subsidiary, Zoo Publishing, entered into a distribution agreement with a developer and distributor of interactive entertainment software to distribute our legacy console assets. The losses, coupled with a substantially revised reduction in projected unit sales, and acceleration of our shift from the retail boxed product triggered us to test our definite-lived intangible assets for potential impairment. As a result, we recorded an impairment loss of approximately $1.7 million related to our acquisition of Zoo Publishing in 2007 in accordance with the provisions of ASC 360-10-35-47. Of the $1.7 million of impairment, approximately $0.7 million was related to trademarks and the remaining $1.0 million was related to content.

Depreciation and Amortization Expenses. Depreciation and amortization costs for the nine months ended September 30, 2012 were approximately $73,000 compared to approximately $1.2 million in the 2011 period. The amortization of intangible assets was approximately $1.1 million for the nine months ended September 30, 2011. The Company's intangible assets were fully amortized as of December 31, 2011, resulting in no further amortization expense.

Interest Expense. Interest expense for the nine months ended September 30, 2012 was approximately $741,000 as compared to approximately $2.0 million for the nine months ended September 30, 2011. The 2012 period includes approximately $27,000 of interest related to various notes that were outstanding during the period, approximately $62,000 of default interest related to our MMB and Panta agreements (as described below under Limited Recourse Agreement), approximately $242,000 related to our new MMB Loan (as described below under Loan Agreement), and approximately $410,000 of interest related to the amortization of deferred debt discount associated with warrants issued and the beneficial conversion feature associated with our convertible loans. The 2011 period includes approximately $574,000 of interest for the receivable factoring facility, approximately $65,000 of interest for the purchase order financing facility, approximately $1.3 million related to the Panta agreements, approximately $65,000 of default interest related to the Panta agreements and approximately $27,000 of interest related to various notes payable.

Gain on Extinguishment of Liabilities. During the first nine months of 2012, we entered into agreements with multiple unsecured creditors for the settlement of amounts due to them. During the first nine months of 2012, we recorded a gain on completed settlements of approximately $7.1 million. We settled these liabilities with a combination of cash, inventory, shares of our common stock, and warrants to purchase our common stock. In addition, during the third quarter of 2012 we terminated our distribution and sub-publishing agreements. In conjunction with the settlement of amounts owed between us and the other parties, we recorded a gain on the transaction of approximately $528,000.

Income Taxes. For the nine months ended September 30, 2012, we recorded pre-tax income of approximately $2.8 million due to the gain recognized on the settlement of certain liabilities with our unsecured creditors and the termination and settlement of our distribution and sub-publishing agreements.

Income tax expense was recorded at a rate of 0% for the period. This rate includes federal tax expense at a 34.0% rate, state tax expense, net of federal benefit, of 2.3%, and miscellaneous adjustments of 5.0%. This income tax expense was offset entirely by a decrease in our valuation allowance of 41.3%. We recorded no income tax benefit for the nine months ended September 30, 2011 against our pre-tax loss of approximately $19.7 million. A federal income tax benefit calculated at a 34% rate was fully offset by an increase in our valuation allowance against our deferred tax assets, as we could not conclude that it was more likely than not that the deferred tax assets would be realized.

Income (Loss) Per Common Share. Basic income per share for the nine months ended September 30, 2012 was approximately $0.30 based on weighted average shares outstanding for the period of approximately 9.4 million shares. Diluted income per share for the nine months ended September 30, 2012 was approximately $0.16 based on weighted average shares outstanding for the period of approximately 21.6 million shares. The basic and diluted loss per share for the nine months ended September 30, 2011 was $(2.91) based on weighted average shares outstanding for the period of approximately 6.8 million shares.

30 Liquidity and Capital Resources We had net income of approximately $2.8 million for the nine months ended September 30, 2012, comprised primarily of a loss from operations of approximately $(4.0) million, interest expense of approximately $741,000, and a non-cash gain on the settlement of liabilities of approximately $7.6 million.

Our principal sources of cash during 2012 were net borrowings under our current and previous financing arrangements. During 2011, our principal sources of cash were proceeds from the sale of our common stock in July, the use of our purchase order and receivable financing arrangements and cash generated from operations throughout the period.

Net cash used in operating activities for the nine months ended September 30, 2012 was approximately $4.8 million due primarily to cash utilized for operations during the quarter, including approximately $823,000 for the development of new products and cash used to settle certain liabilities with our unsecured creditors during the period. During the comparable 2011 period, net cash provided by operating activities was approximately $7.8 million, due primarily to a decrease in receivables and due from factor resulting from the collection of the December 31, 2010 receivables, as well as a decrease in inventory, as we sold a significant amount of the December 31, 2010 inventory during the first nine months of 2011. This was offset by cash utilized for operating expenses during the first nine months of 2011.

Net cash used in investing activities was approximately $4,000 and $72,000 for the nine months ended September 30, 2012 and 2011, respectively. In each period, the amount used was for the purchase of fixed assets.

Net cash provided by financing activities for the nine months ended September 30, 2012 was approximately $4.8 million, and consisted primarily of borrowings under our Limited Recourse Agreement and Loan Agreement (as described more fully below). These borrowings were offset by the repayment of a portion of the Limited Recourse Agreement with proceeds from our new Loan Agreement. Net cash used in financing activities for the nine months ended September 30, 2011 was approximately $8.0 million, consisting primarily of: (i) net proceeds from the sale of our common stock of approximately $1.6 million; (ii) net repayments of approximately $8.0 million on our receivable factoring facility; (iii) net repayments of approximately $1.6 million on our purchase order financing facility, and; (iv) net borrowings of approximately $0.1 million on our limited recourse agreement. This was partially offset by the issuance of the WCS Note for $183,000 in 2011.

Factoring Facility We previously utilized a factoring agreement, as amended (the "Original Factoring Agreement") with Working Capital Solutions, Inc. ("WCS") for the approval of credit and the collection of proceeds from a portion of our sales.

Under the terms of the Original Factoring Agreement, we sold our receivables to WCS, with recourse. WCS, in its sole discretion, determined whether or not it would accept each receivable based upon the credit risk factor of each individual receivable or account. Once a receivable was accepted by WCS, WCS provided funding subject to the terms and conditions of the Original Factoring Agreement. The amount remitted to us by WCS equaled the invoice amount of the receivable adjusted for any discounts or allowances provided to the account, less a reserve percentage (which amount was 30% at the termination of the agreement) which was deposited into a reserve account established pursuant to the Original Factoring Agreement, less allowances and fees. The amounts to be paid by us to WCS for any accepted receivable included a factoring fee for each ten (10) day period the account was open (which fee was 0.56% at the termination of the agreement). Since WCS acquired the receivables with recourse, we recorded the gross receivables including amounts due from our customers to WCS and recorded a liability to WCS for funds advanced to us from WCS. On June 24, 2011, we terminated our agreement with WCS (the "WCS Termination Agreement").

During the nine months ended September 30, 2012 and 2011, we sold $0 and approximately $11.6 million, respectively, of receivables to WCS with recourse. At September 30, 2012 and December 31, 2011, accounts receivable and due from factor were $0 and there were no advances outstanding to us as of September 30, 2012 or December 31, 2011. The interest expense on the advances are included in interest expense in the accompanying condensed consolidated statements of operations and comprehensive (loss) income and were $0 and approximately $1,000 for three months ended September 30, 2012 and 2011, respectively, and were $0 and approximately $575,000 for the nine-month periods ended September 30, 2012 and 2011, respectively.

31 Purchase Order Facility We previously utilized purchase order financing with Wells Fargo Bank, National Association ("Wells Fargo") to fund the manufacture of video game products.

Under the terms of our agreement (the "Assignment Agreement"), we assigned purchase orders received from customers to Wells Fargo, and requested that Wells Fargo purchase the required materials to fulfill such purchase orders. Wells Fargo, which could accept or decline the assignment of specific purchase orders, retained us to manufacture, process and ship ordered goods, and paid us for our services upon Wells Fargo's receipt of payment from the customers for such ordered goods. Upon payment in full of the purchase order invoice by the applicable customer to Wells Fargo, Wells Fargo re-assigned the applicable purchase order to us. On June 24, 2011, Zoo Publishing, the Company and Wells Fargo entered into a Termination Agreement. Pursuant to the Termination Agreement, we paid off the balance due of approximately $148,000 and paid $50,000 in full satisfaction of the commitment fee required under the agreement. The commitment fee was included in general and administrative expenses at that date in the condensed consolidated statements of operations and comprehensive (loss) income. Wells Fargo released all security interests that they and their predecessors held in the Company's assets.

There were no amounts outstanding as of September 30, 2012 and December 31, 2011. The effective interest rate on advances was 5.25% as of the termination date. The charges and interest expense on the advances are included in interest expense in the accompanying condensed consolidated statements of operations and comprehensive (loss) income and were $0 for each of the three month periods ended September 30, 2012 and 2011, and $0 and approximately $65,000 for the nine months ended September 30, 2012 and 2011, respectively.

Limited Recourse Agreement On June 24, 2011, in connection with the WCS Termination Agreement, WCS agreed to assign all of its rights, title and interest in and to the Original Factoring Agreement and all Collateral to Panta Distribution, LLC ("Panta") pursuant to a Limited Recourse Agreement, dated as of June 24, 2011 (the "Limited Recourse Agreement"). On June 24, 2011, we and Panta also entered into an Amended and Restated Factoring and Security Agreement (the "New Factoring Agreement"), pursuant to which we agreed to pay Panta all outstanding indebtedness under the Limited Recourse Agreement and to sell to Panta our accounts receivable with recourse. Under the terms of the agreement and subsequent amendment, total actual borrowings of approximately $2.6 million and accrued interest due of approximately $1.2 million were required to be repaid by December 4, 2011. On October 7, 2011, we were notified by Panta that we were in default under the terms of the agreements; accordingly, we accelerated all amounts owed to Panta at that date to currently due and payable and began accruing interest at the default rate of fifteen percent (15%) per annum.

On October 28, 2011, Zoo Publishing entered into the Second Amended and Restated Factoring and Security Agreement (the "Second New Factoring Agreement") with Panta and MMB, pursuant to which the parties agreed to amend the New Factoring Agreement, to reflect the assignment by Panta to MMB of documents and accounts, including related collateral security, under the New Factoring Agreement, and to amend certain other terms and conditions of the New Factoring Agreement. In connection with the Second New Factoring Agreement, Panta agreed to assign all of its rights, title and interest in and to the New Factoring Agreement to MMB, as agent for itself and Panta, pursuant to a Limited Recourse Assignment, dated as of October 28, 2011 (the "Limited Recourse Assignment"), for a purchase price of $850,000. Panta retained an interest in the principal amount of approximately $186,000 (together with interest and fees accruing thereon), owed by Zoo Publishing under the New Factoring Agreement. Under the Second New Factoring Agreement, MMB, as agent for itself and Panta, agreed to temporarily forbear from exercising certain of its rights under default provisions therein until the earlier of November 11, 2011, or the occurrence of an additional default or breach by us, unless otherwise waived by MMB. All default interest accrued at the default interest rate of 15% per annum on amounts outstanding to MMB and Panta. Pursuant to the Second New Factoring Agreement, we agreed to make scheduled repayments to MMB, as agent for itself and Panta, with respect to obligations owed by us beginning November 4, 2011 and through December 4, 2011 in the cumulative principal amount owed of approximately $1,036,000. The Second New Factoring Agreement terminates upon the later of: (i) the collection by MMB of all of the Purchased Accounts (as defined in the Second New Factoring Agreement); and (ii) the collection by Panta of approximately $1,036,000 net of all Incurred Expenses (as defined in the Second New Factoring Agreement). Zoo Publishing granted MMB a first priority security interest in certain of its assets as set forth in the Second New Factoring Agreement. MMB is controlled by David E. Smith, a former director of the Company, Jay A. Wolf, Executive Chairman of the Board of Directors of the Company, and certain other parties.

32 On January 5, 2012, January 30, 2012, February 14, 2012, and February 29, 2012, we entered into the First, Second, Third and Fourth, respectively, Amendments to the Second Amended and Restated Factoring and Security Agreement with Panta and MMB, pursuant to which the parties agreed to amend that certain Second Amended and Restated Factoring and Security Agreement dated as of October 28, 2011, by and between Zoo Publishing, Panta and MMB. Pursuant to the amendments, MMB agreed to provide $250,000 (less legal fees of $75,000), $175,000, $232,000, and $200,000, respectively, in additional funding to us under the Factoring Agreement. The additional funding bore interest at the lesser of 15% per annum, or the maximum rate permitted by law.

On March 9, 2012, the amounts due to MMB were repaid utilizing borrowings under the Loan Agreement. Borrowings and accrued interest owed to Panta in the amount of approximately $219,000 remained outstanding as of September 30, 2012.

Loan Agreement On March 9, 2012, Zoo and MMB entered into a loan agreement (the "Loan Agreement") pursuant to which MMB agreed to provide us with loans totaling approximately $4,381,110. These loans were granted: (i) to repay and satisfy all of our obligations to MMB under the Second Amended and Restated Factoring and Security Agreement, dated as of October 28, 2011, as amended through February 29, 2012, and totaling approximately $1,831,000; (ii) for purposes of settling, at a discount, certain obligations to our unsecured creditors (the "Existing Unsecured Claims"); and (iii) for working capital and other purposes permitted under the Loan Agreement. As of June 30, 2012, we had borrowed the entire $4,381,110 available under the Loan Agreement. The interest rate under the Loan Agreement is ten percent (10%) per annum, or eighteen percent (18%) per annum upon the occurrence of an event of default. The maturity date of the loans is March 31, 2014. The amounts under the Loan Agreement are secured by a first priority security interest (except to the extent subordinated by the Factoring Agreement) on all of the assets of the Company. At any time during the term of the Loan Agreement, MMB may convert all of the loan balance into shares of our common stock at a conversion price of $0.40 per share. In connection with the Loan Agreement, we also issued MMB immediately exercisable warrants to purchase up to 10,952,775 shares of our common stock at $0.40 per share, which warrants are exercisable through March 31, 2017. We have agreed to provide MMB with certain registration rights with respect to our common stock issued in connection with the Loan Agreement and the warrants. The Loan Agreement contains representations and warranties and affirmative and negative covenants, as negotiated by the parties to the agreement. The fair value of the warrants resulted in us recording a deferred debt discount, which reduced the face amount of indebtedness to $1.4 million at the date of issuance. The deferred debt discount is amortized into interest expense over the term the borrowings are outstanding using the effective interest method.

On July 30, 2012, we entered into the First Amendment to Loan and Security Agreement (the "First Amendment") with MMB, pursuant to which the parties agreed to amend that certain Loan and Security Agreement dated as of March 9, 2012, by and between us and MMB. Pursuant to the First Amendment, MMB agreed to provide up to $1,600,000 in additional funding to us under the Loan and Security Agreement with substantially the same terms and conditions. In connection with the First Amendment, we issued MMB an immediately exercisable warrant to purchase up to 4,000,000 shares of our common stock at $0.40 per share, which warrant is exercisable through July 30, 2017. The fair value of the warrants and the beneficial conversion feature of the convertible loan balance resulted in a reduction to the face amount of the indebtedness by approximately $757,000, which amount will be amortized into interest expense over the term that the borrowings are outstanding utilizing the effective interest method. In addition, MMB notified us that it was exercising its right to convert all accrued and unpaid interest outstanding under the Loan and Security Agreement through June 30, 2012, which amount was approximately $114,480, into the outstanding loan balance. As of September 30, 2012, there were borrowings of approximately $5,859,000 and available borrowings remaining of approximately $123,000 under the Loan Agreement and First Amendment. As of November 9, 2012, all available borrowings had been fully utilized.

On November 9, 2012, we entered into the Second Amendment to Loan and Security Agreement (the "Second Amendment") with MMB, pursuant to which the parties agreed to amend that certain Loan and Security Agreement dated as of March 9, 2012 and that certain First Amendment to Loan and Security Agreement dated as of July 30, 2012, by and between the Company and MMB. Pursuant to the Second Amendment, MMB agreed to provide to us up to $150,000 in additional funding under the Loan and Security Agreement under the same terms and conditions.

33 Debt Settlements As of September 30, 2012, we entered into agreements providing for the settlement of approximately $10.8 million of liabilities due to unsecured creditors for approximately $990,000 in cash, approximately 2.6 million shares of our common stock, approximately $131,000 in inventory, and warrants to purchase 365,000 shares of our common stock at an exercise price of $0.50 per share. Of the approximate $10.8 million in settlement agreements entered into, approximately $10.4 million were completed through September 30, 2012, resulting in the payment of cash of approximately $964,000, the relinquishment of approximately $131,000 in inventory, the issuance of approximately 2.4 million shares of our common stock valued at approximately $2.0 million, the issuance of warrants to purchase 365,000 shares of our common stock at an exercise price of $0.50 per share, valued at approximately $202,000, and a gain recorded during the period of approximately $7.1 million. Of the settlements not yet completed, we have paid cash to the unsecured creditors of approximately $26,000 and will issue approximately 165,000 shares of our common stock. We anticipate these settlements will be finalized during the fourth quarter of 2012, although no assurances can be given in this regard.

Distribution Agreements On July 12, 2011, we entered into a distribution agreement with a developer and distributor of interactive entertainment software to distribute our legacy console assets. The agreement granted the distributor the exclusive right to purchase video games from us and sell and distribute such video games to wholesalers and retailers in the United States, South America and Europe for a term of three years. Under the terms of the agreement, the distributor would pay us the cost for each unit sold, plus an unearned advance against future royalties on the distributor's net receipts from sales, which unearned advance was paid to us in the form of a per-unit fee for each unit manufactured. As of December 31, 2011, we had deferred recognition of approximately $383,000 of unearned advances from the per-unit tech fee, as we were unable to conclude at that date that all components of the earnings process had been completed. The unearned advances were recorded in the caption accrued expenses and other current liabilities on our condensed consolidated balance sheets at December 31, 2011. Through September 2012, based upon royalty reports we received from our distributor, we were able to conclude that advances from the per-unit tech fee and royalties in the amount of approximately $437,000 were earned, which amount we recorded as revenue. On August 17, 2012, the distribution agreement was terminated and all amounts owed between the parties to the agreement were settled.

On July 12, 2011, we entered into a sub-publishing and distribution agreement with a developer and distributor of interactive entertainment software to sub-publish, manufacture and distribute our Minute to Win It game on the Microsoft gaming platforms. The agreement granted the sub-publisher the exclusive right to sub-publish, manufacture and distribute the product in the United States and Latin America for a term of five years, or until the date that Zoo's rights to the product terminated, whichever was earlier. Under the terms of the agreement, we earned royalties based upon the distributor's net receipts from the sale of the game. Prior to earning such royalties, we were entitled to receive certain advance payments from the distributor, including: (i) an advance payment at the date of the signing of the agreement; (ii) a per-unit recoupable advance due within five days of Microsoft certification; (iii) a per-unit recoupable advance due within five business days of shipments to customers of the product; and (iv) a per-unit recoupable advance due upon the sell-through of the product by the end retailer. In October 2011, we received certification for Minute to Win It on the Microsoft gaming platforms and sales of the product commenced. All advance payments related to the agreement were deferred until such time when we received information from our distributor that allowed us to conclude that all components of the earnings process had been completed. During the third quarter of 2012, based upon royalty reports we received from the sub-publisher and distributor, we were able to conclude that royalties of approximately $116,000 were earned, which amount we recorded as revenue. On August 17, 2012, the sub-publishing and distribution agreement was terminated and all amounts owed between the parties to the agreement were settled.

In conjunction with the termination and settlement of these agreements, we recorded a gain on the settlement of approximately $528,000.

34 Conclusion Due to the losses we have incurred since inception, we are unable to predict whether we will have sufficient cash from operations to meet our financial obligations for the twelve month period beginning October 1, 2012. Accordingly, the report of our independent registered public accounting firm on our consolidated financial statements for the fiscal years ended December 31, 2011 and 2010 includes an explanatory paragraph raising substantial doubt about our ability to continue as a going concern. Our ability to continue as a going concern is dependent on, among other factors, the following significant short-term actions: (i) management's ability to generate cash flows from operations sufficient to maintain our daily business activities; (ii) our ability to reduce expenses and overhead; (iii) our ongoing ability to renegotiate certain obligations; and (iv) our ability to raise additional capital. Management's active efforts in this regard include negotiations with certain vendors to satisfy cash obligations with non-cash assets or equity, reductions of headcount and overhead obligations, and the development of strategies to convert other non-cash assets into cash. There can be no assurance that all or any of these actions will meet with success. We may be required to seek alternative or additional financing to maintain or expand our existing operations through the sale of our securities, an increase in our credit facilities, or otherwise, and there can be no assurance that we will secure financing, and if we are able to, that such financing will be on favorable terms to us or our stockholders. Our failure to obtain financing, if needed, could have a material adverse effect upon our business, financial condition and results of operations.

Critical Accounting Policies and Estimates There were no changes to our critical accounting policies and estimates since the year ended December 31, 2011. A complete description of our critical accounting policies and estimates can be found in our Annual Report on Form 10-K for the year ended December 31, 2011, filed with the Securities and Exchange Commission on April 16, 2012 and also in Note 3 to the unaudited condensed consolidated financial statements included in this quarterly report for the period ended September 30, 2012.

Accounting Standards Updates Not Yet Effective In December 2011, the FASB issued ASU No. 2011-11, "Balance Sheet (Topic 210): Disclosures about Offsetting Assets and Liabilities" ("ASU No. 2011-11"). This ASU requires companies to disclose both net and gross information about assets and liabilities that have been offset, if any, and the related arrangements. The disclosures under this new guidance are required to be provided retrospectively for all comparative periods presented. We are required to apply the amendments for annual reporting periods beginning on or after January 1, 2013, and interim periods within those annual periods. We do not anticipate that adoption of this ASU will have a material impact on our financial condition, results of operations or cash flows.

Off-Balance Sheet Arrangements As of September 30, 2012, we did not have any relationships with unconsolidated entities or financial partners, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. In addition, we did not have any undisclosed borrowings or debt, and we have not entered into any synthetic leases.

Fluctuations in Operating Results and Seasonality We experience fluctuations in quarterly and annual operating results as a result of: the timing of the introduction of new titles; variations in sales of titles developed for particular platforms; market acceptance of our titles; development and promotional expenses relating to the introduction of new titles, sequels or enhancements of existing titles; projected and actual changes in platforms; the timing and success of title introductions by our competitors; product returns; changes in pricing policies by us and our competitors; the size and timing of acquisitions; the timing of orders from major customers; order cancellations, and; delays in product shipments or releases. Sales of our products are also seasonal. Historically, peak shipments for our retail products typically occurred in the fourth calendar quarter as a result of increased demand for titles during the holiday season. While the digital market is relatively new, anecdotal information indicates the peak selling months have been January and August. Quarterly and annual comparisons of operating results are not necessarily indicative of future operating results.

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