10-Q 1 d10q.txt FORM 10-Q FOR THE PERIOD ENDED 12/31/2001 ================================================================================ SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 ----------------------------------------- FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended December 31, 2001 OR [_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission file number 000-27357 ASHFORD.COM, INC. (Exact name of registrant as specified in its charter) Delaware 76-0617905 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number) 3800 Buffalo Speedway, Suite 400 Houston, Texas 77098 (Address of principal executive offices) _______________________ (713) 369-1300 (Registrant's telephone number, including area code) _______________________ Indicate by check [X] whether the registrant (1) has filed all reports required to be filed by Sections 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days (1) Yes [x] No _______ (2) Yes [x] No _______ As of December 31, 2001, there were 54,334,077 shares of the Company's common stock outstanding. ================================================================================ ASHFORD.COM, INC. FORM 10-Q INDEX

PART I. CONSOLIDATED FINANCIAL INFORMATION PAGE ---- Item 1. Consolidated Financial Statements.....................................................~~....~~ 3 Consolidated Balance Sheets at ~~September~~December 3031, 2001 and March 31, 2001...................~~...~~ 3 Consolidated Statements of Operations for the three and ~~six~~nine months ended ~~September~~December 3031, 2001 and 2000............................................................~~...~~ 4 Consolidated Statements of Cash Flows for the ~~six~~nine months ended ~~September~~December 3031, 2001 and 2000........................................................................~~.....~~ 5 Notes to Consolidated Financial Statements...........................................~~.....~~ 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations...........................................................................~~.....~~ 1011 Item 3. Quantitative and Qualitative Disclosures About Market Risk...........................~~.....~~ 1617 PART II. OTHER INFORMATION Item 1. Legal Proceedings....................................................................~~.....~~ 28 Item 6. Exhibits and Reports on Form 8-K.....................................................~~.....~~ 2829 SIGNATURES.......................................................................................~~...~~ 30

2 PART I. CONSOLIDATED FINANCIAL INFORMATION Item 1. Consolidated Financial Statements ASHFORD.COM, INC. CONSOLIDATED BALANCE SHEETS (In thousands, except par value and share amounts)

~~September~~December 3031, March 31, 2001 2001 ------------- ----------~~---~~ (Unaudited) Assets Current assets: Cash and cash equivalents $ ~~2,705~~409 $ 7,095 Restricted cash 1,500 1,500 Accounts receivable, net of allowance for doubtful accounts of $~~330~~380 and $231, respectively 23,~~280~~553 2,559 Merchandise inventory 1816,~~039~~478 24,066 Prepaids and other 1,~~835~~121 1,535 ----------~~---~~ ----------~~---~~ Total current assets 2623,~~359~~061 36,755 Property and equipment, net of accumulated depreciation of $14,201 and ~~-- 8,441~~ $5,894, respectively -- 8,441 Purchased intangibles, net of accumulated amortization of $14,441 and $10,483, respectively -- 10,162 Other assets ~~538~~516 908 ----------~~----~~ ----------~~---~~ Total assets $ 2623,~~897~~577 $ 56,266 ==========~~====~~ ==========~~===~~ Liabilities and Stockholders' Equity Current liabilities: Accounts payable and accrued liabilities $ 46,~~851~~228 $ 8,189 Revolving credit facility ~~2,877~~787 4,705 Other long-term liabilities 8873 104 Commitments and contingencies Stockholders' equity: Preferred stock, $.001 par value, 10,000,000 shares authorized, no ~~-- --~~ shares issued and outstanding at ~~September~~December 3031, 2001 and March 31, 2001, respectively -- -- Common stock, $.001 par value, 100,000,000 shares authorized, 57 ~~49 57~~,~~275~~400,~~196~~803 and 48,691,917 shares issued at ~~September~~December 3031, 2001 and March 31, 2001, respectively 57 49 Treasury stock, at cost, 3,066,726 and 770,893 shares at ~~September~~December 3031, ~~(865) --~~ 2001 and March 31, 2001, respectively (865) -- Additional paid-in capital 261,~~205~~232 259,365 Subscriptions receivable (376) (1,156) Deferred compensation (1,~~616~~326) (4,983) Accumulated deficit (~~239~~242,~~324~~233) (210,007) ----------~~----~~ ----------~~---~~ Total stockholders' equity 1916,~~081~~489 43,268 ----------~~----~~ ----------~~---~~ Total liabilities and stockholders' equity $ 2623,~~897~~577 $ 56,266 ==========~~====~~ ==========~~===~~

The accompanying notes are an integral part of these consolidated financial statements. 3 ASHFORD.COM, INC. CONSOLIDATED STATEMENTS OF OPERATIONS (In thousands, except per share amounts) (Unaudited)

Three months ended ~~Six~~Nine months ended ~~September~~December 3031, ~~September~~December 3031, --------------------~~-----~~ ----------------------~~---~~ 2001 2000 2001 2000 -------~~---~~ ---------- ---------- ---------- Net sales $ 914,~~017~~213 $ 1227,~~013~~750 $ 2135,~~123~~336 $ 2552,~~118~~868 Cost of sales 79,~~144~~976 922,~~720~~477 1727,~~243~~219 2042,~~386~~863 -------~~---~~ ---------- ---------- ---------- Gross profit 14,~~873~~237 25,~~293~~273 38,~~880~~117 410,~~732~~005 Operating expenses: Marketing and sales (includes ~~non-cash~~ amortization of $~~269~~132, $2725,~~744~~957, $~~573~~705, and $5379,~~778~~735, respectively) 12,~~774~~032 3334,~~564~~241 46,~~870~~902 66100,~~388~~629 General and administrative (includes ~~non-cash~~ amortization of $158, $883, $~~430~~588, and $12,~~730~~613, respectively) 4,~~352~~998 67,~~741~~440 914,~~822~~820 1320,~~489~~929 Restructuring charge 10-- -- 409 -- Settlement loss -- -- 2,297 -- Loss on sale of assets -- -- 620 -- Depreciation and amortization ~~12,363~~-- 3,~~108~~854 16,245 59,~~762~~616 -------~~---~~ ---------- ---------- ---------- Total operating expenses 187,~~499~~030 4345,~~413~~535 3441,~~263~~293 85131,~~639~~174 -------~~---~~ ---------- ---------- ---------- Loss from operations (162,~~626~~793) (4140,~~120~~262) (3033,~~383~~176) (80121,~~907~~169) Interest income (expense), net (81116) ~~564~~240 (80196) 1,~~249~~489 -------~~---~~ ---------- ---------- ---------- Net loss before disposal of segment (162,~~707~~909) (40,~~556~~022) (3033,~~463~~372) (79119,~~658~~680) Net loss from discontinued operations -- -- (667) -- Net gain from disposal of segment ~~1,813~~-- -- 1,813 -- -------~~---~~ ---------- ---------- ---------- Net loss $ (142,~~894~~909) $ (40,~~556~~022) $ (2932,~~317~~226) $ (79119,~~658~~680) =======~~===~~ ========== ========== ========== Net loss before disposal of segment per share, basic and diluted $ (0.3105) $ (0.8987) $ (0.5863) $ (12.7663) Net gain from disposal of segment and from discontinued operations per share, basic and diluted $-- ~~0.03 $~~ -- $ 0.02 -- Net loss per share, basic and diluted $ (0.2805) $ (0.8987) $ (0.5661) $ (12.7663) Shares used to compute net loss per share, basic and diluted 5354,~~335~~299 45,~~598~~758 52,~~267~~947 45,~~350~~484

The accompanying notes are an integral part of these consolidated financial statements. 4 ASHFORD.COM, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (In thousands) (Unaudited)

~~Six~~Nine months ended ~~September~~December 3031, 2001, ----------------------------- 2001 2000 ---------- ---------- Cash Flows From Operating Activities: Net loss $ (2932,~~317~~226) $ (79119,~~658~~680) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization 17,~~248~~538 6191,~~270~~964 Restructuring charge related to issuance of options to purchase common stock 221 --- Settlement loss 2,297 --- Loss on sale of assets 620 --- Net gain from disposal of segment (1,813) --- Changes in assets and liabilities: Accounts receivable ~~279~~(994) ~~1,673~~(214) Merchandise inventory 67,~~027~~588 (12,~~023~~688) Prepaids and other ~~(300)~~414 ~~696~~140 Other assets (~~520~~499) (~~389~~355) Accounts payable and accrued liabilities (43,~~887~~497) ~~923~~6,819 ---------- ---------- Net cash used in operating activities (10,~~145~~351) (1624,~~508~~014) Cash Flows From Investing Activities: Purchases of property and equipment (107) (45,~~222~~862) Proceeds from sale of equipment and intangible assets 420 --- Net proceeds from acquisition of a business 7,270 --- Internet domain and other intangible asset purchases --- (~~120~~2,082) Restricted cash --- (1,650) --------- ---------- Net cash provided by (used in) investing activities 7,583 (49,~~342~~594) Cash Flows From Financing Activities: Proceeds from revolving credit facility 1625,~~264~~691 --- Payments on revolving credit facility (1829,~~092~~609) --- Proceeds from related party 230 --- Payments to related party (230) --- Proceeds from exercise of stock options --- ~~148~~156 Net proceeds from the issuance of common stock --- 108 Debt issuance costs --- (233) --------- ---------- Net cash provided by (used in) financing activities (13,~~828~~918) ~~256~~31 ---------- ---------- Net decrease in cash and cash equivalents (46,~~390~~686) (2033,~~594~~577) Cash and Cash Equivalents: Beginning of period 7,095 46,474 ---------- ---------- End of period $ ~~2,705~~409 $ 2512,~~880~~897 ========== ========== Supplemental Disclosure of Noncash Investing and Financing Activities: Purchase of common stock in connection with employment and consultant agreements $ 865 --- Issuance of common stock in connection with settlement ~~323~~350 --- Issuance of common stock in connection with Internet domain and other intangible asset purchases --- $ 12,~~812~~539 Issuance of warrants in connection with purchases of fixed assets --- ~~702~~914

The accompanying notes are an integral part of these consolidated financial statements. 5 ASHFORD.COM, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. Summary of Significant Accounting Policies Unaudited Interim Financial Information The accompanying unaudited consolidated financial statements have been prepared by Ashford.com, Inc. (the "Company") pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations. In the opinion of management, all adjustments, consisting only of normal recurring adjustments, and disclosures necessary for a fair presentation of these financial statements have been included. These financial statements should be read in conjunction with the financial statements and notes thereto included in our Annual Report on Form 10-K for the year ended March 31, 2001. Results for the three and nine months ended December 31, 2001, are not necessarily indicative of the results that may be expected for any future quarter or for the year ending March 31, 2002. Definitive Merger Agreement On September 14, 2001, we announced that we had entered into a definitive merger agreement with Global Sports, Inc. whereby Global will acquire all of the outstanding shares of our common stock. Under the terms of the merger agreement, upon consummation of the merger, our shareholders will receive 0.0076 of a share of Global common stock and $0.125 cash for each share of our common stock. Global expects to issue approximately 430,000 shares of common stock and pay approximately $7.1 million of cash in exchange for all of the outstanding shares of our common stock. Closing of the proposed transaction is subject to the satisfaction of certain customary closing conditions, including approval of our stockholders. Our consolidated financial statements have been prepared on the historical cost basis of accounting in accordance with generally accepted accounting principles in the United States, which may be greater or less than the fair value of assets and liabilities as determined by Global Sports, Inc. Following the signing of the definitive merger agreement, we evaluated the realizability of our long-lived assets pursuant to SFAS No. 121, Accounting for the Impairment of Long-Lived Assests to Be Disposed Of, which requires recognition of impairment of long-lived assets in the event the net book value of such assets exceeds the future estimated undiscounted cash flows attributable to such assets. As a result, we recorded an impairment as depreciation and amortization expense of approximately $8.9 million during the quarter ended September 30, 2001. On February 11, 2002, Global Sports, Inc.'s registration statement on Form S-4 concerning the definitive merger agreement was declared effective by the Securities and Exchange Commission. A special meeting of our stockholders has been scheduled for March 14, 2002 to consider and vote upon a proposal to adopt the definitive merger agreement. Assuming the proposal is accepted by our stockholders, we expect this transaction to be closed shortly following the special meeting. Liquidity We have suffered significant losses from operations since its inception. Management continues to implement a strategy to significantly reduce costs and improve operating efficiencies. We have incurred expenses in connection with our definitive merger agreement with Global Sports, Inc. since September 14, 2001. Further, we have incurred additional operating losses during the same period. As a result, our liquidity position has deteriorated. Assuming that the pending acquisition by Global Sports, Inc. is not completed, management believes that a revised restructuring plan will be required and that the resulting cash balances and borrowing capacity will be sufficient to meet anticipated needs for at least the next twelve months. Any such plan would likely include further cost reductions, including costs associated with personnel, further consideration of our existing lines of business and further reductions in our investment in inventory. Any projections of future cash needs and cash flows are subject to substantial uncertainty. Accordingly, there is substantial doubt as to our ability to continue as a going concern. If current cash and cash that may be generated from future operations are insufficient to satisfy our liquidity requirements, management may seek to sell additional equity or debt securities or to obtain additional credit facilities from lenders. There can be no assurance that financing will be available in amounts or on terms acceptable 6 to us, if at all. Our ability to raise cash through the sales of additional equity or convertible debt securities may be difficult depending on market conditions and other factors, and if available could result in additional dilution to our stockholders. In addition, management will, from time to time, consider the acquisition of or investment in complementary businesses, products, services and technologies, which might impact our liquidity requirements or cause us to issue additional equity or debt securities. Use of Estimates The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Reclassification of Prior Period Balances Certain prior period balances have been reclassified for consistent presentation. Net Loss Per Share Net loss per share is computed using the weighted average number of common shares outstanding. Shares associated with stock options and warrants are not included because they are antidilutive. Recent Accounting Pronouncements In August 2001, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, which is effective beginning April 2002. SFAS No. 144 supersedes SFAS No. 121, Accounting for the Impairment of Long-Lived Assets to Be Disposed Of, and the accounting and reporting provisions relating to the disposal of a segment of a business of Accounting Principles Board Opinion No. 30. We do not anticipate that the adoption of SFAS No. 144 will have a material impact on our financial position. In July 2001, the FASB issued Statements No. 141, Business Combinations and No. 142, Goodwill and Other Intangible Assets requiring the nonamortization approach to account for purchased goodwill. Under the nonamortization approach, goodwill would be tested for impairment based on fair values, rather than amortized to earnings. These standards are effective beginning in April 2002. Upon adoption, these standards will not have a significant effect on our financial statements as the related assets were expensed as of September 30, 2001. In July 2000, the EITF reached a consensus on EITF 00-10, "Accounting for Shipping and Handling Fees and Costs." This consensus requires that all amounts billed to a customer in a sale transaction related to shipping and handling, if any, represent revenue and should be classified as such. We historically have classified shipping charges to customers as revenue. In September 2000, the EITF concluded that the classification of shipping and handling costs should be disclosed pursuant to Accounting Principles Board (APB) Opinion No. 22, "Disclosure of Accounting Policies." If shipping and handling costs are significant and are not included in cost of sales, companies should disclose both the amount of such costs and which line item on the income statement includes that amount. Shipping and handling costs cannot be netted against sales. We classify inbound and outbound shipping costs as costs of sales. We generally do not impose separate handling charges on customers. However, during fiscal year 2001, we began charging for shipping costs. We began charging for packaging costs during fiscal 2002. Costs attributable to receiving, inspecting and warehousing inventories and picking, packaging and preparing customers' orders for shipment are classified as marketing and sales expense and totaled $0.7 million and $1.2 million during quarters ended December 31, 2001 and 2000, respectively, and $1.9 million and $2.5 million during the nine months ended December 31, 2001 and 2000, respectively. In May 2000, the EITF issued EITF 00-14 "Accounting for Certain Sales Incentives," which provides guidance on the accounting for certain sales incentives offered by companies to their customers such as discounts, coupons, rebates and products or services. EITF 00-14 addresses the recognition, measurement and income statement classification for sales incentives offered voluntarily by a vendor without charge to customers that can be used in, or that are exercisable by a customer as a result of a single exchange transaction. The accompanying financial statements include the reclassification of free product and service incentives delivered to customers at the 7 time of sale, from marketing and sales expense to cost of sales, related to the adoption of EITF 00-14. All periods presented have been reclassified for consistent presentation. 2. Restructuring and Related Charges During the fourth quarter ended March 31, 2001, in connection with management's plan to reduce costs and improve operating efficiencies, we recorded restructuring charges of approximately $0.7 million, consisting of approximately $0.5 million for headcount reductions and approximately $0.2 million for contract cancellations. Headcount reductions consisted of approximately 40 employees, or about 17% of our workforce. During the first quarter ended June 30, 2001, we initiated a review of our lines of business, cost structure and general activities. The objective of this review was to identify opportunities for improved financial performance and liquidity management. Specific initiatives resulting from this review include reducing the scope of product offerings, decreasing our investment in inventory and eliminating certain operating costs, including costs associated with personnel. In connection with this review, we recorded charges of approximately $0.5 million for headcount reductions. Headcount reductions consisted of approximately 46 employees, or about 19% of our workforce. Total cash outlays during the quarter ended June 30, 2001 were approximately $0.2 million. The restructuring accrual was reduced by an additional $0.2 million through the issuance of options to purchase our common stock. Previously recorded allowances for contract cancellations of approximately $0.1 million were reversed during the quarter ended June 30, 2001 upon determination that the associated cost would not be incurred. The restructuring accrual consists of the following:

Severance and Contract Benefits Cancellations Total -------------------------------------------------------- Provision for fiscal year 2001 $ 502 $ 160 $ 662 Amount paid in fiscal year 2001 (472) (80) (552) ------~~-----~~ ------~~-----~~ -------- Balance at March 31, 2001 30 80 110 Provision for quarter ended June 30, 2001 479 -- 479 Provision reversed in quarter ended June 30, 2001 -- (80) (80) Amount paid in quarter ended June 30, 2001 (421) -- (421) ------~~-----~~ ------~~-----~~ -------- Balance at June 30, 2001 88 -- 88 Provision for quarter ended September 30, 2001 10 -- 10 Amount paid in quarter ended September 30, 2001 (86) -- (86) ------ ------ ------- Balance at September 30, 2001 12 -- 12 Amount paid in quarter ended December 31, 2001 (9) -- (9) ------ ------ ------- Balance at ~~September~~December 3031, 2001 $ 123 $ -- $ 123 ======~~=====~~ ======~~=====~~ ========

3. Revolving Credit Facility During September 2000, we executed a three-year revolving credit facility with a maximum available credit of $25 million with Congress Financial Corporation, a unit of First Union National Bank. The credit facility is to be used for working capital needs and is secured by our assets. Availability under the credit facility is determined pursuant to a borrowing base as defined in the agreement. During the quarter ended September 30, 2001, an independent appraisal firm completed a periodic appraisal of our inventory as required under the revolving credit facility. This appraisal resulted in a decrease in our borrowing base as defined in the revolving credit facility. As a result, total availability under the credit facility was approximately $5.4 million on December 31, 2001 ($787,000 outstanding at December 31, 2001). Amounts outstanding under the credit facility bear interest at the prime rate or LIBOR plus 250 basis points, as elected by us. 4. Treasury Stock During May 2001, we repurchased 1,852,500 shares of our common stock for approximately $0.9 million in connection with certain employment and consultant agreements. Consideration for this purchase was a subscription receivable of approximately $0.8 million and accrued interest receivable of approximately $0.1 million. 8 5. Other Matters Disposition of Online Watch Retailer In February 2001, we entered into a merger agreement with an online watch retailer. In connection with the agreement, we paid an aggregate purchase price of $2.3 million representing the assumption of liabilities and direct acquisition costs of approximately $650,000, and 1,991,000 shares of our common stock. The agreement further provided that we issue up to an additional 5,500,000 shares of our common stock to the online retailer upon resolution of certain authorized dealer relationship contingencies and in connection with the online retailer meeting certain gross profit targets as set forth in the agreement. Further, certain key members of the online watch retailer's management entered into separate employment agreements with us which provide for employment for eighteen months following the merger and representation on our board of directors. Principal assets acquired include inventory, supplier relationships and intellectual property. During June 2001, as a result of certain business difficulties that arose in the relationship with the former principals of the online watch retailer and to resolve litigation, we began negotiating a dissolution of that relationship. The online watch retailer agreed to a settlement whereby the online watch retailer and certain of it's management will receive aggregate consideration of approximately $0.8 million representing $0.2 million of inventory, $0.1 million of severance pay and 1,500,000 shares of our common stock to settle all potential future claims and obligations. We recorded a charge of approximately $2.3 million in connection with this settlement during the quarter ended June 30, 2001. At December 31, 2001, all consideration with the exception of 76,655 shares of our common stock has been paid. Outsourcing Of Online Art Operations In May 2001, we closed a merger agreement with an online art retailer that was inintiated in January 2001. In connection with the agreement, we issued approximately 7.1 million shares of our common stock and options and warrants to purchase approximately 1.6 million shares of our common stock, in exchange for all of the fully diluted shares of the online art retailer's capital stock. The purchase price was approximately $4.3 million, consisting of $3.3 million of our common stock, $0.7 million of options and warrants to purchase shares of our common stock and $0.3 million of business combination costs. The principle assets received include $7.3 million of cash, an Internet domain name and related trademarks and other tangible and intangible assets related to Internet retail operations. The total value of net tangible assets acquired exceeded the $4.3 million purchase price. In May 2001, we concluded that the operating cost structure of the online art retailer was inconsistent with the level of sales activity and our overall objectives. In June 2001, the prior management of the online art retailer made a proposal, which we accepted, to assume the prospective operations of the online art retailer as a separately capitalized entity. Pursuant to this agreement, we contributed assets of approximately $0.5 million, including $0.4 million of cash, an Internet domain name and related trademarks and other intangible assets in return for 5% ownership interest in the new entity. In addition, we entered into a revenue sharing agreement with the new entity whereby we will offer the new entity's product on its Web site in return for half of the gross profit from sales of the new entity's products generated by our Web site. We did not assume any future operating costs or obligations. Further, substantially all the employees previously employed by the online art retailer became employees of the new entity or were terminated. Activity related to art operations during the quarter ended June 30, 2001, was recorded in accordance with APB No. 30 "Reporting the Results of Operations- Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions" and EITF 85-36 "Discontinued Operations with Expected Gain and Interim Operating Losses". Accordingly, losses from the acquisition closing date (May 3, 2001) through the measurement date (June 13, 2001) were reflected as net loss from discontinued operations in the financial statements for the quarter ended June 30, 2001. Losses from the measurement date through the separation date (July 31, 2001) were deferred as there was reasonable assurance that a net gain on disposal will be realized. For the quarter ended June 30, 2001, net loss on discontinued operations included net sales commissions of approximately $125,000 and operating expenses of approximately $792,000. For the period from the measurement date through June 30, 2001, net losses of approximately $109,000 representing net sales commissions of approximately $53,000 and operating expenses of $162,000 were deferred. For the quarter ended September 30, 2001, net losses of approximately $588,000 representing net sales commissions of approximately $159,000 and operating expenses of approximately $747,000 were netted against gain on disposal of discontinued 9 operations. We recognized a net gain on disposal of discontinued operations of approximately $1.8 million during the quarter ended September 30, 2001. Sale of Asset During June 2001, we sold two Internet domain names and related trademarks related to a product information Internet site in exchange for $0.4 million cash. The majority of the cash proceeds were received during the quarter ended September 2001. We recorded a loss on sale of approximately $0.5 million during the quarter ended June 2001. 6. Supplemental Information The following supplemental financial information is presented for informational purposes only and is not in accordance with generally accepted accounting principles. We believe that Company performance is best evaluated on the basis of our ability to generate positive operating cash flows from our core retail and corporate operations. In prior periods, we have entered into certain agreements and transactions that, we believe, make analysis of our core operations more difficult. As such, we believe that this supplemental information presenting the performance of our core retail and corporate operations excluding the impact of such agreements and transactions improves the clarity of our financial statements presented in accordance with generally accepted accounting principles. We use this basis of presentation internally to evaluate our financial performance. This information should not be considered as a substitute for the historical financial information presented in accordance with generally accepted accounting principles.

Three months ended ~~Six~~Nine months ended ~~September~~December 3031, ~~September~~December 3031, ----------------------------- ----------------------------- 2001 2000 2001 2000 ------- --------- --------- --------- Net loss $(2,909) $(40,022) $ (32,226) $(119,680) Acquisiton costs (1) 378 -- 534 -- Restructuring charge (2) -- -- 409 -- Settlement loss (2) -- -- 2,297 -- Loss on sale of assets (2) -- -- 620 -- Depreciation and amortization (3) 290 30,694 17,538 91,964 Net gain from disposal of segment (2) -- -- (1,146) -- ------- --------- --------- --------- Net loss, excluding acquisition costs ~~(1)~~, restructuring charge, settlement loss, loss on sale of assets, depreciation and amortization, and net gain from disposal of segment $ (32,~~751~~241) $ (89,~~821~~328) $ (911,~~733~~974) $ (1827,~~388~~716) Net loss per share, excluding acquisition costs ~~(1)~~, restructuring charge, settlement loss, loss on sale of assets, depreciation and amortization, and net gain from disposal of segment $ (0.0704) $ (0.1920) $ (0.1923) $ (0.4161) Shares used to compute net loss per share, basic and diluted 5354,~~335~~299 45,~~598~~758 52,~~267~~947 45,~~350~~484

10 (1) Acquisition costs represent non-refundable legal and professional expenses related to the Global Sports, Inc. merger. Acquisition costs are reported as general and administrative expenses in the consolidated statements of operations. (2) Restructuring charge, settlement loss, loss on sale of assets and net gain from disposal of segment represent gains or losses we expect to be non-recurring. Generally, these gains or losses relate to transactions resulting in significant headcount reductions, contract cancellations and disposition of certain non-core business activities. See further discussion at Notes 2 and 5 to the consolidated financial statements. (3) Depreciation and amortization represent non-cash operating expenses primarily related to amortization of certain marketing activities, amortization of deferred compensation, amortization of purchased intangibles and depreciation of website and tangible assets. Generally, the transactions underlying these expenses represent the investment necessary establish Ashford as a meaningful luxury brand on the Internet and to acquire the necessary infrastructure to support core retail and corporate operations. We do not believe that similar expenditures to support the business will be necessary for the foreseeable future. Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The discussion in this Report contains forward-looking statements (as such term is defined in Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934) that involve risks and uncertainties. Our actual results could differ materially from those discussed herein. Factors that could cause or contribute to such differences include, but are not limited to, those discussed in "Risk Factors That May Affect Future Results" as well as those discussed in this section and elsewhere in this Report, and the risks discussed in the "Risk Factors" section included in our most recent Form 10-K and our Registration Statement on Form S-1 as declared effective by the Securities and Exchange Commission on September 22, 1999 (Reg. No. 333-82759). Overview We were incorporated on March 6, 1998 and commenced operations and began offering products for sale on our Web site in April 1998. We initially focused exclusively on the sale of new and vintage watches. Since inception, we have focused on broadening our product offerings, establishing relationships with luxury and premium brand owners, generating sales momentum and expanding our operational and customer service capabilities. We currently offer more than 12,000 styles of products from over 300 leading luxury brands. We are currently focusing our efforts on continuing to increase net sales while maintaining or decreasing current expense levels. We plan to continue the growth of our corporate gift business, which generally generates higher margin sales and is less seasonal in nature than our traditional retail sales, and our newer, higher margin product categories, such as our Ashford Collection jewelry. As part of a larger effort to improve overall operating efficiencies and lower total operating costs as a percentage of sales, we have specifically reduced our traditional print and media marketing activities and have focused on Internet and online media, which we believe to be a more efficient and economical means of attracting new customers. Other specific initiatives designed to improve financial performance and liquidity management include reducing the scope of product offerings, decreasing our investment in inventory and eliminating certain operating costs, including personnel costs. As stated above, we plan to continue the growth of our corporate gift business, which was introduced in March 2000. Our corporate gift business offers over 800 products such as crystal, silver and pewter that appeal to the corporate market. These products usually generate higher margin sales and are less seasonal in nature than our traditional retail sales. Also, many corporate gift products are finished with custom engraving, etching or embossing, which further increases our margin. The market for luxury and premium products is highly seasonal, with a disproportionate amount of net sales occurring during the fourth calendar quarter. Therefore, we increase our purchases of inventory during and in advance of that quarter. Although less significant, seasonal sales periods occur in February due to Valentine's Day and in May and June due to graduation gift giving, Mother's Day and Father's Day. We expect that these trends will continue in future periods. Our gross margin will fluctuate in future periods based on factors such as: . product sales mix; 11 . the mix of direct and indirect sources of inventory; . pricing strategy; . promotional activities; . inventory management; and . inbound and outbound shipping costs. We have suffered significant losses from operations since its inception. Management continues to implement a strategy to significantly reduce costs and improve operating efficiencies. We have incurred expenses in connection with our definitive merger agreement with Global Sports, Inc. since September 14, 2001. Further, we have incurred additional operating losses during the same period. As a result, our liquidity position has deteriorated. Assuming that the pending acquisition by Global Sports, Inc. is not completed, management believes that a revised restructuring plan will be required and that the resulting cash balances and borrowing capacity will be sufficient to meet anticipated needs for at least the next twelve months. Any such plan would likely include further cost reductions, including costs associated with personnel, further consideration of our existing lines of business and further reductions in our investment in inventory. Any projections of future cash needs and cash flows are subject to substantial uncertainty. Accordingly, there is substantial doubt as to our ability to continue as a going concern. If current cash and cash that may be generated from future operations are insufficient to satisfy our liquidity requirements, management may seek to sell additional equity or debt securities or to obtain additional credit facilities from lenders. There can be no assurance that financing will be available in amounts or on terms acceptable to us, if at all. Our ability to raise cash through the sales of additional equity or convertible debt securities may be difficult depending on market conditions and other factors, and if available could result in additional dilution to our stockholders. In addition, management will, from time to time, consider the acquisition of or investment in complementary businesses, products, services and technologies, which might impact our liquidity requirements or cause us to issue additional equity or debt securities. On September 14, 2001, we announced that we had entered into a definitive merger agreement with Global Sports, Inc. whereby Global will acquire all of the outstanding shares of our common stock. Under the terms of the merger agreement, upon consummation of the merger, our shareholders will receive 0.0076 of a share of Global common stock and $0.125 cash for each share of our common stock. Global expects to issue approximately 430,000 shares of common stock and pay approximately $7.1 million of cash in exchange for all of the outstanding shares of our common stock. Closing of the proposed transaction is subject to the satisfaction of certain customary closing conditions, including approval of our stockholders. On February 11, 2002, Global Sports, Inc.'s registration statement on Form S-4 concerning the definitive merger agreement was declared effective by the Securities and Exchange Commission. A special meeting of our stockholders has been scheduled for March 14, 2002 to consider and vote upon a proposal to adopt the definitive merger agreement. Assuming the proposal is accepted by our stockholders, we expect this transaction to be closed shortly following the special meeting. Our consolidated financial statements have been prepared on the historical cost basis of accounting in accordance with generally accepted accounting principles in the United States, which may be greater or less than the fair value of assets and liabilities as determined by Global Sports, Inc. Following the definitive merger agreement, we evaluated the realizability of our long- lived assets pursuant to SFAS No. 121. As a result, we recorded an impairment as depreciation and amortization expense of approximately $8.9 million during the quarter ended September 30, 2001. The staff of the Securities and Exchange Commission has been conducting an investigation concerning our accounting and disclosures relating to certain marketing activities during fiscal years 2000 and 2001. The staff has informed us that it is considering recommending that the Securities and Exchange Commission commence enforcement proceedings relating to the staff's investigation in federal district court. The staff has offered us an opportunity to provide a submission to the staff and the Securities and Exchange Commission explaining why such a proceeding should not be initiated. Our audit committee has completed an internal review of certain matters relating to the staff's review and continues to monitor the investigation. We do not believe that any of the accounting issues raised by the Securities and Exchange Commission will have a material effect on our financial statements. 12 Results of Operations Net Sales Net sales consist primarily of product sales and are net of product returns and promotional discounts. Net sales decreased from $27.8 million during the quarter ended December 31, 2000 to $14.2 million during the quarter ended December 31, 2001, and from $52.9 million for the nine months ended December 31, 2000 to $35.3 million for the nine months ended December 31, 2001. During the quarter ended December 31, 2001, we conducted a specific corporate sales program that included third-party suppliers drop-shipping merchandise to the ultimate customer on our behalf. These activities have been reported in accordance with EITF 99-19 "Reporting Revenue Gross as a Principal versus Net as an Agent" whereby sales are reported as the net amount retained, that is, the amount billed to the customer less the amount paid to the supplier. Had such activity been reported gross, net sales would be approximately $1.3 million greater than reported during the quarter ended December 31, 2001. The decrease in net sales is attributed to reduced retail sales activity and was affected by reduced marketing efforts and a general decline in retail spending specific to luxury goods. Cost of Sales Cost of sales consists primarily of the cost of products sold, free product and service incentives delivered to customers at the time of sale, inbound and outbound shipping costs and warranty and inventory obsolescence costs. Cost of sales decreased as net sales decreased. Gross profit decreased from $5.3 million during the quarter ended December 31, 2000, to $4.2 million during the quarter ended December 31, 2001. Gross profit decreased from $10.0 million during the nine months ended December 31, 2000, to $8.1 million during the nine months ended December 31, 2001. Gross margin increased from 19.0% during the quarter ended December 31, 2000, to 29.8% during the quarter ended December 31, 2001, and from 18.9% during the nine months ended December 31, 2000, to 23.0% during the nine months ended December 31, 2001. During the quarter and nine months ended December 31, 2001, the increase in gross margin is principally due to our higher margin corporate business representing a greater proportion of sales during the current period compared to the corresponding prior year period, the reporting of certain sales net instead of gross in accordance with EITF 99-19 "Reporting Revenue Gross as a principal versus Net as an Agent" during the quarter ended December 31, 2001, a reduction in certain expenses such as outbound shipping costs that are now paid by the customer on most orders, a reduction in the amount of free product and service incentives offered and growth of our higher-margin product categories such as Ashford Collection jewelry and home and lifestyle products. These factors that contributed to the increase in gross margin were partially offset by low margin sales activities intended to reduce our product assortment and our overall inventory investment. Such low margin sales were more significant during the six months ended September 30, 2001 than the quarter ended December 31, 2001. In addition, we recorded a charge of $0.3 million during the quarter ended December 31, 2001, to allow for estimated future losses in connection with our continuing effort to reduce our investment in merchandise inventory. Operating Expenses Marketing and Sales. Marketing and sales expenses consist primarily of advertising costs, credit card fees, fulfillment activities and related employee salary and benefit expenses, and amortization of related deferred compensation. Fulfillment activities include receiving of goods, picking of goods, and packaging of goods for shipment. Marketing and sales expenses decreased from approximately $34.2 million during the quarter ended December 31, 2000 to $2.0 million for the quarter ended December 31, 2001. Marketing and sales decreased from approximately $100.6 million during the nine months ended December 31, 2000 to $6.9 million during the nine months ended December 31, 2001. The decrease in marketing and sales is attributable to a decrease in amortization to $0.1 million from $26.0 million during the quarters ended December 31, 2001 and December 31, 2000, respectively, and to $0.7 million from $79.7 million during the nine months ended December 31, 2001 and December 31, 2000, respectively. This amortization is primarily related to a marketing contract entered into with another online retailer during the latter part of fiscal 2000 that expired in fiscal 2001. Excluding amortization, the decrease in marketing and sales is primarily attributable to a reduction in traditional print and media marketing activities and implementation of new and modified agreements with Internet and online media providers at improved advertising rates or with pay-for-performance provisions. During fiscal 2001, we shifted our primary marketing focus from traditional print and broadcast media to Internet and online media. We believe Internet and online media provides a more efficient and economical means of attracting new customers. Our advertising and promotional expenditures are generally intended to build brand awareness, generate site traffic and increase overall sales. 13 General and Administrative. General and administrative expenses include executive, finance and administrative employee salaries and benefits, amortization of related deferred compensation, professional fees, Web site maintenance, office lease expenses and other general corporate expenses. General and administrative expenses decreased to $5.0 million during the quarter ended December 31, 2001 compared to $7.4 million during the quarter ended December 31, 2000. General and administrative expenses decreased to $14.8 million during the nine months ended December 31, 2001 from $20.9 million during the nine months ended December 31, 2000. Our general and administrative expenses have decreased primarily due to costs associated with decreased headcount as a result of our restructuring activities during January 2001 and May 2001 and decreased amortization of related deferred compensation. See further discussion of fiscal 2002 restructuring activities at "Liquidity and Capital Resources." Depreciation and Amortization. Depreciation and amortization expense includes depreciation related to property and equipment and amortization related to purchased intangible assets. Depreciation and amortization expense was $0 during the quarter ended December 31, 2001 compared to $3.9 million during the quarter ended December 31, 2000. Depreciation and amortization was $16.2 million during the nine months ended December 31, 2001 compared to $9.6 million during the nine months ended December 31, 2000. Following the signing of our definitive merger agreement with Global Sports, Inc., we evaluated the realizability of our long-lived assets pursuant to SFAS No. 121. As a result, we recorded an impairment as depreciation and amortization expense of approximately $8.9 million during the quarter ended September 30, 2001. Interest Income (Expense), Net. Net interest expense totaled $116,000 during the quarter ended December 31, 2001 compared to net interest income of $240,000 during the quarter ended December 31, 2000. Net interest expense totaled $196,000 for the nine months ended December 31, 2001 compared to net interest income of $1.5 million during the nine months ended December 31, 2000. The overall decrease during the three and nine months ended December 31, 2001 compared to the corresponding periods in the prior year is due to lower cash balances during the quarter and our borrowings on our revolving credit facility entered into September 2000. Liquidity and Capital Resources General. We have financed our operations primarily through private sales of convertible preferred stock, an initial public offering and the private sale of our common stock. The proceeds from these offerings have been used primarily to fund our operations, including inventory purchases, marketing and advertising campaigns, employee salaries and equipment purchases. Operating Activities. Net cash used in operating activities totaled $10.4 million during the nine months ended December 31, 2001 compared to $24.0 million during the nine months ended December 31, 2000. Our operating cash outflow during the nine months ended December 31, 2001 was primarily the result of operating losses, exclusive of non-cash items including depreciation and amortization, restructuring charge, settlement loss, loss on sale of assets and net gain on disposal of segment and decreases in accounts payable and accrued liabilities. These uses of cash were partially offset by a decrease in our investment in merchandise inventory. Our net cash outflow during the nine months ended December 31, 2000 was primarily the result of operating losses exclusive of depreciation and amortization and an increase in our investment in merchandise inventory. These uses of cash were partially offset by increases in accounts payable and accrued liabilities. Investing Activities. Net cash provided by investing activities totaled $7.6 million during the nine months ended December 31, 2001 compared to $9.6 million used in investing activities during the nine months ended December 31, 2000. Net cash provided by investing activities during the nine months ended December 31, 2001 primarily consisted of $7.3 million related to a merger with an online art retailer. Net cash used in investing activities during the nine months ended December 31, 2000 consisted of $5.9 million related to property and equipment purchases primarily associated with technology and Web site enhancements and $2.1 million related to Internet domain and other intangible asset purchases. Financing Activities. Net cash used in financing activities totaled $3.9 million during the nine months ended December 31, 2001 compared to $31,000 provided by financing activities during the nine months ended December 31, 2000. Financing activities during the nine months ended December 31, 2001 related to a net reduction in the amount borrowed from our revolving credit facility. Also, a Director advanced us $230,000 during the quarter ended December 31, 2001. This amount was repaid during the same period. Financing activities during the nine months ended December 31, 2000 related to cash received from the exercise of employee stock options and 14 the sale of stock in connection with our employee stock purchase plan net of amounts paid for loan acquisition costs to establish our revolving credit facility. Commitments. As of December 31, 2001, our principal commitments consisted of obligations outstanding under non-cancelable operating leases. We have no material commitments for capital expenditures. Credit Facility. During September 2000, we executed a three-year revolving credit facility with a maximum available credit of $25 million with Congress Financial Corporation, a unit of First Union National Bank. The credit facility is to be used for working capital needs and is secured by our assets. Availability under the credit facility is determined pursuant to a borrowing base as defined in the agreement. During the quarter ended September 30, 2001, an independent appraisal firm completed a periodic appraisal of our inventory as required under the revolving credit facility. This appraisal resulted in a decrease in our borrowing base as defined in the revolving credit facility. As a result, total availability under the credit facility was approximately $5.4 million on December 31, 2001 ($787,000 outstanding at December 31, 2001.) Amounts outstanding under the credit facility bear interest at the prime rate or LIBOR plus 250 basis points, as elected by us. Restructuring and Other Matters. During the fourth quarter ended March 31, 2001, in connection with management's plan to reduce costs and improve operating efficiencies, we recorded restructuring charges of approximately $0.7 million, consisting of approximately $0.5 million for headcount reductions and approximately $0.2 million for contract cancellations. Headcount reductions consisted of approximately 40 employees, or about 17% of our workforce. During the first quarter ended June 30, 2001, we initiated a review of our lines of business, cost structure and general activities. The objective of this review was to identify opportunities for improved financial performance and liquidity management. Specific initiatives resulting from this review include reducing the scope of product offerings, decreasing our investment in inventory and eliminating certain operating costs, including costs associated with personnel. In connection with this review, we recorded charges of approximately $0.5 million for headcount reductions. Headcount reductions consisted of approximately 46 employees, or about 19% of our workforce. Total cash outlays during the quarter ended June 30, 2001 were approximately $0.2 million. The restructuring accrual was reduced by an additional $0.2 million through the issuance of options to purchase our common stock. Previously recorded allowances for contract cancellations of approximately $0.1 million were reversed during the quarter ended June 30, 2001 upon determination that the associated cost would not be incurred. During June 2001, as a result of certain business difficulties that arose in the relationship with the former principals of the online watch retailer and to resolve litigation, we began negotiating a dissolution of that relationship. The online watch retailer agreed to a settlement whereby the online watch retailer and certain of it's management will receive aggregate consideration of approximately $0.8 million representing $0.2 million of inventory, $0.1 million of severance pay and 1,500,000 shares of our common stock to settle all potential future claims and obligations. We recorded a charge of approximately $2.3 million in connection with this settlement during the quarter ended June 30, 2001. At December 31, 2001, all consideration with the exception of 76,655 shares of our common stock has been paid. In May 2001, we closed a merger agreement with an online art retailer that was initiated in January 2001. In connection with the agreement, we issued approximately 7.1 million shares of our common stock and options and warrants to purchase approximately 1.6 million shares of our common stock, in exchange for all of the fully diluted shares of the online art retailer's capital stock. The purchase price was approximately $4.3 million, consisting of $3.3 million of our common stock, $0.7 million of options and warrants to purchase shares of our common stock and $0.3 million of business combination costs. The principle assets received include $7.3 million of cash, an Internet domain name and related trademarks and other tangible and intangible assets related to Internet retail operations. The total value of net tangible assets acquired exceeded the $4.3 million purchase price. In May 2001, we concluded that the operating cost structure of the online art retailer was inconsistent with the level of sales activity and our overall objectives. In June 2001, the prior management of the online art retailer made a proposal, which we accepted, to assume the prospective operations of the online art retailer as a separately capitalized entity. Pursuant to this agreement, we contributed assets of approximately $0.5 million, including $0.4 million of cash, an Internet domain name and related trademarks and other intangible assets in return for 5% ownership interest in the new entity. In addition, we entered into a revenue sharing agreement with the new entity whereby we will offer the new entity's product on its Web site in return for half of the gross profit from sales of the 15 new entity's products generated by our Web site. We did not assume any future operating costs or obligations. Further, substantially all the employees previously employed by the online art retailer became employees of the new entity or were terminated. Activity related to art operations during the quarter ended June 30, 2001, was recorded in accordance with APB No. 30 "Reporting the Results of Operations- Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions" and EITF 85-36 "Discontinued Operations with Expected Gain and Interim Operating Losses". Accordingly, losses from the acquisition closing date (May 3, 2001) through the measurement date (June 13, 2001) were reflected as net loss from discontinued operations in the financial statements for the quarter ended June 30, 2001. Losses from the measurement date through the separation date (July 31, 2001) were deferred, as there was reasonable assurance that a net gain on disposal will be realized. For the quarter ended June 30, 2001, net loss on discontinued operations included net sales commissions of approximately $125,000 and operating expenses of approximately $792,000. For the period from the measurement date through June 30, 2001, net losses of approximately $109,000 representing net sales commissions of approximately $53,000 and operating expenses of $162,000 were deferred. For the quarter ended September 30, 2001, net losses of approximately $588,000 representing net sales commissions of approximately $159,000 and operating expenses of approximately $747,000 were netted against gain on disposal of discontinued operations. We recognized a net gain from disposal of segment of approximately $1.8 million during the quarter ended September 30, 2001. During June 2001, we sold two Internet domain names and related trademarks related to a product information Internet site in exchange for $0.4 million cash. The majority of the cash proceeds were received during the quarter ended September 2001. We recorded a loss on sale of approximately $0.5 million during the quarter ended June 2001. Our consolidated financial statements have been prepared on the historical cost basis of accounting in accordance with generally accepted accounting principles in the United States, which may be greater or less than the fair value of assets and liabilities as determined by Global Sports, Inc. Following the definitive merger agreement, we evaluated the realizability of our long- lived assets pursuant to SFAS No. 121. As a result, we recorded an impairment as depreciation and amortization expense of approximately $8.9 million during the quarter ended September 30, 2001. Recent Accounting Pronouncements In August 2001, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, which is effective beginning April 2002. SFAS No. 144 supersedes SFAS No. 121, Accounting for the Impairment of Long-Lived Assets to Be Disposed Of, and the accounting and reporting provisions relating to the disposal of a segment of a business of Accounting Principles Board Opinion No. 30. We do not anticipate that the adoption of SFAS No. 144 will have a material impact on our financial position. In July 2001, the FASB issued Statements No. 141, Business Combinations and No. 142, Goodwill and Other Intangible Assets requiring the nonamortization approach to account for purchased goodwill. Under the nonamortization approach, goodwill would be tested for impairment based on fair values, rather than amortized to earnings. These standards are effective beginning in April 2002. Upon adoption, these standards will not have a significant effect on our financial statements as the related assets were expensed as of September 30, 2001. In July 2000, the EITF reached a consensus on EITF 00-10, "Accounting for Shipping and Handling Fees and Costs." This consensus requires that all amounts billed to a customer in a sale transaction related to shipping and handling, if any, represent revenue and should be classified as such. We historically have classified shipping charges to customers as revenue. In September 2000, the EITF concluded that the classification of shipping and handling costs should be disclosed pursuant to Accounting Principles Board (APB) Opinion No. 22, "Disclosure of Accounting Policies." If shipping and handling costs are significant and are not included in cost of sales, companies should disclose both the amount of such costs and which line item on the income statement includes that amount. Shipping and handling costs cannot be netted against sales. We classify inbound and outbound shipping costs as costs of sales. We generally do not impose separate handling charges on customers. However, during fiscal year 2001, we began charging for shipping costs. We began charging for packaging costs during fiscal 2002. Costs attributable to receiving, inspecting and warehousing inventories and picking, packaging and preparing customers' orders for shipment are classified as marketing and sales expense and totaled $0.7 million and $1.2 million during 16 quarters ended December 31, 2001 and 2000, respectively, and $1.9 million and $2.5 million during the nine months ended December 31, 2001 and 2000, respectively. In May 2000, the EITF issued EITF 00-14 "Accounting for Certain Sales Incentives," which provides guidance on the accounting for certain sales incentives offered by companies to their customers such as discounts, coupons, rebates and products or services. EITF 00-14 addresses the recognition, measurement and income statement classification for sales incentives offered voluntarily by a vendor without charge to customers that can be used in, or that are exercisable by a customer as a result of a single exchange transaction. The accompanying financial statements include the reclassification of free product and service incentives delivered to customers at the time of sale, from marketing and sales expense to cost of sales, related to the adoption of EITF 00-14. All periods presented have been reclassified for consistent presentation. Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK We have assessed our vulnerability to certain market risks, including interest rate risk associated with financial instruments included in cash, cash equivalents and short-term investments. Due to the short-term nature of these investments and our investment policies and procedures, we have determined that the risk associated with interest rate fluctuations related to these financial instruments does not pose a material risk to us. RISK FACTORS THAT MAY AFFECT FUTURE RESULTS The following risk factors and other information included in this Report should be carefully considered. The risks and uncertainties described below are not the only ones we face. Additional risks and uncertainties not presently known to us or that we currently deem immaterial also may impair our business operations. If any of the following risks actually occur, our business, financial condition and operating results could be materially adversely affected. Risks Related to Our Business We May Be Unable to Meet Our Future Capital Requirements. We have suffered significant losses from operations since its inception. Management continues to implement a strategy to significantly reduce costs and improve operating efficiencies. We have incurred expenses in connection with our definitive merger agreement with Global Sports, Inc. since September 14, 2001. Further, we have incurred additional operating losses during the same period. As a result, our liquidity position has deteriorated. Assuming that the pending acquisition by Global Sports, Inc. is not completed, management believes that a revised restructuring plan will be required and that the resulting cash balances and borrowing capacity will be sufficient to meet anticipated needs for at least the next twelve months. Any such plan would likely include further cost reductions, including costs associated with personnel, further consideration of our existing lines of business and further reductions in our investment in inventory. Any projections of future cash needs and cash flows are subject to substantial uncertainty. Accordingly, there is substantial doubt as to our ability to continue as a going concern. If our current cash and cash that may be generated from future operations are insufficient to satisfy our liquidity requirements, we may seek to sell additional equity or debt securities or to obtain additional credit facilities from lenders. We cannot be certain that financing will be available to us on favorable terms when required, or at all. If we raise funds through the issuance of equity, equity-related or debt securities, the securities may have rights, preferences or privileges senior to those of the rights of our common stock and our stockholders may experience dilution. We require substantial working capital to fund our business. Since our inception, we have experienced negative cash flow from operations and expect to experience negative cash flow from operations in the future. In addition, our public accountants have issued a going concern opinion. We have sufficient funds for our anticipated needs for working capital and capital expenditures through at least the next 12 months. After that, we may need to raise additional funds. Our Limited Operating History Makes Future Forecasting Difficult. Because Most of our Expenses Are Fixed Based on Planned Operating Results, Failure to Accurately Forecast Revenue Could Cause Net Losses in a Given Quarter to be Greater than Expected. We were incorporated in March 1998 and began selling products on our Web site in April 1998. Accordingly, we have an extremely limited operating history upon which to base an evaluation of our business and 17 prospects. Our business and prospects must be considered in light of the risks, expenses and difficulties frequently encountered by companies in their early stage of development, particularly companies in new and rapidly evolving markets such as online commerce. As a result of our limited operating history, it is difficult to accurately forecast our net sales and we have limited meaningful historical financial data upon which to base planned operating expenses. We base our current and future expense levels on our operating plans and estimates of future net sales, and our expenses are to a large extent fixed. Sales and operating results are difficult to forecast because they generally depend on the volume and timing of the orders we receive, which is uncertain. As a result, we may be unable to adjust our spending in a timely manner to compensate for any unexpected revenue shortfall. This inability could cause our net losses in a given quarter to be greater than expected. We Anticipate Future Losses and Negative Cash Flow, which May Limit or Delay Our Ability to Become Profitable. Since our formation, we have made significant expenditures on our technology, Web site development, advertising, hiring of personnel and startup costs. As a result, we have incurred losses since our inception and expect to experience negative cash flow during future periods. We expect to incur additional costs and expenses related to: . brand development, marketing and other promotional activities; . the continued maintenance and development of our Web site, the systems and staff that process customer orders and payments, and our computer network; . the expansion of our product offerings and Web site content; and . development of relationships with strategic business partners. Our ability to become profitable depends on our ability to generate and sustain substantially higher net sales while maintaining reasonable expense levels, both of which are uncertain. If we do achieve profitability, we cannot be certain that we would be able to sustain or increase profitability on a quarterly or annual basis in the future. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." Our Operating Results are Volatile and Difficult to Predict. If We Fail to Meet the Expectations of Public Market Analysts and Investors, the Market Price of Our Common Stock May Decline Significantly. Our quarterly operating results have fluctuated in the past, and we expect both our quarterly and annual operating results to fluctuate significantly in the future. Because our operating results are volatile and difficult to predict, we believe that quarter-to-quarter comparisons of our operating results are not a good indication of our future performance. In some future quarter our operating results may fall below the expectations of securities analysts and investors. In this event, the trading price of our common stock may decline significantly. The following are material factors that may harm our business or cause our operating results to fluctuate: . general economic conditions . our inability to obtain new customers at reasonable cost, retain existing customers or encourage repeat purchases; . seasonality; . our inability to manage inventory levels or control inventory theft; . our inability to manage our fulfillment operations; . our inability to adequately maintain, upgrade and develop our Web site, the systems that we use to process customer orders and payments or our computer network; . the ability of our competitors to offer new or enhanced Web sites, services or products; . our inability to obtain product lines from our suppliers; 18 . the availability and pricing of merchandise from vendors; and . increases in the cost of online or offline advertising. A number of factors will cause our gross margins to fluctuate in future periods, including the mix of corporate sales to traditional retail sales, the mix of products we sell, inventory management, marketing and supply decisions, inbound and outbound shipping and handling costs, the level of product returns and the level of discount pricing and promotional coupon usage. Any change in one or more of these factors could reduce our gross margins in future periods. In addition, our operating results depend on the overall demand for our products, which in turn depends on general economic and business conditions. The nature and extent of the effect of the current economic climate on our ability to sell our products is uncertain. A softening of demand for our products caused by weakening of the economy may result in decreased revenues. There can be no assurance that we will be able to effectively promote revenue growth rates in all economic conditions. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." Our Common Stock May be Delisted from the Nasdaq National Market. On April 9, 2001, we received notice from Nasdaq that our common stock had failed to maintain Nasdaq's minimum bid price closing requirement of $1.00 and that such failure had continued beyond the ninety (90) day probationary period allowed under the Nasdaq National Marketplace Rules. The letter specified that, as a result of our failure to maintain the minimum bid price closing requirement, our common stock would be delisted at the close of business on July 18, 2001. However, we appealed the decision, and the delisting was stayed pending a hearing before the Nasdaq Qualifications Panel. On September 11, 2001, we received notice from Nasdaq that we did not comply with the market value of the public float requirement set forth in the Nasdaq National Marketplace Rules. On September 27, 2001, Nasdaq announced that in response to the extraordinary market conditions following the events of September 11, 2001, Nasdaq was implementing a moratorium on the minimum bid and float requirements for continued listing on Nasdaq. These requirements were suspended until January 2, 2002. On August 27, 2001, we held our annual meeting, in which our stockholders approved a 1-for-10 reverse stock split that was to be implemented on October 15, 2001. As the meeting was held prior to the moratorium announced by Nasdaq, we believed that the reverse stock split was the most effective means to avoid a delisting of our common stock from Nasdaq. Our board of directors has delayed implementing the reverse stock split because of the proposed merger and Nasdaq's suspension of the listing requirements. If the merger does not occur and our common stock continues to trade on the Nasdaq National Market, we may have to implement the reverse stock split in order to comply with the Nasdaq National Market rules. We cannot predict whether the reverse stock split, if ultimately implemented, would increase the market price for our common stock. The history of similar stock split combinations for companies in like circumstances is varied. There is no assurance that the market price per share of our common stock following the reverse stock split would either exceed or remain in excess of the $1.00 minimum bid price as required by Nasdaq or that we will otherwise meet the requirements of Nasdaq for continued inclusion for trading on Nasdaq. A reverse stock split could negatively impact the value of our stock by allowing additional downward pressure on the stock price as its relative value per share becomes greater following the reverse split. That is to say, the stock, at its new, higher price, has farther to fall and therefore more room for investors to short or otherwise trade the value of the stock downward. Similarly, a delisting may negatively impact the value of the stock as stocks trading on the over-the- counter market are typically less liquid and trade with larger variations between the bid and ask price. The market price of our common stock will also be based on our performance and other factors, some of which are unrelated to the number of shares outstanding. If the reverse stock split is effected and the market price of our common stock declines, the percentage decline as an absolute number and as a percentage of our overall market capitalization may be greater than would occur in the absence of a reverse stock split. Furthermore, liquidity of our common stock could be adversely affected by the reduced number of shares that would be outstanding after the reverse stock split. 19 Failure to Complete the Merger Could Adversely Affect Our Stock Price, Future Business and Operations. If the merger with Global Sports, Inc. is not completed for any reason, we may be subject to a number of material risks, including the following: . the price of our common stock may decline to the extent that the market price prior to such termination reflects a market assumption that the merger will be completed; . costs related to the merger, such as legal, accounting and financial advisor fees, must be paid even if the merger is not completed; and . we may be required under certain circumstances to pay Global Sports, Inc. a termination fee of $750,000, plus expenses. Further, if the merger were terminated and our board of directors sought another merger or business combination, there would be no assurance that it would be able to find a partner willing to pay an equivalent or more attractive price than the price Global Sports, Inc. is offering in the merger. In addition, while the merger agreement is in effect, subject to very narrowly defined exceptions, we are prohibited from soliciting, initiating, encouraging or entering into transactions such as a merger, sale of assets or other business combination with any other party other than Global Sports, Inc. Global Sports' or our partners, vendors, suppliers, including key brand manufacturers, or customers, in response to the announcement or pendency of the merger, may delay or defer decisions concerning the relevant company. Any delay or deferral of those decisions by partners, vendors, suppliers or customers, or a decision by any of these parties to discontinue its relationship with us or Global Sports, Inc., could have a material adverse effect on the business of the relevant company. Similarly, current and prospective Global Sports, Inc. or our employees may experience uncertainty about their future roles with Global Sports, Inc. until Global Sports' plans with regard to us are announced or fully executed. For example, we and Global Sports, Inc. have discussed terminating a significant number of our employees in certain functional areas if the merger is completed. This may adversely affect our ability to attract and retain key employees. We Expect to Experience Seasonal Fluctuations in Our Net Sales, which Will Cause Our Quarterly Results to Fluctuate and Could Cause Our Annual Results to be Below Expectations. We expect to experience significant seasonal fluctuations in our net sales that will cause quarterly fluctuations in our operating results. In particular, we realized approximately 40%, 50% and 40% of our net sales for fiscal 2001, 2000 and 1999, respectively, during the fourth calendar quarter, primarily due to gift purchases made during the holiday season. We expect this trend to continue in the future. Due to our limited operating history, it is difficult to predict the seasonal pattern of our sales and the impact of seasonality on our business and financial results. In the future, our seasonal sales patterns may become more pronounced, may strain our personnel and warehousing and order shipment activities and may cause a shortfall in net sales as compared to expenses in a given period. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." If We Are Unable to Purchase or Continue to Purchase Products Directly from the Brand Owners, Our Net Sales Could Decrease. A significant portion of our units sold is purchased directly from the brand owners. We are negotiating with some of the remaining brand owners to purchase those brands directly, in all product categories. We believe that purchasing directly from the brand owners will provide us with a more predictable supply of products, as well as a lower cost of goods. As a result, we believe that part of our success is contingent on attaining or maintaining our ability to buy directly from the brand owners. If we lose or do not improve our ability to buy directly from the brand owners, our net sales or margins may decrease. 20 Our Ability to Meet Consumer Demand is in Part Dependent upon the Availability of Products Purchased Indirectly from Sources Other than the Brand Owners. If We Are Unable to Obtain Popular Products Through Indirect Sources, Our Net Sales Will Decline. We purchase brands indirectly from distributors and other third parties that we do not purchase directly from the brand owners. The availability of products purchased indirectly depends on many factors, including consumer demand, manufacturer production and fashion trends. Since there are no guarantees that we will be able to obtain a sufficient supply of products indirectly from third-party distributors and other suppliers, customer demand may, at times, exceed our supply of those products. If this occurs we could lose customers and our net sales would decline. In addition, the luxury goods brand owners could establish procedures to limit or control our ability to purchase products indirectly and several brand owners in the U.S. have distinctive legal rights rendering them the only legal importer of their respective brands into the U.S. In the event we acquire such products indirectly from distributors and other third parties who may not have complied with applicable customs laws and regulations, such goods can be subject to seizure from our inventory by U.S. Customs, and the importer may have a civil action for damages against us. As it is often difficult to ascertain the original circumstances of importation of certain goods offered to us by our distributors and other third parties, this could impact our ability to obtain sufficient quantities of popular luxury goods, such as watches, and cause customer dissatisfaction. If We Are Unable to Obtain Sufficient Quantities of Popular Luxury and Premium Products, Our Net Sales Could Decrease. If we are not able to offer our customers a sufficient supply and selection of products in a timely manner, we could lose customers and our net sales could be below expectations. Our success depends on our ability to purchase products in sufficient quantities at competitive prices, particularly for the holiday shopping season. As is common in the industry, we generally do not have long- term or exclusive arrangements with brand owners, distributors or brokers that guarantee the availability of products for resale. In the luxury goods market, a product or fashion style periodically becomes intensely popular. From time to time, we may have trouble obtaining sufficient product allocations of particularly popular brands. In addition, we believe that some of our suppliers may establish their own online retailing efforts, which may impact our ability to get sufficient product allocations from suppliers. In several cases, the brands that we wish to carry have delayed establishing a relationship with us until they have their own Web site up and running. In other cases, the brand owners distribute only a small amount of product and rely partially on the scarcity of that product to provide a merchandising mystique. It is unlikely that we will obtain products for our Web site from brands who follow the scarcity mystique, and there is no assurance that we will actually obtain relationships within all sectors that we have planned to offer. Therefore, we do not have a predictable or guaranteed supply of products. Because We Carry Almost All of the Products We Sell in Inventory, if We are Unable to Accurately Predict and Plan for Changes in Consumer Demand Our Net Sales and Gross Margins May Decrease. At December 31, 2001, we held approximately $16.5 million of products in inventory. The rapidly changing trends in consumer tastes in the market for luxury and premium products subject us to significant inventory risks. It is critical to our success that we accurately predict these trends and do not overstock unpopular products. The demand for specific products can change between the time the products are ordered and the date of receipt. We are particularly exposed to this risk because we derive a majority of our net sales in the fourth calendar quarter of each year. Our failure to sufficiently stock popular products in advance of the fourth calendar quarter would harm our operating results for the entire fiscal year. In the event that one or more products do not achieve widespread consumer acceptance, we may be required to take significant inventory markdowns, which could reduce our net sales and gross margins. This risk may be greatest in the first calendar quarter of each year, after we have significantly increased inventory levels for the holiday season. We believe that this risk will increase as we begin to offer additional luxury items due to our lack of experience in purchasing these items. In addition, to the extent that demand for our products increases over time, we may be forced to increase inventory levels. Any increase would subject us to additional inventory risks. If We Experience Significant Inventory Theft, Our Gross Profit Margin Would Decrease. Although immaterial to date, in the past we have experienced theft of merchandise shipments in route from our facility to our customers. In the future, we expect that we may also experience theft of merchandise while it is 21 being held in our fulfillment facility. We have worked with our shipping carriers and have taken steps aimed at preventing theft. If these steps are inadequate or if security measures fail at our fulfillment facility, we could incur significant inventory theft, which could cause gross profit margins and results of operations to decrease significantly. Sales of Luxury Goods Are Particularly Susceptible to General Economic Downturns. If General Economic Conditions Deteriorate, Our Sales Could Suffer. Purchases of luxury products are typically discretionary for consumers and may be particularly affected by negative trends in the general economy. The success of our operations depends to a significant extent on a number of factors relating to discretionary consumer spending and affecting disposable consumer income, such as employment, wages and salaries, business conditions, interest rates, exchange rates, availability of credit and taxation. In addition, because the purchase of luxury products is relatively discretionary, any reduction in disposable income in general may affect us more significantly than companies in other industries. To Manage Our Growth and Expansion, We Need to Improve and Implement Financial and Managerial Controls and Improve Our Reporting Systems and Procedures. If We Are Unable to Do So Successfully, We May Not Be Able to Manage Growth Effectively and Our Operating Results Would Be Harmed. Our growth in personnel and operations has placed, and will continue to place, a significant strain on our management, information systems and resources. In order to manage this growth effectively, we need to continue to improve our financial and managerial controls and reporting systems and procedures. Any inability of our management to integrate additional companies, employees, customer databases, merchandise lines, categories of merchandise, technology advances, fulfillment systems, and customer service into operations and to eliminate unnecessary duplication may have a materially adverse effect on our business, financial condition and results of operations. If We Are Unable to Successfully Expand Our Accounting and Financial Reporting Systems, Our Stock Price Could Decline. We continue to expand our financial and management information systems to accommodate new data. If we fail to successfully implement and integrate our new financial reporting and management information systems with our existing systems or if we are not able to expand these systems to accommodate our growth, we may not have adequate, accurate or timely financial information. Our failure to have adequate, accurate or timely financial information would hinder our ability to manage our business and operating results. If we continue to grow rapidly, we will face additional challenges in upgrading and maintaining our financial and reporting systems. We May Not Be Able to Compete Successfully Against Current and Future Competitors. We expect competition in the online sale of luxury and premium products to intensify in the future. Increased competition is likely to result in price pressure, reduced gross margins and loss of market share, any of which could seriously harm our net sales and operating results. In addition, the luxury goods industry is intensely competitive. We currently or potentially compete with a variety of other companies, including: . traditional retailers of luxury and premium products; . brand owners of the products we sell; . other online retailers of luxury and premium products; and . catalog retailers. Many of our competitors have advantages over us including longer operating histories, greater brand recognition and significantly greater financial, sales and marketing and other resources. In addition, traditional store-based retailers offer customers benefits that are not obtainable over the Internet, such as enabling customers to physically inspect a product before purchase and not incurring costs associated with maintaining a Web site. 22 If We Are Unable to Build Awareness of the Ashford.com Brand, We May Not Be Able to Compete Effectively Against Competitors with Greater Name Recognition and Our Sales Could Be Adversely Affected. If we are unable to economically achieve or maintain a leading position in online commerce or to promote and maintain our brand, our business, results of operations and financial condition could suffer. We believe that the importance of brand recognition will increase as more companies engage in commerce over the Internet. Development and awareness of our brand will depend largely on our success in increasing our customer base. If the leading brand owners do not perceive us as an effective marketing and sales channel for their merchandise, or consumers do not perceive us as offering a desirable way to purchase merchandise, we may be unsuccessful in promoting and maintaining our brand. If We Enter New Business Categories That Do Not Achieve Market Acceptance, Our Brand and Reputation Could Be Damaged and We Could Fail to Attract New Customers. If we launch or acquire a new department or product category that is not favorably received by consumers, our brand or reputation could be damaged. This damage could impair our ability to attract new customers, which could cause our net sales to fall below expectations. An expansion of our business to include other luxury goods will require significant additional expenses, and strain our management, financial and operational resources. This type of expansion would also subject us to increased inventory risk. We may choose to expand our operations by developing other new departments or product categories, promoting new or complementary products, expanding the breadth and depth of products and services offered or expanding our market presence through relationships with third parties. In addition, we may pursue the acquisition of other new or complementary businesses, products or technologies. If Our Strategy to Sell Products Outside of the United States is Not Successful, Our Increases in Operating Expenses May Not Be Offset by Increased Sales. If we are not able to successfully market, sell and distribute our products in foreign markets or if certain risks and uncertainties of doing business in foreign markets prove insurmountable then these factors could have a material adverse effect on our future global operations, and consequently, on our operating margins. We do not currently have any overseas fulfillment or distribution facility or arrangement or any Web site content localized for foreign markets, and we cannot be certain that we will be able to establish a global presence. In addition, there are certain risks inherent in doing business on a global level, including: . regulatory requirements; . export restrictions; . tariffs and other trade barriers; . difficulties in staffing and managing foreign operations; . difficulties in protecting intellectual property rights; . longer payment cycles; . problems in collecting accounts receivable; . political instability; . fluctuations in currency exchange rates; and . potentially adverse tax consequences. If We Experience Problems with Our Third-Party Shipping Services, We Could Lose Customers. We rely upon third-party carriers, primarily Federal Express and UPS, for product shipments, including shipments to and from our warehouse. We are therefore subject to the risks, including employee strikes and 23 inclement weather, associated with these carriers' ability to provide delivery services to meet our shipping needs. In addition, failure to deliver products to our customers in a timely manner would damage our reputation and brand. Our Operating Results Depend on Our Internally Developed Web Site, Network Infrastructure and Transaction-Processing Systems. If We Do Not Successfully Maintain Our Web Site and the Systems That Process Customer Orders, We Could Lose Customers and Net Sales Could be Reduced. The satisfactory performance, reliability and availability of our Web site, transaction-processing systems and network infrastructure are critical to our operating results, as well as to our ability to attract and retain customers and maintain adequate customer service levels. Any system interruptions that result in the unavailability of our Web site or reduced performance of the transaction systems would reduce the volume of sales and the attractiveness of our service offerings. This would seriously harm our business, operating results and financial condition. We use internally developed systems for our Web site and substantially all aspects of transaction processing, including customer profiling and order verifications. We have experienced periodic systems interruptions due to server failure, which we believe will continue to occur from time to time. If the volume of traffic on our Web site or the number of purchases made by customers increases by more than two times our current holiday sales levels, we will need to further expand and upgrade our technology, transaction processing systems and network infrastructure. We have experienced and expect to continue to experience temporary capacity constraints due to sharply increased traffic during sales or other promotions, which cause unanticipated system disruptions, slower response times, degradation in levels of customer service, impaired quality and delays in reporting accurate financial information. If we fail to maintain our Web site or toll-free call center in order to accommodate increased traffic, we may lose customers, which would reduce our net sales. Furthermore, if we fail to maintain the computer systems that we use to process and ship customer orders and process payments, we may not be able to successfully fulfill customer orders. As a result, we could lose customers and our net sales could be reduced. In addition, our failure to maintain or upgrade our Web site or these computer systems without system downtime would further reduce our net sales. We may experience difficulty in improving and maintaining our systems if our employees or contractors that develop or maintain our computer systems become unavailable to us. We have experienced periodic systems interruptions, which we believe will continue to occur, while enhancing and expanding these computer systems. Our Facilities and Systems are Vulnerable to Natural Disasters and Other Unexpected Problems. The Occurrence of a Natural Disaster or Other Unexpected Problem Could Damage Our Reputation and Brand and Reduce Our Net Sales. The occurrence of a natural disaster or unanticipated problems at our leased or offsite hosting facilities that house substantially all of our computer and communications hardware systems could cause interruptions or delays in our business, destroy data or render us unable to accept and fulfill customer orders. Any of these interruptions or delays at these facilities would reduce our net sales. In addition, our systems and operations are vulnerable to damage or interruption from fire, flood, power loss, telecommunications failure, break- ins, earthquake and similar events. We have not established specific procedures for handling damage or interruptions caused by these events and our business interruption insurance may not adequately compensate us for losses that may occur. In addition, the failure by the third-party facility to provide the data communications capacity required by us, as a result of human error, natural disaster or other operational disruptions, could interrupt our service. The occurrence of any or all of these events could damage our reputation and brand and impair our business. Our Net Sales Could Decrease if Our Online Security Measures Fail. Our relationships with our customers may be adversely affected if the security measures that we use to protect their personal information, such as credit card numbers, are ineffective. If, as a result, we lose many customers, our net sales could decrease. We rely on security and authentication technology that we license from third parties. With this technology, we perform real-time credit card authorization and verification with our bank. We cannot predict whether events or developments will result in a compromise or breach of the technology we use to protect a customer's personal information. Furthermore, our servers may be vulnerable to computer viruses, physical or electronic break-ins and similar disruptions. We may need to expend significant additional capital and other resources to protect against a security breach or to alleviate problems caused by any breaches. We cannot assure that we can prevent all security breaches. 24 Our Net Sales and Gross Margins Would Decrease If We Experience Significant Credit Card Fraud. A failure to adequately control fraudulent credit card transactions would reduce our net sales and our gross margins because we do not carry insurance against this risk. We have developed procedures to help us to detect the fraudulent use of credit card information. Under current credit card practices, we are liable for fraudulent credit card transactions because we do not obtain a cardholder's signature. If We Do Not Respond to Rapid Technological Changes, Our Services Could Become Obsolete and We Could Lose Customers. If we face material delays in introducing new services, products and enhancements, our customers may forego the use of our services and use those of our competitors. To remain competitive, we must continue to enhance and improve the functionality and features of our online store. The Internet and the online commerce industry are rapidly changing. If competitors introduce new products and services, or if new industry standards and practices emerge, our existing Web site and proprietary technology and systems may become obsolete. To develop our Web site and technology entails significant technical and business risks. We may use new technologies ineffectively or we may fail to adapt our technology to meet customer requirements or emerging industry standards. Intellectual Property Claims Against Us Can Be Costly and Could Impair Our Business. Other parties may assert infringement or unfair competition claims against us. We cannot predict whether they will do so, or whether any future assertions or prosecutions will harm our business. If we are forced to defend against any infringement claims, whether they are with or without merit or are determined in our favor, then we may face costly litigation, diversion of technical and management personnel, or product shipment delays. Further, the outcome of a dispute may be that we would need to develop non-infringing technology or enter into royalty or licensing agreements. Royalty or licensing agreements, if required, may be unavailable on terms acceptable to us, or at all. If the Protection of Our Trademarks and Proprietary Rights is Inadequate, Our Brand and Reputation Could Be Impaired and We Could Lose Customers. The steps we take to protect our proprietary rights may be inadequate. We regard our copyrights, service marks, trademarks, trade dress, trade secrets and similar intellectual property as critical to our success. We rely on trademark and copyright law, trade secret protection and confidentiality or license agreements with our employees, customers, partners and others to protect our proprietary rights. We currently have applications for registration in the United States Patent and Trademark Office, as well as various foreign trademark offices, of several of our trademarks. In some instances, these applications span a variety of goods and services. Effective trademark, service mark, copyright and trade secret protection may not be available in every country in which we will sell our products and services online. Furthermore, the relationship between regulations governing domain names and laws protecting trademarks and similar proprietary rights is unclear. Therefore, we may be unable to prevent third parties from acquiring domain names that are similar to, infringe upon or otherwise decrease the value of our trademarks and other proprietary rights. The Loss of the Services of One or More of Our Key Personnel, or Our Failure to Attract, Assimilate and Retain Other Highly Qualified Personnel in the Future, Could Disrupt Our Operations and Result in Loss of Net Sales. Our future performance will depend on the continued services of our management and key personnel and the ability to attract additional management and key personnel. The loss of the services of one or more of our key personnel could seriously interrupt our business. We depend on the continued services and performance of our senior management and other key personnel. Our future success also depends upon the continued service of our executive officers and other key sales, marketing and support personnel. Our relationships with officers and key employees are at will and none of our officers or key employees is bound by an employment agreement for any specific term. We currently have key person life insurance policies covering James H. Whitcomb, Jr. While the proceeds of these policies might assist us in recruiting executive officers, the proceeds would not address the potential disruption to our business of recruiting and integrating new senior management. 25 We May Not Achieve Expected Benefits of Any Investments or Acquisitions That We Complete. As we identify appropriate opportunities, we intend to continue to make acquisitions of or investments in complementary companies, products or technologies. We may not correctly identify or realize the anticipated benefits of any acquisition or investment. For example, we may not be able to successfully assimilate the additional personnel, operations, acquired technology and products into our business. Acquisitions may further strain our existing financial and managerial controls and reporting systems and procedures. In addition, key personnel of acquired companies may decide not to work for us. These difficulties could disrupt our ongoing business, distract our management and employees or increase our expenses. Further, any physical expansion in facilities due to an acquisition may result in disruptions that seriously impair our business. We are not experienced in managing facilities or operations in geographically distant areas. Finally, in connection with any future acquisitions, we may incur debt or issue equity securities as part or all of the consideration for the acquired company's assets or capital stock. We may be unable to obtain sufficient additional financing on favorable terms, or at all. Equity issuances could be dilutive to our existing stockholders or us. Executive Officers, Directors and Entities Affiliated with Them Have Substantial Control over Ashford.com which Could Delay or Prevent a Change in Our Corporate Control Favored by Our Other Stockholders. Executive officers, directors and entities affiliated with them, if acting together, would be able to significantly influence all matters requiring approval by our stockholders, including the election of directors and the approval of mergers or other business combination transactions. It May Be Difficult for a Third Party to Acquire Us Even if Doing So Would Be Beneficial to Our Stockholders. Provisions of our certificate of incorporation, our by-laws and Delaware law could make it more difficult for a third party to acquire us, even if doing so would be beneficial to our stockholders. In particular, our certificate of incorporation provides for a board of directors that is divided into three classes which may issue preferred stock without any stockholder action. Our certificate of incorporation also does not allow stockholders to act by written consent or for cumulative voting in the election of directors. Only one class of directors is up for reelection at each annual meeting. In addition, Section 203 of the Delaware General Corporation Law places restrictions on business combinations with interested stockholders. Risks Related to Our Industry We Depend on Increasing Use of the Internet and on the Growth of Online Commerce. Our future revenues substantially depend upon the increased acceptance and use of the Internet and other online services as a medium of commerce. Rapid growth in the use of the Internet, the Web and online services is a recent phenomenon. As a result, acceptance and use may not continue to develop at historical rates and a sufficiently broad base of customers may not adopt, and/or continue to use, the Internet and other online services as a medium of commerce. Demand and market acceptance for recently introduced services and products over the Internet are subject to a high level of uncertainty and there exist few proven services and products. In addition, the Internet may not be accepted as a viable long-term commercial marketplace for a number of reasons, including potentially inadequate development of the necessary network infrastructure or delayed development of enabling technologies and performance improvements. If the Internet continues to experience significant expansion in the number of users, frequency of use or bandwidth requirements, the infrastructure for the Internet may be unable to support the demands placed upon it. In addition, the Internet could lose its viability as a commercial medium due to delays in the development or adoption of new standards and protocols required to handle increased levels of Internet activity, or due to increased governmental regulation. Changes in, or insufficient availability of, telecommunications services to support the Internet also could result in slower response times and adversely affect usage of the Internet generally. Our business, financial condition and results of operations would be seriously harmed if: . use of the Internet, the Web and other online services does not continue to increase or increases more slowly than expected; 26 . the infrastructure for the Internet, the Web and other online services does not effectively support expansion that may occur; the Internet, the Web and other online services do not become a viable commercial marketplace; or . traffic to our Web site decreases or fails to increase as expected or if we spend more than we expect to attract visitors to our Web site. If We Are Unable to Acquire the Necessary Web Domain Names, Our Brand and Reputation Could Be Damaged and We Could Lose Customers. We may be unable to acquire or maintain Web domain names relating to our brand in the United States and other countries in which we may conduct business. As a result, we may be unable to prevent third parties from acquiring and using domain names relating to our brand, which could damage our brand and reputation and take customers away from our Web site. We currently hold, among others, the "Ashford.com," "newwatch.com," "sunglasses.com," "TimeZone.com," "Paris1925.com," "Jasmin.com" and "Ashfordcorporategifts.com" domain names and may seek to acquire additional domain names. Governmental agencies and their designees generally regulate the acquisition and maintenance of domain names. The regulation of domain names in the United States and in foreign countries is subject to change in the near future. The changes in the United States are expected to include a transition from the current system to a system that is controlled by a non-profit corporation and the creation of additional top-level domains. Governing bodies may establish additional top-level domains, appoint additional domain name registrars or modify the requirements for holding domain names. We May Need to Change the Manner in Which We Conduct Our Business if Government Regulation Increases. The adoption or modification of laws or regulations relating to the Internet could adversely affect the manner in which we currently conduct our business. In addition, the growth and development of the market for online commerce may lead to more stringent consumer protection laws, both in the United States and abroad, that may impose additional burdens on us. Laws and regulations directly applicable to communications or commerce over the Internet are becoming more prevalent. The United States Congress recently enacted Internet laws regarding children's privacy, copyrights, taxation and the transmission of sexually explicit material. The European Union recently enacted its own privacy regulations. Laws regulating the Internet, however, remain largely unsettled, even in areas where there has been some legislative action. It may take years to determine whether and how existing laws such as those governing intellectual property, privacy, libel, and taxation apply to the Internet. In order to comply with new or existing laws regulating online commerce, we may need to modify the manner in which we do business, which may result in additional expenses. For instance, we may need to spend time and money revising the process by which we fulfill customer orders to ensure that each shipment complies with applicable laws. We may need to hire additional personnel to monitor our compliance with applicable laws. We may also need to modify our software to further protect our customers' personal information. We May Be Subject to Liability for the Internet Content That We Publish. As a publisher of online content, we face potential liability for defamation, negligence, copyright, patent or trademark infringement, or other claims based on the nature and content of materials that we publish or distribute. If we face liability, then our reputation and our business may suffer. In the past, plaintiffs have brought these types of claims and sometimes successfully litigated them against online companies. In addition, we could be exposed to liability with respect to the unauthorized duplication of content or unauthorized use of other parties' proprietary technology. Although we carry general liability insurance, our insurance currently does not cover claims of these types. We cannot be certain that we will be able to obtain insurance to cover the claims on reasonable terms or that it will be adequate to indemnify us for all liability that may be imposed on us. Any imposition of liability that is not covered by our insurance or is in excess of insurance coverage could decrease our gross profit. Our Net Sales Could Decrease if We Become Subject to Sales or Other Taxes If one or more states or any foreign country successfully asserts that we should collect sales or other taxes on the sale of our products, our net sales and results of operations could be harmed. One or more local, state or foreign jurisdictions may seek to impose sales tax collection obligations on us. In addition, any new operation could subject our shipments in other states to state sales taxes under current or future laws. If we become obligated to 27 collect sales taxes, we will need to update our system that processes customer orders to calculate the appropriate sales tax for each customer order and to remit the collected sales taxes to the appropriate authorities. These upgrades will increase our operating expenses. In addition, our customers may be discouraged from purchasing products from us because they have to pay sales tax, causing our net sales to decrease. As a result, we may need to lower prices to retain these customers. Risks Related to Securities Markets Our Common Stock Price Is Volatile, Which Could Result In Substantial Losses for Individual Stockholders. The trading price of our common stock fluctuates significantly. For example, since our initial public offering through December 31, 2001, the reported sale price of our common stock on the Nasdaq National Market was as high as $24.88 and as low as $0.08. Trading prices of our common stock may fluctuate in response to a number of events and factors, such as: . actual or anticipated variations in our quarterly operating results; . announcements of technological innovations or new products or services by us or our competitors; . changes in financial estimates by securities analysts; . conditions or trends in the Internet and/or online commerce industries; . changes in the economic performance and/or market valuations of other Internet, online commerce or retail companies; . announcements by us or our competitors of significant acquisitions, strategic partnerships, joint ventures or capital commitments; . additions or departures of key personnel; . release of transfer restrictions on our outstanding shares of common stock or sales of additional shares of common stock; and . potential litigation. In addition, the stock market has from time to time experienced extreme price and volume fluctuations. These broad market fluctuations may adversely affect the market price of our common stock. PART II. OTHER INFORMATION Item 1. Legal Proceedings. We are, and from time to time may be, involved in litigation relating to claims arising out of our ordinary course of business. We believe that there are no claims or actions pending or threatened against us, the ultimate disposition of which would materially adversely affect us. 28 Item 6. Exhibits and Reports on Form 8-K. (a) Exhibits under Item 601 of Regulation S-K Exhibit Number Description ------ ----------- 2.1** Option Agreement dated August 17, 1999 by and between the Company and Power Reserve, Inc. and Richard E. Paige 2.2** Asset Acquisition Agreement dated October 26, 1999 by and between the Company and Power Reserve, Inc. 2.3** Asset Acquisition Agreement dated October 26, 1999 by and between the Company and Richard E. Paige 2.4*** Agreement and Plan of Reorganization dated as of January 14, 2000 by and among the Company, Ashford-Jasmin Fragrance Company and Jasmin.com Corporation 2.5****** Merger Agreement by and among the Company, Ashford-Watchnetwork Company, and EST, Inc. 2.6+ Agreement and Plan of Reorganization dated January 3, 2001 by and among the Company, Guild.com, Inc., and Ashford-Guild Art Corporation 2.7++ Agreement and Plan of Merger and Reorganization dated as of September 13, 2001 among the Company, Global Sports, Inc. and Ruby Acquisition Corporation 3.1* Amended and Restated Certificate of Incorporation of the Company 3.2* By-laws of the Company 4.1* Amended and Restated Investors' Rights Agreement, dated July 9, 1999, among the Company and the investors and founders named therein 4.2* Specimen Certificate of the Company's common stock 4.3 Reference is made to Exhibits 3.1 and 3.2 10.1* Form of Indemnification Agreement entered into between the Company and its directors and officers 10.2* 1998 Stock Incentive Plan 10.3* 1999 Equity Incentive Plan 10.4* 1999 Employee Stock Purchase Plan 10.5* Office Lease dated July, 1999 between the Company and Crescent Real Estate Funding III, L.P. 10.6* Employment Agreement dated May 10, 1999 between the Company and Kenneth E. Kurtzman 10.7* Employment Agreement dated November 28, 1998 between the Company and James H. Whitcomb, Jr. 10.8* Advertising Agreement dated July 30, 1999 between the Company and America Online, Inc. 10.9* Credit Agreement dated August 9, 1999 between the Company and Chase Bank of Texas, National Association 10.10**** Stock Purchase Agreement dated as of November 29, 1999 by and among the Company, Amazon.com, Inc. and Amazon.com Advertising Services NV, Inc. 10.11***** Loan and Security Agreement by and among Congress Financial Corporation (Southwest) as Lender and Ashford.com, Inc., Ashford Buying Company, Ashford Corporate Gifts, Inc., and Ashford-Jasmin Fragrance Company * Incorporated by reference to the Company's Registration Statement on Form S-1 (File No. 333-82759). ** Incorporated by reference to the Company's Current Report on Form 8-K/A filed on November 12, 1999. *** Incorporated by reference to the Company's Current Report on Form 8-K/A filed on February 1, 1999. **** Incorporated by reference to the Company's Current Report on Form 8-K filed on December 15, 1999. ***** Incorporated by reference to the Company's Current Report on Form 8-K filed on October 3, 2000. ****** Incorporated by reference to the Company's Current Report on Form 8-K filed on March 21, 2001. + Incorporated by reference to the Company's Annual Report on Form 10-K filed on June 29, 2001. ++ Incorporated by reference to the Company's Current Report on Form 8-K filed on September 19, 2001. 29 (b) Reports on Form 8-K: We did not file any Reports on Form 8-K during the quarter ended December 31, 2001. SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. Date: February 14, 2002 ASHFORD.COM, INC. By: /s/ Brian E. Bergeron ------------------------ Brian E. Bergeron Chief Financial Officer 30

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