CDNOW Fourth Quarter 1999 Revenues Up 154% From Year Ago to a

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					    CDNOW Fourth Quarter 1999 Revenues Up 154% From Year Ago to a Record $53.1 Million
  Company Adds 528,000 Unique Customers in Quarter, Bringing Cumulative Total to 3.2 Million
                Advertising Revenues Rise 33% Sequentially to $3.4 Million
February 3, 2000 04:49 PM Eastern Time
FORT WASHINGTON, Pa., Feb. 3 /PRNewswire/ -- CDNOW, Inc announced today that its revenues for
the fourth quarter ended December 31, 1999, rose 154 percent from the same period a year earlier to a
record $53.1 million. CDNOW added 528,000 new customers during the busy holiday period, bringing
the number of unique customers who have purchased from CDNOW to 3.2 million.

CDNOW's 1999 fourth quarter revenues compare to $20.9 million in the same period in 1998. The
company also experienced a sequential increase of 45 percent from revenues of $36.6 million in the
third quarter of 1999. Full-year 1999 revenues came to a record $147.2 million, up 161 percent from
$56.4 million in 1998.

The net loss for the fourth quarter of 1999 was $25.7 million, or $0.85 per share, excluding special items.
This amount does not include $8.2 million, or $0.27 per share, for amortization of goodwill and other
intangibles related to the March 1999 merger of CDNOW and N2K and the June 1998 acquisition of
superSonic Boom, Inc. Also excluded are $391,000, or $0.01 per share, for merger-related expenses
incurred in connection with the company's July 1999 definitive agreement to merge with Columbia
House, which is owned equally by Time Warner Inc. and Sony Corporation of America. Including such
costs, the net loss for the fourth quarter of 1999 was $34.3 million, or $1.13 per share, compared to
$12.9 million, or $0.73 per share, in the fourth quarter of 1998. For the full year 1999, the net loss was
$119.2 million, or $4.32 a share, compared with $43.9 million, or $2.79 per share, for 1998.

Jason Olim, President and Chief Executive Officer, said: "CDNOW wrapped up 1999 with, by many
measures, our strongest quarter ever. Revenues grew substantially both year-over-year and
sequentially. Traffic was exceptional and CDNOW ranked seventh among shopping sites in December.
We also continued to develop our multiple revenue stream model during the quarter with the addition of
numerous brand-name advertisers, and we added 60,000 digital downloads, positioning CDNOW as the
premier online destination for music lovers.

"CDNOW has always been an innovator in online music, and is extending its leadership into the new
century. With over 500,000 music- and entertainment- related items, we continue to offer the most
comprehensive and personalized selection of music for purchase on the Web, and are supplementing
that every day with the fullest collection of online music-related content. CDNOW is pioneering music
downloading, Webcasting, custom CDs - and every other important innovation in online music."

Advertising sales during the fourth quarter of 1999 increased to $3.4 million, up from $2.6 million in the
third quarter and $1.9 million in the second quarter of the year. New advertisers on the CDNOW site
during the quarter included Oldsmobile, Oracle and United Airlines.

CDNOW's expenses as a percentage of revenues improved during the quarter. Operating expenses,
excluding special items, totaled $35.8 million, representing 67 percent of revenues, compared to 85
percent of revenues in the fourth quarter of 1998 and 87 percent of revenues in the third quarter of 1999.
CDNOW's fourth quarter 1999 gross margin was negatively affected by holiday promotions. The gross
margin for the fourth quarter of 1999 was 18.2 percent, compared to 20.1 percent for the fourth quarter
of 1998 and 21.9 percent for the third quarter of 1999.

Key Metrics

Traffic to CDNOW in December twice exceeded 1 million daily visits, averaging 821,000 for the month.
Average daily visits in the fourth quarter increased 178 percent from the same period a year ago. Repeat
customers during the quarter accounted for 60 percent of CDNOW's product revenues, compared to 56
percent a year ago.

In December, CDNOW ranked seventh on the list of the Top 10 Shopping Sites by Reach, according to
the Media Metrix Monthly Web Report. In terms of the overall customer experience for the holiday
season, CDNOW ranked fifth in the Robertson Stephens Online Shopping Challenge.

Operating Highlights

The fourth quarter is typically the most important of the year for traditional retailers, and CDNOW's e-
commerce efforts generated significant momentum during the holiday selling period.

CDNOW's digital music downloading initiative launched on schedule during the fourth quarter, offering
for sale more than 13,000 immediately downloadable tracks. Since its launch, the number of tracks
available for purchase by digital download has increased to 60,000. Available downloads for sale include
top alternative artists such as Beck and Ani DiFranco, funk/rockers 311 and jazz legend John Coltrane.
Free downloads include top artists Kid Rock, the Goo Goo Dolls, Third Eye Blind and Eric Benet.

Also during the quarter, CDNOW's Holiday Custom Shop continued to gain popularity, allowing music
fans to mix and match their holiday favorites from more than 330 different songs and produce
customized CDs shipped directly to their doors. This is an increase of almost 100 songs over the number
available in the fourth quarter of 1998. Currently, CDNOW's Custom Shop is offering more than 170
songs in the Valentine's Day Custom Shop.

Just two weeks ago, CDNOW announced a groundbreaking promotion with Pizza Hut that allows
customers who buy The Big New Yorker Pizza to get a free Custom CD with six songs of their choice
from many of today's top artists. The promotion is designed not only to drive traffic to the CDNOW site,
but also to familiarize music fans with the possibilities of customized and personalized music. The
promotion is supported by Pizza Hut's multi-million dollar, co-branded print and broadcast marketing
campaign highlighted by a pre-kick off Super Bowl Sunday television spot. The campaign runs through
February 20.

Another important launch during the fourth quarter was CDNOW's Video Shop, which provides music
fans the ability to buy videotapes and DVDs of thousands of movies and music videos. This
complementary product category offers an exciting collection of well-known titles, which currently include
"The Sixth Sense," "Runaway Bride," and "The Thomas Crown Affair."

During the fourth quarter, CDNOW Media, under the direction of Howard Blumenthal, Vice President of
Interactive Media, debuted CDNOW WebSessions. Planned as an ongoing series, CDNOW
WebSessions will feature behind-the-scenes looks at today's hottest recording artists. The first CDNOW
WebSession was an insider's look at the rock band Wilco, which kept visitors on the site an average of 9
minutes per session, compared with an average visit of 7.7 minutes for the CDNOW site as a whole.

About CDNOW

CDNOW, Inc., is the online music destination that offers the most comprehensive, personalized
connection to the world of music. CDNOW's offerings consist of more than 500,000 music and
entertainment-related items, including CDs, DVDs, videotapes, cassettes, vinyl albums and Custom
CDs, as well as music samples and intelligent album recommendations. CDNOW Media, the company's
newly formed interactive division, develops CDNOW's interactive content, including, allstar(TM) News,
artist interviews and reviews, music downloads, Cosmic Music Network-an innovative community for
unsigned bands-and the company's cybercasting and entertainment.
Planned Merger with Sony and Time Warner's Columbia House

On July 12, 1999, CDNOW entered into a definitive agreement with Sony Corporation of America and
Time Warner Inc. to merge with Columbia House, the leading club-based direct marketer of music and
videos. The new public company resulting from the merger will be owned 37 percent each by Sony and
Time Warner. CDNOW's existing stockholders will own the remaining 26 percent. The company
anticipates that the merger will close in the second quarter of 2000, following receipt of regulatory
approval from the FTC, clearance from the SEC, and shareholder approval.

This release contains statements relating to future results of the Company (including certain projections
and business trends) that are "forward-looking statements" as defined in the Private Securities Litigation
Reform Act of 1995. Actual results may differ materially from those projected as a result of certain risks
and uncertainties, including but not limited to, changes in political and economic conditions, demand for
and market acceptance of new and existing products, as well as other risks and uncertainties detailed
from time to time in the filings of the Company with the Securities and Exchange Commission.

                                        CDNOW, INC.
                           CONDENSED CONSOLIDATED BALANCE SHEETS

                                         December 31                December 31,
                                             1999                         1998
    ASSETS
    CURRENT ASSETS:
     Cash and cash equivalents 20,612,706                           49,041,370
     Accounts receivable, net   4,068,700                              839,672
     Prepaid expenses and other 5,580,241                            8,322,889
     Total current assets      30,261,647                           58,203,931

    Property and equipment,
     net                              17,216,980                     6,643,995
    Goodwill and other
     intangibles, net                 70,121,321                       833,735
    Other assets                       1,201,809                     3,361,982
                                     118,801,757                    69,043,643

    LIABILITIES AND STOCKHOLDERS' EQUITY
    CURRENT LIABILITIES:
    Current portion of long
     term debt                  1,670,838                              822,043
    Accounts payable           46,431,122                           10,306,323
    Accrued merger costs        1,384,679                                   --
    Accrued expenses and other
     current liabilities       17,927,779                            4,667,395
    Total current liabilities 67,414,418                            15,795,761

    Long term debt                     2,629,359                     1,750,892
    Common stock subject to
     put rights                        2,999,995                             --
    Deferred rent liabilities            992,696                        358,053

    STOCKHOLDERS' EQUITY:
    Common stock, no par
     value                           204,573,908                   102,137,536
    Additional paid-in
     capital                         14,589,814                      4,325,817
    Deferred compensation              (61,905)                      (216,913)
    Accumulated deficit           (174,336,528)                   (55,107,503)
    Total stockholders'
     equity                           44,765,289                    51,138,937
                                     118,801,757                    69,043,643
                                        CDNOW, INC.
                           CONSOLIDATED STATEMENTS OF OPERATIONS




Three Months Ended Twelve Months Ended

                                         December 31,                        December 31,
                                     1999          1998                 1999           1998

     Net sales                53,107,057       20,890,801      147,189,405      56,394,606
     Cost of sales            43,458,466       16,700,766      118,037,621      45,250,328
     Gross profit              9,648,591        4,190,035       29,151,784      11,144,278

     Operating expenses:
     Operating and
      development         7,119,608             2,844,305       23,421,062       8,000,023
     Sales and marketing 25,916,821            13,278,636       88,103,790      44,572,304
     General and
      administrative      2,737,748              1,578,661       9,312,593       4,244,194
     Amortization of
      goodwill and other
      intangibles         8,170,884                  87,000     25,786,261          202,801
     Other operating
      charges               391,151                       --     4,054,910               --

     Total operating
      expenses                44,336,212       17,788,602      150,678,616      57,019,322




Operating loss (34,687,621) (13,598,567) (121,526,832) (45,875,044)

Interest and other income 505,721 727,347 2,688,882 2,742,581 Interest expense (93,278) (73,384)
(391,075) (636,458)

Net loss (34,275,178) (12,944,604) (119,229,025) (43,768,921)

Accretion of preferred stock to redemption value -- -- -- (115,542)

Net loss applicable to common

shareholders (34,275,178) (12,944,604) (119,229,025) (43,884,463)

     Basic and diluted loss per common share:
      Net loss (before amortization
      of goodwill and other intangibles
      and other   operating charges
      and accretion of
      preferred stock)
                              (0.85)       (0.73)                     (3.24)         (2.77)
     Amortization of goodwill
      and other intangibles (0.27)             --                     (0.93)         (0.01)

     Other operating charges (0.01)                       --          (0.15)             --

     Accretion of preferred
      stock to redemption value       --               --              --          (0.01)

    Net loss per common
     share                        (1.13)           (0.73)         (4.32)           (2.79)

      Weighted average
       number of shares
       outstanding           30,268,783       17,641,642     27,618,917       15,712,857


SOURCE CDNOW, Inc.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS

RECENT DEVELOPMENTS

Acquisition of N2K Inc. On October 22, 1998, CDnow and N2K Inc., a Delaware corporation, entered
into an Agreement and Plan of Merger (the "Merger Agreement"). The parties created a new public
company, initially named CDnow/N2K Inc. ("CDnow/N2K"). The Merger Agreement provided for the
merger (the "Merger") of wholly-owned subsidiaries of CDnow/N2K into each of CDnow and N2K. CDnow
and N2K survived the Merger and became wholly-owned subsidiaries of CDnow/N2K. In the Merger,
each outstanding share of common stock of CDnow was converted into one share of CDnow/N2K and
each outstanding share of common stock of N2K was converted into .83 shares of CDnow/N2K. As a
result, the shareholders of Cdnow owned approximately 60% of the combined company and the
stockholders of N2K owned approximately 40% of the combined company as of the date the Merger
was completed on March 17, 1999. Also on the Merger completion date, CDnow/N2K was renamed
CDnow, Inc.

Columbia House Merger. On July 13, 1999, the Company announced the execution of a definitive
agreement with Sony Corporation of America and Time Warner Inc. to combine the businesses of the
Company and Columbia House, the leading club-based direct marketer of music and videos, which is
owned equally by Sony Corporation and Time Warner Inc. The agreement provides for the formation of
a new public company to be owned 37 percent each by Sony and Time Warner. CDnow's existing
stockholders will own the remaining 26 percent. Consummation of the merger is subject to various
conditions, including, but not limited to, approval by the shareholders of the Company. The Company
expects the merger to be completed during the fourth quarter of 1999.

OVERVIEW

The Company is one of the leading electronic commerce retailers of pre-recorded music, including CDs,
and other entertainment-related products. The Company is also a source of entertainment-related
content and a focal point of an Internet community for the exchange of entertainment-related news and
information. Its early entry into the online music retailing industry has helped the Company gain a well-
recognized brand and a large customer base. The Company strives to combine the advantages of
online commerce with superior customer focus in order to be the authoritative source for the online
purchase of music including, without limitation, CDs, and other entertainment-related products. The
Company's online store, cdnow.com, offers broad selection, informative content, easy-to-use
navigation and search capabilities, a high level of customer service, competitive pricing and
personalized merchandising and recommendations. Due to the Company's retail focus, revenues are
primarily derived from the sale of pre-recorded music and related products, drawing from its
comprehensive selection of approximately 500,000 items. The Company also sells advertising space
and sponsorships on its site to companies interested in promoting their own goods and services to the
Company's customer base and the large number of visitors to the Company's web site.
The Company has grown rapidly since its inception in 1994. Approximately 2.4 million customers have
made purchases from either CDnow or from Music Boulevard, the Internet music retail store operated
previously by N2K (which, as of May 17, 1999 was consolidated into the cdnow.com online store), since
their inception through June 30, 1999, of whom approximately 755,000 made their initial purchase during
the six months ended June 30, 1999. The Company's net sales grew to $34.6 million during the three
months ended June 30, 1999, compared to $11.6 million during the three months ended June 30, 1998.
The Company's net sales increased to $57.5 million during the six months ended June 30, 1999,
compared to $21.6 million during the six months ended June 30, 1998. In addition to the sales
generated from the traffic of Music Boulevard customers as a result of the acquisition of N2K, and
the rapid acquisition of new customers, the Company has also generated significant customer loyalty.
Repeat customers accounted for approximately 63% of net sales during the six months ended June 30,
1999, up from approximately 54% during the six months ended June 30, 1998.

The Company believes that the key factors affecting its long-term financial success include its ability
to obtain new customers at reasonable costs, retain customers and encourage repeat purchases. The
Company seeks to expand its customer base through multiple marketing channels, which include (i)
pursuing an aggressive marketing campaign using a combination of online and traditional marketing,
(ii) establishing marketing agreements with major Internet content and service providers, (iii) entering
into linking arrangements with other Internet sites as part of its Cosmic Credit and C2 affiliate website
programs and (iv) using direct marketing techniques to target new and existing customers with
personalized communications. The Company periodically enters into marketing agreements with various
Internet portals and online content providers. The Company presently has marketing agreements in
place with, among others, AOL, Yahoo!, Excite, MTV/VH1 and Rolling Stone Network.

Since its inception, the Company has incurred significant net losses and, as of June 30, 1999, had
accumulated losses of $105.9 million. As it seeks to expand aggressively, the Company believes that its
operating expenses will continue at a high level as a result of the financial commitments related to the
development of marketing channels, future marketing agreements, and improvements to its Internet
site and other capital expenditures. The Company expects that it will continue to incur losses and
generate negative cash flow from operations for the foreseeable future as it continues to develop its
business. Since the Company has relatively low product gross margins, the ability of the Company to
generate and enhance profitability depends upon its ability to substantially increase its net sales. To the
extent that significantly higher net sales do not result from the Company's marketing efforts, the
Company will be materially adversely affected. There can be no assurance that the Company will be
able to generate sufficient revenues from the sale of pre-recorded music, including CDs, and other
entertainment-related products to achieve or maintain profitability on a quarterly or annual basis.

RESULTS OF OPERATIONS

           Three Months Ended June 30, 1999, Compared to the
                   Three Months Ended June 30,1998
           -------------------------------------------------

Net Sales. Net sales reflect the sale of pre-recorded music and other entertainment-related
products, net of estimated returns and include outbound shipping and handling charges. The sale of
advertising on the Company's cdnow.com site is also included in net sales. For the three months
ended June 30, 1999, net sales were $34.6 million, representing an increase of 198% over the
corresponding period in 1998. Net sales for the three month period ended June 30, 1999, include the
Company's sales to Music Boulevard customers as a result of the acquisition of N2K. The increase in
sales is also attributable to continued growth of the Company's customer base, increased sales from
repeat customers and increased advertising revenue. International sales represented 20% of net sales
for the three months ended June 30, 1999, compared to 22% for the corresponding period in 1998. The
decrease in international sales as a percentage of net sales is due to a proportionally larger increase
in domestic sales from Music Boulevard customers as a result of the acquisition of N2K.

For the three months ended June 30, 1999, the Company added approximately 332,000 new
customers, bringing the total number of customers who have made purchases at either CDnow or
Music Boulevard since inception to approximately 2.4 million as of June 30, 1999. Repeat
customer purchases represented approximately 66% of net sales for the three months ended June 30,
1999 compared to 57% for the three months ended June 30, 1998. During the quarter the Company
ocused on implementing the fusion of the CDnow and Music Boulevard online stores into a single
integrated site and on migrating existing Music Boulevard customers to the new CDnow online store.
As a result, the Company primarily targeted its marketing efforts at existing customers, rather than
new customer acquisition. In addition, the Company's second-quarter revenues were affected by delays
in transitioning certain links from a large marketing partner to the new CDnow online store and by delays
in fulfilling CDnow customer orders as a result of a warehouse relocation by a major supplier.

Cost of Sales. Cost of sales consists primarily of the cost of merchandise sold to customers, including
product fulfillment and outbound shipping and handling charges. Cost of sales was $28.0 million for the
three months ended June 30, 1999, compared to $9.3 million for the corresponding period in 1998.
The Company's gross margin decreased to 19.1% for the three months ended June 30, 1999,
compared to 20.0% for the corresponding period in 1998. The decrease in gross margin percentage
was primarily due to the overall price decline as a result of the synchronization of CDnow and N2K's
price lists effective April 1, 1999; and an extended storewide sale beginning May 17, 1999 to
promote the re-launch of the Company's website (cdnow.com). This impact was partially offset by the
positive effect of advertising revenue, which has a higher margin than product sales.

During the quarter ended September 30, 1998, the Company determined to include credit card
processing fees ("Credit Card Fees") in sales and marketing expenses rather than in cost of sales, as was
previously the case. This change was made based on management's determination that including Credit
Card Fees in sales and marketing expense was more consistent with the treatment of such expenses
by retailers generally. The financial information in this Form 10-Q related to the Company's results of
operations for the three months ended June 30, 1998, have been restated to reflect this change.
Credit Card Fees were approximately $843,000 and $310,000 during the three months ended June
30, 1999 and 1998, respectively. If Credit Card Fees were included in cost of sales, gross profit margins
would have been 16.7% and 17.3%, during the three months ended June 30, 1999 and 1998,
respectively.

Operating and Development Expense. Operating and development expense consists primarily of
payroll and related expenses for store management, design, development and network operations
personnel, systems and telecommunications infrastructure, and royalties paid by the Company on
product sales in return forlicensing of ratings, reviews, sound samples and other information. Store
development costs are charged to expense as incurred. Operating and development expense was $5.8
million for the three months ended June 30, 1999 compared to $1.7 million for the corresponding
period in 1998. As a percentage of net sales, operating and development expense was 16.8% for the
three months ended June 30, 1999 compared to 14.5% for the three months ended June 30, 1998. The
increase in both dollars and percentage terms is attributable to costs associated with supporting
increased traffic and sales volume in the CDnow store, including the costs associated with operating
two separate websites from March 18, 1999 through May 17, 1999 following the acquisition of N2K.
The increase is also attributable to increased staffing and associated costs related to enhancing the
features and functionality of the Company's Internet site and transaction-processing
systems, as well as increased investments in store content, systems and telecommunications
infrastructure to support the increased transaction volume in the CDnow store.
Sales and Marketing Expense. Sales and marketing expense consists primarily of expenses related to
marketing agreements, advertising and promotion, as well as payroll and related expenses for personnel
engaged in marketing, selling and customer service activities. Sales and marketing expense was $21.7
million for the three months ended June 30, 1999, compared to $9.3 million for the three months
ended June 30, 1998. The increase in absolute dollars was primarily attributable to increased costs
associated with the Company's marketing agreements, including marketing agreements assumed by
CDnow as a result of the acquisition of N2K and marketing agreements entered into during or after the
second quarter of 1998. The increase is also due to increased advertising and promotional
expenditures, increased staffing and related costs in connection with the implementation of its
marketing strategy and customer service activities necessary to support its increased customer
base, and increased credit card processing fees related to the growth of revenues. As a percentage of
net sales, sales and marketing expense decreased to 62.6% for the three months ended June 30,
1999, compared to 80.0% for the three months ended June 30, 1998. The decrease as a percentage of
sales is primarily attributable to the increased percentage of the Company's sales from repeat
customer purchases, which are relatively less expensive than the cost of acquiring new customers.

The Company expects the dollar amount of sales and marketing expense to continue to increase in future
periods. The Company is hopeful that its net sales will increase in future periods and that its sales
and marketing expense will represent a decreasing percentage of net sales. However, no assurance
can be given that the Company will achieve increased net sales or that sales and marketing expense
will decrease as a percentage of net sales.

General and Administrative Expense. General and administrative expense consists of payroll and related
expenses for executive, accounting and administrative personnel, insurance, professional fees and
other general and corporate expenses. General and administrative expense was $3.4 million for the
three months ended June 30, 1999 compared to $0.9 million for the three months ended June 30, 1998.
As a percentage of net sales, general and administrative expense increased to 9.7% for the three
months ended June 30, 1999 from 7.4% for the three months ended June 30, 1998. The increase in
general and administrative expense, in both dollars and percentage terms, was primarily due to the
hiring of additional personnel to support the overall growth of the Company and the acquisition of
N2K. The increase is also attributable to increased professional fees and the inclusion of merger-related
expenses of approximately $720,000 incurred in connection with the Company's July 12, 1999 definitive
agreement to merge with Columbia House.

Amortization of Goodwill and Other Intangibles. Amortization of goodwill and other intangibles
related to the acquisition of N2K and superSonic Boom, Inc. was $8.1 million for the three months
ended June 30, 1999, compared to $28,800 for the three months ended June 30, 1998.

Net Loss Applicable to Common Shareholders. The Company's net loss applicable to common
shareholders was $31.7 million for the three months ended June 30, 1999, compared to $8.9 million for
the three months ended June 30, 1998.

           Six Months Ended June 30, 1999, Compared to the
                   Six Months Ended June 30, 1998
           -----------------------------------------------

Net Sales. Net sales were $57.5 million for the six months ended June 30, 1999, representing an
increase of 166% over the corresponding period in 1998. Net sales for the six-month period ended
June 30, 1999, include the Company's sales to Music Boulevard customers as a result of the acquisition of
N2K as of March 17, 1999. The increase in sales is also attributable to continued growth of the
Company's customer base, increased sales from repeat customers and increased advertising revenue.
For the six months ended June 30, 1999, the Company added approximately 755,000 new customers,
bringing the total number of customers who have made purchases at either CDnow or Music Boulevard
since inception to approximately 2.4 million as of June 30, 1999. Repeat customer purchases
represented approximately 63% of net sales for the six months ended June 30, 1999, compared to 54%
for the six months ended June 30, 1998. International sales represented 20% of net sales for the six
months ended June 30, 1999 compared to 22% for the corresponding period in 1998. The decrease in
international sales as a percentage of net sales is due to a proportionally larger increase in domestic
sales resulting from the inclusion of sales to Music Boulevard customers as a result of the acquisition of
N2K.

Cost of Sales. Cost of sales were $46.0 million for the six months ended June 30, 1999 compared to
$17.6 million for the corresponding period in 1998. The Company's gross profit margin increased to
20.0% for the six months ended June 30, 1999, compared to 18.8% for the corresponding period in
1998. The increase in gross margin was primarily attributable to an increase in revenues from the sale of
advertising on the CDnow site, which has a higher margin than product sales.

During the quarter ended September 30, 1998, the Company determined to include credit card
processing fees ("Credit Card Fees") in sales and marketing expenses rather than in cost of sales, as was
previously the case. This change was made based on management's determination that including Credit
Card Fees in sales and marketing expense was more consistent with the treatment of such expenses
by retailers generally. The financial information in this Form 10-Q related to the Company's results of
operations for the six months ended June 30, 1998, has been restated to reflect this change. Credit Card
Fees were approximately $1,287,000 and $586,000, during the six months ended June 30, 1999 and
1998, respectively. If Credit Card Fees were included in cost of sales, gross profit margins would have
been 17.7% and 16.0%, during the six months ended June 30, 1999 and 1998, respectively.

Operating and Development Expense. Operating and development expense was $9.6 million for the six
months ended June 30, 1999, compared to $2.8 million for the corresponding period in 1998. As a
percentage of net sales, operating and development expense was 16.6% for the six months ended
June 30, 1999, compared to 12.8% for the six months ended June 30, 1998. The increase in dollar and
percentage terms is attributable to costs associated with supporting increased traffic and sales volume
in the CDnow online store, including the costs associated with operating both the CDnow and Music
Boulevard websites from March 18, 1999, following the acquisition of N2K, through May 17, 1999. The
increase is also due to increased staffing and associated costs related to enhancing the features and
functionality of the Company's Internet site and transaction-processing systems, as well as
increased investments in store content, systems and telecommunications infrastructure to support the
increased transaction volume in the CDnow store.

Sales and Marketing Expense. Sales and marketing expense was $39.7 million for the six months ended
June 30, 1999, compared to $18.4 million for the six months ended June 30, 1998. As a percentage of
net sales, sales and marketing expense decreased to 69.1% for the six months ended June 30, 1999
compared to 84.9% for the six months ended June 30, 1998. The increase in absolute dollars was
primarily attributable to increased costs associated with the Company's marketing agreements,
including those assumed by CDnow as a result of the acquisition of N2K and those entered into
during or after the second quarter of 1998. The increase is also due to increased advertising and
promotional expenditures including costs associated with the 1999 Grammy Awards telecast in February
1999, which were higher than the comparable costs for the 1998 Grammy Awards telecast.

In addition, the Company incurred increased staffing and related costs in connection with the
implementation of its marketing strategy and customer service activities necessary to support its
increased customer base, and increased credit card processing fees related to the growth of revenues.
The decrease as a percentage of sales is primarily attributable to the increased percentage of the
Company's sales from repeat customer purchases, which are relatively less expensive than the cost of
acquiring new customers. The Company expects the dollar amount of sales and marketing expense to
continue to increase in future periods. The Company is hopeful that its net sales will increase in future
periods and that its sales and marketing expense will represent a decreasing percentage of net sales.
However, no assurance can be given that the Company will achieve increased net sales or that sales and
marketing expense will decrease as a percentage of net sales.

General and Administrative Expense. General and administrative expense was $4.7 million for the six
months ended June 30, 1999 compared to $1.7 million for the six months ended June 30, 1998. As a
percentage of net sales, general and administrative expense increased to 8.2% for the six months
ended June 30, 1999 from 7.9% for the six months ended June 30, 1998. The increase in general and
administrative expense, in both dollars and percentage terms, was primarily due to the hiring of
additional personnel to support the overall growth of the Company, which was largely due to the
acquisition of N2K. The increase is also attributable to increased professional fees and the inclusion of
merger-related expenses of approximately $720,000 incurred in connection with the Company's
July 12, 1999 definitive agreement to merge with Columbia House.

Amortization of Goodwill and Other Intangibles. Amortization of goodwill and other intangibles
related to the acquisition of N2K and superSonic Boom, Inc. was $9.5 million for the six months ended
June 30, 1999 compared to $28,800 for the six months ended June 30, 1998.

Net Loss Applicable to Common Shareholders. The Company's net loss applicable to common
shareholders was $50.8 for the six months ended June 30, 1999 compared to $18.2 million for the six
months ended June 30, 1998.

LIQUIDITY AND CAPITAL RESOURCES

At June 30, 1999, the Company's cash and cash equivalents were $41.9 million compared to $49.0
million at December 31, 1998. In February 1998, the Company consummated its initial public offering
by selling an aggregate of 4,561,250 shares of Common Stock and raising net proceeds of approximately
$67.0 million. In July 1998, the Company consummated a second public offering by selling an
aggregate of 1,250,000 shares of Common Stock and raising net proceeds of approximately $21.5
million. Prior to February 1998, the Company primarily financed its operations through private sales of
capital stock (which, through December 31, 1997, totaled $10.5 million, including $9.3 million raised in
July and August of 1997), the private sale of $5.8 million of Series A Notes in November 1997,
internally-generated cash flows, advances from related parties and certain other short-term loans.

Net cash used in operating activities of $30.8 million for the six months ended June 30, 1999 was
primarily attributable to a net loss of $50.8 million and an increase of $1.8 million in accounts
receivable as a result of increased revenues. These uses of cash were partially offset by a $12.1
million non-cash charge for depreciation and amortization, a $5.2 million decrease in prepaid
expenses and other assets primarily due to the expense of prepaid marketing agreements, and a
$3.7 million increase in accounts payable and accrued expenses, due to an increase in accrued
merchandise costs. The changes in working capital exclude the impact of the acquisition of the assets
acquired and liabilities assumed of N2K as of the merger date, March 17, 1999. For the six months
ended June 30, 1998, cash used in operating activities of $23.6 million resulted primarily from a net
loss of $18.1 million, a decrease of $4.6 million in accounts payable and accrued expenses, and an
increase of $1.6 million in prepaid expenses, partially offset by depreciation and amortization of
$751,000.

Net cash provided by investing activities was $23.6 million for the six months ended June 30, 1999,
which consisted of $25.3 million in net cash acquired from the acquisition of N2K, partially offset by
purchases of equipment of $1.6 million. Net cash used for investing activities was $1.1 million for the
six months ended June 30, 1998 and consisted of purchases of equipment of $1.6 million and
$424,000 of cash used in the purchase of superSonicBoom, Inc., partially offset by the sale of short
term investments of $1.0 million.
Net cash provided by financing activities was $10,000 for the six months ended June 30, 1999, and
consisted of proceeds from warrants and options exercised of $520,000, partially offset by payments
on capital leases and term loans of $510,000. Net cash provided by financing activities was $61.2
million for the six months ended June 30, 1998, and consisted of net proceeds of approximately $67.1
million from the Company's initial public offering, partially offset by the retirement of $5.8 million of the
Company's Series A Notes.

The Company is required to pay aggregate minimum fixed fees under the Company's marketing
agreements of $20.1 million, $18.9 million and $7.4 million during the remaining six months of 1999 and
the years ended December 31, 2000 and 2001, respectively. The Company also has minimum lease
obligations associated with leased office space and capital financing arrangements.

The Company expects to fund its future payment obligations under its marketing agreements from its
cash and cash equivalents and from cash generated from future operations and financing activities. As
of June 30, 1999, the Company had $41.9 million of cash and cash equivalents. As of that date, the
Company's principal commitments consisted of obligations under its marketing agreements as well as
obligations outstanding under capital and operating leases. Although the Company has no material
commitments for capital expenditures, it anticipates substantial increases in its capital expenditures
and lease commitments consistent with anticipated growth in operations, infrastructure and personnel.

In conjunction with the Company's execution of a definitive agreement on April 12, 1999 with Sony
Corporation of America and Time Warner Inc. to combine the businesses of the Company and Columbia
House, the Company received a commitment from Sony Music Entertainment Inc. and Time Warner
Inc. to provide the Company with up to $30 million in working capital financing, if needed based on
certain working capital minimums, drawable on or after December 15, 1999 to assist the Company in
meeting its working capital requirements until the closing of the merger, which is expected to be
completed in the fourth quarter of 1999. The Company believes that its current cash and cash
equivalents are sufficient to meet payment obligations until December 15, 1999.

FACTORS AFFECTING THE COMPANY'S BUSINESS AND PROSPECTS

The Company expects that it will experience seasonality in its business, reflecting a combination
of seasonal fluctuations in Internet usage and traditional retail seasonality patterns affecting sales
of recorded music and other entertainment-related products. Sales in the traditional retail music
industry are significantly higher in the fourth calendar quarter of each year than in the preceding
three-quarters. However, to date, the Company's limited operating history and rapid growth make it
difficult to ascertain the effects of seasonality on its business, especially with regard to products other
than the sale of music CDs. The Company believes that period-to-period comparisons of the Company's
historical results are not necessarily meaningful and should not be relied upon as an indication of future
results.
OVERVIEW 1998 Report

   CDnow believes that the key factors affecting its long-term financial success include its ability to obtain new
customers at reasonable costs, retain customers and encourage repeat purchases. CDnow continuously seeks to
expand its customer base through multiple marketing channels, which include:

.   pursuing an aggressive marketing campaign using a combination of online and traditional marketing;

.   establishing marketing agreements with major internet and proprietary online content and service providers;

.   entering into linking arrangements with other Web sites as part of its Cosmic Credit Program; and

. using direct marketing techniques to target new and existing customers with personalized communications.
CDnow entered into marketing agreements and business alliances with Yahoo!, Excite and GeoCities in August 1997,
September 1997 and January 1998, respectively, and has accelerated its marketing campaign since CDnow's initial
public offering in February 1998 by expanding its relationship with Yahoo! and entering into additional alliances with
Lycos, Lycos Bertelsmann, Rolling Stone Network, CMJ and MTV/VH1.

    Since its inception, CDnow has incurred significant net losses and, as of December 31, 1998, had accumulated
losses of $56.6 million. As it seeks to expand aggressively, CDnow believes that its operating expenses will
significantly increase as a result of the financial commitments related to the development of marketing channels,
future business relationships, and improvements to its Web site and other capital expenditures. CDnow expects that
it will continue to incur losses and generate negative cash flow from operations for the foreseeable future as it
continues to develop its business. As CDnow has relatively low product gross margins, the ability of CDnow to
generate and enhance profitability depends upon its ability to substantially increase its net sales. To the extent that
significantly higher net sales do not result from CDnow's marketing efforts, CDnow will be materially adversely
affected. There can be no assurance that CDnow will be able to generate sufficient revenues from the sale of CDs
and other music-related products to achieve or maintain profitability on a quarterly or annual basis.

   For the year ended December 31, 1998 and the year ended December 31, 1997, international sales accounted for
approximately 21% and 29%, respectively, of net sales. While CDnow expects that net sales from international
markets will continue to represent a significant portion of total net sales, CDnow believes that the percentage of its
net sales from international markets may decrease in future periods due to the substantial increase in CDnow's
domestic marketing and advertising expenditures.

RESULTS OF OPERATIONS

    The following table sets forth statement of operations data as a percentage of net sales for the periods indicated:



                                          YEAR ENDED DECEMBER 31,
                                     -----------------------------------
                                         1995         1996        1997    1998
                                         -------     --------     ------ --------

Net sales................................     100.0% 100.0% 100.0%            100.0%
Cost of sales............................       83.4      80.5        79.7     80.2
                                          ------- -------- ------ ------
   Gross profit........................         16.6      19.5       20.3      19.8
   Operating expenses:
   Operating and development.                    6.9      10.6       14.6       14.2
   Sales and marketing.                         10.6      12.1        55.3     79.0
   General and administrative...                 8.3       9.0        11.3       7.9
   Dispute settlement...............               --     16.3          --       --
                                               ------- --------      ------    ------
   Total operating expenses....... 25.8                   48.0        81.2    101.1
                                               ------- --------      ------    ------
   Operating loss......................          (9.2) (28.5)       (60.9)    (81.3)
Interest income (expense), net...                (0.2) (1.0)         3.7
                                          ------- -------- ------ ------
Net loss.................................      (9.2)% (28.7)% (61.9)% (77.6)
                                          ======= ======== ====== ======


Reclassifications

    This year, CDnow determined to include Information Royalties in operating and development expenses rather
than in cost of sales, as was previously the case. Information Royalties are royalties paid on CD sales in return for
licensing of ratings, reviews and other information. In addition, Cdnow determined to include credit card processing
fees in sales and marketing expenses, rather than in costs of sales as was previously the case. CDnow made these
changes based on management's determination that the changes are consistent with the treatment of these
expenses generally. We have restated CDnow's results of operations to reflect this change for all periods.

   The table below shows the amount of Information Royalties and Credit Card Processing Fees for the years ended
December 31, 1995, 1996, 1997, and 1998.



                                     YEAR ENDED DECEMBER 31,
                         ----------------------------------------------
                              1995       1996        1997         1998
                         ------------ -------- --------- -----------

Information Royalties...........    $   -- $146,200 $225,737 $ 469,770

Credit Card Processing Fees.....        28,940    143,702      468,225 1,451,324


  If CDnow included Information Royalties and Credit Card Processing Fees in costs of sales, gross profit margins
would have been:



                        YEAR ENDED DECEMBER 31,
                     -------------------------------------
                       1995       1996       1997      1998
                     -------- ------- -------- -------

                      15.2%        14.9%      16.3%      16.4%



Year Ended December 31, 1998 Compared to the Year Ended December 31, 1997

    Net Sales. Net sales primarily reflect the sales of CDs and related merchandise, net of estimated returns, and
include outbound shipping and handling charges. Net sales were $56.4 million for the year ended December 31,
1998, representing an increase of 225% over the year ended December 31, 1997. The increase is attributable to
continued growth of CDnow's customer base and repeat purchases from existing customers who have typically
purchased more units per order than new customers. Net sales were favorably affected by increased advertising and
promotional activities, including CDnow's purchase of advertising during the 1998 Grammy Awards and 1998 MTV
Video Music Awards, as well as the continued implementation of its marketing agreements. For the year ended
December 31, 1998, CDnow added approximately 686,000 new customers, bringing the total number of customers
since inception to 983,000 as of December 31, 1998, compared to 209,000 new customers that were added during
the year ending December 31, 1997. International sales represented 21% of net sales for the year ended December
31, 1998 compared to 29% for the year ended December 31, 1997. CDnow believes that the decrease international
sales as a percentage of net sales is due to a proportionally larger increase in domestic sales resulting from the
substantial increase in domestic marketing and advertising expenditures. Nevertheless, international sales increased
to $11.7 million for the year ended December 31, 1998, from $5.0 million in the year ended December 31, 1997.
Cost of Sales. Cost of sales consists primarily of the cost of merchandise sold to customers, including the costs of
filling orders and outbound shipping and handling. Cost of sales increased by $31.4 million, or 227%, to $45.3 million
for the year ended December 31, 1998, compared to $13.8 million for the year ended December 31, 1997. CDnow's
gross profit decreased to 19.8% for the year ended December 31, 1998 from 20.3% for the year ended December
31, 1997. The decline in gross margin was attributable to more aggressive pricing of recent releases and popular
titles, as well as increased sales discounts offered by CDnow.

    Operating and Development Expense. Operating and development expense consists primarily of payroll and
related expenses for store management, design, development and network operations personnel, systems and
telecommunications infrastructure and royalties paid by CDnow on CD sales in return for licensing of ratings, reviews,
sound samples and other information. Store development costs are charged to expense as incurred. Operating and
development expense increased by $5.5 million or 215% to $8.0 million for the year ended December 31, 1998
compared to $2.5 million for the year ended December 31, 1997. The increase is attributable to increased staffing
and associated costs related to enhancing the features and functionality of CDnow's Web site and transaction-
processing systems, as well as increased investment in store content, systems and telecommunications
infrastructure. As a percentage of net sales, operating and development expense remained relatively constant, to
14.2% for the year ended December 31, 1998, compared to 14.6% for the year ended December 31, 1997.

     Sales and Marketing Expense. Sales and marketing expense consists primarily of payments related to advertising,
promotion and marketing agreements as well as payroll and related expenses for personnel engaged in marketing,
selling and customer service activities and credit card fees. Sales and marketing expense increased by $35.0 million
to $44.6 million for the year ended December 31, 1998 compared to $9.6 million for the year ended December 31,
1997. As a percentage of net sales, sales and marketing expense grew to 79.0% for the year ended December 31,
1998 compared to 55.3% for the year ended December 31, 1997. The increase in both absolute dollars and as a
percentage of net sales was primarily attributable to increased online and traditional advertising, including CDnow's
purchase of advertising during the 1998 Grammy Awards and the 1998 MTV Video Music Awards, costs associated
with CDnow's marketing agreements and promotional and public relations expenditures. CDnow increased its
advertising expense to $32.9 million for the year ended December 31, 1998, compared to $6.7 million for the year
ended December 31, 1997. In addition, CDnow incurred increased staffing and related costs in connection with the
implementation of its marketing strategy and customer service activities necessary to support its increased customer
base and increased credit card processing fees related to the growth of revenues. CDnow expects the dollar amount
of sales and marketing expense generally and advertising expense in particular to continue to increase in future
periods. While CDnow is hopeful that its net sales will also increase in future periods so that its sales and marketing
expense will not continue to represent an increasing percentage of net sales, CDnow is not able to predict whether
its net sales will increase by a sufficient amount for this to occur. No assurance can be given that CDnow will achieve
increased net sales or that sales and marketing expense will not increase as a percentage of net sales.

    General and Administrative Expense. General and administrative expense consists of payroll and related expenses
for executive, accounting and administrative personnel, insurance, professional fees and other general and corporate
expenses. General and administrative expense increased by $2.5 million, or 128% to $4.4 million for the year ended
December 31, 1998 compared to $2.0 million for the year ended December 31, 1997. The increase in general and
administrative expense was primarily due to the hiring of additional personnel and increases in professional fees as
well as the costs associated with becoming a public company. As a percentage of net sales, general and
administrative expense decreased to 7.9% for the year ended December 31, 1998 compared to 11.3% for the year
ended December 31, 1997 as general and administrative expenses were spread over a large revenue base.

    Net Loss. CDnow's net loss was $43.8 million for the year ended December 31, 1998 compared to $10.7 million
for the year ended December 31, 1997. Year Ended December 31, 1997 Compared to the Year Ended December 31,
1996

    Net Sales. Net sales increased by $11.1 million or 176% to $17.4 million for the year ended December 31, 1997
from $6.3 million for the year ended December 31, 1996. This increase is primarily attributable to the significant
growth of CDnow's customer base and repeat purchases from CDnow's existing customers who have typically
purchased more units per order than new customers. International sales represented approximately 29% and 40%
of net sales for the years ended December 31, 1997 and December 31, 1996, respectively. CDnow believes that this
decrease in international sales as a percentage of net sales is due to the substantial increase in CDnow's domestic
marketing and advertising expenditures. At December 31, 1997, CDnow had approximately 296,000 customer
accounts compared to approximately 88,000 customer accounts at December 31, 1996.
    Cost of Sales. Cost of sales increased by $8.7 million or 173% to $13.8 million for the year ended December 31,
1997 from $5.1 million for the year ended December 31, 1996. This increase is primarily attributable to CDnow's
increased sales volume. CDnow's gross profit margin was 20.3% for the year ended December 31, 1997 compared to
19.5% for the year ended December 31, 1996. The increase in gross margin as a percentage of net sales was
primarily due to price reductions from CDnow's suppliers and a change to a lower-price supplier for imported music
and music-related products. CDnow's gross profit margin declined in the fourth quarter of 1997 due to increased
sales promotions during the holiday season.

    Operating and Development Expense. Operating and development expense increased by $1.9 million to $2.5
million for the year ended December 31, 1997 from $669,000 for the year ended December 31, 1996. As a
percentage of net sales, these expenses were 14.6% for the year ended December 31, 1997 and 10.6% for the year
ended December 31, 1996. This increase was due to increased staffing and associated costs related to enhancing the
features, content and functionality of CDnow's online store and transaction-processing systems, as well as increased
investments in systems and telecommunications infrastructure.

    Sales and Marketing Expense. Sales and marketing expense increased by $8.8 million to $9.6 million for the year
ended December 31, 1997 from $765,000 for the year ended December 31, 1996 with $6.0 million of this expense
incurred in the fourth quarter. As a percentage of net sales, these expenses increased to 55.3% for the year ended
December 31, 1997 from 12.1% for the year ended December 31, 1996. This increase was due to the significant
expansion of CDnow's advertising expenditures, costs associated with marketing agreements with Yahoo! and Excite
and the increased staffing and associated costs related to implementing CDnow's marketing strategy and supporting
CDnow's increased customer base. CDnow increased its advertising expense to $6.8 million for the year ended
December 31, 1997 compared to $61,000 for the year ended December 31, 1996.

    General and Administrative Expenses. General and administrative expense increased by $1.4 million to $2.0
million for the year ended December 31, 1997 from $564,000 for the year ended December 31, 1996. As a
percentage of net sales, these expenses increased to 11.3% for the year ended December 31, 1997 compared to
9.0% for the year ended December 31, 1996. This increase was primarily due to the recruitment and hiring of
additional personnel and increases in professional fees and travel expenses.

   Net Loss. CDnow's net loss increased by $8.9 million to a loss of $10.7 million for the year ended December 31,
1997 from a net loss of $1.8 million for the year ended December 31, 1996.

LIQUIDITY AND CAPITAL RESOURCES

    At December 31, 1998 CDnow's cash and cash equivalents were $49.0 million compared to $11.7 million at
December 31, 1997. In July 1998, CDnow consummated a follow-on public offering, selling an aggregate of
1,250,000 shares of common stock and raising net proceeds of approximately $21.7 million. In February 1998,
CDnow consummated its initial public offering, selling an aggregate of 4,561,250 shares of common stock that
included 461,250 shares sold in March 1998 upon the exercise of the underwriters' overallotment option and raising
net proceeds of approximately $67.0 million. Prior to February 1998, CDnow primarily financed its operations
through:

   .   private sales of capital stock, which, through December 31, 1997,
       totaled $10.5 million, including $9.3 million raised in July and
       August of 1997,

   .   the private sale of $5.8 million of the Series A Notes in November
       1997,

   .   internally-generated cash flow, advances from related parties and

   .   certain other short-term loans.

    Net cash used in operating activities of $40.4 million for the year ended December 31, 1998 was primarily
attributable to a net loss of $43.8 million and an increase of $3.7 million in prepaid expenses partially offset by a $5.2
million increase in accounts payable, accrued expenses and depreciation and amortization of $2.1 million.
    Net cash used by investing activities was $3.8 million for the year ended
December 31, 1998, and consisted of purchases of equipment and leasehold improvements of $4.4 million and
$424,000 for the acquisition of superSonicBoom, Inc., partially offset by the sale of short-term investments of $1.0
million. Net cash used in investing activities of $1.7 million for the year ended December 31, 1997 was attributable to
purchases of equipment of $413,000 and to purchases of short-term investments of $1.0 million, partially offset by
sales and maturities of short-term investments of $248,000. Net cash provided by financing activities was $82.6
million for the year ended December 31, 1998, and consisted largely of net proceeds of approximately $88.6 million
from CDnow's 1998 public offerings, offset by the retirement of $5.8 million of CDnow's Series A Notes.

   CDnow is required to pay aggregate minimum fixed fees of $24.2 million, $24.3 million and $7.2 million during
the years ending December 31, 1999, 2000 and 2001, respectively, under CDnow's marketing agreements.

   CDnow expects to fund its 1999 payment obligations under its marketing agreements from its cash and cash
equivalents, and its future payment obligations from cash generated from future operations and financing activities.
As of December 31, 1998, CDnow had $49.0 million of cash and cash equivalents. As of that date, CDnow's principal
commitments consisted of obligations under its marketing agreements as well as obligations outstanding under
capital and operating leases. Although CDnow has no material commitments for capital expenditures, it anticipates
substantial increases in its capital expenditures and lease commitments consistent with anticipated growth in
operations, infrastructure and personnel.

				
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