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DIGITALTOWN, INC. - 10-K - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

July 16, 2014

The following is a discussion of the financial condition and results of operations of the Company for the years ended February 28, 2014 and 2013, which should be read in conjunction with, and is qualified in its entirety by, the audited financial statements and notes thereto included elsewhere in this report.

Company Overview



DigitalTown owns and operates a nationwide social networking site of hyper-local on-line communities built around their domain names and the schools and communities they represent.

In March 2013, DigitalTown filed a trademark application with the U.S. Patent and Trademark Office for the service mark "America's Prodigy". The Company is the holder of Americasprodigy.com and various other prodigy related domain names. The application lists its goods and services as entertainment services, namely, conducting contests.

In February 2013, public registration began for TrustedWebmail, DigitalTown's webmail platform. TrustedWebmail features advanced monitoring controls for schools, athletic directors, youth leagues and business and will provide an easy method for monitoring emails sent and received. DigitalTown plans to launch a second tool called Trusted Cell Phone, which is a predator-averse parental/coach/teacher monitoring application which allows you to monitor all texts (SMS or MMS), phone calls, or images into or out of any android based cellular phone under your control.

On July 31, 2012, DigitalTown and the National Interscholastic Athletic Administrators Association ("NIAAA") jointly announced that TrustedWebmail will be the official recommended email provider of the NIAAA for athletic administrators, coaches and athletes nationwide.

On May 23, 2012, DigitalTown and The Active Network, Inc. ("Active") completed a Handoff Agreement of the technology assets supporting DigitalTown's school spirit websites and its related social networking sites. The Handoff Agreement indicates that both DigitalTown and Active agreed to mutually terminate the Strategic Alliance Agreement, initially entered between the parties on September 29, 2009, and subsequently re-entered between the parties on September 30, 2011.

On May 14, 2012, DigitalTown Limited ("DTL") was incorporated under Chapter 32 of the Laws of Hong Kong. DTL is 100% owned by TSN.

On May 3, 2012, DigitalTown created a new, wholly-owned subsidiary, The School Network, Inc. ("TSN"), under the laws of the State of Nevada.

On April 4, 2012, the Company executed a Domain Sale Agreement under which it agreed to sell one of the domain names the Company currently owns. The Company received $175,000 cash in consideration of the transfer of the domain name.

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RESULTS OF OPERATIONS

YEARS ENDED FEBRUARY 28, 2014 AND 2013

During the year ended February 28, 2014, the Company recorded revenue of $10,333 and cost of revenue of $291,973 for a gross loss of $(281,640) compared to revenue of $49,562 and cost of revenue of $462,903 for a gross loss of $(413,341) from operations during the year ended February 28, 2013. For the twelve months ended February 28, 2014, revenue mainly consisted of commissions generated from advertising of $1,209 and direct sale of display advertising totaling $9,114. For the comparable period revenue consisted of commissions generated from advertising and merchandise of $22,203, direct sale of display advertising totaling $27,010 and $349 from the sale of our Trusted Webmail service. Cost of revenue consisted of amortization of prepaid annual domain name renewal fees of $197,411 and $188,232, direct sales expense of $5,497 and $122,251, amortization of website development fees of $87,552 and $111,944, server/bandwidth expense of $1,513 and $40,476, respectively, for the two comparable periods.

Operating expenses for the year ended February 28, 2014, increased by $1,049,133 to $2,211,631 compared to a year ago. Stock compensation expense, included in selling, general and administration expenses, was $703,649 for the year ended February 28, 2014, compared to $179,339 for the year ended February 28, 2013, an increase of $524,310 compared to a year ago. Impairment expense was $919,323 during the year ended February 28, 2014, compared to $0 for the prior year. Excluding non-cash impairment expense and stock compensation expense for the two comparable periods, operating expenses were $588,659 for the current period, compared to $983,159 for the year ended February 28, 2013. The decrease of $394,500 for the two comparable periods is primarily due to a decrease of $179,964 in legal and professional fees, a decrease in payroll expense of $164,590, a decrease in employee benefits of $23,818, a decrease in travel and entertainment expense of $13,102 and an $8,278 decrease in supplies expense.

The Company's overall net loss for the current year increased by $1,313,929 to $2,717,256. The increase was mainly due to an impairment charge of $919,323 to Intangible Assets and a loss of $164,324 on common stock issued for conversion of debt.

LIQUIDITY AND CAPITAL RESOURCES

The Company's cash position at February 28, 2014, was $50,589, an increase of $14,583 from $36,006 at February 28, 2013. During the year ended February 28, 2014, net cash used in operating activities was $517,044 compared to cash used of $764,872 for the comparable period. When comparing the two periods, the decrease in cash used in operating activities of $247,828 for the year ended February 28, 2014 is primarily due to the conversion of accounts payable to common shares of $203,351 and a non-cash capital contribution of $100,000 to deferred officer compensation.

Net cash used in investing activities for the year ended February 28, 2014, was $3,999, which consisted of $3,486 used for website development costs and $513 used for the purchase of additional domain names as compared to net cash provided from investing activities of $134,174 for the comparable period which consisted of proceeds from the sale of a domain name of $175,000 offset by $11,223 used for website development costs, $4,526 used for

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purchases of property and equipment and $25,077 used for the purchase of additional domain names.

Net cash provided by financing activities for the year ended February 28, 2014, was $535,626, which consisted of payments received on stockholder subscription receivables of $337,459, proceeds from third party note payable of $150,000 and proceeds from the issuance of common stock of $50,000 offset by principal payments of $1,833 on a loan from a director/stockholder loan. For the comparable period ended February 28, 2013, the Company received net cash provided by financing activities of $444,800 which consisted of payments received on stockholder subscription receivables of $320,800 and proceeds from the issuance of common stock of $75,000 and proceeds of $49,000 from a director/stockholder loan.

Monthly cash operating expenses for the year ended February 28, 2014, were approximately $62,000 per month. Based on current projections, the Company's monthly cash operating expenses going forward should remain at approximately $62,000 per month, which includes the annual renewal cost of the existing domain names of approximately $197,000 and deferred wages of approximately $214,000. In addition to the normal monthly operating expenses, the Company's committed cash requirements for the twelve months ending February 28, 2015, include the balance due of $30,000 for expenses pertaining to the Company's Strategic Partnership Agreement with the NIAAA and $22,500 pertaining to a software development maintenance agreement. From March 1, 2014 to July 11, 2014, the Company has received cash proceeds of approximately $10,000 from stock subscription receivables.

As of February 28, 2014, the Company has the following stock subscription agreements outstanding:

2007 Agreements



On October 5, 2007, the Company received subscriptions for 1,300,000 restricted common shares at $2.50 per share (total value of $3,250,000). Significant terms of the original subscription agreement are as follows:



The price per share of $2.50 was based on the closing price on October 4, 2007.



At 24 months, 1/36 payments are due monthly.



The Company, at its option, may call up to 1/12 of the gross receivable per month if the preceding 30 day average trading price is at or above $7.00 a share with minimum trading volume of 5,000 shares per day.



If the purchaser sells these common shares, the purchaser shall be entitled to an amount equal to 200% of the original purchase price of each share and the Company shall be entitled to 50% of any additional net sales proceeds from the stock sale.

On February 25, 2010, due to the economic downturn and the market value of the Company's stock, which was trading below $2.50 per share, the Company amended the pricing terms of the subscription agreements received by the Company on October 5, 2007. The amendment changed the following significant terms of the subscription agreement:

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The parties agree that the initial pricing terms in the Confidential Binding Term Sheet dated October 5, 2007, of the Agreement will be amended to state as follows:

1.



The Subscriber offers to purchase shares of the Company for $0.75 per share.

After the price adjustment, the revised total value of this subscription agreement is $975,000.

The following other provisions of the initial pricing and final pricing terms in the Confidential Binding Term Sheet dated October 5, 2007, of the Agreement will be deleted, and are not enforceable by either party:



Beginning October 5, 2009, and 1/36 payments are due each month thereafter on the 5th of every month.



The Company at its option may call up to 1/12 of the (gross) receivable note per month if the preceding 30 day average trading price is at or above $7.00 a share. Minimum trading Volume must be 5,000 shares a day.



As total consideration for the purchase and sale of the Company's stock, purchaser shall ultimately pay to the Company the following amount (the "Purchase Price"):

A.

Purchaser shall first be entitled to an amount equal to 200% of the face amount of each share.

B.

After the purchaser receives the amount in A above, the Company shall be entitled to 50% of any additional net sales proceeds of the stock. Net sales proceeds shall mean the gross proceeds received from the sale of the stock, less reasonable brokerage commissions.

C.

Final adjusted net sales proceeds will be wired to the Company within 7 days from the final settlement of the sale of stock sold.

The outstanding balance owed on the revised 2007 subscription agreements at February 28, 2014, is $341,395.

2010 Agreement



Material terms of the subscription agreement received by the Company on June 22, 2010, for 400,000 restricted common shares at $0.75 per share (total value of $300,000) are as follows:



Payment is due in full in 60 months.



At 24 months, the Company can demand at its option, monthly 1/36 payments on the subscription agreement.



The Company has the option to charge simple annual interest of up to 4.0%.



The Company will provide downside protection of up to 30% of the stock price upon conversion.

The outstanding balance owed on the 2010 subscription agreement at February 28, 2014, is $300,000. 13



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Summary

As of February 28, 2014, the Company had stock subscription receivables of $641,395 and for the twelve months ended February 28, 2014, the Company received stock subscription payments of $337,459.

The following table summarizes the stock subscription receivable, by quarter, at February 28, 2014: Participatory Rights in the Amount of New Proceeds of Downside Total Amount Subscription the Resales Protection Quarter Ended Total Balance Due Collected Agreements Collected Provided February 28, 2013 978,854 - - - - May 31, 2013 910,854 68,000 - - - August 31, 2013 821,854 89,000 - - - November 30, 2013 679,354 142,500 - - - February 28, 2014 641,395 37,959 - - -



In summary, we believe our current cash reserves, the amounts we expect to collect on our outstanding stock subscription receivables and future proceeds from the issuance of our common stock and the sale of existing domain names should be sufficient to enable us to operate for the next 12 months. In the event that we are unable to collect our stock subscription receivables as needed or raise additional capital through the sale of our common stock or sell existing domain names on acceptable terms, we would be forced to further reduce operating expenses and/or cease operations altogether.

Off Balance Sheet Arrangements

We do not have any off balance sheet arrangements.

Critical Accounting Policies

The discussion and analysis of DigitalTown, Inc.'s financial condition and results of operations are based on our audited financial statements, which have been prepared in accordance with accounting principles generally accepted in the U.S. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities and expenses and related disclosure of contingent assets and liabilities. Management reviews its estimates on an ongoing basis. Management bases its estimates on historical experience and on various other assumptions that it believes to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities. Actual results may differ from these estimates under different assumptions or conditions. While DigitalTown Inc.'s significant accounting policies are described in more detail in Note 1 to its financial statements, management believes the following accounting policies to be critical to the judgments and estimates used in the preparation of its financial statements:

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Intangible Assets - Domain Names/Website Development Costs

Domain name costs are accounted for in accordance with the Financial Accounting Standards Board (FASB) Accounting Standards Codification (ASC 350-30) guidance pertaining to Intangibles-Goodwill and Other, Website Development Costs.

Certain modules and components of the Company's overall website development are ready for their intended use and the Company's resulting websites are currently operational. Accordingly, the annual domain name renewal fees are currently being amortized over one year and the purchase of any new domain names are capitalized. Previously, during the infrastructure development stage of its websites, the Company capitalized the purchase of new domain names and the annual domain name renewal fees. Since the ownership of each domain name can be renewed for a nominal renewal fee each year prior to their expiration date, the useful lives of the domain names are deemed to be indefinite and no amortization of the capitalized costs for the domain names will be recorded.

Website development costs are accounted for in accordance with the FASB Accounting Standards Codification (ASC 350-50) guidance pertaining to Intangibles-Goodwill and Other, Internal-Use Software which requires that all internal and external costs incurred to develop the internal-use software necessary to operate the websites be capitalized. The guidance further states, amortization should begin when an individual module or component of the overall internal-use software is ready for its intended use. The cost of such module or component will be amortized on a straight-line basis over its estimated useful life, as determined by the Company, after taking into account the effects of obsolescence, technology, competition and other economic factors.

Impairment of Long-Lived Assets

Long-lived assets, such as property and equipment and intangible assets - domain names/website development costs are reviewed for impairment whenever changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to estimated undiscounted future cash flows expected to be generated by the asset. If the carrying amount of an asset exceeds its estimated future cash flows, an impairment charge is recognized in the amount by which the carrying amount of the asset exceeds the fair value of the asset.

Stock-Based Compensation



The Company recognizes the cost of stock-based compensation plans and awards in operations on a straight-line basis over the respective vesting period of the awards. The Company measures and recognizes compensation expense for all stock-based payment awards made to employees and directors. The compensation expense for the Company's stock-based payments is based on estimated fair values at the time of the grant.

The Company estimates the fair value of stock-based payment awards on the date of grant using an option pricing model. These option pricing models involve a number of assumptions, including the expected lives of stock options, the volatility of the public market price for the Company's common stock and interest rates. The Company is

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using the Black-Scholes option pricing model. Stock-based compensation expense recognized during the period is based on the value of the portion of stock-based payment awards that are ultimately expected to vest.

Recently Issued Accounting Pronouncements

In July 2013, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2013-11: Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carry-forward, a Similar Tax Loss, or a Tax Credit Carry-forward Exists. The new guidance requires that unrecognized tax benefits be presented on a net basis with the deferred tax assets for such carry-forwards. This new guidance is effective for fiscal years and interim periods within those years beginning after December 15, 2013. We do not expect the adoption of the new provisions to have a material impact on our financial condition or results of operations.

In February 2013, FASB issued ASU No. 2013-02, Comprehensive Income (Topic 220): Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income, to improve the transparency of reporting these reclassifications. Other comprehensive income includes gains and losses that are initially excluded from net income for an accounting period. Those gains and losses are later reclassified out of accumulated other comprehensive income into net income. The amendments in the ASU do not change the current requirements for reporting net income or other comprehensive income in financial statements. All of the information that this ASU requires already is required to be disclosed elsewhere in the financial statements under U.S. GAAP. The new amendments will require an organization to:

-Present (either on the face of the statement where net income is presented or in the notes) the effects on the line items of net income of significant amounts reclassified out of accumulated other comprehensive income - but only if the item reclassified is required under U.S. GAAP to be reclassified to net income in its entirety in the same reporting period; and

-Cross-reference to other disclosures currently required under U.S. GAAP for other reclassification items (that are not required under U.S. GAAP) to be reclassified directly to net income in their entirety in the same reporting period. This would be the case when a portion of the amount reclassified out of accumulated other comprehensive income is initially transferred to a balance sheet account (e.g., inventory for pension-related amounts) instead of directly to income or expense.

The amendments apply to all public and private companies that report items of other comprehensive income. Public companies are required to comply with these amendments for all reporting periods (interim and annual). The amendments are effective for reporting periods beginning after December 15, 2012, for public companies. Early adoption is permitted. The adoption of ASU No. 2013-02 did not have a material impact on our financial position or results of operations.

In January 2013, the FASB issued ASU No. 2013-01, Balance Sheet (Topic 210): Clarifying the Scope of Disclosures about Offsetting Assets and Liabilities, which clarifies which instruments and transactions are subject to the offsetting disclosure requirements originally established by ASU 2011-11. The new ASU addresses preparer concerns that the scope of the

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disclosure requirements under ASU 2011-11 was overly broad and imposed unintended costs that were not commensurate with estimated benefits to financial statement users. In choosing to narrow the scope of the offsetting disclosures, the Board determined that it could make them more operable and cost effective for preparers while still giving financial statement users sufficient information to analyze the most significant presentation differences between financial statements prepared in accordance with U.S. GAAP and those prepared under IFRSs. Like ASU 2011-11, the amendments in this update will be effective for fiscal periods beginning on, or after January 1, 2013. The adoption of ASU 2013-01 did not have a material impact on our financial position or results of operations.

In October 2012, the FASB issued ASU 2012-04, "Technical Corrections and Improvements" in Accounting Standards Update No. 2012-04. The amendments in this update cover a wide range of Topics in the Accounting Standards Codification. These amendments include technical corrections and improvements to the Accounting Standards Codification and conforming amendments related to fair value measurements. The amendments in this update will be effective for fiscal periods beginning after December 15, 2012. The adoption of ASU 2012-04 is not expected to have a material impact on our financial position or results of operations.

In August 2012, the FASB issued ASU 2012-03, "Technical Amendments and Corrections to SEC Sections: Amendments to SEC Paragraphs Pursuant to SEC Staff Accounting Bulletin (SAB) No. 114, Technical Amendments Pursuant to SEC Release No. 33-9250, and Corrections Related to FASB Accounting Standards Update 2010-22 (SEC Update)" in Accounting Standards Update No. 2012-03. This update amends various SEC paragraphs pursuant to the issuance of SAB No. 114. The adoption of ASU 2012-03 is not expected to have a material impact on our financial position or results of operations.

In July 2012, the FASB issued ASU 2012-02, "Intangibles - Goodwill and Other (Topic 350): Testing Indefinite-Lived Intangible Assets for Impairment" in Accounting Standards Update No. 2012-02. This update amends ASU 2011-08,Intangibles - Goodwill and Other (Topic 350): Testing Indefinite-Lived Intangible Assets for Impairment and permits an entity first to assess qualitative factors to determine whether it is more likely than not that an indefinite-lived intangible asset is impaired as a basis for determining whether it is necessary to perform the quantitative impairment test in accordance with Subtopic 350-30, Intangibles - Goodwill and Other - General Intangibles Other than Goodwill. The amendments are effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012. Early adoption is permitted, including for annual and interim impairment tests performed as of a date before July 27, 2012, if a public entity's financial statements for the most recent annual or interim period have not yet been issued or, for nonpublic entities, have not yet been made available for issuance. The adoption of ASU 2012-02 is not expected to have a material impact on our financial position or results of operations.


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