Attached files
file | filename |
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EX-31.1 - SONIC SOLUTIONS/CA/ | v210365_ex31-1.htm |
EX-32.1 - SONIC SOLUTIONS/CA/ | v210365_ex32-1.htm |
EX-31.2 - SONIC SOLUTIONS/CA/ | v210365_ex31-2.htm |
EX-32.2 - SONIC SOLUTIONS/CA/ | v210365_ex32-2.htm |
EX-10.1 - SONIC SOLUTIONS/CA/ | v210365_corresp.htm |
UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
Washington,
D.C. 20549
FORM
10-Q
(Mark
One)
x Quarterly Report Pursuant to
Section 13 or 15(d) of the Securities Exchange Act of
1934
For the
Quarterly Period Ended December 31, 2010
¨ Transition Report Pursuant to
Section 13 or 15(d) of the Securities Exchange Act of
1934
For the
transition period from
to
Commission
File Number: 000-23190
SONIC
SOLUTIONS
(Exact
name of registrant as specified in its charter)
CALIFORNIA
|
93-0925818
|
(State
or other jurisdiction of
incorporation
or organization)
|
(I.R.S.
Employer
Identification
Number)
|
7250 Redwood Blvd., Suite 300 Novato,
CA
|
94945
|
(Address
of principal executive offices)
|
(Zip
code)
|
(415)
893-8000
(Registrant’s telephone number,
including area code)
Indicate
by check mark whether the Registrant (1) has filed all reports required to
be filed by Section 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. Yes x
No ¨
Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T during the
preceding 12 months (or for such shorter period that the registrant was
required to submit and post such files). Yes ¨ No
¨
Indicate
by check mark whether the Registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer or a smaller reporting company. See
the definitions of “large accelerated filer,” “accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act.
Large
accelerated
filer ¨
|
Accelerated
filer x
|
|
Non-accelerated
filer ¨
|
Smaller
reporting
company ¨
|
|
(Do
not check if a smaller reporting company)
|
Indicate
by check mark whether the Registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act).
Yes
¨
No x
Indicate
the number of shares outstanding of each of the Issuer’s classes of common
stock, as of the latest practicable date.
Class
|
Outstanding February 8,
2011
|
|
Common
stock, no par value per share
|
50,235,511
|
SONIC
SOLUTIONS
FORM
10-Q
Table
of Contents
Part
I.
|
Financial Information
|
3
|
||||
Item
1.
|
Financial
Statements:
|
3
|
||||
Condensed
Consolidated Balance Sheets (unaudited)
|
3
|
|||||
Condensed
Consolidated Statements of Operations (unaudited)
|
4
|
|||||
Condensed
Consolidated Statements of Cash Flows (unaudited)
|
5
|
|||||
Notes
to Condensed Consolidated Financial Statements (unaudited)
|
6
|
|||||
Item
2.
|
Management's
Discussion and Analysis of Financial Condition and Results of
Operations
|
22
|
||||
Item
3.
|
Quantitative
and Qualitative Disclosures About Market Risk
|
38
|
||||
Item
4.
|
Controls
and Procedures
|
39
|
||||
Part
II.
|
Other
Information
|
39
|
||||
Item
1.
|
Legal
Proceedings
|
39
|
||||
Item
1A.
|
Risk
Factors
|
39
|
||||
Item
2.
|
Unregistered
Sales of Equity Securities and Use of Proceeds
|
53
|
||||
Item
3.
|
Defaults
Upon Senior Securities
|
53
|
||||
Item
4.
|
Removed
and Reserved
|
53
|
||||
Item
5.
|
Other
Information
|
53
|
||||
Item
6.
|
Exhibits
|
54
|
||||
Signatures
|
55
|
2
PART
I - FINANCIAL INFORMATION
ITEM
1. FINANCIAL STATEMENTS
Sonic
Solutions
Condensed
Consolidated Balance Sheets
(in
thousands, except share data)
(Unaudited)
December 31,
2010
|
March 31,
2010
|
|||||||
(1)
|
||||||||
ASSETS
|
||||||||
Current
assets:
|
||||||||
Cash
and cash equivalents
|
$ | 43,374 | $ | 54,536 | ||||
Short-term
investments
|
3,284 | - | ||||||
Accounts
receivable, net of allowances of $4,301and $2,511 at December 31, 2010 and
March 31, 2010, respectively
|
45,740 | 11,270 | ||||||
Inventory
|
2,403 | 1,941 | ||||||
Prepaid
expenses and other current assets
|
14,211 | 3,497 | ||||||
Total
current assets
|
109,012 | 71,244 | ||||||
Fixed
assets, net
|
2,407 | 1,670 | ||||||
Purchased
software costs, net
|
433 | 165 | ||||||
Goodwill
|
107,756 | 4,628 | ||||||
Acquired
intangibles, net
|
104,880 | 16,174 | ||||||
Deferred
tax benefits, net of current portion
|
- | 66 | ||||||
Other
assets
|
15,175 | 1,463 | ||||||
Total
assets
|
$ | 339,663 | $ | 95,410 | ||||
LIABILITIES
AND SHAREHOLDERS' EQUITY
|
||||||||
Current
liabilities:
|
||||||||
Accounts
payable
|
$ | 6,063 | $ | 3,892 | ||||
Accrued
expenses and other current liabilities
|
28,329 | 21,916 | ||||||
Deferred
revenue
|
7,303 | 5,874 | ||||||
Capital
leases
|
64 | 123 | ||||||
Total
current liabilities
|
41,759 | 31,805 | ||||||
Other
long term liabilities
|
13,089 | 889 | ||||||
Deferred
revenue, net of current portion
|
359 | 76 | ||||||
Capital
leases, net of current portion
|
5 | 37 | ||||||
Total
liabilities
|
55,212 | 32,807 | ||||||
Commitments
and contingencies (Note 8)
|
||||||||
Shareholders'
equity:
|
||||||||
Common
stock, no par value, 100,000,000 shares authorized; 49,611,381 and
30,610,102 shares issued and outstanding at December 31, 2010 and March
31, 2010, respectively
|
421,691 | 200,375 | ||||||
Accumulated
deficit
|
(135,729 | ) | (136,289 | ) | ||||
Accumulated
other comprehensive loss
|
(1,511 | ) | (1,483 | ) | ||||
Total
shareholders' equity
|
284,451 | 62,603 | ||||||
Total
liabilities and shareholders' equity
|
$ | 339,663 | $ | 95,410 |
(1)
Derived from audited consolidated financial statements as of March 31,
2010.
See
accompanying Notes to Unaudited Condensed Consolidated Financial
Statements.
3
Sonic
Solutions
Condensed
Consolidated Statements of Operations
(in thousands, except per share
data)
(Unaudited)
Three Months Ended
December 31,
|
Nine Months Ended
December 31,
|
|||||||||||||||
2010
|
2009
|
2010
|
2009
|
|||||||||||||
Net
revenue
|
$ | 26,427 | $ | 26,392 | $ | 77,175 | $ | 77,975 | ||||||||
Cost
of revenue
|
11,517 | 8,044 | 28,119 | 24,005 | ||||||||||||
Gross
profit
|
14,910 | 18,348 | 49,056 | 53,970 | ||||||||||||
Operating
expenses:
|
||||||||||||||||
Marketing
and sales
|
12,668 | 8,489 | 27,673 | 22,245 | ||||||||||||
Research
and development
|
13,928 | 5,784 | 26,195 | 19,024 | ||||||||||||
General
and administrative
|
7,925 | 4,673 | 17,144 | 13,689 | ||||||||||||
Acquisition
|
2,400 | - | 4,966 | - | ||||||||||||
Restructuring
|
- | (58 | ) | - | 508 | |||||||||||
Total
operating expenses
|
36,921 | 18,888 | 75,978 | 55,466 | ||||||||||||
Operating
loss
|
(22,011 | ) | (540 | ) | (26,922 | ) | (1,496 | ) | ||||||||
Interest
income
|
422 | 12 | 461 | 65 | ||||||||||||
Interest
expense
|
(14 | ) | (105 | ) | (64 | ) | (122 | ) | ||||||||
Other
income (expense), net
|
88 | 177 | 485 | (209 | ) | |||||||||||
Loss
before income taxes
|
(21,515 | ) | (456 | ) | (26,040 | ) | (1,762 | ) | ||||||||
Provision
for (benefit of) income taxes
|
(25,751 | ) | (112 | ) | (26,600 | ) | 619 | |||||||||
Net
income (loss)
|
$ | 4,236 | $ | (344 | ) | $ | 560 | $ | (2,381 | ) | ||||||
Net
income (loss) per share:
|
||||||||||||||||
Basic
|
$ | 0.09 | $ | (0.01 | ) | $ | 0.02 | $ | (0.09 | ) | ||||||
Diluted
|
$ | 0.09 | $ | (0.01 | ) | $ | 0.02 | $ | (0.09 | ) | ||||||
Shares
used in computing net income (loss) per share:
|
||||||||||||||||
Basic
|
47,792 | 27,317 | 36,439 | 26,871 | ||||||||||||
Diluted
|
48,493 | 27,317 | 37,252 | 26,871 |
See
accompanying Notes to Unaudited Condensed Consolidated Financial
Statements.
4
Sonic
Solutions
Condensed
Consolidated Statements of Cash Flows
(in
thousands)
(Unaudited)
Nine Months Ended December
31,
|
||||||||
2010
|
2009
|
|||||||
Cash
flows from operating activities:
|
||||||||
Net
income (loss)
|
$ | 560 | $ | (2,381 | ) | |||
Adjustments
to reconcile net income (loss ) to net cash provided by operating
activities:
|
||||||||
Depreciation
and amortization
|
2,539 | 1,782 | ||||||
Impairment
of intangible
|
- | 585 | ||||||
Provision
for returns and doubtful accounts, net of write-offs and
recoveries
|
695 | 29 | ||||||
Loss
on disposition of asset
|
- | 22 | ||||||
Operating
changes in restricted cash
|
456 | |||||||
Deferred
income taxes
|
69 | - | ||||||
Share-based
compensation
|
5,939 | 1,761 | ||||||
Fair
value adjusted for vested warrant shares issued for strategic
relationship
|
2,035 | 1,149 | ||||||
Changes
in operating assets and liabilities, net:
|
||||||||
Accounts
receivable
|
28,361 | 3,409 | ||||||
Inventory
|
(459 | ) | (650 | ) | ||||
Prepaid
expenses and other current assets
|
(3,153 | ) | 847 | |||||
Other
assets
|
7,822 | (116 | ) | |||||
Accounts
payable
|
1,538 | 76 | ||||||
Accrued
liabilities
|
(32,897 | ) | 61 | |||||
Other
long-term liabilities
|
(7,163 | ) | - | |||||
Deferred
revenue
|
366 | (173 | ) | |||||
Net
cash provided by operating activities
|
6,252 | 6,857 | ||||||
Cash
flows from investing activities:
|
||||||||
Purchase
of fixed assets
|
(625 | ) | (497 | ) | ||||
Additions
to purchased and internally developed software
|
(582 | ) | (37 | ) | ||||
Acquisition
of Simple Star, Inc. net
|
- | (1,000 | ) | |||||
Acquisition
of CinemaNow, Inc. net
|
- | (500 | ) | |||||
Acquisition
of DivX, net
|
(19,576 | ) | - | |||||
Net
cash used in investing activities
|
(20,783 | ) | (2,034 | ) | ||||
Cash
flows from financing activities:
|
||||||||
Proceeds
from exercise of common stock options
|
3,937 | 1,026 | ||||||
Cash
used to net share settle equity awards
|
(312 | ) | - | |||||
Principal
payments on capital leases
|
(91 | ) | (98 | ) | ||||
Proceeds
from stock offering, net
|
- | 31,435 | ||||||
Net
cash provided by financing activities
|
3,534 | 32,363 | ||||||
Effect
of exchange rate changes on cash and cash equivalents
|
(165 | ) | (83 | ) | ||||
Net
(decrease) increase in cash and cash equivalents
|
(11,162 | ) | 37,103 | |||||
Cash
and cash equivalents, beginning of period
|
54,536 | 19,408 | ||||||
Cash
and cash equivalents, end of period
|
$ | 43,374 | $ | 56,511 | ||||
Supplemental
disclosure of cash flow information:
|
||||||||
Interest
paid
|
$ | 64 | $ | 122 | ||||
Income
taxes paid, net of refunds
|
$ | 1,686 | $ | 283 | ||||
Supplemental
disclosure of non-cash transactions:
|
||||||||
Original
cost of fixed asset written-off
|
$ | 562 | $ | 420 | ||||
Intangible
assets acquired as a result of an asset purchase
|
$ | (403 | ) | $ | - | |||
Stock
consideration issued in connection with the DivX
Acquisition
|
$ | 209,718 | $ | - |
See
accompanying Notes to Unaudited Condensed Consolidated Financial
Statements
5
Sonic
Solutions
Notes
to Unaudited Condensed Consolidated Financial Statements
(in
thousands except for share and per share data)
NOTE
1 – BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES
Description
of Business
Sonic
Solutions and its subsidiaries (collectively “Sonic” or the “Company”) is a
leading developer of technologies, products and services that enable the
creation, management, and enjoyment of digital media content across a wide
variety of technology platforms. The Company’s products and services
offer innovative technologies and integrated solutions to consumers, major
Hollywood and independent studios, original equipment manufacturers (“OEMs”),
businesses, high-end professional DVD authoring experts and
developers. The Company distributes its products and services through
retailers and distributors, personal computer (“PC”) and consumer electronic
(“CE”) OEMs, Internet websites and other channels. The Company’s
brands now include Roxio®, RoxioNow™, DivX®, Sonic® and MainConcept®, among
others. In addition, the Company licenses core technology and
intellectual property to other software companies and technology manufacturers
for integration into their own products and services.
Fiscal
Year
References
to “fiscal year” refer to the Company’s fiscal year ending on March 31 of the
designated year. For example, “fiscal year 2011” refers to the fiscal year
ended March 31, 2011. Other references to “years” mean calendar
years.
Basis
of Presentation
The
accompanying unaudited Condensed Consolidated Financial Statements have been
prepared in accordance with U.S. generally accepted accounting principles
(“GAAP”) for interim financial reporting and with the instructions to Form 10-Q
and Article 10 of Regulation S-X of the Securities and Exchange Commission
(“SEC”). The unaudited Condensed Consolidated Statements of
Operations for the interim periods presented are not necessarily indicative of
the results expected for the entire year ending March 31,
2011. Additionally, the accompanying unaudited Condensed Consolidated
Financial Statements do not include all information and footnotes required by
GAAP for complete financial statements. This Form 10-Q should be read
in conjunction with the Consolidated Financial Statements and accompanying Notes
contained in the Company’s Annual Report on Form 10-K for the year ended
March 31, 2010, which was filed with the SEC on June 7, 2010, and amended on
July 26, 2010 (the “Fiscal 2010 Annual Report”).
In the
opinion of the management, the accompanying unaudited Condensed Consolidated
Financial Statements include all adjustments, consisting only of normal
recurring adjustments, which are necessary for a fair presentation of the
financial position of the Company at December 31, 2010, results of operations
for the three and nine months ended December 31, 2010 and 2009, and cash flows
for the nine months ended December 31, 2010 and 2009. Certain amounts
in prior periods have been reclassified to conform to the current period
presentation. The reclassifications had no impact on the Company’s net
income (loss) or shareholders’ equity as previously reported. The
unaudited Condensed Consolidated Financial Statements include the accounts of
the Company and its wholly owned subsidiaries. All significant
intercompany balances and transactions have been eliminated in
consolidation.
DivX
Acquisition
On
October 7, 2010, the Company completed the acquisition by merger of DivX,
Inc. As a result of this acquisition, the Company consolidated DivX’s
assets and liabilities into the Company’s unaudited Condensed Consolidated
Balance Sheets as of October 7, 2010, and included DivX’s financial results
since October 7, 2010 in the Company’s unaudited Condensed Consolidated
Statement of Operations. Please refer to Note 14 of the Notes to the
unaudited Condensed Consolidated Financial Statements contained in this Form
10-Q for detailed information regarding this completed acquisition.
6
Sonic
Solutions
Notes
to Unaudited Condensed Consolidated Financial Statements
(in
thousands except for share and per share data)
Rovi
Transaction
On December 22, 2010, the Company
entered into an Agreement and Plan of Merger and Reorganization (the “Merger
Agreement”) with Rovi Corporation, a Delaware corporation (“Rovi”), and Rovi's
wholly owned subsidiary, Sparta Acquisition Sub, Inc., a California corporation
(“Acquisition Sub”). The Merger Agreement provides that, on the terms
and subject to the conditions thereof, Acquisition Sub will commence an exchange
offer (the “Offer”) as soon as reasonably practicable after signing the Merger
Agreement to purchase all the outstanding shares of Sonic common stock, no par
value per share (“Shares”), in exchange for cash and stock
consideration. Consummation of the Offer is subject to customary
conditions, and the Merger Agreement provides each of the Company and Rovi
specified termination rights. If the Merger Agreement terminates
under circumstances specified in the Merger Agreement, the Company will be
required to pay Rovi a termination fee of $21.6 million (approximately 3% of the
equity value of the transaction as of December 22, 2010). The Merger
Agreement was filed as Exhibit 99.1 to the Company’s Current Report on Form 8-K
filed with the SEC on December 27, 2010. Please refer to Note 15 of
the Notes to the unaudited Condensed Consolidated Financial Statements contained
in this Form 10-Q for recent developments relating to the Rovi
transaction.
Significant
Accounting Policies
With the
exception of the changes stated below, there have been no material changes in
the Company’s significant accounting polices during the three and nine months
ended December 31, 2010 compared to the significant accounting policies
described in the Company’s Fiscal 2010 Annual Report.
Fair
Value Measurements and Disclosures
Effective
October 7, 2010, as a result of the DivX acquisition, the Company adopted one of
the amendments contained in the Financial Accounting Standards Board (“FASB”)
Accounting Standard Update (“ASU”) 2010-06, Fair Value Measurements and
Disclosures. This ASU 2010-06 amendment clarifies the fair
value measurement disclosures for each class (rather than category) of assets
and liabilities. In addition, this amendment modifies the disclosure
requirements for the valuation techniques and inputs used to measure fair value
for both recurring and nonrecurring fair value measurements (required for Level
2 or Level 3). The adoption of this ASU 2010-06 clarifying guidance
did not have an impact on the Company’s consolidated financial condition,
results of operations or cash flows. Please refer to Note 4 of the
Notes to the unaudited Condensed Consolidated Financial Statements contained in
this Form 10-Q for detailed information.
The
Company has not adopted the other amendment under ASU 2010-06, requiring the
following new disclosures: (a) the significant transfers in and out of Levels 1
and 2 and describes the reasons for the transfer and (b) information about
purchases, sales, issuances and settlements (on a gross basis rather than as one
net number) in the reconciliation for fair value measurements using significant
unobservable inputs (Level 3). These disclosure requirements are
effective for fiscal years beginning on or after December 15,
2010. As this amendment requires disclosures only, adoption will not
have an impact on the Company’s results of operations or financial
position.
Use
of estimates
The
preparation of financial statements in conformity with GAAP requires management
to make estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and reported amounts of revenues and expenses during
the reporting period. Management’s judgments are based on what impact
certain estimates, assumptions of future trends or events may have on the
financial condition and results of operations reported in its financial
statements. Actual results could differ materially from these estimates,
assumptions, projections and judgments.
On an
ongoing basis, the Company evaluates estimates used. The following
accounting policies require management to make estimates, judgments and
assumptions and are critical in fully understanding and evaluating the Company’s
reported financial results:
|
·
|
Revenue
recognition
|
|
·
|
Allowances
for sales returns and doubtful
accounts
|
|
·
|
Share-based
compensation
|
|
·
|
Valuation
of acquired businesses, assets and
liabilities
|
|
·
|
Goodwill,
intangible assets and other long-lived
assets
|
|
·
|
Accrued
liabilities
|
|
·
|
Contingencies
|
|
·
|
Income
tax and deferred tax asset
valuation
|
7
Sonic
Solutions
Notes
to Unaudited Condensed Consolidated Financial Statements
(in
thousands except for share and per share data)
NOTE
2 – RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In March
2010, the FASB issued ASU 2010-17, Milestone Method of Revenue
Recognition. ASU 2010-17 provides guidance on applying the milestone
method to milestone payments for achieving specified performance measures when
those payments are related to uncertain future events. Entities can
make an accounting policy election to recognize arrangement consideration
received for achieving specified performance measures during the period in which
the milestones are achieved, provided certain criteria are met. The
scope of this pronouncement is limited to transactions involving research or
development. ASU 2010-17 is effective for interim and annual periods
beginning on or after June 15, 2010 with early adoption
permitted. The Company does not expect the adoption will have any
material impact on its results of operations or financial position.
In
December 2010, the FASB issued ASU 2010-28, Intangibles – Goodwill and Other –
When to perform Step 2 of the Goodwill Impairment Test for Entities with Zero or
Negative Carrying Amount. ASU 2010-28 modifies goodwill
impairment testing for entities with zero or negative carrying
amounts. The amendment requires these entities to perform Step 2 of
the goodwill impairment test, which involves comparing the current value and the
current book value of goodwill. The difference between these values represents
the impairment amount which must be recognized in the current
period. In addition, an entity should consider whether there are any
adverse qualitative factors indicating that impairment exists. ASU 2010-28 is
effective for interim and annual periods beginning on or after December 15,
2010. Early adoption is not permitted. The Company is
currently evaluating the impact, if any, that it may have on its results of
operations or financial position.
In
December 2010, the FASB issued ASU 2010-29, Business Combinations – Disclosure
of Supplementary Pro Forma Information for Business
Combinations. ASU 2010-29 clarifies the acquisition date that
should be used for reporting the pro forma revenue and earnings disclosure
requirements for business combination(s) when comparative financial statements
are presented. The amendment specifies that an entity should disclose
revenue and earnings of the combined entity as though the business
combination(s) that occurred during the current year had occurred as of the
beginning of the comparable prior annual reporting period only. In
addition, the amendment expands the supplemental pro forma disclosures to
include a description of the nature and amount of material, nonrecurring pro
forma adjustments that are directly attributable to the business
combination(s). ASU 2010-29 is effective for interim and annual
periods beginning on or after December 15, 2010. Early adoption is
permitted. The Company does not expect the adoption will have any
material impact on its results of operations or financial position.
8
Sonic
Solutions
Notes
to Unaudited Condensed Consolidated Financial Statements
(in
thousands except for share and per share data)
NOTE
3 – INVESTMENTS
The following is a summary of the
Company’s investments as of December 31, 2010 (in thousands):
Cost
|
Fair Value
|
|||||||
Cash
and cash equivalents:
|
||||||||
Cash
|
$ | 21,937 | $ | 21,937 | ||||
Cash
equivalents - money market accounts
|
14,047 | 14,047 | ||||||
Cash
equivalents - corporate debt securities
|
7,390 | 7,390 | ||||||
Total
cash and cash equivalents
|
$ | 43,374 | $ | 43,374 | ||||
Amortized
Cost |
Fair Value
|
|||||||
Short
term held-to-maturity securities:
|
||||||||
Corporate
debt securities
|
3,284 | 3,284 | ||||||
Total
cash equivalents and short-term investments
|
$ | 46,658 | $ | 46,658 | ||||
Long-term
investments:
|
||||||||
Auction
rate securities (1)
|
2,756 | 2,756 | ||||||
Privately
held investments
|
2,683 | 2,683 | ||||||
Total
long-term investments
|
$ | 5,439 | $ | 5,439 | ||||
Total
cash, cash equivalents, short-term investments and long-term
investments
|
$ | 52,097 | $ | 52,097 |
(1)
|
This
represents auction rate securities with underlying asset-backed government
educational loans, and is included
in other assets on the unaudited Condensed Consolidated Balance
Sheets.
|
The
following is a summary of the Company’s investments as of March 31, 2010 (in
thousands):
Cost
|
Fair Value
|
|||||||
Cash
and cash equivalents:
|
||||||||
Cash
|
$ | 13,029 | $ | 13,029 | ||||
Cash
equivalents - money market accounts
|
41,507 | 41,507 | ||||||
Total
cash and cash equivalents
|
$ | 54,536 | $ | 54,536 | ||||
Long-term
investments:
|
||||||||
Privately
held investments
|
126 | 126 | ||||||
Total
long-term investments
|
$ | 126 | $ | 126 | ||||
Total
cash, cash equivalents, and long-term investments
|
$ | 54,662 | $ | 54,662 |
9
Sonic
Solutions
Notes
to Unaudited Condensed Consolidated Financial Statements
(in
thousands except for share and per share data)
The
following table summarizes the contractual maturities of the Company's
investments as of December 31, 2010 (in thousands):
Amortized
Cost
|
Fair Value
|
|||||||
Due
in 1 year or less
|
$ | 3,284 | $ | 3,284 | ||||
Due
in 1-2 years
|
- | - | ||||||
Due
in 2-3 years
|
- | - | ||||||
Due
in greater than 3 years
|
- | - | ||||||
Total
|
$ | 3,284 | $ | 3,284 |
NOTE
4 - FAIR VALUE MEASUREMENTS
The
Company defines fair value as the exit price that would be received from selling
an asset or paid to transfer a liability in an orderly transaction between
market participants at the measurement date. The Company measures its
financial assets and liabilities at fair value at each reporting
period. The Company applies the following fair value three-tier
hierarchy, which prioritizes the inputs used in the valuation techniques in
measuring fair value:
Level 1 – Observable inputs
that reflect quoted prices in active markets for identical assets or
liabilities.
Level 2 – Observable inputs
other than quoted prices in active markets for identical assets and liabilities,
quoted prices for identical or similar assets or liabilities in inactive
markets, or other inputs that are observable or can be corroborated by
observable market data for substantially the full term of the asset or
liability.
Level 3 – Unobservable inputs
that are supported by little or no market activity and that are significant to
the fair value of the assets or liabilities.
The
following tables present the information about the Company’s assets and
liabilities that are measured at fair value on a recurring basis as of December
31, 2010 and indicate the hierarchy of the valuation (in
thousands):
10
Sonic
Solutions
Notes
to Unaudited Condensed Consolidated Financial Statements
(in
thousands except for share and per share data)
Asset Class
|
Total
|
Quoted
Prices in
Active
Markets
(Level 1)
|
Significant
Other
Observable
Inputs
(Level 2)
|
Significant
Unobservable
Inputs
(Level 3)
|
||||||||||||
Current
assets:
|
||||||||||||||||
Money
market accounts (1)
|
$ | 14,047 | $ | 14,047 | $ | - | $ | - | ||||||||
Corporate
debt securities (2)
|
10,674 | 10,674 | - | - | ||||||||||||
Noncurrent
assets:
|
||||||||||||||||
Auction
rate securities (3)
|
2,756 | - | 2,756 | - | ||||||||||||
Total
|
$ | 27,477 | $ | 24,721 | $ | 2,756 | $ | - |
(1)
|
This
is comprised of high-quality, short-term, money market instruments of
domestic and foreign issuers, and is included in cash and cash equivalents
on the unaudited Condensed Consolidated Balance
Sheets.
|
(2)
|
This
represents government and corporate bonds of U.S. issuers from diverse
industries, and is included $7.4 million classified as cash and cash
equivalents and $3.3 million as short-term investments on the unaudited
Condensed Consolidated Balance
Sheets.
|
(3)
|
This
represents auction rate securities with underlying asset-backed government
educational loans, and is included in other assets on the unaudited
Condensed Consolidated Balance
Sheets.
|
The
Company’s money market funds and corporate debt securities are unadjusted quoted
market prices and the account balance approximates its fair value due to its
short term nature. Accordingly, the Company classifies these funds and
securities as Level 1 assets.
The
Company classifies its auction rate securities as Level 2 as they have quoted
prices in inactive markets with inputs that are observable. In
valuing these auction rate securities, the Company utilized quoted prices and
compared these securities to the observable market data for other securities
with identical characteristics.
In
addition, the Company has direct investments in privately held companies
with a carrying value of $2.7 million included in Other Assets. The
Company’s direct investments are accounted for under the cost method, and are
periodically assessed for other-than-temporary impairment.
NOTE
5 – INVENTORY
Inventory
is stated at the lower of cost (first-in, first-out method) or market (estimated
net realizable value) and consisted of the following (in
thousands):
December 31, 2010
|
March 31, 2010
|
|||||||
Raw
Materials
|
$ | 208 | $ | 142 | ||||
Finished
Goods
|
2,195 | 1,799 | ||||||
$ | 2,403 | $ | 1,941 |
Reserves
for excess and obsolete inventory are established based on an analysis of
products on hand and sales trends. Inventory is presented net of
reductions for excess and obsolescence of $0.6 million at December 31, 2010 and
$0.5 million at March 31, 2010. Inventory held on consignment at
December 31, 2010 and March 31, 2010 was $2.4 million and $1.8 million,
respectively.
11
Sonic
Solutions
Notes
to Unaudited Condensed Consolidated Financial Statements
(in
thousands except for share and per share data)
NOTE
6 – PURCHASED SOFTWARE, GOODWILL
AND ACQUIRED INTANGIBLES
The
following table presents the components of the Company’s capitalized software,
intangible assets and goodwill (in thousands):
December 31, 2010
|
March 31, 2010
|
||||||||||||||||||||||||||
Useful
Life in
Years
|
Gross
Carrying
Amount
|
Accumulated
Amortization
|
Net Carrying
Amount
|
Gross
Carrying
Amount
|
Accumulated
Amortization
|
Net Carrying
Amount
|
|||||||||||||||||||||
Goodwill
|
Indefinite
|
$ | 107,756 | - | $ | 107,756 | $ | 4,628 | $ | - | $ | 4,628 | |||||||||||||||
Purchased
software
|
3
|
4,010 | (3,577 | ) | 433 | 3,584 | (3,419 | ) | 165 | ||||||||||||||||||
Acquired
technology
|
3-9.25
|
72,320 | (14,809 | ) | 57,511 | 14,520 | (14,277 | ) | 243 | ||||||||||||||||||
Customer
lists
|
2-15
|
34,256 | (15,558 | ) | 18,698 | 16,870 | (15,040 | ) | 1,830 | ||||||||||||||||||
Trademarks
|
3-7.25
|
14,967 | (396 | ) | 14,571 | 250 | (249 | ) | 1 | ||||||||||||||||||
Trademark/brand
name
|
Indefinite
|
14,100 | - | 14,100 | 14,100 | - | 14,100 | ||||||||||||||||||||
$ | 247,409 | $ | (34,340 | ) | $ | 213,069 | $ | 53,952 | $ | (32,985 | ) | $ | 20,967 |
The
following table presents the activity of goodwill and other intangibles during
the period from March 31, 2010 to December 31, 2010 (in thousands):
March 31, 2010
|
December 31, 2010
|
|||||||||||||||||||
Intangible asset
|
Net Carrying
Amount
|
Additions
|
Adjustment
|
Amortization
|
Net Carrying
Amount
|
|||||||||||||||
Goodwill
|
$ | 4,628 | $ | 103,129 | $ | (1 | ) | $ | - | $ | 107,756 | |||||||||
Purchased
software
|
165 | 426 | (16 | ) | (142 | ) | 433 | |||||||||||||
Acquired
technology
|
243 | 57,800 | - | (532 | ) | 57,511 | ||||||||||||||
Customer
lists
|
1,830 | 17,386 | - | (518 | ) | 18,698 | ||||||||||||||
Trademarks
|
1 | 14,717 | 1 | (148 | ) | 14,571 | ||||||||||||||
Trademark/brand
name
|
14,100 | - | - | - | 14,100 | |||||||||||||||
$ | 20,967 | $ | 193,458 | $ | (16 | ) | $ | (1,340 | ) | $ | 213,069 |
Acquired
intangibles with finite lives and purchased software are being amortized using
accelerated and straight-line methods over their estimated useful
lives. Amortization expense for intangibles was $1.0 million and $1.3
million for the three and nine months ended December 31, 2010,
respectively. Comparatively, amortization of intangibles was $0.1
million and $0.5 million for the three and nine months ended December 31, 2009,
respectively. The future annual amortization expense of definitive-lived
intangibles is expected to be as follows (in thousands):
Years Ending March 31,
|
Amortization
Expense
|
|||
2011
(remaining three months)
|
$ | 3,793 | ||
2012
|
14,702 | |||
2013
|
13,553 | |||
2014
|
14,569 | |||
Thereafter
|
44,163 | |||
$ | 90,780 |
12
Sonic
Solutions
Notes
to Unaudited Condensed Consolidated Financial Statements
(in
thousands except for share and per share data)
NOTE
7 – ACCRUED EXPENSES AND OTHER CURRENT LIABILITIES
Accrued
expenses and other current liabilities consist of (in thousands):
December 31,
2010
|
March 31,
2010
|
|||||||
Commissions
payable
|
$ | 1,015 | $ | 543 | ||||
Accrued
compensation and benefits
|
6,712 | 2,761 | ||||||
Accrued
professional services
|
2,416 | 1,146 | ||||||
Accrued
marketing costs
|
977 | 927 | ||||||
Accrued
sales returns and discounts
|
1,407 | 2,124 | ||||||
Accrued
royalties
|
7,472 | 2,629 | ||||||
Accrued
restructuring costs
|
173 | 385 | ||||||
Income
tax liabilities
|
2,103 | 2,729 | ||||||
Other
tax liabilities
|
2,494 | 7,134 | ||||||
Other
accrued expense
|
3,560 | 1,538 | ||||||
Total
accrued expenses and other current liabilities
|
$ | 28,329 | $ | 21,916 |
NOTE
8 – COMMITMENTS AND CONTINGENCIES
Leases
The
Company leases certain facilities and equipment under non-cancelable operating
and capital leases. Operating leases include leased facilities and capital
leases include leased equipment. Rent expense under operating leases
was approximately $1.5 million and $3.6 million for the three and nine months
ended December 31, 2010, respectively. Comparatively, rent expense
under operating leases was approximately $1.0 million and $3.4 million for the
three and nine months ended December 31, 2009, respectively.
Future
payments under various operating and capital leases that have remaining
non-cancelable lease terms in excess of one year are as follows (in
thousands):
Years Ending March 31,
|
Operating
Leases |
Capital
Leases |
Total Lease
Obligations
|
|||||||||
2011
(remaining three months)
|
$ | 904 | $ | 33 | $ | 937 | ||||||
2012
|
3,854 | 32 | 3,886 | |||||||||
2013
|
2,393 | 2 | 2,395 | |||||||||
2014
and thereafter
|
3,216 | 2 | 3,218 | |||||||||
$ | 10,367 | $ | 69 | $ | 10,436 |
13
Sonic
Solutions
Notes
to Unaudited Condensed Consolidated Financial Statements
(in
thousands except for share and per share data)
Litigation
Matters
DivX-Related
Litigation. In connection with acquisition of DivX, two sets
of previously reported shareholder class action lawsuits were filed against
DivX, members of the DivX board of directors, the Company, Siracusa Merger
Corporation, and Siracusa Merger LLC, alleging breaches of fiduciary duty by the
DivX board of directors in connection with the merger. The first set
of lawsuits, captioned Gahlen
v. DivX, Inc. et al. (Case No. 37-2010-00094693-CU-SL-CTL), and Pared v. DivX, Inc. et al.
(Case No. 37-2010-00096242-CU-SL-CTL), were filed in Superior Court of the State
of California, County of San Diego, and were consolidated as In re DivX, Inc. Shareholder
Litigation (Case No. 37-2010-00094693-CU-SL-CTL). The second
set of lawsuits, captioned Chropufka v. DivX, Inc. et
al. (C.A. No. 5643-CC), and Willis v. DivX, Inc. et al.
(C.A. No. 5647-CC), were filed in Delaware Chancery Court, and were consolidated
as In re DivX, Inc.
Shareholders Litigation (Consolidated C.A. No. 5463-CC). The
lawsuits, brought by individual DivX stockholders purportedly on behalf of a
class of DivX stockholders, sought, among other things, to enjoin defendants
from completing the merger pursuant to the terms of the merger
agreement. As previously reported, on August 22, 2010, the parties
reached an agreement in principle to settle all of these
lawsuits. After first memorializing the terms of the agreement in a
memorandum of understanding, dated August 31, 2010, the parties executed a
formal Stipulation of Settlement on December 29, 2010. On January 21,
2011, the Court granted preliminary approval of the settlement and set April 1,
2011, as the hearing date for plaintiffs’ motion for final approval of the
settlement. The parties have thus far been unable to agree on the
fees payable to plaintiffs’ counsel and, pursuant to the Stipulation of
Settlement, plaintiffs will file a fee application with the court if an
agreement is not reached.
Rovi-Related
Litigation. In connection with the merger of Rovi and the
Company, on January 3, 2011, a putative class action lawsuit entitled Vassil Vassilev v. Sonic Solutions,
et al. was filed in California Superior Court for the County of Marin by
an individual purporting to be a shareholder of Sonic Solutions against Sonic,
the members of its board of directors, Rovi and Sparta Acquisition
Sub. This lawsuit alleged that the members of Sonic’s board of
directors breached their fiduciary duties of care and loyalty by, inter alia,
failing to maximize shareholder value and by approving the merger transaction
via an unfair process, and further alleged that Rovi and Sparta Acquisition Sub
aided and abetted the breach of fiduciary duties, and sought to enjoin the
acquisition of Sonic by Rovi, rescission of the transaction in the event it is
consummated, imposition of a constructive trust, and monetary damages, fees and
costs in an unspecified amount. Thereafter, on January 10, 14
and 18, 2011, three substantially similar putative class action lawsuits were
filed in the same court against the same defendants, entitled Matthew Barnes v. Habinger [sic] et
al., Mark Chropufka v.
Sonic Solutions, et al. and Diana Willis v. Sonic Solutions, et
al. On January 21, 2011, plaintiff Mark Chropufka filed an
amended class action complaint, which all plaintiffs then designated as the
operative complaint, and which adds allegations of omissions in the Schedule
14D-9 Recommendation Statement filed by the Company on January 14,
2011. On January 27, 2011, these parties submitted a stipulation and
proposed order consolidating all lawsuits filed in connection with the proposed
merger (the “Consolidated Action”), which order was signed by the Court on
January 28, 2011. On January 25, 2011, another substantially similar
putative class action lawsuit was filed in the same court against the same
defendants, entitled Joann
Thompson v. Sonic Solutions, et al. On January 28, 2011, the
parties to the Consolidated Action reached an agreement in principle to settle,
and on January 31, 2011 they entered into a memorandum of understanding setting
forth this agreement in principle. The proposed settlement, which is
subject to court approval following notice to the class and a hearing, disposes
of all causes of action asserted in the Consolidated Action and in Thompson v. Sonic Solutions, et.
al. on behalf of all class members who do not elect to opt out of the
settlement. Class members, who elect to opt out, if any, may continue
to pursue causes of action against the defendants. On February
4, 2011, Thompson applied to the court for an order temporarily restraining Rovi
from accepting tendered shares on the ground that the Offer and Merger allegedly
violate a provision of the California Corporation Code. The Court
denied the application that same day.
Contingencies
From time
to time the Company is subject to various legal proceedings and claims, the
outcomes of which are subject to significant uncertainty. The Company
accrues the loss contingency as a charge to income if it is probable and the
amount of the loss can be reasonably estimated. The Company did not
record a loss contingency reserve in the three and nine months ending December
31, 2010 and 2009, respectively.
Indemnification
Obligations
In the
normal course of business, the Company provides indemnifications of varying
scopes, including limited product warranties and indemnification of customers
against claims of intellectual property infringement made by third parties
arising from the use of its products or services. The Company accrues
for known indemnification issues if a loss is probable and can be reasonably
estimated. Historically, costs related to these indemnifications have
not been significant, and because potential future costs are highly variable,
the Company is unable to estimate the maximum potential impact of these
indemnifications on its future results of operations. As permitted
under California law and in accordance with its Bylaws and certain other
commitments and agreements, the Company indemnifies its officers, directors and
members of its senior management against certain claims and liabilities, subject
to certain limits, while they serve at its request in such
capacity. The maximum amount of potential indemnification is unknown
and potentially unlimited; however, the Company has D&O liability insurance
that enables it to recover a portion of future indemnification claims paid,
subject to retentions, conditions and limitations of those
policies.
14
Sonic
Solutions
Notes
to Unaudited Condensed Consolidated Financial Statements
(in
thousands except for share and per share data)
Purchase
Commitments
In the
normal course of business, the Company enters into various purchase commitments
for goods and services. Total non-cancellable purchase commitments as of
December 31, 2010 were approximately $0.6 million. The purchase
commitments are mainly associated with royalty contracts related to the
Company’s Roxio Consumer products and RoxioNow businesses.
NOTE
9 – SHARE-BASED COMPENSATION
The
Company recognizes share-based compensation expense ratably over the vesting
terms of the underlying share-based awards. Share-based compensation
expense was as follows (in thousands):
|
Three Months Ended
December 31,
|
Nine Months Ended
December 31,
|
||||||||||||||
2010
|
2009
|
2010
|
2009
|
|||||||||||||
Marketing and
sales
|
$ | 1,268 | $ | 225 | $ | 1,911 | $ | 561 | ||||||||
Research
and development
|
1,897 | 36 | 2,133 | 202 | ||||||||||||
General
and administrative
|
1,006 | 398 | 1,895 | 998 | ||||||||||||
$ | 4,171 | $ | 659 | $ | 5,939 | $ | 1,761 |
NOTE
10 - COMPREHENSIVE INCOME (LOSS)
Comprehensive
income (loss) consists of net income (loss) and other comprehensive income
(loss), which includes certain changes in equity that are excluded from net
income. The Company’s other comprehensive income (loss) consists
primarily of foreign currency translation adjustments from those subsidiaries
not using the U.S. dollar as their functional currency.
Components
of comprehensive income (loss), net of tax, were as follows (in
thousands):
Three Months Ended
December 31,
|
Nine Months Ended
December 31,
|
|||||||||||||||
2010
|
2009
|
2010
|
2009
|
|||||||||||||
Net
income (loss)
|
$ | 4,236 | $ | (344 | ) | $ | 560 | $ | (2,381 | ) | ||||||
Other
comprehensive loss:
|
||||||||||||||||
Foreign
currency translation losses
|
(4 | ) | (20 | ) | (28 | ) | (56 | ) | ||||||||
Comprehensive
income (loss)
|
$ | 4,232 | $ | (364 | ) | $ | 532 | $ | (2,437 | ) |
15
Sonic
Solutions
Notes
to Unaudited Condensed Consolidated Financial Statements
(in
thousands except for share and per share data)
NOTE
11 – EARNINGS (LOSS) PER SHARE
The following table sets forth the
computation of basic and diluted income (loss) per share (in
thousands):
Three Months Ended
December 31,
|
Nine Months ended
December 31,
|
|||||||||||||||
2010
|
2009
|
2010
|
2009
|
|||||||||||||
Numerator:
|
||||||||||||||||
Net
income (loss) applicable to common shareholders
|
$ | 4,236 | $ | (344 | ) | $ | 560 | $ | (2,381 | ) | ||||||
Denominator:
|
||||||||||||||||
Weighted-average
number of common shares outstanding(1)
|
47,792 | 27,317 | 36,439 | 26,871 | ||||||||||||
Diluted
weighted-average number of common shares outstanding
|
48,493 | 27,317 | 37,252 | 26,871 | ||||||||||||
Basic
net income (loss) per share
|
$ | 0.09 | $ | (0.01 | ) | $ | 0.02 | $ | (0.09 | ) | ||||||
Diluted
net income (loss) per share
|
$ | 0.09 | $ | (0.01 | ) | $ | 0.02 | $ | (0.09 | ) | ||||||
Potentially
dilutive securities(2)
|
1,673 | 865 | 1,118 | 2,433 |
|
(1)
|
Weighted-average
number of common shares outstanding excludes unnvested stock options,
restricted stock units, and
warrants.
|
|
(2)
|
The
potentially dilutive securities are excluded from the computation of
diluted net income (loss) per share for the three and nine months ended
December 31, 2010 and 2009, because their effect would have been
anti-dilutive.
|
NOTE
12 – INCOME TAXES
The
provision for income taxes is calculated using the asset and liability method of
accounting. Under the asset and liability method, the Company
determines its income tax (benefit) expense and recognizes deferred tax assets
and liabilities based on the future tax consequences attributable to differences
between the financial statement carrying amount of existing assets and
liabilities and their respective tax bases. Deferred tax assets and
liabilities are measured using the tax rates expected to apply to taxable income
in the years in which those temporary differences are expected to be recovered
or settled. In assessing net deferred tax assets, management
considers whether it is more likely than not that some or all of the deferred
tax assets will not be realized. When the Company does not believe
realization of a deferred tax asset is more likely than not, it records a
valuation allowance.
The
Company calculates its projected annual effective tax rate for the fiscal year
ending March 31, 2011 to be 46.1%. This rate includes a tax rate
differential on earnings in foreign jurisdictions and increases in reserves for
uncertain tax positions.
During
the three and nine months ended December 31, 2010, the Company recorded an
income tax (benefit) of ($25.8) million and ($26.6) million,
respectively. After considering discrete items including valuation
allowance, the effective tax rate for the nine months ended December 31, 2010
was 102.2%. The Company does not provide for United States (“U.S.”) income taxes
on undistributed earnings of its foreign operations that are intended to be
invested indefinitely outside the U.S.
As
indicated in Note 14 of the Notes to the unaudited Condensed Consolidated
Financial Statements contained in this Form 10-Q, the Company acquired the
outstanding shares of DivX Inc., during the three months ended December 31, 2010
and recorded deferred tax liabilities of $33.2 million related to this
acquisition. The combination of the acquired deferred tax liabilities
with the Company’s U.S. net deferred tax assets led the Company to reassess its
ability to utilize existing gross deferred tax assets against the acquired
deferred tax liabilities in future years. Accordingly, the Company
released $27.0 million of its valuation allowances related to the DivX
acquisition during the three months ending December 31, 2010. The remaining $6.2
million net deferred tax liabilities are related to foreign
operations. As of December 31 2010, the Company continued to have a
full valuation allowance against its U.S. net deferred tax assets (with the
exception of certain deferred tax liabilities related to indefinite life
intangible assets) and certain foreign jurisdictions’ net deferred tax
assets.
16
Sonic
Solutions
Notes
to Unaudited Condensed Consolidated Financial Statements
(in
thousands except for share and per share data)
The
Company increased its unrecognized tax benefits $0.7 million as a result of the
DivX acquisition for a total of $6.7 million at December 31,
2010. The Company recognizes interest and penalties related to
uncertain tax positions in income tax expense. The amount of interest
and penalties accrued at December 31, 2010 is not material.
The
Company files income tax returns in the U.S. federal jurisdiction, various U.S.
state jurisdictions and foreign jurisdictions. The Company is no
longer subject to U.S. federal and state income tax examination by tax
authorities for years prior to fiscal year 2004. Foreign income tax
matters for significant foreign jurisdictions have been concluded for years
through fiscal year 2003.
NOTE
13 – SIGNIFICANT CUSTOMER INFORMATION, SEGMENT REPORTING AND GEOGRAPHIC
INFORMATION
Significant
Customer Information
The
following table shows the Company’s significant customers (in
percentages):
Percent of Total Net Revenue
|
||||||||||||||||
Three Months Ended
December 31,
|
Nine Months Ended
December 31,
|
|||||||||||||||
Customer
|
2010
|
2009
|
2010
|
2009
|
||||||||||||
Navarre
|
19 | % | 20 | % | 20 | % | 21 | % | ||||||||
Digital
River
|
19 | % | 25 | % | 19 | % | 23 | % | ||||||||
Dell
|
8 | % | 11 | % | 9 | % | 13 | % | ||||||||
Ingram
|
7 | % | 10 | % | 7 | % | 8 | % | ||||||||
Hewlett-Packard
|
6 | % | 11 | % | 6 | % | 12 | % |
Segment
Reporting
Net
Revenue by Segment
The
Company organizes its business into three reportable operating
segments: the “Roxio Consumer Products” segment, which offers products and
services related to personal content, the “Premium Content” segment, which
offers products and services related to premium content (and includes the
MainConcept technologies acquired through the DivX acquisition), and the “DivX”
segment, which provides high-quality video compression-decompression software
libraries, or codecs, to enable distribution of content across the Internet and
through recordable media. These segments reflect the Company’s
internal organizational structure, as well as the processes by which management
makes operating decisions, allocates resources and assesses
performance.
During
the three months ended December 31, 2010, the Company’s Roxio Consumer Products,
Premium Content and DivX segments accounted for approximately 74%, 18% and 8% of
net revenue, respectively. Comparatively, the Company’s Roxio Consumer
Products, Premium Content and DivX segments accounted for approximately 84%, 16%
and 0% of net revenue for the three months ended December 31, 2009,
respectively. During the nine months ended December 31, 2010, the
Company’s Roxio Consumer Products, Premium Content and DivX segments accounted
for approximately 78%, 20% and 2% of net revenue,
respectively. Comparatively, the Company’s Roxio Consumer Products, Premium
Content and DivX segments accounted for approximately 87%, 13% and 0% of net
revenue for the nine months ended December 31, 2009, respectively.
The
following tables show the net revenue attributable to the Company’s three
reportable segments, operating results by segment, and revenue by geographic
location (in thousands):
17
Sonic
Solutions
Notes
to Unaudited Condensed Consolidated Financial Statements
(in
thousands except for share and per share data)
Three Months Ended
December 31,
|
Nine Months Ended
December 31,
|
|||||||||||||||
Net Revenue
|
2010
|
2009
|
2010
|
2009
|
||||||||||||
Roxio
Consumer Products
|
$ | 19,573 | $ | 22,298 | $ | 59,860 | $ | 67,964 | ||||||||
Premium
Content
|
4,675 | 4,094 | 15,136 | 10,011 | ||||||||||||
DivX
|
2,179 | - | 2,179 | - | ||||||||||||
Total
net revenue(1)
|
$ | 26,427 | $ | 26,392 | $ | 77,175 | $ | 77,975 |
(1)
Results for the three and nine months ended December 31, 2010 included
activities for DivX from October 8, 2010, and reflected the impacts of the
acquisition method of accounting.
Operating
Income (Loss) by Segment (in thousands)
Three Months Ended
December 31,
|
Nine Months Ended
December 31,
|
|||||||||||||||
Operating income (loss)
|
2010
|
2009
|
2010
|
2009
|
||||||||||||
Roxio
Consumer Products
|
$ | 5,376 | $ | 7,008 | $ | 14,036 | $ | 21,109 | ||||||||
Premium
Content
|
(4,384 | ) | (2,947 | ) | (6,214 | ) | (8,469 | ) | ||||||||
DivX
|
(12,490 | ) | - | (12,490 | ) | - | ||||||||||
Unallocated
operating expenses
|
(10,513 | ) | (4,601 | ) | (22,254 | ) | (14,136 | ) | ||||||||
Total
operating loss(1)
|
$ | (22,011 | ) | $ | (540 | ) | $ | (26,922 | ) | $ | (1,496 | ) |
(1)Results
for the three and nine months ended December 31, 2010 included activities for
DivX from October 8, 2010, and reflected the impacts of the acquisition method
of accounting.
Net
Revenue by Geographic Location (in thousands)
Three Months Ended
December 31,
|
Nine Months Ended
December 31,
|
|||||||||||||||
Revenue by region
|
2010
|
2009
|
2010
|
2009
|
||||||||||||
United
States
|
$ | 18,926 | $ | 20,405 | $ | 55,825 | $ | 60,965 | ||||||||
Export
|
||||||||||||||||
Canada
|
369 | 253 | 1,626 | 672 | ||||||||||||
France
|
333 | 65 | 898 | 479 | ||||||||||||
Germany
|
1,168 | 794 | 2,316 | 2,069 | ||||||||||||
United
Kingdom
|
860 | 1,020 | 2,133 | 2,445 | ||||||||||||
Europe:
Other
|
606 | 496 | 3,445 | 1,734 | ||||||||||||
Japan
|
2,224 | 1,411 | 6,271 | 5,358 | ||||||||||||
Singapore
|
770 | 1,048 | 2,419 | 2,375 | ||||||||||||
Taiwan
|
306 | 377 | 533 | 653 | ||||||||||||
Other
Pacific Rim
|
456 | 375 | 759 | 817 | ||||||||||||
Other
International
|
409 | 148 | 950 | 408 | ||||||||||||
Total
net revenue(1)
|
$ | 26,427 | $ | 26,392 | $ | 77,175 | $ | 77,975 |
18
Sonic
Solutions
Notes
to Unaudited Condensed Consolidated Financial Statements
(in
thousands except for share and per share data)
(1)
Results for the three and nine months ended December 31, 2010 included
activities for DivX from October 8, 2010, and reflected the impacts of the
acquisition method of accounting.
The
Company sells its products and services to customers categorized geographically
by each customer’s country of domicile. For the three months ended
December 31, 2010 and 2009, domestic net revenue was $18.9 million and $20.4
million, and international net revenue was $7.5 million and $6.0 million,
respectively. Domestic net revenue was $55.8 million and $61.0
million and international net revenue was $21.4 million and $17.0 million for
the nine months ended December 31, 2010 and 2009, respectively.
NOTE
14 – ACQUISITION
On
October 7, 2010, the Company acquired all of the outstanding shares of common
stock of DivX, Inc. pursuant to the Agreement and Plan of Merger entered into
June 1, 2010. Each share of DivX common stock issued and outstanding
immediately prior to the acquisition date was converted into the right to
receive 0.514 shares of the Company’s common stock and $3.75 in
cash.
DivX,
Inc. is a leading digital media company that enables consumers to enjoy a
high-quality video experience across any kind of device. The Company
believes that the DivX transaction will help the Company enhance its strategic
positioning in consumer electronic devices, facilitate the further penetration
of the RoxioNow content platform relating into Internet-enabled consumer
electronic devices and expanding the business model of the Roxio brand through
DivX’s online community. The results of DivX’s operations have been
included in the unaudited Consolidated Financial Statements since October 8,
2010.
The
acquisition has been accounted for under the acquisition method of
accounting. The purchase price, in aggregate, was approximately,
$356.0 million, comprised of $126.3 million in cash, $204.1 million of Sonic
common stock, $5.6 million representing the fair value of stock options and
warrants assumed, and $20.0 million of assumed liabilities.
The
following table summarizes the purchase price allocation based on the fair value
for the assets acquired (in thousands):
Cash
|
$ | 116,245 | ||
Short-term
investments
|
13,814 | |||
Accounts
receivable
|
59,720 | |||
Other
receivables
|
13,906 | |||
Prepaid
expenses and other assets
|
7,564 | |||
Fixed
assets
|
1,386 | |||
Other
assets
|
6,011 | |||
Long-term
investments
|
5,313 | |||
Intangibles
|
89,300 | |||
Goodwill
|
104,617 | |||
Accounts
payable
|
(633 | ) | ||
Accrued
liabilities
|
(5,128 | ) | ||
Deferred
revenue
|
(1,012 | ) | ||
Deferred
tax liabilities
|
(34,658 | ) | ||
Other
long-term liabilities
|
(20,376 | ) | ||
Net
assets acquired
|
$ | 356,069 |
Transaction
costs and integration costs associated with the acquisition were expensed as
incurred. For the three and nine months ended December 31, 2010, the Company
incurred $1.8 million and $4.4 million related to the DivX acquisition and
integration costs.
19
Sonic
Solutions
Notes
to Unaudited Condensed Consolidated Financial Statements
(in
thousands except for share and per share data)
Valuation
of Intangible Assets and Goodwill
The
application of the acquisition method of accounting resulted in recorded
goodwill of $104.6 million. The goodwill recorded for the acquisition of DivX
will not be amortized but tested for impairment at least annually, or more
frequently if certain indicators are present. In the event that management
determines that the value of goodwill has become impaired, the Company will
record an accounting charge for the amount of impairment during the fiscal
quarter in which the determination is made. Since the DivX
acquisition was a stock purchase, goodwill will not be deductible for tax
purposes.
Identifiable
Intangible Assets
In
performing the purchase price allocation, the fair value of certain significant
intangibles, developed technology, customer relationships and trademarks, was
calculated primarily using an income approach. The rates utilized to discount
net cash flows to their present values were based on a weighted average cost of
capital of 17-19%. The discount rates were determined after consideration of the
overall enterprise rate of return, the relative risk, and relative importance of
the asset to the generation of the cash flows.
The
following table sets forth the components of intangible assets associated with
the DivX acquisition (in thousands):
Fair Value
|
Useful Life
|
||||
Acquired
technology
|
$ | 57,600 |
8.25-9.25
years
|
||
Customer
lists
|
17,000 |
5.25-10.25
years
|
|||
Trademarks
and other
|
14,700 |
7.25
years
|
|||
Total
intangible assets
|
89,300 |
Acquired
technology is comprised of products that have reached technological feasibility
and are a part of DivX’s product lines. Proprietary knowledge can be leveraged
to continue to enhance and add new features. Customer lists represent the
underlying relationships and agreements with DivX’s customers. Trademarks
represent the brand and name recognition associated with the marketing of DivX’s
products and services.
Accounts
Receivable
The
purchase price allocation includes estimated accounts receivable of $59.7
million. Of this amount, $54.8 million is attributable to an adjustment to
record the fair value of assumed contractual payments due to DivX for which no
additional obligations exists in order to receive such payments. These
contractual payments are for fixed multi-year site licenses, guaranteed
minimum-royalty licenses, and unbilled per-unit royalties for unit shipped prior
to the acquisition.
DivX’s
revenue was primarily derived from royalties paid by licensees to acquire
intellectual property rights. Revenue in such transactions was recognized during
the period in which such customers reported the number of royalty-eligible units
that they have shipped (in accordance with ASC Topic 605, Revenue Recognition). As the
first royalty reports received from customers post-acquisition were for
shipments made prior to the acquisition, these amounts did not meet the
requirements for the Company to recognize the revenue. However, the cash
payments associated with these reports were (and will be) received by the
Company.
In
certain multi-year site licenses and guaranteed minimum-royalty licenses, DivX
entered into extended payment programs. Revenue related to such extended payment
programs were recognized at the earlier of when cash was received or when
periodic payments became due, (in accordance with ASC Topic 605). The payment
terms extend over the term of the multi-year license, the remaining contractual
payments that exist at the acquisition date will be received by the Company. As
the Company assumed no additional obligations under such contracts, these
payments are considered a fixed payment stream, rather than revenue. This fixed
payment stream is accounted for as an element of accounts receivable and
included as part of the acquisition accounting.
20
Sonic
Solutions
Notes
to Unaudited Condensed Consolidated Financial Statements
(in
thousands except for share and per share data)
The fair
value of the remaining contractual payment due under the applicable contracts is
estimated by calculating the discounted cash flows associated with such future
billings. Although, the Company will not recognize revenue as it collects the
corresponding site license payments under these pre-acquisition contracts, the
Company will recognize interest income at the discounted rate of the fair valued
receivable.
Supplemental
Pro Forma Information
The following unaudited pro forma
information presents the consolidated results of operations of Sonic and DivX as
if the acquisition had occurred at the beginning of each period presented, with
pro forma adjustments to give effect to amortization of intangible assets and
certain other adjustments (in thousands):
Three Months Ended
December 31,
|
Nine Months Ended
December 31,
|
|||||||||||||||
2010
|
2009
|
2010
|
2009
|
|||||||||||||
Net
Revenue (1)
|
$ | 27,903 | $ | 46,365 | $ | 118,695 | $ | 129,611 | ||||||||
Net
income (loss) (2)
|
$ | 88 | $ | (1,424 | ) | $ | (6,852 | ) | $ | (3,464 | ) |
(1)
|
Net revenue for the
three and nine months ended December 31, 2010, excludes approximately
$19.2 million of revenue that the Company did not recognize, but would
have been recognized by DivX in the periods presented, as a stand-alone
company in the ordinary course of its
business.
|
(2)
|
Net income (loss)
for the three and nine months ended December 31, 2010, includes the
benefit of $27.0 million associated with the release of the Company's tax
valuation allowance in connection with the DivX acquisition and excludes
approximately $19.2 million of revenue that the Company did not recognize,
but would have been recognized by DivX in the periods presented, as a
stand-alone company in the ordinary course of its business.
|
The
unaudited pro forma results are not necessarily indicative of the results that
the Company would have attained had, the acquisition of DivX occurred at the
beginning of the periods presented.
NOTE
15 – SUBSEQUENT EVENTS
Rovi
Transaction
On
December 22, 2010, the Company entered into the Merger Agreement with Rovi and
Rovi's wholly owned subsidiary, Sparta Acquisition Sub, Inc.
(“Purchaser”). Pursuant to the Merger Agreement, on January 14,
2011, Purchaser filed a Tender Offer Statement on Schedule TO with the SEC in
which it offered to purchase each outstanding share of common stock, no par
value, of the Company. Each Sonic shareholder who participates in the
Offer (as defined below) may elect to receive consideration in the form of
$14.00 per share in cash (the “cash election”) or a fraction of a share of
Rovi’s common stock equal to 0.2489 (the “stock election”), in each case,
subject to adjustment for stock splits, stock dividends and similar events as
described in the Prospectus/Offer to Purchase, dated January 14, 2011, and
amended on January 31, 2011 (the “Prospectus/Offer to Purchase”), and in the
related Letter of Transmittal (which, together with any amendments or
supplements thereto, collectively constitute the “Offer”). The
aggregate amount of cash and of Rovi common stock available to be paid and
issued in the Offer will be determined on a 55/45 basis, such that if the
holders of more than 55% of the shares of Sonic common stock tendered in the
Offer elect more than the amount of cash available, or if the holders of more
than 45% of the shares of Sonic common stock tendered in the Offer elect more
than the amount of Rovi common stock available, Sonic shareholders will receive
on a pro rata basis the other kind of consideration to the extent the kind of
consideration they elect to receive is oversubscribed. Sonic shareholders that
tender their shares of Sonic common stock in the Offer, but do not make a cash
election or a stock election will be treated as if they had made no election and
the amount of cash and/or shares of Rovi common stock that they receive will be
based on the amount of cash and/or shares of Rovi common stock remaining after
giving effect to the cash elections and stock elections. On January
24, 2011, Federal Trade Commission and Department of Justice granted early
termination of the waiting period under the Hart-Scott Antitrust Improvements
Act relating to the Offer. The Offer and subsequent merger
contemplated by the Merger Agreement remain subject to other closing
conditions.
Nowtilus
Acquisition
On January 31, 2011, the Company
acquired all of the outstanding equity of an internet media distribution
company, Nowtilus Onlinevertriebsgesellschaft mbH, Halle (“Nowtilus”), a limited
liability company established under the laws of Germany. The
preliminary purchase price is estimated to be EUR 5.8 million payable in three
installments over a six-month period after the closing date, January 31, 2011.
The first installment was paid on the closing date in the amount of EUR 3.3
million. Since the acquisition date occurred subsequent to December
31, 2010, the Nowtilus’ assets acquired and liabilities assumed are not included
in the unaudited Condensed Consolidated Balance Sheets as of December 31,
2010. Due to the limited time, the initial purchase accounting for
this business combination was incomplete as of the date of filing of this
Quarterly Report.
21
ITEM
2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
Forward-Looking
Statements
This
Management’s Discussion and Analysis of Financial Condition and Results of
Operations and other parts of this Quarterly Report on Form 10-Q (“Quarterly
Report”) contain forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933, as amended, and Section 21E
of the Securities Exchange Act of 1934. These forward-looking
statements include, but are not limited to, statements regarding: the
markets for the Company’s products and services; macroeconomic conditions; risks
and uncertainties relating to satisfaction of closing conditions for the
acquisition of Sonic by Rovi including the tender of a majority of the
outstanding shares of common stock of Sonic; the effects of the announcement of
the acquisition on Sonic’s business and the impact of any failure to complete
the acquisition; the effects of the DivX acquisition, including its integration
into the Company’s operations; consumer and business spending; leisure and
entertainment related activities and related technologies; proliferation of
Internet-connected devices; the Company’s competitive position; continued
popularity of the DVD format; popularity of the Blu-ray Disc (“BD”) format;
market for digital distribution of premium content; impact of restructuring
plans; liquidity and capital needs; gross margins; operating expenses;
significant customers, major distributors and key suppliers; content licensing;
impacts of the Company’s pricing strategies; acquisitions and integration of
related assets, business, personnel and systems; international operations;
litigation or patent prosecution; intellectual property claims; and changes in
effective tax rates. These forward-looking statements are subject to
risks and uncertainties that could cause actual results and events to
differ. Risks that may affect the Company’s operating results
include, but are not limited to, those discussed in “Item 1.A Risk Factors” of
this Quarterly Report. Readers should carefully review the risk
factors described in this Quarterly Report and in other documents that the
Company files from time to time with the Securities and Exchange Commission
(“SEC”).
Overview
of Business
The
Company is a leading developer of technologies, products and services that
enable the creation, management, and enjoyment of digital media content across a
wide variety of technology platforms. The Company’s products and
services offer innovative technologies to consumers, major Hollywood and
independent studios, original equipment manufacturers (“OEMs”), businesses,
high-end professional DVD authoring experts and developers. The
Company distributes its products and services through retailers and
distributors, personal computer (“PC”) and consumer electronic (“CE”) OEMs,
Internet websites and other channels. The Company’s brands now
include Roxio®, RoxioNow™, DivX®, Sonic® and MainConcept®, among
others. In addition, the Company licenses core technology and
intellectual property to other software companies and technology manufacturers
for integration into their own products and services.
Fiscal
Year
References
to “fiscal year” refer to the Company’s fiscal year ending on March 31 of the
designated year. For example, “fiscal year 2011” refers to the fiscal year
ended March 31, 2011. Other references to “years” mean calendar
years.
Products
The
Company offers a range of technologies, products and services that are used to
accomplish a wide variety of tasks, including creating and distributing digital
audio and video content in a variety of formats; renting, purchasing and
enjoying Hollywood movies and other premium content; producing digital media
photo and video shows for sharing online and via television, PCs and CE devices;
recording and playback of digital content on DVD, BD, other storage media and
portable devices; managing digital media on PCs and CE devices; and backing up
and preserving digital information, both to local storage devices and on the
Internet.
DivX
Acquisition, Rovi Transaction and Nowtilus Acquisition
DivX
Acquisition
On
October 7, 2010, the Company completed the acquisition by merger of DivX,
Inc. As a result of this acquisition, the Company consolidated DivX’s
assets and liabilities into the Company’s unaudited Condensed Consolidated
Balance Sheets as of October 7, 2010, and included DivX’s financial results from
October 7, 2010 in the Company’s unaudited Condensed Consolidated Statement of
Operations. Please refer to Note 14 of the Notes to the unaudited
Consolidated Financial Statements contained in this Form 10-Q for additional
information regarding this completed acquisition.
22
Rovi
Transaction
On December 22, 2010, the Company
entered into an Agreement and Plan of Merger and Reorganization (the “Merger
Agreement”) with Rovi Corporation, a Delaware corporation (“Rovi”), and Rovi's
wholly owned subsidiary, Sparta Acquisition Sub, Inc., a California corporation
(“Acquisition Sub”). The Merger Agreement was filed as Exhibit 99.1
to the Company’s Current Report on Form 8-K filed with the SEC on December 27,
2010. Pursuant to the Merger Agreement, on January 14, 2011,
Acquisition Sub filed a Tender Offer Statement on Schedule TO with the SEC in
which it offered to purchase each outstanding share of common stock, no par
value, of the Company. Each Sonic shareholder who participates in the
Offer (as defined below) may elect to receive consideration in the form of
$14.00 per share in cash (the “cash election”) or a fraction of a share of
Rovi’s common stock equal to 0.2489 (the “stock election”), in each case,
subject to adjustment for stock splits, stock dividends and similar events as
described in the Prospectus/Offer to Purchase, dated January 14, 2011, and
amended on January 31, 2011 (the “Prospectus/Offer to Purchase”), and in the
related Letter of Transmittal (which, together with any amendments or
supplements thereto, collectively constitute the “Offer”). The
aggregate amount of cash and of Rovi common stock available to be paid and
issued in the Offer will be determined on a 55/45 basis, such that if the
holders of more than 55% of the shares of Sonic common stock tendered in the
Offer elect more than the amount of cash available, or if the holders of more
than 45% of the shares of Sonic common stock tendered in the Offer elect more
than the amount of Rovi common stock available, Sonic shareholders will receive
on a pro rata basis the other kind of consideration to the extent the kind of
consideration they elect to receive is oversubscribed. Sonic shareholders that
tender their shares of Sonic common stock in the Offer, but do not make a cash
election or a stock election will be treated as if they had made no election and
the amount of cash and/or shares of Rovi common stock that they receive will be
based on the amount of cash and/or shares of Rovi common stock remaining after
giving effect to the cash elections and stock elections. On January
24, 2011, Federal Trade Commission and Department of Justice granted early
termination of the waiting period under the Hart-Scott Antitrust Improvements
Act relating to the proposed acquisition of Sonic Solutions by Rovi in a stock
and cash transaction. The Offer and subsequent merger remain subject
to other closing conditions.
Nowtilus Acquisition
On
January 31, 2011, the Company acquired all of the outstanding equity of an
internet media distribution company, Nowtilus Onlinevertriebsgesellschaft mbH,
Halle (“Nowtilus”), a limited liability company established under the laws of
Germany. The preliminary purchase price is estimated to be EUR 5.8
million payable in three installments over a six-month period after the closing
date, January 31, 2011. The first installment was paid on the closing date in
the amount of EUR 3.3 million. Since the acquisition date occurred
subsequent to December 31, 2010, the Nowtilus assets acquired and liabilities
assumed are not included in the unaudited Condensed Consolidated Balance Sheets
as of December 31, 2010. Due to the limited time, the initial
purchase accounting for this business combination was incomplete as of the date
of filing of this Quarterly Report.
Operating
Segment Information
The
Company organizes its business into three reportable operating
segments: the “Roxio Consumer Products” segment, which offers products and
services related to personal content, the “Premium Content” segment, which
offers products and services related to premium content, and the “DivX” segment,
which provides high-quality video compression-decompression software libraries,
or codecs, to enable distribution of content across the Internet and through
recordable media. These segments reflect the Company’s internal
organizational structure, as well as the processes by which management makes
operating decisions, allocates resources and assesses performance.
Roxio
Consumer Products Segment
The Roxio
Consumer Products segment creates software and services that enable consumers to
easily create, manage, and share personal digital media content on and across a
broad range of connected devices. A wide array of leading technology
companies and developers rely on Roxio products, services and technologies to
bring innovative digital media functionality to PCs and next-generation CE
devices and platforms. The Roxio Consumer Products segment offers
products and services under a variety of names, including BackonTrack, Backup
MyPC, CinePlayer, Crunch, Just!Burn, MyDVD, MyTV To Go, PhotoShow, PhotoSuite,
Popcorn, RecordNow, Roxio Burn, Roxio Copy & Convert, Roxio Creator, Roxio
Easy LP to MP3, Roxio Easy VHS to DVD, Toast, VideoWave, WinOnCD, and
others. These products are sold in a number of different versions and
languages. The Company distributes these products through various
channels, including “bundling” arrangements with OEMs, volume licensing
programs, its web store, and third party web-based and “bricks and mortar”
retail stores. The Company also markets the core technology that
powers Roxio products to other companies who wish to build their own PC software
products.
23
Premium
Content Segment
The
Premium Content segment offers a range of products and services related to the
creation, distribution and enjoyment of premium content. As part of
this segment, the Company also sells, rents and distributes premium
entertainment content to consumers over the Internet under RoxioNow branding (in
this Quarterly Report, this service may be referred to as the “RoxioNow
Service”). Also within this segment, the Professional Products Group
offers software under the Scenarist, CineVision, and DVDit product names as well
as under the Sonic and Roxio Professional brands to major motion picture
studios, high-end authoring houses and other professional
customers. Additionally, in connection with the DivX Acquisition, in
the third quarter of fiscal year 2011, the Company added DivX’s MainConcept
technology business to this segment. The Company also develops
software components that it licenses to CE companies to enable their devices to
offer premium content to consumers, and licenses intellectual property,
including patents.
DivX
Segment
The goal
of the DivX segment is to create products and provide services that improve the
way consumers experience media. The first step toward this goal was
to build and release a high-quality video compression-decompression software
library, or codec, to enable distribution of content across the Internet and
through recordable media. As a result, DivX created the DivX
codec. Since the creation of the first DivX codec, DivX codecs have
been actively sought out and downloaded by consumers hundreds of millions of
times. These downloads include those for which DivX receives revenue
as well as free downloads, such as limited time trial versions, and downloads
provided as upgrades or support to existing end users of DivX
products. After the significant grass-roots adoption of DivX codecs,
the next step toward its goal was to license similar technology to consumer
hardware device manufacturers and to certify their products to ensure the
interoperable support of DivX-encoded content. DivX is entitled to
receive a royalty and/or license fee for DivX Certified devices shipped by its
customers. In addition to licensing revenue from such licensees, DivX
also generates revenue from software licensing, advertising and content
distribution.
Recent
Trends and Events
Due to
the accelerated growth in the computer technology industry, broadband Internet
connectivity and personal electronic devices of all kinds, digital media content
is now everywhere. The Company faces fast evolving trends in the
technology industry that can provide opportunities as well as potential risks,
including:
|
·
|
Optical
Disc Playback Evolution – Optical disc technologies have enjoyed
tremendous growth and extremely widespread consumer adoption, but they
tend to evolve, mature and change rapidly. Over the past
several years, DVD sales have been falling as consumers have begun to
embrace online alternatives, as well as new formats such as
BD. Sales of BD units and players have been growing rapidly,
but the growth of the BD format has not yet fully compensated for the
recent drop in DVD sales.
|
|
·
|
Growth of
Digital Distribution of Premium Content – Content owners, such as
Hollywood studios, are increasingly offering sell-through and rental of
premium content through digital distribution. Simultaneously, a
growing number of consumers are enjoying and taking advantage of the
benefits of digital distribution of premium content. As more
Internet-enabled electronic devices offer delivery of premium content, the
rate of adoption and number of title offerings should continue to
increase.
|
|
·
|
Digital
Phone, Portable and Gaming Devices – Consumer usage of mobile
phones, gaming consoles and portable CE devices, particularly those with
high-end digital media capabilities, continues to increase
worldwide. The growing popularity of portable devices leads to
greater demand for software products and services, such as those offered
by the Company, that provide digital media management and
functionality.
|
|
·
|
Growth of
Online Social Networks – Online social networks, such as Facebook
and MySpace, increasingly feature personal digital photo, video and audio
content, and these networks function as distribution platforms for sharing
and enjoying digital media content. The rising popularity of
these networks and their platforms creates an increased demand for
products and services that can capture, create, edit and manage digital
media.
|
|
·
|
Other
technological trends and events – New technologies can also impact
the demand for the Company’s digital media products and
services. For example, as new operating systems are introduced
(for example, Windows 7 in October 2009), consumers are offered new tools
for editing, formatting and burning digital media, and there are
opportunities for software vendors such as the Company to provide products
that are complementary to the new operating
systems.
|
24
DivX
Acquisition
On
October 7, 2010, the Company completed the acquisition of DivX pursuant to the
Agreement and Plan of Merger entered into June 1, 2010. In deciding
to acquire DivX, the Company sought to capitalize on the following strategic
advantages and opportunities:
|
·
|
Enhanced
Strategic Positioning of the
Businesses:
|
|
·
|
The
presence of DivX technology in over 300 million CE devices, its
relationships with all the major CE OEMs, large and experienced sales
force and strong technical qualification and support organization may
accelerate the Company’s Premium Content business by permitting new
consumer use models, and facilitating deployment of the RoxioNow content
platform.
|
|
·
|
DivX
TV, a technology designed to enable consumers to stream Internet video and
services directly to Internet-connected digital televisions and other
Internet-connected CE devices, may permit the Company to expand the range
of service offerings it provides to its retailer
partners.
|
|
·
|
DivX’s
large online community and well-known brand, indicated by more than 500
million software downloads since inception, an average of 12 million
unique website visits per month in calendar 2009 and approximately 1.8
billion player and web player launches in calendar 2009, offer a
significant marketing opportunity for the Company’s software applications
that enhance the customer end-to-end media
experience.
|
|
·
|
DivX
and its subsidiary MainConcept’s codec technologies and commercial
licensing of codecs and other enterprise level technologies and tools
enlarge the Company’s professional authoring solutions portfolio,
enhancing its position with premium content owners and distributors,
including major Hollywood studios, to create and distribute high-end
commercially released digital media titles in DVD, BD, and Internet
streaming formats.
|
|
·
|
Improvement in the DivX
Businesses:
|
|
·
|
The
Company’s RoxioNow premium content service may enhance the DivX CE
licensing business, particularly if the Company’s retail partners begin to
view the DivX codec as an important part of the premium content services
they offer based on the RoxioNow
service.
|
|
·
|
The
attractiveness of DivX TV to CE partners may be enhanced to the extent
that it incorporates the RoxioNow premium content
service.
|
|
·
|
Roxio
consumer software applications augment and extend the appeal of DivX
consumer tool sets, improving capabilities offered to DivX’s existing
consumer customers.
|
|
·
|
Cost
Savings: Following the integration period, the Company
expects to benefit from efficiencies associated with operating a larger
business and anticipates significant annual cost savings relating
primarily to the elimination of DivX’s public company reporting
obligations and a reduction in aggregate
headcount.
|
|
·
|
Revenue
Diversification: The Company expects to have a combined
customer base that is more diverse than the customer base of either
company standing alone.
|
|
·
|
Geographic
Diversification: The revenue of the combined company will have
greater geographic diversity. In the fiscal year ended March
31, 2010, international sales accounted for $22.9 million, or 22%, of
Sonic’s net revenue. In the fiscal year ended December 21,
2009, DivX’s net revenue outside North America comprised 82% of its net
revenues, or approximately $58.0
million.
|
Although
there can be no assurance that all the Company’s strategic objectives for the
DivX acquisition will be achieved, the Company believes the acquisition should
assist it in achieving its revenue growth objectives and profitability targets
and that it will be accretive to earnings, particularly if the expected cost
savings are realized.
25
Strategic
Objectives
The
Company’s products and services enable people to create, manage, enjoy and
distribute premium and personal digital content, allowing them to organize and
share their digital lives and memories in new and innovative
ways. The Company’s core strategy is to utilize its technology,
expertise and competitive positioning to deliver exciting products and services
to enhance the value of digital media in people’s lives. The
Company’s strategic objectives are the following:
Enable Consumers to Buy and Play
Premium Content Anywhere and at Anytime. The Company believes
that digital distribution of premium content will grow dramatically over the
next few years, and that ultimately industry revenue from the digital
distribution of premium content may surpass revenue from the sale and rental of
premium content on optical media such as DVD and BD. The Company has
put substantial effort into its online premium content initiatives, such as the
RoxioNow Service and DivX TV, as it believes that this area may offer a strong
opportunity for counterbalancing the recent decline in DVD sales and the adverse
impact of that trend on the Company’s operating results. As the
digital content ecosystem continues to expand and evolve, the Company aims to
make its products and services available through an increasing range of
platforms, devices and partners, with the goal that the Company’s technology
will represent a symbol of compatibility and a common point of interaction for
consumers who want to enjoy Hollywood movies and other premium digital content
anywhere and anytime.
Develop and strengthen Roxio and
DivX branded technologies, products and services. The Company
seeks to build on the brand strength of its Roxio and DivX technologies,
products and services by strengthening its relationships with OEMs and retail
partners, while deepening its relationship with consumers by adding new products
and services. The Company continues to utilize its knowledge and
expertise to develop and introduce products and services relating to new formats
such as BD, and believes that these efforts will assist it in offsetting price
pressure and declining sales associated with the DVD
format. Additionally, the Company plans to continue to enhance its
Web-based offerings, add innovative solutions to its consumer product portfolio
and extend the reach of the Roxio and DivX brands to a new audience of online
users.
Outlook
While the
continuing global economic downturn and the maturation of the DVD format have
adversely impacted the Company’s business and financial results during recent
periods, the Company believes that the digital distribution of premium content
is poised to enjoy commercial success, and that online premium content
initiatives provide it with a strategic opportunity to grow its business rapidly
in this area. The Company further believes that it is well positioned
to capitalize on its strong brand names, consumer market position, and OEM
relationships as digital media formats and distribution
methodologies. The Company plans to continue to make significant
strategic investments in new digital content and technology areas, while
maintaining and enhancing its product and service offerings to generate revenues
and position the Company for growth.
International
Locations and Revenue
The
Company is headquartered in Novato, California, and has sales and marketing
offices in North America, Europe, Japan, China, Taiwan, Singapore and remote
offices in a number of locations around the world. In the three
months ended December 31, 2010 and 2009, approximately 72% and 77% of net
revenue was attributable to domestic sales while 28% and 23% of net revenue was
attributable to international sales, respectively. In the nine months
ended December 31, 2010 and 2009, approximately 72% and 78% of net revenue was
attributable to domestic sales while 28% and 22% of net revenue was attributable
to international sales, respectively. The DivX acquisition will result in
significant additional growth in the Company’s international operations and
revenues. In the future, the Company may expand its operations,
professional services and direct sales force abroad, thereby incurring
additional operating expenses and capital expenditures.
CRITICAL
ACCOUNTING POLICIES AND ESTIMATES
With the
exception of those stated below, there have been no material changes in the
Company’s significant accounting polices during the three and nine months ended
December 31, 2010 compared to the significant accounting policies described in
the Company’s Fiscal 2010 Annual Report.
26
Fair
Value measurements
Effective
October 7, 2010, as a result of the DivX acquisition, the Company adopted one of
the amendments contained in Financial Accounting Standards Board (“FASB”)
Accounting Standard Update (“ASU”) 2010-06, Fair Value Measurements and
Disclosures. This ASU 2010-06 amendment clarifies the fair value
measurement disclosures for each class (rather than category) of assets and
liabilities. In addition, this amendment modifies the disclosure
requirements for the valuation techniques and inputs used to measure fair value
for both recurring and nonrecurring fair value measurements (required for Level
2 or Level 3). The adoption of this ASU 2010-06 clarifying guidance
did not have an impact on the Company’s consolidated financial condition,
results of operations or cash flows. Please refer to Note 4 of the
Notes to the unaudited Condensed Consolidated Financial Statements contained in
this Form 10-Q for detailed information.
The
Company has not adopted the other amendment under ASU 2010-06, requiring the
following new disclosures: (a) the significant transfers in and out of Levels 1
and 2 and describes the reasons for the transfer and (b) information about
purchases, sales, issuances and settlements (on a gross basis rather than as one
net number) in the reconciliation for fair value measurements using significant
unobservable inputs (Level 3). These disclosure requirements are
effective for fiscal years beginning on or after December 15,
2010. As this amendment requires disclosures only, adoption will not
have an impact on the Company’s results of operations or financial
position.
Use
of estimates
The
preparation of financial statements in conformity with GAAP requires management
to make estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and reported amounts of revenues and expenses during
the reporting period. Management’s judgments are based on what impact
certain estimates, assumptions of future trends or events may have on the
financial condition and results of operations reported in its financial
statements. Actual results could differ materially from these estimates,
assumptions, projections and judgments.
On an
ongoing basis, the Company evaluates estimates used. The following
accounting policies require management to make estimates, judgments and
assumptions and are critical in fully understanding and evaluating the Company’s
reported financial results:
|
·
|
Revenue
recognition
|
|
·
|
Allowances
for sales returns and doubtful
accounts
|
|
·
|
Share-based
compensation
|
|
·
|
Valuation
of acquired businesses, assets and
liabilities
|
|
·
|
Goodwill,
intangible assets and other long-lived
assets
|
|
·
|
Accrued
liabilities
|
|
·
|
Contingencies
|
|
·
|
Income
tax and deferred tax asset
valuation
|
RESULTS
OF OPERATIONS
Comparison
of the Three and Nine Months Ended December 31, 2010 and 2009
The
following table sets forth certain items from the Company’s statements of
operations as a percentage of net revenue:
27
Three Months Ended
December 31,
|
Nine Months Ended
December 31,
|
|||||||||||||||
2010
|
2009
|
2010
|
2009
|
|||||||||||||
Net
revenue
|
100 | % | 100 | % | 100 | % | 100 | % | ||||||||
Cost
of revenue
|
44 | % | 30 | % | 36 | % | 31 | % | ||||||||
Gross
profit
|
56 | % | 70 | % | 64 | % | 69 | % | ||||||||
Operating
expenses:
|
||||||||||||||||
Marketing
and sales
|
48 | % | 32 | % | 36 | % | 29 | % | ||||||||
Research
and development
|
52 | % | 22 | % | 35 | % | 24 | % | ||||||||
General
and administrative
|
30 | % | 18 | % | 22 | % | 18 | % | ||||||||
Acquisition
|
9 | % | 0 | % | 6 | % | 0 | % | ||||||||
Restructuring
|
0 | % | 0 | % | 0 | % | 1 | % | ||||||||
Total
operating expenses
|
139 | % | 72 | % | 99 | % | 72 | % | ||||||||
Operating
loss
|
(83 | )% | (2 | )% | (35 | )% | (3 | )% | ||||||||
Interest
income
|
2 | % | 0 | % | 1 | % | 0 | % | ||||||||
Other
income (expenses)
|
0 | % | 1 | % | 1 | % | (0 | )% | ||||||||
Loss
before income taxes
|
(81 | )% | (1 | )% | (33 | )% | (3 | )% | ||||||||
Provision
for (benefit of) income taxes
|
(97 | )% | 0 | % | (34 | )% | 1 | % | ||||||||
Net
income (loss)
|
16 | % | (1 | )% | 1 | % | (4 | )% |
Net
Revenue Comparison of Three and Nine Months Ended December 31, 2010 and
2009
The
following tables set forth a comparison of net revenue by segment (in thousands
other than percentages):
Three Months Ended
December 31,
|
2010 to 2009
|
|||||||||||||||
Net Revenue
|
2010
|
2009
|
Inc (Dec)
|
% Change
|
||||||||||||
Roxio
Consumer Products
|
$ | 19,573 | $ | 22,298 | $ | (2,725 | ) | (12 | )% | |||||||
Premium
Content
|
4,675 | 4,094 | 581 | 14 | % | |||||||||||
DivX
|
2,179 | - | 2,179 | 100 | % | |||||||||||
Total
net revenue(1)
|
$ | 26,427 | $ | 26,392 | $ | 35 | 0 | % |
(1)
Results for the three months ended December 31, 2010 included activities
for DivX from October 8, 2010, and reflected the impacts of the acquisition
method of accounting.
For the
three months ended December 31, 2010, total net revenue remained flat compared
to the same period in the prior year. The $2.7 million or 12%
decrease in Roxio Consumer Products was partially offset by $2.2 million net
revenue generated by the newly acquired DivX segment, along with a $0.6 million
or 14% increase in Premium Content.
The Roxio
Consumer Products segment experienced a $2.3 million reduction in OEM bundling
revenue due to changes in product mixes, per-unit pricing pressure, and lower
unit volumes, plus a $1.8 million reduction in sales through the Company’s web
store as a result of lower per unit sales of Creator and CinePlayer, along with
the extension of the Toast product life cycle. The decrease in Roxio
Consumer Products net revenue was partially offset by a $0.7 million increase in
the retail channel driven by supporting fewer price promotions, $0.4 million
generated through the renewal of a volume licensing program, and $0.4 million
increase in technology licensing revenue from several PC
manufacturers.
28
The
increase in Premium Content net revenue included $0.8 million of revenue
generated by MainConcept’s codec technologies. MainConcept’s codec revenue is
reflected net of $1.4 million recorded in accounts receivable rather than
revenue as a result of the acquisition method accounting applied to the DivX
acquisition. Also contributing to the increase in Premium Content net
revenue was $0.4 million increase from services and licensing associated with
the RoxioNow format adoption, and $0.4 million in professional due to a prepaid
royalty agreement. The increase was partially offset by a $0.8
million decrease in technology licensing revenue from several CE manufacturers
and a $0.3 decrease in licensing of the Qflix technology.
DivX
segment results were substantially impacted by the application of acquisition
method accounting to the transaction. The $2.2 million net revenue
generated by DivX segment included $1.2 in technology licensing and $1.0 million
in advertising and third-party product distribution. Under the acquisition
method of accounting, the Company did not recognize approximately $19.2 million,
including the $1.4 million attributable to the MainConcept as noted above, that
DivX would have recognized in the quarter as a stand-alone company in the
ordinary course of its business, including royalties and other amounts paid
pursuant to certain multi-year site licenses and guaranteed minimum-royalty
licenses, royalties and other amounts received by the Company post-acquisition,
based upon shipments and other activities conducted by customers prior to the
DivX acquisition, and certain DivX deferred revenues, which were reduced to a
discounted fair value. This impact may be referred to as the “DivX
Acquisition Accounting Impact” in this Quarterly Report on Form
10-Q.
Nine Months Ended
December 31,
|
2010 to 2009
|
|||||||||||||||
Net Revenue
|
2010
|
2009
|
Inc (Dec)
|
% Change
|
||||||||||||
Roxio
Consumer Products
|
$ | 59,860 | $ | 67,964 | $ | (8,104 | ) | (12 | )% | |||||||
Premium
Content
|
15,136 | 10,011 | 5,125 | 51 | % | |||||||||||
DivX
|
2,179 | - | 2,179 | 100 | % | |||||||||||
Total
net revenue(1)
|
$ | 77,175 | $ | 77,975 | $ | (800 | ) | (1 | )% |
(1)
Results for the nine months ended December 31, 2010 included activities
for DivX from October 8, 2010, and reflected the impacts of the acquisition
method of accounting.
Total net
revenue decreased by $0.8 million to $77.2 million for the nine months ended
December 31, 2010, from $78.0 million for the nine months ended December 31,
2009. The decrease in net revenue for the nine months ended December
31, 2010 included a decrease of $8.1 million or 12% in Roxio Consumer Products
net revenue, which was offset by increases of $5.1 million or 51% in Premium
Content net revenue and $2.2 million generated by the newly acquired DivX
segment.
During
the nine months ended December 31, 2010, Roxio Consumer Products segment
experienced a $6.6 million reduction in OEM bundling revenue due to changes in
product mixes, per-unit pricing pressure, and lower unit volumes plus a $3.6
million reduction in sales through the Company’s web store as a result of lower
per unit sales of CinePlayer, Creator, and Roxio Easy VHS to DVD. The
decrease in Roxio Consumer Products net revenue was partially offset by $1.8
million generated through volume licensing programs.
The
increase in Premium Content net revenue included $4.0 million from services and
licensing associated with the RoxioNow format adoption, $1.2 million generated
through the RoxioNow Service, and $0.8 million in new sales of
the MainConcept codec technologies acquired in the DivX acquisition.
MainConcept’s codec revenue is reflected net of $1.4 million recorded in
accounts receivable rather than revenue as a result of acquisition method
accounting applied to the DivX acquisition. The increase in Premium
Content net revenue was partially offset by a $0.5 million reduction in
professional products revenue resulting from continued global economic weakness
affecting consumer demand and corporate spending, along with $0.3 decrease in
licensing of the Qflix technology.
As noted
above, DivX segment results were substantially affected by the DivX Acquisition
Accounting Impact. The $2.2 million net revenue generated
by DivX segment included $1.2 in technology licensing and $1.0 million in
advertising and third-party product distribution.
29
The
following tables set forth a comparison of net revenue geographically (in
thousands other than percentages):
Three Months Ended
December 31,
|
||||||||||||||||
Net Revenue
|
2010
|
2009
|
Inc (Dec)
|
%
|
||||||||||||
United
States
|
$ | 18,926 | $ | 20,405 | $ | (1,479 | ) | (7 | )% | |||||||
Export
|
||||||||||||||||
Canada
|
369 | 253 | 116 | 46 | % | |||||||||||
France
|
333 | 65 | 268 | 412 | % | |||||||||||
Germany
|
1,168 | 794 | 374 | 47 | % | |||||||||||
United
Kingdom
|
860 | 1,020 | (160 | ) | (16 | )% | ||||||||||
Other
European
|
606 | 496 | 110 | 22 | % | |||||||||||
Japan
|
2,224 | 1,411 | 813 | 58 | % | |||||||||||
Singapore
|
770 | 1,048 | (278 | ) | (27 | )% | ||||||||||
Taiwan
|
306 | 377 | (71 | ) | (19 | )% | ||||||||||
Other
Pacific Rim
|
456 | 375 | 81 | 22 | % | |||||||||||
Other
International
|
409 | 148 | 261 | 176 | % | |||||||||||
Net
revenue(1)
|
$ | 26,427 | $ | 26,392 | $ | 35 | 0 | % |
(1)
Results for the three months ended December 31, 2010 included activities
for DivX from October 8, 2010, and reflected the impacts of the acquisition
method of accounting.
United
States (domestic) sales accounted for $18.9 million and $20.4 million, or 72%
and 77% of total net revenue for the three months ended December 31, 2010 and
2009, respectively. The $1.5 million or 7% decrease in domestic net
revenue included a $2.4 million reduction in OEM bundling revenue, associated
with changes in product mixes, per-unit pricing pressure, and lower unit
volumes. In addition, the Company experienced a $1.8 million
reduction in sales through the Company’s web store as a result of lower per unit
sales of Creator and CinePlayer, along with the extension of the Toast product
life cycle. Also contributing to the decrease in domestic net revenue was a $0.3
decrease in licensing of the Qflix technology. This decrease was
partially offset by a $0.9 million increase in retail channel revenue driven by
support for fewer price promotions and $0.9 million generated through the newly
acquired DivX business from advertisements or third party software applications
that are embedded or included with software packages the Company offers to
consumers. Moreover, additional increases in domestic revenue
included a $0.4 million increase in professional product revenue due to a
prepaid royalty agreement, $0.3 million generated from RoxioNow Service revenue,
$0.2 million generated from the sale of the MainConcept’s codec technologies,
and $0.2 generated through volume licensing programs.
International sales accounted for $7.5
million and $6.0 million, or 28% and 23% of total net revenue for the three
months ended December 31, 2010 and 2009, respectively. The $1.5
million increase in international sales partially resulted from the sale of the
DivX technology and MainConcept’s codec technologies acquired. These sales
resulted in an increase in revenue in Germany of $0.4 million, Japan of $0.3
million and France of $0.2 million. Also contributing to the increase
in international sales was $0.4 million in technology license revenue resulting
from the change in a Japan PC manufacture royalty contract from a prepaid to an
“as-used” reporting structure. This increase was partially offset by
$0.2 million decrease in royalty revenue from a Singapore OEM customer as a
result of decreased shipments.
30
Nine Months Ended
December 31,
|
||||||||||||||||
Net Revenue
|
2010
|
2009
|
Inc (Dec)
|
%
|
||||||||||||
United
States
|
$ | 55,825 | $ | 60,965 | $ | (5,140 | ) | (8 | )% | |||||||
Export
|
||||||||||||||||
Canada
|
1,626 | 672 | 954 | 142 | % | |||||||||||
France
|
898 | 479 | 419 | 87 | % | |||||||||||
Germany
|
2,316 | 2,069 | 247 | 12 | % | |||||||||||
United
Kingdom
|
2,133 | 2,445 | (312 | ) | (13 | )% | ||||||||||
Other
European
|
3,445 | 1,734 | 1,711 | 99 | % | |||||||||||
Japan
|
6,271 | 5,358 | 913 | 17 | % | |||||||||||
Singapore
|
2,419 | 2,375 | 44 | 2 | % | |||||||||||
Taiwan
|
533 | 653 | (120 | ) | (18 | )% | ||||||||||
Other
Pacific Rim
|
759 | 817 | (58 | ) | (7 | )% | ||||||||||
Other
International
|
950 | 408 | 542 | 133 | % | |||||||||||
Net
revenue(1)
|
$ | 77,175 | $ | 77,975 | $ | (800 | ) | (1 | )% |
(1)
Results for the nine months ended December 31, 2010 included activities
for DivX from October 8, 2010, and reflected the impacts of the acquisition
method of accounting.
United
States (domestic) sales accounted for $55.9 million and $61.0 million, or 72%
and 78% of total net revenue for the nine months ended December 31, 2010 and
2009, respectively. The $5.1 million or 8% decrease in domestic net
revenue included a $7.3 million reduction in OEM bundling revenue, associated
with changes in product mixes, per-unit pricing pressure, and lower unit
volumes. In addition, the Company experienced a $3.6 million
reduction in sales through the Company’s web store as a result of lower per unit
sales of Creator, CinePlayer, and Roxio Easy VHS to DVD along with the extension
of the Toast product life cycle. This decrease was partially offset by $2.9
million generated through the RoxioNow Service, along with $0.5 million
generated through volume licensing programs. Moreover, additional increases in
domestic revenue included $0.9 million generated through the newly acquired DivX
business from advertisements or third party software applications that are
embedded or included with software packages the Company offers to consumers and
a $0.6 million increase in the retail channel.
International sales accounted for $21.4
million and $17.0 million, or 28% and 22% of total net revenue for the nine
months ended December 31, 2010 and 2009, respectively. The $4.4
million increase in international sales partially resulted from $2.0 million
related to a one-time development contract associated with content delivery for
a customer in Ireland. Also contributing to the increase in
international sales was $1.8 million in sales of the DivX technology and
MainConcept’s codec technologies.
Other
European revenue increased due to $2.0 million received in connection with a
one-time development contract for content delivery to a customer in
Ireland. Japan revenue increased due to $0.9 million in technology
license revenue from the change in a Japan PC manufacture royalty contract from
a prepaid to an “as-used” reporting structure, plus $0.3 million from the sale
of the DivX technology and MainConcept’s codec technologies, partially offset by
a reduction in one-time technology licensing contracts with CE and PC
manufacturers. Canada revenue increased mainly due to $0.6 million
from a one-time technology licensing contract with a Canadian CE
manufacturer.
Significant
Customers
The
following table reflects sales to significant customers as a percentage of total
net revenue and the related accounts receivable as a percentage of total
receivables (in percentages):
31
% of Total Net Revenue
|
% of Total Accounts
Receivable
|
|||||||||||||||
Three Months Ended
December 31,
|
Three Months Ended
December 31,
|
|||||||||||||||
Customer
|
2010
|
2009
|
2010 (1)
|
2009
|
||||||||||||
Navarre
|
19 | % | 20 | % | 23 | % | 26 | % | ||||||||
Digital
River
|
19 | % | 25 | % | 13 | % | 15 | % | ||||||||
Dell
|
8 | % | 11 | % | 4 | % | 5 | % | ||||||||
Ingram
|
7 | % | 10 | % | 11 | % | 8 | % | ||||||||
Hewlett-Packard
|
6 | % | 11 | % | 4 | % | 12 | % |
% of Total Net Revenue
|
% of Total Accounts Receivable
|
|||||||||||||||
Nine Months Ended
December 31,
|
Nine Months Ended
December 31,
|
|||||||||||||||
Customer
|
2010
|
2009
|
2010 (1)
|
2009
|
||||||||||||
Navarre
|
20 | % | 21 | % | 23 | % | 26 | % | ||||||||
Digital
River
|
19 | % | 23 | % | 13 | % | 15 | % | ||||||||
Dell
|
9 | % | 13 | % | 4 | % | 5 | % | ||||||||
Ingram
|
7 | % | 8 | % | 11 | % | 8 | % | ||||||||
Hewlett-Packard
|
6 | % | 12 | % | 4 | % | 12 | % |
(1)
Calculation of related receivable to significant customers as a
percentage of total receivables excluded the $31.8 million fixed stream payments
associated with DivX Acquisition.
No other
customer accounted for more than 10% of the Company’s revenue for the three and
nine months ended December 31, 2010 and 2009, respectively. The
Company sells products to Dell and Hewlett-Packard pursuant to individual
supplements, exhibits or other attachments that are appended to the standard
terms and conditions the Company has negotiated with each of these
customers. These standard terms and conditions include provisions
relating to the delivery of the Company’s products, the customer’s distribution
of these products, representations by the Company with respect to the quality of
the products and the Company’s ownership of the products, obligations by the
Company to comply with law, confidentiality obligations, and indemnification by
the Company for breach of its representations or obligations. The
underlying agreements generally renew for one year periods, subject to annual
termination by either party or termination for breach. Under each
agreement, the OEM has the sole discretion to decide whether to purchase any of
the Company’s products. The agreements are non-exclusive and do not
contain any minimum purchase obligations or similar commitments. The
loss of Dell, Hewlett-Packard, or any other major customer would have a material
adverse effect on the Company, if it were unable to replace that
customer.
Revenue
recognized from Digital River was pursuant to a reseller arrangement, and
revenue recognized from Navarre was pursuant to a distribution
arrangement. The Digital River agreement covers the electronic
delivery of Company software and the creation and maintenance of the shopping
cart process for the Company’s online stores. The Navarre agreement provides for
both physical and electronic delivery, and under both consignment and direct
sale models. The Company provides products to Digital River and
Navarre pursuant to agreements with standard terms and conditions including
provisions relating to the delivery of the Company’s products, distribution of
these products, representations by the Company with respect to the quality of
the products and the Company’s ownership of the products, obligations by the
Company to comply with law, confidentiality obligations, and indemnification by
the Company for breach of its representations or obligations. The
agreements generally renew for one-year periods, subject to annual termination
by either party as well as other termination provisions, such as termination for
breach. The agreements are non-exclusive and do not contain any
minimum purchase obligations or similar commitments.
It is
impracticable for the Company to report the net revenues by significant customer
per business segment for the three and nine months ended December 31, 2010, and
2009, as some of these customers may be included in all segments.
Cost
of Revenue
Cost of
revenue consists mainly of third party licensing expenses, employee salaries and
benefits for personnel directly involved in the production and support of
revenue-generating products and services, packaging and distribution costs, if
applicable, and amortization of acquired and intangible assets. In
the case of consumer software distributed in retail channels, cost of revenue
also includes the cost of packaging, if any, and certain distribution
costs. The following table reflects cost of revenue (in thousands
other than percentages):
32
Three Months Ended
December 31,
|
2010 to 2009
|
|||||||||||||||
2010
|
2009
|
Inc (Dec)
|
% Change
|
|||||||||||||
Roxio
Consumer Products
|
$ | 5,649 | $ | 5,926 | $ | (277 | ) | (5 | )% | |||||||
Premium
Content
|
3,217 | 2,118 | 1,099 | 52 | % | |||||||||||
DivX
|
2,651 | - | 2,651 | 100 | % | |||||||||||
Cost
of revenue
|
$ | 11,517 | $ | 8,044 | $ | 3,473 | 43 | % | ||||||||
Percent
of total revenues
|
44 | % | 30 | % |
The
Company’s overall cost of revenue as a percentage of net revenue increased to
44% of net revenue for the three months ended December 31, 2010 from 30% for the
three months ended December 31, 2009. Roxio Consumer Products cost of
revenue as a percentage of Roxio Consumer Products net revenue increased to 29%
for the three months ended December 31, 2010 compared to 27% for the three
months ended December 31, 2009. The higher cost of revenue percentages was
driven by an increase in royalty costs associated with adding features to
products in the retail and web store channels, along with a reduction in OEM
sales, which have lower royalty costs.
Premium
Content cost of revenue as a percentage of Premium Content net revenue
increased to 69% for the three months ended December 31, 2010 compared to
52% for the three months ended December 31, 2009. The higher cost of
revenue percentage was driven by a 13% increase in development and operational
costs associated with the RoxioNow Service. Also contributing to the higher cost
of revenue percentage was a 4% increase in purchased technology amortization and
a 1% increase in technical support costs mainly as a result of the MainConcept
business acquired in the DivX acquisition. This was partially offset
by a 1% decrease in the cost of revenue percentage due to lower royalty costs as
a result of lower professional sales, along with the acquisition of the
MainConcept technology for which the Company has traditionally paid a license
fee to use.
DivX cost
of revenue was $2.7 million. This included $1.9 million in royalty
costs and $0.7 million in amortization of intangibles obtained through the DivX
acquisition. DivX cost of revenue as a percentage of DivX net revenue was 122%
for the three months ended December 31, 2010. As noted above, DivX results were
substantially affected by the DivX Acquisition Accounting Impact. This impact is
expected to continue to affect DivX results, including cost of revenue as a
percentage of net revenue, in future periods.
Nine Months Ended
December 31,
|
2010 to 2009
|
|||||||||||||||
2010
|
2009
|
Inc (Dec)
|
% Change
|
|||||||||||||
Roxio
Consumer Products
|
$ | 16,894 | $ | 18,154 | $ | (1,260 | ) | (7 | )% | |||||||
Premium
Content
|
8,574 | 5,851 | 2,723 | 47 | % | |||||||||||
DivX
|
2,651 | - | 2,651 | 100 | % | |||||||||||
Cost
of revenue
|
$ | 28,119 | $ | 24,005 | $ | 4,114 | 17 | % | ||||||||
Percent
of total revenues
|
36 | % | 31 | % |
The
Company’s overall cost of revenue as a percentage of net revenue increased to
36% of net revenue for the nine months ended December 31, 2010 from 31% for the
nine months ended December 31, 2009.
Roxio
Consumer Products cost of revenue as a percentage of Roxio Consumer Products net
revenue increased to 28% for the nine months ended December 31, 2010 compared to
27% for the nine months ended December 31, 2009. The higher cost of
revenue percentage was driven by a 1% increase in cost of revenue resulting from
technical and operational support costs arising from the new product offerings,
along with a 1% increase in royalty costs associated with adding features to
products in the retail and web store channels, along with a reduction in OEM
sales, which have a lower royalty costs. This was partially offset by a 1%
decrease in the cost of revenue percentage resulting from lower product costs
due to lower retail and web store sales and lower pricing on certain promotional
items bundled with the Company’s products.
33
Premium
Content cost of revenue as a percentage of Premium Content net revenue
decreased to 57% for the nine months ended December 31, 2010 compared to
58% for the nine months ended December 31, 2009. The lower cost of revenue
percentage was driven by a 3% decrease in cost of revenue resulting from lower
technical support costs. The decrease was mainly in the professional products
group due to lower sales activities. This was partially offset by the
addition of the MainConcept business. Also contributing to the lower
cost of revenue percentage was a 2% decrease in royalty costs as a result of
lower professional sales, mainly as a result of the acquisition of the
MainConcept technology for which the Company has traditionally paid a license
fee to use. These decreases were partially offset by a 3% increase in
the cost of revenue percentage resulting from additional operational,
development, and content costs associated with the RoxioNow
Service.
DivX cost
of revenue was $2.7 million. This included $1.9 million in royalty
costs and $0.7 million in amortization of intangibles obtained through the DivX
acquisition. DivX cost of revenue as a percentage of DivX net revenue was 122%
for the three months ended December 31, 2010. As noted above, DivX results were
substantially affected by the DivX Acquisition Accounting
Impact. This impact is expected to continue to affect DivX results,
including cost of revenue as a percentage of net revenue, in future
periods.
Operating
Expenses for the Three and Nine Months Ended December 31, 2010 and
2009
Marketing
and Sales
Marketing
and sales expenses include salaries, benefits, sales commissions and share-based
compensation expense for marketing and sales employees, promotions and incentive
programs aimed to generate revenue such as advertising, trade shows, travel
related costs, and facility costs related to marketing and sales
personnel. The following table reflects the Company’s marketing and
sales operating expenses (in thousands other than percentages):
Three Months Ended December
31,
|
||||||||||||||||
2010
|
2009
|
Increase
(Decrease)
|
% Change
|
|||||||||||||
Marketing
and sales expenses
|
$ | 12,668 | $ | 8,489 | $ | 4,179 | 49 | % | ||||||||
Percentage
of net revenue
|
48 | % | 32 | % |
For the
three months ended December 31, 2010, marketing and sales expenses increased by
$4.2 million, or 49% compared to the same period in the prior
year. Marketing and sales expenses as a percentage of net revenue
increased 16% from 32% to 48% for the three months ended December 31, 2010 and
2009, respectively. The increase during the three months ended
December 31, 2010 compared to the same period in the prior year was due to
increases of $2.6 million in employee related costs attributable to increased
headcount associated with the DivX acquisition, $1.4 million in stock-based
compensation as a result of assumed grants in relation to the DivX acquisition,
$0.5 million in travel related expenses, $0.5 million in bad debt expenses as a
result of a bankruptcy of a customer and $0.3 million in outside consulting
services. These increases were partially offset by a $1.0 million
decrease in advertising and promotional expense related to warrants to acquire
Sonic common stock issued in connection with a strategic relationship in the
three months ended December 31, 2009 that did not occur in the three months
ended December 31, 2010. In addition, as noted above, DivX
Acquisition Accounting Impact affected the increase in marketing and sales
expenses as a percentage of net revenue.
Nine Months Ended December
31,
|
||||||||||||||||
2010
|
2009
|
Increase
(Decrease)
|
% Change
|
|||||||||||||
Marketing
and sales expenses
|
$ | 27,673 | $ | 22,245 | $ | 5,428 | 24 | % | ||||||||
Percentage
of net revenue
|
36 | % | 29 | % |
34
For the
nine months ended December 31, 2010, marketing and sales expenses increased by
$5.4 million, or 24% compared to the same period in the prior
year. Marketing and sales expenses as a percentage of net revenue
increased 7% from 29% to 36% for the nine months ended December 31, 2010 and
2009, respectively. The increase during the nine months ended
December 31, 2010 compared to the same period in the prior year was due to
increases of $3.2 million in employee related costs attributable to increased
headcount associated with the DivX acquisition, $1.3 million in stock-based
compensation as a result of assumed grants in relation to the DivX
acquisition, $0.9 million in travel related expenses, $0.8 million in bad debt
expenses as a result of a bankruptcy of a customer and $0.4 million in outside
consulting services. These increases were partially offset by a $1.0
million decrease in advertising and promotional expense related to warrants to
acquire Sonic common stock issued in connection with a strategic relationship in
the nine months ended December 31, 2009 that did not occur in the nine months
ended December 31, 2010. During the three and nine months ended
December 31, 2010, the Company released certain payroll tax liabilities
associated with the Company’s voluntary stock option review, reducing marketing
and sales employee-related costs by $0.9 million. In addition,
as noted above, DivX Acquisition Accounting Impact affected the increase in
marketing and sales expenses as a percentage of net revenue.
The
Company expects to continue to invest in marketing and sales of its products and
services to develop market opportunities and promote its offerings while
continuing to monitor its needs to align expenditures to its operating
results. During the three and nine months ended December 31, 2010,
the Company experienced an increase in personnel-related expenses as well as in
travel related expenses due to increased efforts to expand and attract new
customers and to maintain existing customers, along with the increase related to
DivX acquisition.
Research
and Development
Research
and development expenses include salaries, benefits, share-based compensation
expenses for engineers, contracted development efforts, facility costs related
to engineering personnel, and expenses associated with equipment used for
development. The following table reflects the Company’s research and
development operating expenses (in thousands other than
percentages):
Three Months Ended December
31,
|
||||||||||||||||
2010
|
2009
|
Increase
(Decrease)
|
% Change
|
|||||||||||||
Research
and development expenses
|
$ | 13,928 | $ | 5,784 | $ | 8,144 | 141 | % | ||||||||
Percentage
of net revenue
|
53 | % | 22 | % |
For
the three months ended December 31, 2010, research and development expenses
increased by $8.1 million, or 141% compared to the same period in the prior
year. Research and development expenses as a percentage of net
revenue increased 31% from 22% to 53% for the three months ended December 31,
2010 and 2009, respectively. The increase during the three months
ended December 31, 2010 compared to the same period in the prior year included
increases of $4.4 million in employee related costs as a result of increased
headcount associated with the DivX acquisition, $1.9 million in stock-based
compensation as a result of assumed grants in relation to the DivX acquisition,
$0.8 million in promotional expenses relating to new contract, $0.6 million in
outside consulting services, and $0.3 million in facility and other
expenses. In addition, as noted above, DivX Acquisition Accounting
Impact affected the increase in research and development expenses as a
percentage of net revenue.
Nine Months Ended December
31,
|
||||||||||||||||
2010
|
2009
|
Increase
(Decrease)
|
% Change
|
|||||||||||||
Research
and development expenses
|
$ | 26,195 | $ | 19,024 | $ | 7,171 | 38 | % | ||||||||
Percentage
of net revenue
|
34 | % | 24 | % |
For the
nine months ended December 31, 2010 research and development expense increased
by $7.2 million, or 38% compared to the same period in the prior
year. Research and development expenses as a percentage of net
revenue increased 10% from 24% to 34% for the nine months ended December 31,
2010 and 2009, respectively. The increase during the nine months
ended December 31, 2010 compared to the same period in the prior year included
increases in employee related costs of $3.4 million as a result of increased
headcount associated with the DivX acquisition, $1.9 million in stock-based
compensation as a result of assumed grants in relation to the DivX acquisition,
$0.8 million in outside consulting services, $0.4 million in operating supplies
and $0.8 million in promotional expenses relating to new contract. During the
three and nine months ended December 31, 2010, the Company released certain
payroll tax liabilities associated with the Company’s voluntary stock option
review, reducing research and development employee-related costs by $0.8
million. In addition, as noted above, DivX Acquisition Accounting
Impact affected the increase in research and development expenses as a
percentage of net revenue.
35
The
Company continues to have a higher ratio of engineers located in China with
lower salaries, and a larger portion of the engineering time spent in the
production and support of revenue-generating products and services, which were
reclassified to cost of revenues.
General
and Administrative
General
and administrative expenses include salaries, benefits, share-based
compensation, outside consulting services, travel expenses, legal costs
including loss contingency reserves, facility costs for finance, facilities,
human resources, legal, information services and executive
personnel. The following table reflects the Company’s general and
administrative operating expenses (in thousands other than
percentages):
Three Months Ended December
31,
|
||||||||||||||||
2010
|
2009
|
Increase
(Decrease)
|
% Change
|
|||||||||||||
General
and administrative expenses
|
$ | 7,925 | $ | 4,673 | $ | 3,252 | 70 | % | ||||||||
Percentage
of net revenue
|
30 | % | 18 | % |
For the
three months ended December 31, 2010, general and administrative expense
increased by $3.3 million, or 70% compared to the same period in the prior
year. General and administrative expenses as a percentage of net
revenue increased 12% from 18% to 30% for the three months ended December 31,
2010 and 2009, respectively. The increase during the three months
ended December 31, 2010 compared to the same period in the prior year included
increases in employee related costs of $2.6 million attributable to increased
headcount related to the DivX acquisition and $0.6 million in stock-based
compensation as a result of assumed grants in relation to the DivX
acquisition. In addition, as noted above, DivX Acquisition Accounting
Impact affected the increase in general and administrative expenses as a
percentage of net revenue.
Nine Months Ended December
31,
|
||||||||||||||||
2010
|
2009
|
Increase
(Decrease)
|
% Change
|
|||||||||||||
General
and administrative expenses
|
$ | 17,144 | $ | 13,689 | $ | 3,455 | 25 | % | ||||||||
Percentage
of net revenue
|
22 | % | 18 | % |
For the
nine months ended December 31, 2010, general and administrative expense
increased by $3.5 million, or 25% compared to the same period in the prior
year. General and administrative expenses as a percentage of net
revenue increased 4% from 18% to 22% for the nine months ended December 31, 2010
and 2009, respectively. The increase during the nine months ended
December 31, 2010 compared to the same period in the prior year included
increases in employee related costs of $2.8 million attributable to increased
headcount and $0.9 million in stock-based compensation as a result of assumed
grants associated with the DivX acquisition, offset by a $0.2 million decrease
in facilities expenses as a result of the Company’s ongoing effort to manage its
operating expenses. During the three and nine months ended December
31, 2010, the Company released certain payroll tax liabilities associated with
the Company’s voluntary stock option review, reducing general and administrative
employee-related costs by $1.5 million. In addition, as noted above,
DivX Acquisition Accounting Impact affected the increase in general and
administrative expenses as a percentage of net revenue.
Acquisition
Costs
For the
three and nine months ended December 31, 2010, the Company incurred
approximately $2.4 million and $5.0 million, respectively, in connection with
the DivX acquisitions costs and Rovi merger transaction costs and expects to
incur additional expenses relating to the Rovi merger
transaction.
36
Provision
(Benefit) for Income Taxes
For the
nine months ended December 31, 2010, the Company recorded a tax benefit of $26.6
million compared to a provision of $0.6 million for the same period in the prior
year. The Company calculated its projected annual effective tax rate
for the year ending March 31, 2011 to be 46.1% compared to (60.9%) for the
fiscal year ended March 31, 2010. The projected annual effective tax
rate for the year ending March 31, 2011 includes a tax rate differential on
earnings in foreign jurisdictions and increases in reserves for uncertain tax
positions. The annual effective tax rate for the year ended March 31,
2010 differed from the statutory United States federal rate of 35% due to losses
that were not more likely than not to be realizable and the tax rate
differential on earnings in foreign jurisdiction. During the three
months ended December 31, 2010 the Company recorded deferred tax liabilities of
$33.2 million related to the DivX acquisition. The combination of the
acquired deferred tax liabilities with the Company’s U.S. net deferred tax
assets led the Company to reassess its ability to utilize existing net deferred
tax assets against the acquired deferred tax liabilities in future
years. Accordingly, the Company released $27.0 million of its
valuation allowances related to the DivX acquisition during the three months
ending December 31, 2010.
Non-Operating
Income for the Three and Nine Months Ended December 31, 2010 and
2009
Interest
Income and Interest Expense, Net
Interest
income includes interest earned on cash balances and long-term
investments. Interest income was $422 thousand and $461 thousand,
respectively, for the three and nine months ended December 31, 2010 compared to
$12 thousand and $65 thousand, respectively, for same periods in the prior
year. The increase during the three and nine months ended December
31, 2010 is due to $0.4 million interest earned from the acquired fixed payment
streams as part of the DivX acquisition.
Interest expense includes interest
incurred on the capital leases of equipments. Interest expense was
$14 thousand and $64 thousand for the three and nine months ended December 31,
2010, respectively, compared to $105 thousand and $122 thousand for the three
and nine months ended December 31, 2009, respectively. The decrease
in interest expense was related to the finalization of a California sales tax
audit during the three months ended December 31, 2009.
Other
Income (Expense), Net
The
Company recorded $88 thousand and $485 thousand, respectively, of other income
for the three and nine months ended December 31, 2010 compared to $177 thousand
of income and $209 thousand of expense, respectively, of other income (expense)
for the same periods in the prior year. This change was due to
foreign exchange fluctuations.
LIQUIDITY
AND CAPITAL RESOURCES
Cash
and Cash Equivalents (in thousands other than percentages)
December 31,
|
March 31,
|
|||||||||||||||
2010
|
2010
|
Inc (Dec)
|
Inc (Dec) %
|
|||||||||||||
Cash
and cash equivalents
|
$ | 43,374 | $ | 54,536 | $ | (11,162 | ) | (20 | )% | |||||||
Working
capital
|
$ | 67,253 | $ | 39,439 | $ | 27,814 | 71 | % |
As of
December 31, 2010, the Company had $43.3 million in cash and cash equivalents, a
decrease of $11.2 million from March 31, 2010. The decrease in cash
and cash equivalents was due to cash paid for the DivX acquisition and related
costs. As of December 31, 2010, the Company had working capital of
$67.3 million compared with $39.4 million at March 31, 2010. The
$27.8 million increase was related to an increase in net accounts receivable of
$34.5 million related to the increase in fixed stream payments associated with
the DivX acquisition, partially offset by an increase in accrued expenses and
other current liabilities of $6.4 million.
The
Company believes that existing cash and cash equivalents and cash generated from
operations will be sufficient to meet its working capital needs, capital asset
purchases, outstanding commitments and other liquidity requirements associated
with its existing operations for at least the next twelve months. The
Company’s liquidity is affected by various risks and uncertainties, including,
but not limited to, the risks detailed in the “Risk Factors” section of this
Quarterly Report.
37
Statement
of Cash Flows Discussion (in thousands other than percentages)
December 31,
|
December 31,
|
|||||||||||||||
2010
|
2009
|
Inc (Dec)
|
Inc (Dec) %
|
|||||||||||||
Net
cash provided by (used by) operating activities
|
$ | 6,252 | $ | 6,857 | $ | (605 | ) | (9 | )% | |||||||
Net
cash provided by (used by) investing activities
|
$ | (20,783 | ) | $ | (2,034 | ) | $ | (18,749 | ) | 922 | % | |||||
Net
cash provided by (used by) financing activities
|
$ | 3,534 | $ | 32,363 | $ | (28,829 | ) | (89 | )% |
Net cash
provided by operating activities was $6.3 million for the nine months ended
December 31, 2010 compared to $6.9 million for the same period in the prior
year. Historically, cash provided by operating activities has
been affected by net income, changes in working capital accounts and
add-backs of non-cash adjustments such as depreciation and amortization and
stock-based compensation. In addition, as noted above, DivX
Acquisition Accounting Impact affected the increase in these non-cash
adjustments in the nine months ended December 31, 2010.
Net cash
used in investing activities was $20.8 million for the nine months ended
December 31, 2010 compared to net cash used in investing activities of $2.0
million for the same period in the prior year. The increase in net
cash used in investing activities was a result of cash used for the DivX
acquisition during the nine months ended December 31, 2010.
Net cash
provided by financing activities was $3.5 million for the nine months ended
December 31, 2010 compared to $32.4 million for the same period in the prior
year. During the nine months ended December 31, 2009, the Company
received net proceeds from stock offering of $31.4 million. In
addition, during the nine months ended December 31, 2010, the Company had $3.9
million in cash proceeds from employee exercises of stock options.
The
Company believes its cash balances and cash flows generated by operations will
be sufficient to satisfy its anticipated cash needs for working capital and
capital expenditures for at least the next 12 months. However, the
Company may require additional cash to fund acquisitions or investment
opportunities. In these instances, the Company may seek to raise such
additional funds through public, private equity, debt financing, or from other
sources. The Company may not be able to obtain adequate or favorable
financing at that time. Any equity financing the Company may obtain
may dilute existing ownership interests and any debt financing could contain
covenants that impose limitations on the conduct of its business.
Off-Balance Sheet Arrangements
The
Company does not have any off-balance sheet arrangements, as defined by
applicable SEC rules, that have or are reasonably likely to have a current or
future effect on the Company’s financial condition, changes in financial
condition, revenues or expenses, results of operations, liquidity, capital
expenditures or capital resources that are material to investors.
ITEM
3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The
Company has global operations and thus makes investments and enters into
transactions in various foreign currencies. The value of the Company’s
consolidated assets and liabilities located outside the United States
(translated at period end exchange rates) and income and expenses (translated
using average rates prevailing during the period), are affected by the
translation into the Company’s reporting currency (the U.S.
Dollar). Such translation adjustments are reported as a separate
component of comprehensive income. In future periods, foreign
exchange rate fluctuations could have an increased impact on the Company’s
reported results of operations.
The
Company’s market risk has not changed significantly from the interest rate and
foreign currency risks disclosed in Item 7A of the Company’s Annual Report on
Form 10-K for the fiscal year ended March 31, 2010. The Company does
not engage in any hedging activities and does not use derivatives or equity
instruments for cash investment purposes.
38
ITEM
4. CONTROLS AND PROCEDURES
Evaluation
of Disclosure Controls and Procedures
Under the
supervision and with the participation of the Company’s management, including
its Chief Executive Officer (“CEO”) and its Chief Financial Officer (“CFO”), the
Company conducted an evaluation of its disclosure controls and procedures (as
defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange
Act), as of the end of the period covered by this Quarterly Report. Based
upon that evaluation, the CEO and the CFO have concluded that the design and
operation of the Company’s disclosure controls and procedures were effective to
ensure that information required to be disclosed by the Company in reports that
it files or submits under the Exchange Act (i) is recorded, processed,
summarized and reported within the time periods specified in SEC rules and forms
and (ii) is accumulated and communicated to its management, including its
CEO and CFO, as appropriate to allow timely decisions regarding required
disclosure.
Changes
to Internal Control over Financial Reporting
There
were no changes to the Company’s internal control over financial reporting (as
defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred
during the period covered by this Quarterly Report that have materially
affected, or are reasonably likely to materially affect, its internal control
over financial reporting.
PART
II - OTHER INFORMATION
ITEM
1. LEGAL PROCEEDINGS
See “Note
8 – Commitments and Contingencies” to the unaudited Condensed Consolidated
Financial Statements included in this Quarterly Report.
ITEM
1A. RISK FACTORS
The
following are certain risk factors that could affect the Company’s business,
financial results and results of operations and its stock
price. These risk factors should be considered in connection with
evaluating the forward-looking statements contained in this Quarterly Report
because these factors could cause the actual results and conditions to differ
materially from those projected in the forward-looking
statements. You should carefully consider the following risk factors
as well as those in other documents the Company files with the
SEC. The risks and uncertainties described below are not the only
ones the Company may face. Additional risks and uncertainties not
presently known to the Company or that it currently deems immaterial may also
impair its business operations.
RISKS
RELATED TO THE PROPOSED ACQUISITION OF THE COMPANY BY ROVI
Failure
to complete, or delays in completing, the Transaction with Rovi announced on
December 22, 2010 could materially and adversely affect the Company’s results of
operations and stock price.
On
December 22, 2010, the Company entered into an Agreement and Plan of Merger
Reorganization with Rovi and Acquisition Sub (the “Merger
Agreement”). Consummation of the offer and the mergers described
therein (collectively, the “Transaction”) is subject to the conditions described
elsewhere in this Form 10-Q including the minimum tender
requirement. The Transaction is not subject to a financing
condition. The Company cannot assure you that it will be able to
successfully consummate the Transaction as currently contemplated under the
Merger Agreement or at all. Risks related to the failure of the
proposed Transaction to be consummated include the following:
|
·
|
If
the Transaction is not completed, the Company would not realize any or all
of the potential benefits of the Transaction, including any synergies that
could result from combining the financial and proprietary resources of the
Company and Rovi, which could have a negative effect on the Company’s
stock price;
|
|
·
|
The
Company will remain liable for significant transaction costs, including
legal, accounting, financial advisory and other costs relating to the
Transaction regardless of whether the Transaction is
consummated;
|
|
·
|
Under
some circumstances, the Company may have to pay a termination fee to Rovi
in the amount of $21.6 million if the Offer is not
completed;
|
|
·
|
The
attention of the Company’s management and employees may be diverted from
day-to-day operations during the period up to the completion of the
merger;
|
|
·
|
The
Company’s technology licensing process may be disrupted by customer and
salesperson uncertainty over when or if the Transaction will be
completed;
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39
|
·
|
The
Company’s customers and other third parties may seek to modify or
terminate existing agreements, or prospective customers may delay entering
into new agreements or licensing the Company’s technologies as a result of
the announcement of the merger;
|
|
·
|
Under
the Merger Agreement, the Company is subject to certain restrictions on
the conduct of its business prior to completing the Transaction, which
restrictions could adversely affect its ability to
conduct business as it otherwise would have done if it were not
subject to these restrictions; and
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|
·
|
The
Company’s ability to retain current key employees or attract new employees
may be harmed by uncertainties associated with the proposed
Transaction.
|
The
occurrence of any of these events individually or in combination could
materially and adversely affect the Company’s results of operations and stock
price.
Lawsuits
have been filed against the Company, the members of its board of directors, Rovi
and Acquisition Sub challenging the proposed Transaction, and an adverse
judgment in any such lawsuit may prevent the Offer from being consummated or the
Transaction from being completed within the expected timeframe, and may result
in costs to the Company.
As
described in Note 15 of the Notes to the unaudited Condensed Consolidated
Financial Statements contained in Item 1 of Part II of this Form 10-Q, the
Company, the members of its board of directors, Rovi and Acquisition Sub are
named as defendants in purported shareholder class action lawsuits brought by
certain Company shareholders as plaintiffs, seeking, among other things, to
enjoin the Transaction on the grounds that the Company’s directors allegedly
breached their fiduciary duties of care and loyalty by, inter alia, failing to
maximize shareholder value, by approving the merger transaction via an unfair
process and by causing omissions in the Schedule 14D-9 Recommendation Statement
filed by the Company on January 14, 2011. One of the conditions to
the consummation of the Offer is that no temporary restraining order,
preliminary or permanent injunction or other order preventing the consummation
shall have been issued by any court of competent jurisdiction and be in
effect. Consequently, if any of the plaintiffs is successful in
obtaining an injunction prohibiting the parties from consummating the Offer on
the agreed-upon terms, the injunction may prevent completion of the Transaction
in the expected timeframe, or at all.
The
Company has obligations under certain circumstances to hold harmless and
indemnify each of the defendant directors against judgments, fines, settlements
and expenses related to claims against such directors and otherwise to the
fullest extent permitted under California law and the Company’s bylaws and
articles of incorporation and their indemnification agreements. Such
obligations may apply to the lawsuits. Company management believes
that the allegations in the lawsuits are without merit and intends to vigorously
contest any lawsuits that may be pursued by plaintiffs who opt out of the
proposed settlement. However, there can be no assurance that the
Company and the other defendants in these lawsuits will be successful in their
defenses. An unfavorable outcome in any of the lawsuits could prevent
or delay the consummation of the Offer, completion of the Transaction and/or
result in substantial costs to the Company or Rovi or both.
If
the Transaction is completed, the combined company may not perform as the
Company or the market expects, which could have an adverse effect on the price
of Rovi Stock, which Company shareholders will own following such
completion.
The
integration of the Company into Rovi’s existing operations will be a complex,
time-consuming and expensive process and may disrupt Rovi’s existing operations
if it is not completed in a timely and efficient manner. If Rovi’s
management is unable to minimize the potential disruption to its business during
the integration process, Rovi may not realize the anticipated benefits of the
Transaction. Realizing the benefits of the Transaction will depend in
part on the integration of technology, operations, and personnel while
maintaining adequate focus on Rovi’s core businesses. Rovi may
encounter substantial difficulties, costs and delays in integrating the Company
including the following, any of which could seriously harm its results of
operations, business, financial condition and/or the price of its
stock:
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·
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conflicts
between business cultures;
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|
·
|
difficulties
and delays in the integration of operations, personnel, technologies,
products, services, business relationships and information and other
systems of the acquired businesses;
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·
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the
diversion of management’s attention from normal daily operations of the
business;
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·
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complexities
associated with managing the larger, more complex, combined
business;
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40
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·
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large
one-time write-offs;
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·
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the
incurrence of contingent
liabilities;
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·
|
contractual
and/or intellectual property
disputes;
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·
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lost
sales and customers as a result of customers of either of the two
companies deciding not to do business with the combined
company;
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·
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problems,
defects or other issues relating to acquired products or technologies that
become known to Rovi only after the consummation of the offer or the
mergers;
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·
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conflicts
in distribution, marketing or other important
relationships;
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·
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difficulties
caused by entering geographic and business markets in which Rovi has no or
only limited experience;
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·
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acquired
products and services that may not attract
customers;
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|
·
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loss
of key employees and disruptions among employees that may erode employee
morale;
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·
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inability
to implement uniform standards, controls, policies and procedures;
and
|
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·
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failure
to achieve anticipated levels of revenue, profitability or
productivity.
|
Rovi’s
operating expenses may increase significantly over the near term due to the
increased headcount, expanded operations and changes related to the
Transaction. To the extent that the expenses increase but revenues do
not, there are unanticipated expenses related to the integration process, or
there are significant costs associated with presently unknown liabilities,
Rovi’s business, operating results and financial condition may be adversely
affected. Failure to minimize the numerous risks associated with the
post-acquisition integration strategy also may adversely affect the trading
price of Rovi’s common stock.
The
announcement and pendency of the Rovi Transaction could cause disruptions in the
businesses of Rovi or the Company, which could have an adverse effect on their
respective business and financial results, and consequently on the combined
company.
Rovi and
the Company have operated and, until the consummation of the first merger (as
described in the Merger Agreement), will continue to operate,
independently. Uncertainty about the effect of the Offer and the
Transaction on customers, suppliers and employees may have an adverse effect on
Rovi or the Company and consequently on the combined company. In
response to the announcement of the offer and mergers, existing or prospective
customers or suppliers of Rovi or the Company may:
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·
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delay,
defer or cease purchasing products or services from or providing products
or services to Rovi, the Company or the combined
company;
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·
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delay
or defer other decisions concerning Rovi, the Company or the combined
company; or
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·
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otherwise
seek to change the terms on which they do business with Rovi, the Company
or the combined company.
|
Any such
delays or changes to terms could seriously harm the business of each company or,
if the Transaction is completed, the combined company.
In
addition, as a result of the offer and the mergers, current and prospective
employees could experience uncertainty about their future with Rovi, the Company
or the combined company. These uncertainties may impair the ability
of each company to retain, recruit or motivate key personnel.
The
Company and Rovi will incur significant costs in connection with the
Transaction, whether or not it is consummated, and the integration of the
Company into Rovi may result in significant expenses and accounting charges that
adversely affect Rovi’s operating results and financial condition.
The
Company and Rovi will incur substantial expenses related to the Transaction,
whether or not the Offer and the Transaction are completed. The
Company estimates that it will incur direct transaction costs of approximately
$7.5 million in connection with the Transaction, approximately $2.1 million of
which is not contingent upon consummation of the Offer and the
Transaction. Rovi has disclosed that it estimates that it will incur
direct transaction costs of approximately $3.6 million in connection with the
Transaction, none of which is contingent on consummation of the Offer or the
Transaction. Moreover, in the event that the Merger Agreement is
terminated, the Company may, under some circumstances, be required to pay Rovi a
$21.6 million termination fee. Payment of these expenses by the
Company as a standalone entity would adversely affect the Company’s operating
results and financial condition and would likely adversely affect its stock
price.
41
In
accordance with generally accepted accounting principles, Rovi will account for
the acquisition of the Company using the acquisition method of
accounting. Rovi’s financial results may be adversely affected by the
resulting accounting charges incurred in connection with the offer and the
mergers. Rovi also expects to incur additional costs associated with
combining the operations of Rovi and the Company, which may be
substantial. There are a large number of systems that must be
integrated, including management information, purchasing, accounting and
finance, sales, billing, payroll and benefits, fixed assets and lease
administration systems, and regulatory compliance. Moreover, many of
the expenses that will be incurred, by their nature, are impracticable to
estimate at the present time. These expenses could, particularly in
the near term, exceed the savings that Rovi expects to achieve from the
elimination of duplicative expenses, the realization of economies of scale, and
cost savings and revenue synergies related to the integration of the two
companies following the consummation of the Transaction. The amount
and timing of any these charges are uncertain at the present time. In
addition, Rovi may incur additional material charges in subsequent fiscal
quarters following the merger to reflect additional currently unknown costs in
connection with the offer and the mergers.
The price
of Rovi’s common stock could decline to the extent Rovi’s financial results are
materially affected by the foregoing charges and costs, or if the foregoing
charges and costs are larger than anticipated. The consummation of
the Transaction may result in dilution of future earnings per share to Rovi’s
stockholders. It may also result in fewer net profits or a weaker
financial condition compared to that which would have been achieved by Rovi on a
stand-alone basis.
Consummation
of the Offer may adversely affect the liquidity of the shares of Sonic common
stock not tendered in the Offer.
If the
Offer is completed but not all shares of Sonic common stock are tendered in the
Offer, the number of Sonic shareholders and the number of shares of Sonic common
stock publicly held will be greatly reduced. As a result, the closing
of the Offer could adversely affect the liquidity and market value of the
remaining shares of Sonic common stock held by the public.
RISKS
AFFECTING THE COMPANY AS A STANDALONE ENTITY
Adverse
global economic conditions may continue to negatively affect the Company’s
business, results of operations, and financial condition.
Adverse
global economic conditions have had, and may continue to have, a negative impact
on consumers and limit their ability and inclination to spend on leisure and
entertainment related technologies, products and services. If demand
for the Company’s technologies, products and services decreases, as a result of
economic conditions or otherwise, the Company’s financial condition would be
adversely impacted.
The
recent financial downturn and continuing financial market volatility may
continue to negatively affect the Company’s business, results of operations, and
financial condition.
The
recent global economic downturn and continuing financial market volatility have
resulted in tight credit markets, a low level of liquidity in many financial
markets, and extreme volatility in fixed income, credit and equity
markets. These factors could lead to a number of follow-on effects on
the Company’s business, including insolvency of key suppliers resulting in
product delays; inability of customers to obtain credit to finance purchases of
the Company’s products and services; increased expense or inability to obtain
financing for the Company’s operations or other business plans.
There
can be no assurance that the Company will generate net income in future
periods.
The
Company experienced net losses for fiscal years 2010, 2009 and 2008. The Company
acquired DivX on October 7, 2010. As previously disclosed, the
combined company would have experienced net losses for the fiscal year ended
March 31, 2010 and the three months ended June 30, 2010. There can be
no assurance that the Company will be cash flow positive or generate net income
for the full 2011 fiscal year or future years.
42
Integrating
DivX into the Company’s existing operations is ongoing and may not be
successful.
The
integration of DivX into the Company’s existing operations is a complex,
time-consuming and expensive process and may disrupt existing operations if it
is not completed in a timely and efficient manner. If the Company
management is unable to minimize the potential disruption to its business during
the integration process, the Company and Rovi may not realize the anticipated
benefits of the DivX acquisition. Realizing the benefits of the DivX
acquisition will depend in part on the integration of technology, operations,
and personnel while maintaining adequate focus on core
businesses. The Company may encounter substantial difficulties, costs
and delays in integrating DivX, including the following, any of which could
seriously harm its results of operations, business, financial condition and/or
the price of the Company’s common stock:
|
·
|
difficulties
and delays in the integration of DivX’s operations, personnel,
technologies, products, services, business relationships and information
and other systems;
|
|
·
|
the
diversion of management’s attention from normal daily operations of the
business;
|
|
·
|
complexities
associated with managing the larger, more complex, combined business;
conflicts between business
cultures;
|
|
·
|
large
one-time write-offs; the incurrence of contingent, unknown or
unanticipated liabilities;
|
|
·
|
contractual
and/or intellectual property disputes; lost sales and customers as a
result of customers of either of the two companies deciding not to do
business with the combined company; problems, defects or other issues
relating to acquired technologies, products or services that become known
only after the closing of the DivX
acquisition;
|
|
·
|
conflicts
in distribution, marketing or other important
relationships;
|
|
·
|
difficulties
caused by entering geographic and business markets in which the Company
has no or only limited experience;
|
|
·
|
acquired
technologies, products or services that may not attract
customers;
|
|
·
|
loss
of key employees and disruptions among employees that may erode employee
morale;
|
|
·
|
inability
to implement uniform standards, controls, policies and
procedures;
|
|
·
|
failure
to achieve anticipated levels of revenue, profitability or productivity;
and
|
|
·
|
poor
acceptance of the Company’s revised business model and
strategies.
|
The
Company’s operating expenses have increased significantly due to the increased
headcount, expanded operations and changes related to the DivX
acquisition. These expenses could, particularly in the near term,
exceed the anticipated savings from the elimination of duplicative expenses, the
realization of economies of scale, and cost savings and revenue synergies
related to the integration of the two companies following the completion of the
DivX acquisition. In addition, the Company may incur additional
material charges in subsequent fiscal quarters following the DivX acquisition to
reflect additional merger-related costs.
The
merger agreement governing the acquisition of DivX also did not contain any
post-closing indemnification provisions. Therefore, any claims for
known or unknown DivX liabilities, whether related to intellectual property
ownership, infringement or otherwise, are the Company’s
responsibility. Any such claim, with or without merit, could be time
consuming to defend, result in costly litigation and divert management’s
attention.
To the
extent that expenses increase but revenues do not, there are unanticipated
expenses related to the process of integrating the DivX business, or there are
significant costs associated with presently unknown liabilities, the Company’s
business, operating results and financial condition may be adversely
affected. Under the acquisition method of accounting, the amount of
net revenue that the Company may recognize based on the DivX acquisition will be
reduced during the Company’s next two fiscal years, which will impact the
Company’s net income and could adversely affect the trading price of the
Company’s stock. In addition, failure to minimize the numerous risks
associated with the post-acquisition integration strategy also may adversely
affect the trading price of the Company’s common stock.
43
The
Company’s business and prospects depend on the strength of its brands, and if it
does not maintain and strengthen its brands, it may be unable to maintain or
expand its business.
Maintaining
and strengthening the Company’s brands, particularly the “DivX,” “Roxio” and
“RoxioNow” brands, is critical to maintaining and expanding the Company’s
business, as well as to its ability to enter into new markets for its
technologies, products and services. Maintaining and strengthening
its brands will depend on the Company’s ability to continue to develop and
provide innovative and high-quality technologies, products and
services. Moreover, because the Company engages in relatively little
direct brand advertising, the promotion of its brands depends, among other
things, upon business partners displaying its trademarks on their
products. If these partners choose for any reason not to display the
Company trademarks on their products, or if these partners use the Company
trademarks incorrectly or in an unauthorized manner, the strength of the
Company’s brands may be diluted or its ability to maintain or increase its brand
awareness may be harmed. Further, unauthorized third parties may use
the Company brands in ways that may dilute or undermine their
strength.
Rapid
changes in technology and consumer preferences may adversely affect the
Company’s operating results.
The
markets for the Company’s technologies, products and services are characterized
by rapid technological change. the Company may not accurately predict
customer or business partner behavior and may not recognize or respond to
emerging trends, changing preferences or competitive factors. The
Company’s operating results may fluctuate significantly as a result of a variety
of factors, many of which are outside its control. These factors
include:
|
·
|
fluctuations
in demand for, and sales of, the Company’s technologies, products and
services;
|
|
·
|
introduction
of new technologies, products and services by the Company or its
competitors;
|
|
·
|
costs
associated with entering into new
markets;
|
|
·
|
competitive
pressures that result in pricing
fluctuations;
|
|
·
|
variations
in the timing of orders for and shipments of the Company technologies and
products;
|
|
·
|
changes
in the mix of technologies, products and services that the Company sells
and the resulting impact on its gross and operating
margins;
|
|
·
|
changes
in the terms of the Company’s licensing, distribution and other
agreements;
|
|
·
|
costs
associated with litigation and intellectual property claims;
and
|
|
·
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general
adverse economic and financial market conditions as noted elsewhere in
these risks.
|
The
Company’s operating expenses are based on its current expectations of its future
revenues and are relatively fixed in the short term. Customer
purchasing behavior and business partner requirements can be difficult to
forecast, and if the Company has lower revenues than expected, it may not be
able to quickly reduce its expenses in response. As a consequence,
the Company’s operating results for a particular quarter could be adversely
impacted.
The
Company must develop and introduce new and enhanced technologies, products and
services in a timely manner to remain competitive.
To
compete successfully in the markets in which the Company operates, it must
develop and sell new or enhanced technologies, products and services that
provide increasingly higher levels of performance and
reliability. The Company may need to expend considerable resources to
continue to design and deliver enduring and innovative technologies, products
and services. As new industry standards, technologies and formats are
introduced, there may be limited sources for the intellectual property rights
and background technologies necessary for implementation, and the prices that
the Company may negotiate in an effort to bring its technologies, products and
services to market may put the Company at a competitive
disadvantage. Further, if new formats and technologies prove to be
unfeasible, untimely, unsuccessful or not accepted by the marketplace for any
reason, demand for the Company’s technologies, products or services could be
limited. Delays and cost overruns could also affect the Company’s
ability to respond to technological changes, competitive developments or
customer requirements. If the Company is unable to recover the costs
associated with its research and development activities or to deliver innovative
technologies, products and services, the Company’s business, financial condition
and results of operations will be adversely affected.
Revenues
derived from the Company’s DVD technologies and products have declined in recent
years and will likely continue to decline.
The
Company continues to experience declines in consumer products revenue relating
to the DVD format. To the extent that sales of DVD technologies,
products and services continue to decline, the Company’s revenues will be
adversely affected.
44
The
Company relies on distributors, resellers and retailers to sell its consumer
products, and disruptions to these channels would affect adversely the Company’s
ability to generate revenues from the sale of its products.
The
Company sells its retail consumer software to end-users via retail channels
through its network of distributors and resellers, and relies on two
distributors for a significant portion of sales. Any decrease in
revenue from these distributors or the loss of one of these distributors and the
Company’s inability to find a satisfactory replacement in a timely manner could
negatively impact its operating results. Moreover, the Company’s
failure to maintain favorable arrangements with its distributors and resellers
may adversely impact its business. If the Company’s competitors offer
its distributors, resellers or retailers more favorable terms, those
distributors, resellers or retailers may de-emphasize, fail to recommend or
decline to carry the Company products. If the Company’s distributors,
resellers or retailers attempt to reduce their levels of inventory or if they do
not maintain sufficient levels to meet customer demand, the Company’s sales
could be impacted negatively. Further, if the Company reduces the
prices of its products, the Company may have to compensate its distributors,
resellers or retailers for the difference between the higher price they paid to
buy their inventory and the new lower prices of the Company’s
products. In addition, the Company is exposed to the risk of product
returns from distributors, resellers or retailers through their exercise of
contractual return rights.
Because
many of the Company’s technologies, products and services are designed to comply
with industry standards, to the extent the Company cannot distinguish its
technologies, products and services from those sold by its competitors, its
current distributors and customers may choose alternate technologies, products
and services or choose to purchase them from multiple vendors.
The
Company cannot provide any assurance that the industry standards for which the
Company develops new technologies, products and services will allow it to
compete effectively with companies possessing greater financial and
technological resources than the Company has to market, promote and exploit
sales opportunities as they arise in the future. Technologies,
products and services that are designed to comply with standards may also be
viewed as interchangeable commodities by certain customers. The
Company may be unable to compete effectively if it cannot produce technologies
and products more quickly or at lower cost than its
competitors. Further, any new technologies, products and services
developed may not be introduced in a timely manner or in advance of the
Company’s competitors’ comparable offerings and may not achieve the broad market
acceptance necessary to generate significant revenues.
The
Company’s business depends on sales of consumer technologies, products and
services, which subject it to risks relating to, among other things, changing
consumer demands and increased competition.
The
Company’s business depends on sales of consumer technologies, products and
services, subjecting it to risks associated with changing consumer demands and
extensive competition. The Company’s ability to succeed in consumer
markets depends upon its ability to enhance its existing offerings, introduce
new competitive technologies, products and services, and minimize the impact of
sudden price decreases. Additionally, some of the Company’s
competitors have well established distribution capabilities and existing brands
with market acceptance that provide them with a significant competitive
advantage. If the Company is not successful in overcoming these
challenges, its business and results of operations may be adversely
impacted.
Because
a substantial portion of the Company’s revenue is from OEM customers, sales of
its technologies, products and services are tied to OEM product
sales.
A
substantial portion of the Company’s revenue is derived from sales through OEM
customers who either license its technologies, products and services and
incorporate them into or bundle them with their products. Temporary
fluctuations in the pricing and availability of the OEM customers’ products
could negatively impact sales of the Company technologies, products and
services, which could in turn harm its business, financial condition and results
of operations. Moreover, sales of these technologies, products and
services depend in large part on consumer acceptance and purchase of PCs and CE
devices such as DVD players, BD players, DVD recorders, television sets, mobile
handsets and other digital media devices marketed by the Company’s OEM
customers. Consumer acceptance of these OEM products depends
significantly on the price and ease of use of these devices, among other
factors. If the demand for these OEM products is impaired, the
Company’s OEM sales will suffer a corresponding decline.
45
The
Company often sells its products to OEMs pursuant to individual supplements or
other attachments to standard terms and conditions the Company has negotiated
with each of these customers. These terms and conditions include
provisions relating to the delivery of the Company technologies, products and
services, the OEM’s distribution of these products, representations by the
Company with respect to the quality and its ownership of the technologies,
products and services, its obligations to comply with law, confidentiality
obligations, and indemnifications by the Company. The payment terms
in the Company’s OEM agreements can vary substantially. In some
cases, the OEM pays a per-unit royalty for every shipped OEM product that
incorporates the Company’s technologies, products or services; in other cases,
the agreement provides for specific royalties based on the Company’s estimations
of the volumes of certain units the OEM is likely to ship during a given term
and, if the estimates are too low, the actual per-unit revenues received may be
lower than expected; and in some cases, the OEM pays a single flat fee for the
applicable technologies, products or services during period of
time. Many of the Company’s OEM arrangements do not require the
payment of minimum amounts or contain any minimum purchase obligations or
similar commitments.
The
Company’s OEM agreements are typically non-exclusive, with terms of two years or
less in duration. The underlying agreements often renew, but are
subject to periodic termination by either party or termination for breach and,
in certain cases, the ability to terminate without cause with no or short
notice. Although the Company has maintained relationships with many
of its OEMs for many years, if an OEM agreement with a major customer were
terminated and the Company were unable to replace such relationship, its
business and results of operations would suffer.
Changes
in requirements or business models of the Company’s OEM customers may affect
negatively its financial results.
OEM
customers can be demanding with respect to the features they demand, as well as
with respect to quality and testing requirements and economic
terms. Because there are a relatively small number of significant OEM
customers, if they demand reduced prices, the Company may not be in a position
to refuse such demands, which would adversely impact revenues and results of
operations. If particular OEMs demand technologies, products or
services that the Company is unable to deliver, or if they impose higher quality
requirements than the Company is able to satisfy, it could lose those
relationships, which would adversely impact its revenues and results of
operations. Also, if the Company’s competitors offer its OEM
customers more favorable terms than the Company does or if its competitors are
able to take advantage of their existing relationships with OEMs, then these
OEMs may not include the Company’s offerings with their products. The
Company’s business will suffer if it is unable to maintain or expand its
relationships with OEMs.
The
prices for the Company’s technologies, products and services may continue to
decline in response to competitive market pressures, which could harm its
operating results.
The
markets for the consumer hardware and software products sold by the Company’s
OEM customers are intensely competitive and price sensitive. It is
likely that licensing fees for the Company’s technologies, products and
services, particularly in the DVD area, will continue to decline due to
competitive pricing pressures. In addition, the Company’s retail
sales business is also subject to significant competitive pricing pressures, and
the Company may also experience pricing pressures in other parts of its
business. These trends could make it more difficult for the Company
to increase or maintain its revenue and could adversely affect its operating
results. To maintain or increase per unit royalties, the Company must
continue to introduce new, more highly functional versions of its technologies,
products and services for which it can charge higher amounts. Any
inability to introduce such technologies, products and services in the future or
other declines in the amounts the Company can charge would also adversely affect
its revenues.
The
Company relies on its licensees and OEM customers to provide accurate royalty
and sales reports for its determination of licensing and OEM product revenues,
and if these reports are inaccurate, the Company’s revenues may be understated
or overstated and its forecasts and budgets may be incorrect.
The
Company typically receives royalty reports from its OEM customers, and relies on
these customers to accurately report the number of units shipped and other bases
for payment of amounts due to the Company. The Company calculates its
revenues, prepares financial reports, projections and budgets, and directs its
sales and technology development efforts based in part on these
reports. However, it is often difficult to independently determine
whether customers are reporting accurately. Most of the Company’s OEM
agreements provide rights to audit the OEM’s records, but audits can be
expensive and time-consuming and in some instance may harm the Company’s
relationships with the OEM. To the extent that customers provide
inaccurate reports, the Company may not collect and recognize revenue to which
it is entitled.
The
Company depends on a limited number of customers for a significant portion of
its revenue, and the loss of one or more of these customers could materially
harm its operating results, business and financial condition.
During
the fiscal year ended March 31, 2010, approximately 13% and 11% of the Company’s
net revenue were received from various OEM divisions of Dell and
Hewlett-Packard, respectively, and approximately 7% and 22% of the Company’s net
revenue for fiscal year 2010 were received from its two largest distributors,
Ingram and Navarre, respectively. In addition, during fiscal year
2010, approximately 23% of the Company’s net revenue consisted of online web
store revenue received through Digital River. During the nine months
ended December 31, 2010, approximately 9% and 7% of the Company’s net revenue
were received from various OEM divisions of Dell and Hewlett-Packard,
respectively, and approximately 6% and 20% of the Company’s net revenue for
period were received from its two largest distributors, Ingram and Navarre,
respectively. In addition, during the nine months ended December 31,
2010, approximately 19% of the Company’s net revenue consisted of online web
store revenue received through Digital River.
46
The
Company anticipates that the relationships with Dell, Google, Hewlett-Packard,
Navarre, Digital River, Samsung and, to a lesser extent, Ingram, will continue
to account for a significant portion of its revenue in the
future. Any adverse changes in the Company’s relationships with any
of these companies could seriously harm its operating results, business, and
financial condition if the Company was unable to replace that
relationship.
The
Company’s web-based revenue is vulnerable to third party operational problems
and other risks.
The
Company makes its products and services available through web-based retail sites
operated by third party resellers. Under these arrangements, the
Company’s reseller partners typically utilize co-branded sites, provide the
infrastructure to handle purchase transactions through their secure web sites,
and deliver the product (whether via web download or physical
fulfillment). The Company’s web store operations are subject to
numerous risks, including unanticipated operating problems, reliance on third
party computer hardware and software providers, system failures and the need to
invest in additional computer systems, diversion of sales from other channels,
rapid technological change, liability for online content, credit card fraud, and
issues relating to the use and protection of customer
information. The Company relies on the third party resellers who
operate these web stores for their smooth operation. Any interruption
of these web stores could have a negative effect on the Company’s
business. If the Company’s web store resellers were to withdraw from
this business or change their terms of service in ways that were unfavorable to
the Company, there might not be a ready alternative outsourcing organization
available to the Company, and it might be unprepared to assume operation of the
web stores. If any of these events occurs, the Company’s results of
operations would be harmed.
Changes
in the Company’s technology, product and service offerings could cause it to
defer the recognition of revenue, which could harm its operating results and
adversely impact its ability to forecast revenue.
The
Company’s technologies, products and services contain advanced features and
functionality that may require it to provide increased levels of end user
support, and its services require the Company to continue to provide various
benefits during the applicable service terms. To the extent that the
Company offers a greater degree of customer support and ongoing services, it may
be required to defer a greater percentage of revenues into future periods, which
could harm short term operating results.
There
is no assurance that the Company can provide effective digital rights management
technology to its customers.
The DivX
Codec is designed to provide effective digital rights management technology that
controls access to digital content that addresses, among other things, content
providers’ concerns over piracy. The Company cannot be certain that
it can continue to develop, license or acquire such technology, or that content
licensors, consumer hardware device manufacturers or consumers will accept such
technology. If digital rights management technology is not effective,
is perceived as not effective or is compromised by third parties, or if laws are
enacted that require digital rights management technology to allow consumers to
convert content stored in a protected format into an unprotected format, content
providers may not be willing to encode their content using the Company products
and consumer hardware device manufacturers may not be willing to include the
Company technologies in their products.
Qualifying,
certifying and supporting the Company’s technologies, products and services is
time consuming and expensive.
The
Company devotes significant time and resources to qualify and support its
software products on various PC and CE platforms, including Microsoft and Apple
operating systems. In addition, the Company maintains high-quality
standards for products that incorporate its DivX technologies and products
through a quality-control certification process. To the extent that
any previously qualified, certified and/or supported platform or product is
modified or upgraded, or the Company needs to qualify, certify or support a new
platform or product, it could be required to expend additional engineering time
and resources, which could add significantly to its development expenses and
adversely affect its operating results.
The
Company’s failure to manage its global operations effectively may adversely
affect its business and operating results.
As of
December 31, 2010, the Company had 12 major locations (defined as a location
with more than 15 employees) and employed 438 employees outside the United
States. The Company faces challenges inherent in efficiently managing
employees over large geographic distances, including the need to implement
appropriate systems, controls, policies, benefits and compliance
programs. The Company’s inability to successfully manage its global
organization could have a material adverse effect on its business and results of
operations.
47
Revenue
derived from international customers accounted for approximately 28%, 22%, 28%
and 18% of the Company’s net revenues in the nine months ended December 31, 2010
and the fiscal years 2010, 2009 and 2008, respectively. In addition,
for the years 2009, 2008 and 2007, DivX’s net revenue outside North America
comprised 81%, 74% and 77%, respectively, of its total net
revenues. As the Company integrates DivX into its existing business,
it expects that international sales will account for an increasing portion of
its net revenues. As a result, the occurrence of adverse
international political, economic or geographic events could result in
significant revenue shortfalls, which could harm the Company’s business,
financial condition and results of operations. Areas of risk
associated with the Company’s international operations include:
|
·
|
import
and export restrictions and duties, including tariffs, quotas, and other
barriers; difficulties in obtaining export licenses for certain
technology;
|
|
·
|
foreign
regulatory requirements, such as safety or radio frequency emissions
regulations; uncertainties and liabilities associated with foreign tax
laws;
|
|
·
|
burdens
of complying with foreign laws, including consumer and data protection
laws;
|
|
·
|
changes
in, or impositions of, foreign legislative or regulatory
requirements;
|
|
·
|
difficulties
in coordinating the activities of geographically dispersed and culturally
diverse operations;
|
|
·
|
difficulties
in staffing, managing, and operating its international operations,
including compliance with laws governing labor and
employment;
|
|
·
|
potential
loss of proprietary information due to misappropriation or laws that are
less protective of the Company’s intellectual property rights than U.S.
law;
|
|
·
|
liquidity
problems in various foreign
markets;
|
|
·
|
fluctuations
in foreign currency exchange rates and interest rates, including risks
related to any interest rate swap or other hedging
activities;
|
|
·
|
changes
in diplomatic and trade
relationships;
|
|
·
|
political
and economic instability in the countries in which the Company operates or
sells products; and
|
|
·
|
other
factors beyond its control including terrorism, war, natural disasters and
diseases, particularly in areas in which it has
facilities.
|
Certain
political, economic and social considerations relating to China could adversely
affect the Company.
In
addition to other risks associated with the Company’s global business, it faces
risks due to the substantial operations it conducts in China, which could be
adversely affected by political, economic and social uncertainties in
China. As of December 31, 2010, the Company had 249 employees in
China, primarily carrying out research and development
activities. Operations in China are subject to greater political,
legal and economic risks than its operations in other countries. In
particular, the political, legal and economic climate in China, both nationally
and regionally, is fluid and unpredictable. The Company’s ability to
operate in China may be adversely affected by changes in Chinese laws and
regulations such as those related to, among other things, taxation, import and
export tariffs, environmental regulations, land use rights, intellectual
property, employee benefits and other matters. In addition, the
Company may not obtain or retain the requisite legal permits to continue to
operate in China, and costs or operational limitations may be imposed in
connection with obtaining and complying with such
permits. Enforcement of existing laws or agreements may be sporadic
and implementation and interpretation of laws inconsistent. Any of
the foregoing could limit the remedies available in the event of any claims or
disputes with third parties.
In
addition, the Company has direct license relationships with many consumer
hardware device manufacturers located in China and a number of the OEMs that
license the Company technologies utilize captive or third-party manufacturing
facilities located in China. The Company expects consumer hardware
device manufacturing in China to continue to increase due to its lower
manufacturing cost structure as compared to other industrialized
countries. As a result, the Company faces additional risks in China,
in large part due to China’s historically limited recognition and enforcement of
contractual and intellectual property rights. Unauthorized use of the
Company’s technologies and intellectual property rights by China-based consumer
hardware device manufacturers may dilute or undermine the strength of the
Company’s brands. If the Company cannot adequately monitor the use of
its technologies by China-based consumer hardware device manufacturers, or
enforce its intellectual property rights in China, its revenue could be
adversely affected.
48
The
Company faces increasing competition for online sales from smaller software
providers.
The
Internet enables smaller software providers to distribute products with
relatively low upfront costs and resources. In the past, a
substantial barrier to entry into the packaged software market for small-scale
providers was the need to manufacture, package and distribute software through a
retail or commercial distribution chain. To the extent consumers
increasingly purchase software over the Internet, the Company expects to face
increased competition from small software development companies and programmers
worldwide. New entrants that have business models focused on Internet
distribution may have more favorable cost structures than the companies that
employ a multi-channel distribution network, which could give those competitors
cost savings, pricing and profitability advantages.
The
Company’s reliance on a limited number of suppliers for its manufacturing makes
it vulnerable to supplier operational problems.
The
Company outsources the manufacturing of its consumer software products to two
primary suppliers, who provide services such as parts procurement, parts
warehousing, product assembly and supply chain services. Any
disruption in the operations of these suppliers, or any product shortages or
quality assurance problems could increase the costs of manufacturing and
distributing the Company’s products and could adversely impact its operating
results. Moreover, although the Company believes there is significant
competition in the manufacture of consumer software products, if these suppliers
cease to perform or fail to perform as the Company expects, The Company could
face potentially significant delays in engaging substitute suppliers and
negotiating terms and conditions acceptable to the Company.
The
Company has had limited experience with online premium content services, and
cannot assure you when or if its RoxioNow Service or the DivX TV or other online
initiatives will have a positive impact on the Company’s
profitability.
During
fiscal year 2009, the Company acquired substantially all of the assets of
CinemaNow, Inc., an online movie download and streaming business, which the
Company now operates as part of its RoxioNow Service. The DivX
acquisition was effective in October 2010 and the DivX TV and related online
video communities and distribution services and platforms became part of the
Company’s offerings. There is no assurance that consumers will widely
adopt the Company’s RoxioNow Service or DivX online offerings or that they will
become profitable. Online video distribution is a relatively new
enterprise, and successful business models for delivering digital media over the
Internet are not fully tested. The Company has invested, and will
continue to invest, significant time and money in building and organizing the
premium content business, and its success could be jeopardized by difficulties
in implementing and maintaining premium content information technology systems
and infrastructure and/or by increased operating expenses and capital
expenditures required to in connection with online premium content
offerings. Because the Company has limited experience with online
premium content offerings, it cannot assure you that it will be successful or
profitable.
The
Company depends on studios to license content for its RoxioNow Service and to
make content available in the DivX media format.
The
Company’s ability to provide its RoxioNow Service depends on studios licensing
content for online delivery. The studios have great discretion
whether to license their content, and the license periods and the terms and
conditions of such licenses vary by studio. If studios change their
terms and conditions, are no longer willing or able to provide the Company
licenses, or if the Company is otherwise unable to obtain premium content on
terms that are acceptable, the ability to provide the RoxioNow Service will be
adversely affected, which could harm its business and operating
results. In addition, a limited number of studios have agreed to make
certain video content available in the DivX media format and there is no
assurance that the Company can enter into agreements with additional
studios. If the Company, and/or its consumer electronics partners or
retail partners, fail to implement certain technological safeguards mandated
under those agreements, the agreements may be suspended or terminated, either of
which could negatively impact the Company’s business.
The
Company relies on a number of third parties to deliver its RoxioNow Service and
DivX online offerings.
The
Company’s RoxioNow Service and online DivX offerings are embedded in various PC
and CE platforms and devices, which are then distributed through multiple retail
channels. If the Company is not successful in establishing and
maintaining appropriate OEM and distribution relationships, or if it encounters
technological, content licensing or other impediments, the Company’s ability to
grow its RoxioNow Service and DivX online businesses could be adversely
impacted, which could harm its business and operating results.
49
If
the Company’s systems or networks fail, become unavailable, are breached or
perform poorly so that current or potential users do not have adequate and
secure access to its online products and websites, the Company’s revenues will
be adversely affected and its reputation harmed.
The
Company’s ability to provide its online offerings depends on the continued
secure operation of its information systems and networks. The Company
has invested and expects to continue to invest substantial amounts to purchase
or lease data centers and equipment and to upgrade its technology and network
infrastructure to handle increased traffic on its websites and to introduce new
technologies, products and services. If the Company does not
implement these expansions successfully, or if it experiences delays,
inefficiencies and operational failures during implementation, the quality of
its technologies, products and services and its users’ experience could
decline. This could damage the Company’s reputation and result in
lost current and potential users, advertisers and content
providers.
In
addition, significant or repeated reductions in the performance, reliability or
availability of the Company’s information systems and network infrastructure
could harm its ability to provide content distribution offerings and advertising
platforms. System and network failures could result from the
Company’s failure to adequately maintain and enhance these systems and networks,
natural disasters and similar events, power failures, intentional actions to
disrupt its systems and networks, including terrorist attacks, computer viruses
and computer denial of service attacks, and many other causes. Any
compromise of the Company’s ability to transmit and store such information and
data securely, and any costs associated with preventing or eliminating such
problems, could impair its ability to distribute technologies and products or
collect revenue, threaten the proprietary or confidential nature of its
technology, harm its reputation and expose the Company to litigation or
liability.
The
vulnerability of the Company’s computer and communications infrastructure is
increased because it is largely located at facilities in California, an area
that is at heightened risk of earthquake, wildfires and
flood. Moreover, certain facilities are located near the landing path
of a military base and are subject to risks related to falling debris and
aircraft crashes. The Company does not currently have fully redundant
systems or a formal disaster recovery plan, and may not have adequate business
interruption insurance to compensate it for losses that may occur from a system
outage.
The
Company is vulnerable to earthquakes, labor issues and other unexpected
events.
The
Company’s corporate headquarters and DivX operations, as well as the majority of
its research and development activities, are located in California and China,
both of which are areas known for seismic activity. An earthquake or
other natural or manmade disaster could result in an interruption in the Company
business. The Company’s business also may be impacted by labor issues
related to its operations and/or those of its suppliers, distributors or
customers. Such an interruption could harm its operating
results. The Company is not likely to have sufficient insurance to
compensate adequately for lost revenues and losses that it may sustain as a
result of any natural disasters or other unexpected events.
If
the Company’s customers select titles or formats that are more expensive for the
Company to acquire and deliver more frequently, the Company’s expenses may
increase.
Certain
titles cost the Company more to acquire or result in greater revenue-sharing
expenses. If customers select these titles more often on a
proportional basis compared to all titles selected, the Company’s costs and
margins could be adversely affected. In addition, films released in
high-definition formats may be more expensive for the Company to acquire and
deliver, and if customers select these formats more frequently on a proportional
basis, the Company’s costs and margins could be adversely affected.
The
Company could be liable for substantial damages if there is unauthorized
duplication of the content it sells or other improper conduct by
users.
The
Company believes that it is able to license premium content through its RoxioNow
Service in part because the service has been designed to reduce the risk of
unauthorized duplication and playback of this content. In addition,
the terms of use and end-user license agreements for the Company’s technologies,
products and services prohibit a broad range of unlawful or undesirable
conduct. If these security measures fail, studios and other content
providers may terminate their agreements with the Company and, in addition, the
Company could be liable for substantial damages. Security breaches
might also discourage other content providers from entering into agreements with
the Company.
50
Current
and future government standards or standards-setting organizations may affect
the Company’s ability to compete.
Various
national governments have adopted or are in the process of adopting standards
for digital television broadcasts, including cable and satellite
broadcasts. In the event national governments adopt similar standards
for video codecs used in consumer hardware devices, software products or
Internet applications, the Company’s technology may not satisfy such
standards. In addition, standards-setting organizations are adopting
or establishing formal technology standards for use in a wide range of consumer
hardware devices, software products and Internet
applications. Failure to satisfy any such future standards could
require the Company to redesign its technologies to be in compliance in order to
sell such technologies and products in those countries and markets, which could
be costly and result in delays in introducing new technologies and products into
those markets.
The
Company may be subject to market risk and legal liability in connection with the
data collection capabilities of its various online services.
Many
components of the Company’s online services include interactive components that
by their very nature require communication between a client and server to
operate. To provide better consumer experiences and to operate
effectively, the Company collects certain information from
users. Collection and use of such information may be subject to
United States state and federal privacy and data collection laws and
regulations, as well as foreign laws such as the EU Data Protection
Directive. The Company posts its privacy policies concerning the
collection, use and disclosure of user data, including that involved in
interactions between client and server products. Any failure by the
Company to comply with its posted privacy policies, any failure to conform the
privacy policy to changing aspects of its business or applicable law, or any
existing or new legislation regarding privacy issues could impact the market for
the Company’s online services, technologies and products and subject it to
fines, litigation or other liability.
The
Company’s executive officers and other key personnel are critical to its
business, and because there is significant competition for personnel in the
Company’s industry, it may not be able to attract and retain qualified
personnel.
The
Company’s success depends on the continued contributions of its executive
management team and its technical, marketing, sales, customer support and
product development personnel. The loss of key individuals or
significant numbers of such personnel could significantly harm the Company’s
business, financial condition and results of operations. The Company
does not have any life insurance or other insurance covering the loss of any of
its key employees.
Errors
in the Company technologies, products and services may result in loss of or
delay in market acceptance, which could adversely impact the Company’s
reputation and business.
The
Company’s technologies, products and services may contain undetected errors,
especially when first introduced or as new versions are released, and the
Company may need to make significant modifications to correct these
errors. Failure to achieve acceptance could result in a delay in, or
inability to, receive payment, a rejection of products and services, damage to
the Company’s reputation, as well as lost revenues, diverted development
resources, increased service and warranty costs and related litigation expenses
and potential liability to third parties, any of which could harm the Company’s
business.
If
the Company fails to protect its intellectual property rights it may not be able
to market its technologies, products and services successfully.
Unlicensed
copying and use of the Company’s intellectual property or illegal infringements
of its intellectual property rights represent losses of revenue to the
Company. The Company has sought to protect its technologies, products
and services with patents, trademarks, copyrights and trade
secrets. Effective intellectual property protection may not be
available in every country in which the Company’s technologies, products and
services may be manufactured, marketed, distributed, sold or
used. Moreover, despite the Company’s efforts, these measures only
provide limited protection. Third parties may try to copy or reverse
engineer portions of the Company’s technologies, products or services or
otherwise obtain and use its intellectual property without
authorization. The Company cannot assure you that the protection of
its proprietary rights will be adequate or that its competitors will not develop
independently similar technology, duplicate the Company’s technologies, products
or services or design around any of its patents or other intellectual property
rights.
51
The
Company may become involved in costly and time-consuming intellectual property
litigation.
Third
parties could claim that the Company’s technologies, products or services
infringe their patents, trademarks or other intellectual property
rights. As new standards and technologies evolve, the Company
believes that it may face an increasing number of third party claims relating to
alleged patent infringements. Intellectual property litigation is
time consuming and costly, diverts management resources and could result in the
invalidation or impairment of the Company’s intellectual property
rights. If litigation results in an unfavorable outcome, the Company
could be subject to substantial damage claims and/or be required to cease
production of infringing products, terminate its use of the infringing
technology, develop non-infringing technology and/or obtain a license agreement
to continue using the technology at issue. Such license agreements
might not be available to the Company on acceptable terms, resulting in serious
harm to its business.
The
Company may be liable to some of its customers for damages that they incur in
connection with intellectual property claims.
Although
the Company attempts to limit its exposure to liability arising from
infringement of third-party intellectual property rights in the Company’s
agreements with customers, it does not always succeed in obtaining the
limitations it seeks. If the Company is required to pay damages to or
incur liability on behalf of its customers, its business could be
harmed. Moreover, even if a particular claim falls outside of the
Company indemnity or warranty obligations, its customers may be entitled to
additional contractual remedies against the Company, which could harm its
business. Furthermore, even if the Company is not liable to its
customers, its customers may stop buying its technologies, products or services
or attempt to pass on to the Company the cost of any license fees or damages
owed to third parties by reducing the amounts they pay for the Company’s
technologies, products or services. Any of these results could harm
the Company’s business.
The
Company may incur losses associated with currency fluctuations and may not
effectively reduce its exposure.
The
Company’s operating results are subject to volatility resulting from
fluctuations in foreign currency exchange rates, including:
|
·
|
currency
movements in which the U.S. dollar becomes stronger with respect to
foreign currencies, thereby reducing relative demand for its products and
services outside the United States;
and
|
|
·
|
currency
movements in which a foreign currency in which the Company has incurred
expenses becomes stronger in relation to the U.S. dollar, thereby raising
the Company’s expenses for the same level of operating
activity.
|
The
Company’s quarterly results and stock price fluctuate significantly, which is
likely to continue.
The
Company’s operating results can fluctuate significantly, which can lead to
volatility in the price of the Company’s common stock, for any of the following
reasons, among others:
|
·
|
fluctuations
in the U.S. or world economy or general market conditions, as well as
those specific to specific to the PC, CE, technology and related
industries, as well as those specific to Hollywood and other
entertainment; future announcements concerning the Company or its
competitors;
|
|
·
|
Concerns
about the integration of the Company and DivX
operations;
|
|
·
|
earnings
announcements, quarterly variations in operating results, including
variations due to one-time payments and other non-recurring revenues or
costs, as well as variations due to the timing of revenue recognition,
including deferrals of revenue; charges, amortization and other financial
effects relating to the DivX acquisition with DivX or any future
acquisitions or divestitures;
|
|
·
|
introduction
of new technologies, products or services or changes in technology,
product or service pricing policies by the Company or its competitors, or
the entry of new competitors into the markets for video codecs, digital
media software or the digital distribution of premium
content;
|
|
·
|
acquisition
or loss of significant customers, distributors or
suppliers;
|
|
·
|
timing
of payments received by the Company pursuant to its licensing
agreements;
|
|
·
|
changes
in earnings estimates by the Company or by independent analysts who cover
it;
|
|
·
|
discussion
of the Company or its stock price by the financial press and in online
investor chat rooms or blogs;
|
|
·
|
delay
in delivery to market or acceptance of new technologies, products and
services of the Company or its
competitors;
|
|
·
|
the
mix of international and United States revenues attributable to the
Company’s technologies, products and
services;
|
|
·
|
disclosure
of material weaknesses in the Company’s internal control over financial
reporting or its disclosure controls and procedures or of other corporate
governance issues; and/or
|
52
|
·
|
costs
of litigation and intellectual property
claims.
|
In
addition, stock markets in general, and those for technology stocks in
particular, have experienced extreme price and volume fluctuations in recent
years, which frequently have been unrelated to the operating performance of the
affected companies. These broad market fluctuations may impact
adversely the market price of the Company’s common stock.
The
Company may require additional capital, and raising additional funds by issuing
securities, debt financing or through strategic alliances or licensing
arrangements may cause dilution to existing shareholders, restrict operations or
require the Company to relinquish proprietary rights.
The
Company may raise additional funds through public or private equity offerings,
debt financings, strategic alliances or licensing arrangements. To
the extent that it raises additional capital by issuing equity securities,
existing shareholders’ ownership will be diluted. Any debt financing
may involve covenants that restrict Company operations, including limitations on
additional borrowing, specific restrictions on the use of assets as well as
prohibitions on the ability to create liens, pay dividends, redeem stock or make
investments. In addition, if the Company raises additional funds
through strategic alliances or licensing arrangements, it may be necessary to
relinquish potentially valuable rights to potential products or proprietary
technologies, or grant licenses on terms that are not favorable.
Compliance
with changing corporate governance and public disclosure requirements will
result in additional expenses and pose challenges for the Company’s management
team.
Changing
laws, regulations and standards relating to corporate governance and public
disclosure, including the Dodd-Frank Wall Street Reform and Consumer Protection
Act and the rules and regulations promulgated and to be promulgated thereunder,
the Sarbanes-Oxley Act and SEC regulations, have created uncertainty for public
companies and significantly increased the costs and risks associated with
accessing the U.S. public markets. The Company’s management team will
need to devote significant time and financial resources to comply with existing
and evolving standards for public companies, which will lead to increased
general and administrative expenses and a diversion of management time and
attention from revenue-generating activities to compliance
activities.
The
fees payable in the lawsuits that were filed in connection with the DivX
acquisition have not been resolved and the amount that could be paid by the
Company could be material.
The
parties to the lawsuits challenging the DivX acquisition reached a tentative
agreement in August 2010 to settle all of the lawsuits and have signed a
memorandum of understanding that is subject to confirmatory discovery, a more
detailed settlement agreement and court approval. The parties are
currently negotiating the fees payable to the plaintiff’s counsel. If
the parties cannot agree on the fees, plaintiffs will file a fee application
with the court. It is possible that the fees payable by the Company
could be material.
ITEM
2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Not
applicable
ITEM
3. DEFAULTS UPON SENIOR SECURITIES
Not applicable
ITEM
4. REMOVED AND RESERVED
ITEM
5. OTHER INFORMATION
None
53
ITEM
6. EXHIBITS
31.1
|
Certification
of the Chief Executive Officer Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
|
31.2
|
Certification
of the Chief Financial Officer Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
|
32.1
|
Certification
of the Chief Executive Officer Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
|
32.2
|
Certification
of the Chief Financial Officer Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
|
10.1*
|
Letter
dated November 24, 2010 regarding the Renewal of the Promotion
and Distribution Agreement dated March 1, 2009 between Google Inc., and
DivX, Inc.
|
*Confidential
treatment has been requested for portions of this
exhibit.
|
54
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, in the City of Novato, State of California, on the 9th day of
February, 2010.
SONIC
SOLUTIONS
|
||
/s/ David C. Habiger
|
February
9, 2010
|
|
David
C. Habiger
President
and Chief Executive Officer
(Principal
Executive Officer)
|
||
/s/ Paul F. Norris
|
February
9, 2010
|
|
Paul
F. Norris
Executive
Vice President,
Chief
Financial Officer and General Counsel
(Principal
Financial/Accounting Officer)
|
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