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Table of Contents

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-K

 

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF

THE SECURITIES EXCHANGE ACT OF 1934

 

For the fiscal year ended December 31, 2011

 

Commission File Number: 0-21123

 

GRAPHIC

SRS LABS, INC.

(Exact name of registrant as specified in its charter)

 

Delaware

 

33-0714264

(State of incorporation)

 

(I.R.S. Employer Identification No.)

 

 

 

2909 Daimler Street, Santa Ana, California

 

92705

(Address of principal executive offices)

 

(Zip Code)

 

(949) 442-1070

(Registrant’s telephone number, including area code)

 

Securities registered pursuant to Section 12(b) of the Act:

 

Title of each class

 

Name of each exchange on which registered

Common Stock, Par Value $0.001 Per Share

 

The NASDAQ Stock Market LLC

 

 

(NASDAQ Global Market)

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes o  No x

 

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes o  No x

 

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 o

 

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 (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o

 

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 o

 

Accelerated filer x

 

 

 

Non-accelerated filer o

 

Smaller reporting company o

(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 o  No x

 

As of June 30, 2011, the last business day of the registrant’s most recently completed second quarter, the aggregate market value of the registrant’s voting common stock held by non-affiliates of the registrant was approximately $115,516,297 (computed using the closing price of $9.59 per share of common stock on such date, as reported by The NASDAQ Stock Market). Shares of the registrant’s common stock held by each officer and director and each person known to the registrant to own 10% or more of the outstanding voting power of the registrant have been excluded in that such persons may be deemed to be affiliates. This determination of affiliate status is not a determination for other purposes.

 

As of February 28, 2012, 14,323,715 shares of the registrant’s common stock, par value $0.001 per share, were outstanding.

 

DOCUMENTS INCORPORATED BY REFERENCE

 

Portions of the registrant’s definitive proxy statement for the Annual Meeting of Stockholders to be held in 2012 are incorporated by reference in Part III of this Form 10-K.

 

 

 



Table of Contents

 

SRS LABS, INC.

Annual Report on Form 10-K

Table of Contents

 

 

 

Page

PART I

 

Item 1.

Business

3

Item 1A.

Risk Factors

10

Item 1B.

Unresolved Staff Comments

15

Item 2.

Properties

15

Item 3.

Legal Proceedings

16

Item 4.

Mine Safety Disclosures

16

PART II

 

Item 5.

Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

16

Item 6.

Selected Financial Data

18

Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

19

Item 7A.

Quantitative and Qualitative Disclosures About Market Risk

27

Item 8.

Financial Statements and Supplementary Data

27

Item 9.

Changes In and Disagreements with Accountants on Accounting and Financial Disclosure

27

Item 9A.

Controls and Procedures

27

Item 9B.

Other Information

28

PART III

 

Item 10.

Directors, Executive Officers and Corporate Governance

28

Item 11.

Executive Compensation

28

Item 12.

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

28

Item 13.

Certain Relationships and Related Transactions, and Director Independence

28

Item 14.

Principal Accounting Fees and Services

28

PART IV

 

Item 15.

Exhibits and Financial Statement Schedule

29

Signatures

 

33

 

2



Table of Contents

 

As used herein, the “Company,” “SRS Labs,” “SRS,” “we,” “us,” or “our” means SRS Labs, Inc., its wholly-owned subsidiaries, SRSWOWcast.com, Inc., Shenzhen Representative Office of SRS Labs, Inc., Shanghai Representative Office of SRS Labs, Inc, and SRS Labs Japan, KK. Circle Surround®, Circle Surround II™, CS Auto™, SRS CS Auto DX™, Circle Surround Automotive™,  Max-V™, Circle Surround Automotive DX™ and SRS 5.1 Surround Sound™, SRS WOW®, SRS WOW XT™, SRS WOW HD™, SRS TruBass®, SRS FOCUS®, SRS Headphone™, SRS Dialog Clarity™, SRS TruSurround®, SRS TruSurround XT™, TruSurround HD™, SRS 3D®, VIP™, TruSurround HD4™, CircleCinema™, SRS CircleCinema 3D, iWOW™, SRS Headphone 360™, SRS Premium Sound™, SRS Premium Voice™, SRS Premium Voice Pro™, SRS TruGaming™, SRS TruMedia™, SRS TruMedia HD™, SRS TruTools™, SRS TruVoice™, TruVolume™, SRS Noise Reduction™, SRS Sound™, SRS 3D Sound™, SRS StudioSound™, SRS StudioSound HD™, SRS TheaterSound™, SRS TheaterSound 3D, and NViro™ are among our trademarks.  Any other trademarks and trade names appearing in this Report are the property of their respective owners.

 

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

 

Some of the statements in this Annual Report on Form 10-K contain forward-looking statements regarding our assumptions, projections, expectations, targets, intentions or beliefs about future events, which involve risks and uncertainties. All statements other than statements of historical facts included in this Annual Report, including statements relating to expectation of future financial performance and capital requirements, continued growth, changes in economic conditions or capital markets, changes in customer usage patterns and preferences and the impact of recent accounting pronouncements, are forward-looking statements. In some cases, you can identify forward-looking statements by terms such as may, will, should, expect, plan, intend, forecast, anticipate, believe, estimate, predict, potential, continue or the negative of these terms or other comparable terminology. The forward-looking statements contained in this Annual Report involve known and unknown risks, uncertainties and situations that may cause our or our industry’s actual results, level of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by these statements. Factors that might cause actual events or results to differ materially from those indicated by these forward-looking statements may include the matters listed in this Annual Report, including, but not limited to, those listed under “Risk Factors” in Item 1A.

 

PART I

 

Item 1.  Business

 

Overview

 

We are the recognized global leader in the practical application of psychoacoustics, the science behind how the human ear operates, and in the post processing segment of the market for audio delivery.  Our award-winning audio enhancement technologies and solutions dramatically restore audio and voice to its natural state, the way it was originally recorded, in both dimension and clarity, thus providing a superior consumer experience for a wide variety of consumer electronic (“CE”) devices such as televisions, personal computers and mobile phones.

 

Our mission is to be the dominant worldwide provider of audio and voice solutions that allow consumers to effortlessly experience rich, natural sound, the way their ears were meant to hear it.

 

Our operations are conducted through SRS Labs, Inc., the parent company, and its wholly-owned subsidiaries, SRSWOWcast.com, Inc., Shenzhen Representative Office of SRS Labs, Inc. (a Chinese company), Shanghai Representative Office of SRS Labs, Inc. (a Chinese company) and SRS Labs Japan, KK (a Japanese company). Our business is focused on developing and licensing audio, voice and surround sound technology solutions to many of the world’s leading original equipment manufacturers (“OEMs”), original design manufacturers (“ODMs”), software providers and semiconductor companies.  We also sell and market stand-alone software and hardware products through the Internet.

 

Further financial information regarding mix of revenues by market sectors, geographic areas and customer concentration is included in this Annual Report on Form 10-K under “Item 8. Financial Statements and Supplemental Data” and in Notes 1 and 7 to the Notes to Consolidated Financial Statements. We also refer you to “Item 1A. Risk Factors” for a discussion of certain risks relating to our business.

 

We were incorporated in the State of California on June 23, 1993 and reincorporated in the State of Delaware on June 28, 1996. Our executive offices are located at 2909 Daimler Street, Santa Ana, California 92705. Our telephone number is (949) 442-1070.

 

3



Table of Contents

 

Our Products and Technologies

 

Our licensing business is focused on developing and marketing audio and voice rendering technologies and solutions to OEMs, ODMs, semiconductor manufacturers, and software providers in the home entertainment, personal computers, personal telecommunications, automotive, portable media devices and broadcast markets. Our portfolio of licensable technologies includes a wide range of advanced technologies and proprietary techniques for the processing and delivery of audio, voice and surround sound, including the following:

 

·      Surround Sound— Our surround sound technologies include SRS TruSurround XT, TruSurround HD, TruSurround HD4, NViro, Circle Surround, Circle Surround II, Circle Surround Automotive, Circle Surround Automotive DX and SRS 5.1 Surround Sound, featuring the CircleSurround engine, for streaming content in surround.  Circle Surround is a complete encoding and decoding format. Circle Surround encoding enables the distribution of up to 6.1 channels of audio over existing two-channel carriers such as digital media files, standard definition and high-definition television, FM radio and CDs. Circle Surround decoding decodes Circle Surround encoded material for multi-channel playback or creates up to 6.1 channels of audio from older formats of material, including mono, stereo, 4-channel surround or other matrix surround formats.

 

·      Audio Rendering— Our audio rendering technologies optimize device audio output and enable the presentation of 3D and multichannel audio content over two speakers. These technologies include the ability to render 5.1 multichannel content over two speakers, to create a wider sound stage for more natural audio, to improve the perceived bass response in small speakers, to dynamically position audio sources in a virtual 3D space using headphones, and to reposition the audio image for non-optimally placed speakers. Our audio rendering technologies include SRS WOW, WOW XT, WOW HD, SRS 3D, SRS Sound, TruBass, FOCUS, TruGaming (Xspace 3D), SRS Headphone, DialogClarity, CircleCinema 3D, PureSound, NViro, TruVolume, and TruVolume HD. TruVolume is the de facto industry standard for volume leveling in the TV and set-top-box applications, effectively eliminating the volume fluctuations between programming and commercials as well as during channel changing.

 

·      Voice Processing—Our TruVoice (also known as VIP and VIP+) and SRS Noise Reduction technologies dramatically reduce noise to produce a much clearer and crisper dialog over wireless communication devices and improve the intelligibility of the human voice in a variety of listening situations, including high ambient background environments. Our Max-V voice and audio enhancement technology drastically increases the capabilities of built-in speakers in devices in delivering higher volume while limiting adverse effects such as clipping and distortion.

 

·      Solution Suites— Our solution suites combine several of our technologies in order to deliver a comprehensive, easier to deploy package of post processing audio enhancement products. Solution suites also enable us to impact the performance of the OEM products by employing multiple technologies and techniques to enhance and control the overall audio fidelity and performance of the product. Our solution suites include SRS Premium Sound, SRS Premium Sound HD, SRS Premium Sound 3D, SRS Premium Voice, and SRS Premium Voice Pro for personal computers, SRS TruMedia, TruMedia HD, TruVoice, and TruTools for mobile phones, and SRS TheaterSound, TheaterSound HD, TheaterSound 3D, StudioSound, StudioSound HD, and StudioSound 3D for home entertainment products among others.

 

Our portfolio of technologies and solution suites addresses a broad spectrum of product applications within the vertical markets that we have targeted. Our technologies may be implemented in a variety of methods, including discrete analog components, chip modules, analog semiconductors, digital signal processors and software. These various implementation options offer customers flexibility when incorporating our technologies into products.

 

Our Customers and Markets

 

We license our technologies both in the United States and internationally. The following table presents our revenue by geographic area. Licensing-related revenue is summarized based on the location of the licensee’s corporate headquarters.  Revenue from standalone software and hardware products and online sales is allocated to the United States. The China region includes all licensees with their corporate headquarters located in mainland China.  The Asia Pacific region includes all licensees with their corporate headquarters located in Taiwan, Hong Kong, and India.

 

4



Table of Contents

 

 

 

Years Ended December 31,

 

 

 

2011

 

%

 

2010

 

%

 

2009

 

%

 

Geographic Area Revenue:

 

 

 

 

 

 

 

 

 

 

 

 

 

Korea

 

$

13,928,964

 

42

%

$

13,691,746

 

44

%

$

11,551,403

 

46

%

United States

 

9,288,844

 

28

 

7,465,114

 

24

 

6,440,033

 

26

 

Asia Pacific

 

3,196,023

 

10

 

2,482,756

 

8

 

647,220

 

3

 

Japan

 

2,813,254

 

9

 

4,930,915

 

16

 

4,375,139

 

17

 

China

 

2,699,035

 

8

 

2,033,444

 

6

 

1,548,496

 

6

 

Europe

 

944,039

 

3

 

616,414

 

2

 

402,286

 

2

 

Total

 

$

32,870,159

 

100

%

$

31,220,389

 

100

%

$

24,964,577

 

100

%

 

Through our licensing business, we market our portfolio of technologies and solution suites to the following markets: home entertainment, personal computers, personal telecommunications, automotive and portable media devices. Our license agreements typically have multi-year or automatic renewal terms, and either require: (a) per-unit royalty payments for all products implementing our technologies and/or solutions; (b) fixed annual or quarterly royalty payments; or (c) a minimum fixed annual or quarterly royalty payment, which allows the licensee to ship up to a predetermined number of units during the specified time period with additional per-unit royalty payments thereafter. The license agreements also generally specify the use of our trademarks and logos on the product, within the packaging and in the user’s manual, and require our review and approval of the product to guarantee the quality of the technology implementation and the correct usage of our logos and trademarks. We believe these terms ensure the quality and consistency of the technology and should elevate the awareness of the SRS brand in the marketplace. We also sell some of our products and solutions via the Internet.  Revenues associated with those sales are recognized upon shipment and have not historically been material.

 

The following chart shows the percentage of our revenue we received in 2011 and 2010 from each of these markets.

 

2011

 

2010

 

 

 

GRAPHIC

 

GRAPHIC

 

Long-lived tangible assets, net of accumulated depreciation, by geographic region were as follows:

 

 

 

Years Ended December 31,

 

 

 

2011

 

%

 

2010

 

%

 

Geographic Area:

 

 

 

 

 

 

 

 

 

United States

 

$

1,138,762

 

91

%

$

593,010

 

88

%

International

 

108,581

 

9

 

79,210

 

12

 

Total

 

$

1,247,343

 

100

%

$

672,220

 

100

%

 

5



Table of Contents

 

Home Entertainment

 

Home entertainment products currently represent the largest market for our technologies and have, in recent years, been the largest revenue contributor. Manufacturers in this market utilize our technologies and solutions to improve functionality and product performance and/or to differentiate their products from their competitors.  In many instances, manufacturers license multiple technologies from us for multiple product lines and divisions. Product categories within this market include televisions (such as LCD and plasma televisions) and set-top boxes (“STBs”).

 

Televisions.  Our audio technologies and solution suites are widely used by television manufacturers as a solution to audio challenges that manufacturers encounter in today’s flat panel television designs and/or as a differentiating feature. As television makers continue to migrate to models with thinner digital displays, they are finding that they have less room for speakers, which may compromise the overall audio quality of the television. We provide manufacturers with patented solutions for accurately presenting surround sound, improving bass response, increasing dialog clarity, improving volume consistencies among channels and programming, and creating a more natural sound stage. These solutions improve the audio quality of the television set without the expense of additional hardware or designing for larger speakers.  Our technologies suited for televisions are currently licensed by companies such as Samsung, VIZIO, LG and Sharp.

 

Set-top Boxes.  Although STBs receive and present surround sound content, they are typically connected to televisions with two-channel speakers. Our TruVolume technology serves as our lead technology in the STB category as it creates a level volume user experience to offset level fluctuations during channel changes, changes among different input devices and changes between the program and commercial. Additionally, our SRS surround sound technology creates a surround sound experience over any existing two-speaker system, including the internal speakers of a television. This technology also creates a virtual surround experience from stereo material.   Our technologies suited for STBs are currently licensed by companies such as EchoStar.

 

Personal Computers

 

Personal computers (“PCs”), especially mobile PCs such as laptops, notebooks and the new genre of Ultra Mobile Devices (also known as net books) have become very popular as more users utilize their PCs as their main entertainment device at home or on the go. At home, PCs are often used as media hubs. PC users can enjoy and manage collections of music and movies, along with downloaded and recorded television programming. This content is now being distributed through the home using networked media adapter products. Throughout these systems, there is a need for optimizing playback on the computer speakers, presenting a closer assimilation to a typical home theater experience, including transmitting surround sound around the home and enjoying content playback on headphones. On the go, users have to rely on the audio output capabilities of their PCs which are often inadequate given the inherent challenges in today’s tiny PC enclosures. We believe our technology solutions are well positioned to fill the need to deliver better sound, with deeper bass, clarity and volume.  Our SRS Premium Sound and SRS Premium Voice suites (and related suites) address many of the usage cases above, overcoming related challenges and limitations.  Our technologies suited for PCs are currently licensed by companies such as Hewlett Packard, Dell, Toshiba, and LG.

 

Personal Telecommunications

 

We provide the personal telecommunications market (mobile phones and tablets) with both voice and audio rendering technologies and solution suites. Given the growth of smart and featured phones and tablets, more mobile phones and tablets are incorporating advanced audio and multimedia features and functionality at a rapid pace. New services include digital music downloads, streaming audio and video content, gaming, and television viewing. Our solutions are focused on the specific needs in the mobile market which have not previously been addressed. For example, our technologies deliver solutions for voice intelligibility in noisy environments, louder speaker performance, clarity of dialog in video content, poor bass-response of small speakers, hampered stereo imaging in narrowly spaced speakers, and 3D positioning audio for interactive gaming. We believe we can leverage our strong presence in the home entertainment market and our suite of voice technologies to provide good opportunities for growth in the personal telecommunications market.  Our technologies are licensed by telecommunications companies such as Samsung, HTC, and NEC.

 

Automotive

 

We have invested in research to create solutions specific to the needs of the automotive market. Within vehicles, audio and video content is played from multiple sources and then presented on both speakers and headphones. Stereo content from sources like CDs, MP3 players, mobile television and radio needs to be presented on multiple speakers in the car, some of which may not be optimally placed and may not have strong bass response. Surround sound content from DVDs, radio and downloaded music needs to be rendered on both car speakers and on rear-seat headphones with a maximum sweet spot. Our automotive solutions such as SRS CS Auto, SRS CS Auto DX, SRS FOCUS and SRS TruSurround XT address these needs and provide manufacturers in this segment with a fully tunable solution. Our technologies are currently licensed by companies such as Fujitsu-Ten, Panasonic, and Clarion and used on automobiles manufactured by companies such as Toyota, Subaru, Nissan and Honda.

 

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Table of Contents

 

Portable Media

 

MP3 (audio) and MP4 (audio and video) players and other portable media players enable consumers to enjoy audio and video content while on the go. The audio contents are stored in a compressed industry standard MP3 audio standard. As such, when the content is decoded and played back through miniature earphones, the audio generally suffers a loss of quality. Our technologies, such as SRS WOW and SRS WOW HD, are capable of improving the audio quality during playback. Our TruMedia suite of technologies also enable rendering of surround sound through earphones or using external speakers when playing back surround sound encoded contents often used along with contemporary video contents. The small footprint of these devices limits speaker size and speaker spacing. Our solutions enable vendors of these devices to increase the quality of their audio output without significantly increasing hardware component costs.

 

Customer Concentration

 

For 2011, 2010 and 2009, Samsung and its affiliates accounted for approximately 40%, 38% and 39%, respectively, of our consolidated revenues.  Given the significant amount of revenues derived from Samsung, the loss of that customer, any significant reduction in licensing revenues from Samsung or the uncollectibility of related receivables could have a material adverse effect on our consolidated financial condition and consolidated results of operations.

 

Our Strategy

 

Our sales strategy is to identify high-growth markets, develop needed technology solutions and features, and work with software and semiconductor platform partners to make these technologies widely available and easy to implement by OEMs and ODMs. We plan to continue to strengthen our market position as the leader in audio and voice technologies by employing the strategy of providing a stream of patented audio and voice technologies, penetrating new licensing accounts, expanding relationships with existing licensees, creating a broad platform of software and semiconductor partners, and developing strong awareness of the SRS brand.

 

The focus of our licensing platform efforts is to achieve broad coverage for our technology solutions within all of our targeted product markets in order to expand sales and licensing opportunities. By developing strong relationships with leading software and semiconductor companies, we believe our audio technologies and solution suites can be delivered to customers worldwide across high growth and high volume product applications.

 

We work together with our platform partners (leading semiconductor manufacturers and middleware or firmware software providers) to provide our mutual customers with the technology that best fits their needs. We also together solicit other new customers to consider using the platform. Many times, a platform will become enabled with our technology due to customer requests.

 

As a technology licensing company, the strength of our brand is an important asset. Since brand recognition drives licensing sales, we have invested in strategies designed to increase consumer awareness of SRS Labs with the ultimate goal of establishing our brand with both product manufacturers and consumers around the world as a recognized symbol for high-quality audio. The six primary vehicles that we use to further the proliferation of our brand are: (a) placement of the SRS logo by OEMs on products and in co-marketing programs; (b) public relations and new media outreach programs; (c) online branding programs; (d) print and online advertising; (e) participation in and/or sponsorship of industry events such as tradeshows and (f) use, and recognition of use, of SRS technology by content aggregators and broadcast professionals.

 

OEM Marketing Programs.  In the majority of products that use SRS technologies, our logo is either prominently displayed on the product itself or, in the case of software products and mobile phones, featured in the graphical user interface. We believe this logo exposure is a key tool in reaching consumers worldwide. In addition, we work with our OEM customers as they prepare for launching new products that feature SRS technologies by supplying complete SRS corporate and technology tool kits with a wide array of material, including SRS logos, illustrations, technology explanations and suggested demonstration material.

 

Public Relations (“PR”) and New Media Outreach Programs. We believe in the endorsement power of opinion leaders and expert groups in the CE and IT industries. As such, we have an active and expanding PR program, both online and in print, to promote SRS technologies and solutions found in our own products or products of OEMs that feature SRS technologies and solutions. Similarly, we have found the viral nature of the new media very effective in promoting our brand and innovations and therefore, have recently focused on multiple programs to systematically reach and work with bloggers and relevant social networks.

 

7



Table of Contents

 

Online Branding Programs.  Online exposure has also been an important part of our branding strategy. One benefit of our relationship with Microsoft is that the SRS logo displayed in the audio control panel of Microsoft’s Windows Media Player links to an SRS technology page. As a result, we have received significant traffic and opportunities to create brand awareness with consumers and educate consumers on the benefits of our technology. Our online efforts also include the direct sale of the iWOW family of products including plug-in software for both the PC and Mac platforms, as well as a unique adapter for the Apple iDevices. Revenue from the sale of these products has not been significant historically, but we believe these products give us a valuable demonstration platform to showcase our audio technologies.

 

Print and Online Advertising. We regularly advertise in print and online publications to take our branding and product messages directly to both consumers as well as industry groups. As such, we advertise in print and online in consumer, trade and engineering publications including Home Theater Magazine, Sound & Vision, TWICE, EE Times and other similar periodicals.

 

Participation in and/or Sponsorship of Industry Events. We participate in several trade and industry events each year to promote our brand and our technology solutions. We also sponsor events related to our strategic segments by providing both financial resources to the event organizers and offering our insight into the forces that drive the CE industry through speaking engagements and participation in discussion panels. In 2011, some of the popular events that we participated in or sponsored included the Consumer Electronics Show (CES), the Mobile World Congress, DisplaySearch and CTIA, as well as CEATEC in Japan.

 

Use of SRS Technology by Content Aggregators and Broadcast Professionals.  We develop, license and sell professional hardware and software products to enable content companies, broadcasters and music publishers to encode their material using our Circle Surround technology. When Circle Surround is professionally used, the SRS and Circle Surround logos are often displayed within the content itself or, on the packaging material and, in the case of radio, an announcement is made that the broadcast is being delivered in SRS Circle Surround. We have concentrated on three key sectors in the professional audio market: television, radio and music; and we have developed a line of hardware and software products to address these sectors. These products are sold directly to professional customers and are also available from selected dealers and distributors servicing the professional audio and broadcast markets. We did not generate significant revenue from the sale of professional hardware equipment in 2011; however, we believe that such sales facilitate the licensing of our technology to OEMs that benefit from enhanced audio transmissions. For streaming media and digital downloads, we rely on SRS 5.1 Surround Sound.  Surround Sound allows content creators and content aggregators to create (encode) content in 5.1 surround and allow that content to seamlessly transmit to users via streaming over the Internet for playback in 5.1 surround through media players.

 

Sales and Marketing

 

We have two primary types of revenue agreements with our licensees—direct and non-direct. Under a non-direct agreement, royalty revenue may be collected by our platform partners, who include and enable our technology within their solutions, at the time the chip is sold to an OEM or ODM. The platform partner remits the royalty to us on behalf of the licensee. Most often, however, we license our technologies to OEMs and ODMs under direct agreements with them and collect revenue directly from them. These licensing arrangements with OEMs or ODMs authorize them to design, build and sell products containing our technology. Under this licensing approach, the licensees are free to choose a semiconductor solution from the platform partner that best suits their technical and cost requirements. We receive royalties directly from the licensed OEM or ODM for the use of our technologies in licensed products manufactured and/or shipped by the OEM or ODM. Many major OEMs have licenses or purchase products manufactured by a licensed ODM for the use of one or more of our technologies and for the use and display of our trademarks.

 

Our process for selecting particular platform partners for distributing our technologies is based on several criteria including: (a) segment leadership—we target platform partners that hold preeminent positions in market segments characterized by high growth, volume and/or margins; (b) volume—we seek platforms that will maximize exposure of our technologies to a large number of potential OEMs; (c) synergy—we seek platforms which serve to position our technologies with compatible and additive technologies for integrated delivery; and (d) convergence potential—we target arrangements that will enable us to establish a presence on platforms that intersect several functional features.

 

To implement our licensing sales strategy within our identified markets, we have established a direct sales force and an international network of independent sales agents. In the United States and Japan, we employ a direct sales force to market our portfolio of audio and voice technologies to the OEM community. Internationally, we maintain offices in Japan, Taiwan and China and use a network of independent sales agents to support our multi-national OEM customers.  We actively promote the use of our trademarks and logos and require customers to prominently display the appropriate SRS technology or solution logos on products and packaging and in advertising. We plan to continue to work closely with our licensees to enhance their success in selling finished products and semiconductor products that incorporate our technologies through a variety of licensee support programs. These programs include engineering support, sales training, tradeshow support, publicity and media relations programs, customized marketing materials, advertising, and support at speaking engagements and industry conferences, as well as, conducting in-person technology demonstrations or presentations for the press and other companies to promote our technologies and products.

 

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We also regularly participate in tradeshows and conferences to increase awareness of who we are and what we do and to market our technologies and products. We work closely with our licensees and platform partners to actively explore additional opportunities to place our technologies in new products and/or markets.

 

Research and Development

 

We license our products in markets that are characterized by rapidly changing technology and continuous improvements in products and services. Our research and development expenditures in 2011, 2010 and 2009 were $8,849,119, $8,060,246 and $5,721,195, respectively. These expenses generally consist of salaries and related costs of employees and consultants engaged in ongoing research, design and development activities and costs for engineering materials and supplies.

 

As of December 31, 2011, we had 35 employees in our research and development group, representing 41% of our total employees. In addition to our direct hire employees, as of December 31, 2011, we had consulting agreements that provide us 18 full time consultants in research and development. Our software, hardware and application engineers generally focus on developing intellectual property, technology solutions and consumer products.  Engineers are based in our offices both in the U.S. and internationally to support our licensing business.

 

Competition

 

Competition in the audio, voice and surround sound technology licensing business includes other licensing companies who offer competing technologies as well as the internal engineering departments of our current or prospective licensees and platform providers, who may develop audio technologies for use in their own products.

 

In the field of audio improvement, we compete directly with other audio providers, including Dolby and DTS. Additionally, some of our OEM customers maintain or are developing their own audio improvement technologies. Because our audio technologies work with any existing recorded material, whether mono, stereo or surround sound, most of our audio technologies can be used either as an alternative or as a complement to most competing audio technologies.

 

Many of our competitors have, or may have, substantially greater resources than us to devote to advancing their existing technologies and developing and marketing new products and technologies. We believe that we compete based primarily on the quality, efficiency, and performance of our proprietary technologies, brand name awareness, the ease, customization capabilities, and cost of implementing our technologies, the ability to meet OEMs’ needs to differentiate their products, and the strength of our licensee relationships. We believe we compete favorably based on these factors; however, we cannot guarantee that we will continue to be competitive with the existing or future products or technologies of our competitors.

 

Intellectual Property Rights and Proprietary Information

 

We operate in industries where innovation, investment in new ideas and protection of intellectual property rights are important for success. We rely on a variety of intellectual property protections for our products and services, including patent, copyright, trademark and trade secret laws and contractual obligations. We pursue a policy of enforcing such rights. We cannot guarantee, however, that our intellectual property rights will adequately protect our competitive position or that competitors will not be able to produce non-infringing competitive products or services. We cannot guarantee that third parties will not assert infringement claims against us, or that if required to obtain any third party licenses as a result of an infringement dispute, we will be able to obtain such licenses.

 

In order to protect the underlying technology concepts, we have filed and/or obtained patents for our key technologies including technologies marketed under the following trademarks: TruSurround XT, TruSurround HD, TheaterSound, StudioSound, Circle Surround, WOW, Premium Sound, Premium Voice, TruVoice, TruMedia, and TruVolume. In addition, we hold numerous issued patents and patents pending for speaker and other acoustic reproduction technologies. We pursue a general practice of filing patent applications for our technologies in the United States and various foreign countries where our licensees manufacture, distribute or sell licensed products. We continue to update and add new applications to our patent portfolio to address changing worldwide market conditions and our new technological innovations. The range of expiration dates for our patents extend between 2014 to 2021. We have multiple patents covering unique aspects and improvements for many of our technologies. Accordingly, the expiration of any single patent should not significantly affect our intellectual property position or the ability to generate licensing revenue.

 

We also routinely file U.S. federal and foreign trademark applications for the various word names and logos used to market our technology solutions to licensees and the general public. The duration of the U.S. and foreign registered trademarks can typically be maintained indefinitely, provided that proper maintenance fees are paid and the trademarks are continually used or licensed by us.

 

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Seasonality

 

Due to the dependence on the consumer electronics market, we generally experience seasonal fluctuation in sales and earnings. In particular, we believe that our business experiences seasonality relating to the holiday season, resulting in higher revenues in the fourth and first quarters.

 

Employees

 

As of December 31, 2011, we employed 85 persons, including 12 in finance and administration, 35 in research and development, engineering and product development, and 38 in sales and marketing. None of our employees are covered by a collective bargaining agreement or are presently represented by a labor union. We have not experienced a work stoppage and believe we have good relations with our employees.  In addition to our direct hire employees, as of December 31, 2011, we had consulting agreements that provide to us 18 full time consultants in research and development and 16 consultants in sales and marketing, all of whom are located outside of the United States.

 

Available Information

 

Our Internet address is www.srslabs.com. Our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and any amendments to those reports, are available free of charge on our website as soon as reasonably practicable after we electronically file such material with or furnish it to the Securities and Exchange Commission (“SEC”). Our SEC reports can be accessed through the investor relations section of our website. Additionally, the Company’s Code of Ethics and Committee Charters are available on our website.  The information found on, or accessible through, our website is not incorporated by reference into and is not part of this or any other report we file with or furnish to the SEC.

 

Item 1A.  Risk Factors

 

You should carefully consider the risk factors described below, as well as the other information included in this Annual Report on Form 10-K, prior to making a decision to invest in our securities. The risks and uncertainties described below are not the only ones facing our company. Additional risks and uncertainties not presently known or that we currently believe to be less significant may also adversely affect us.

 

We are exposed to risks in our licensing business related to product and customer concentration.

 

Currently, we generate a majority of our revenue in the home entertainment market, principally through the inclusion of SRS technology inside flat panel LCD and plasma televisions. We expect that the consumer home entertainment market will continue to account for a significant portion of our licensing revenues for the foreseeable future. Consumer spending on home entertainment products is subject to significant fluctuations, and there is significant price competition for such products. Retail prices for certain consumer electronics products that include our audio technology have decreased significantly, and we expect that this trend will continue for the foreseeable future. In addition, from time to time, certain of our OEM and semiconductor manufacturer customers may account for a significant portion of our revenues. For example, for the year ended December 31, 2011, Samsung accounted for approximately 40% of our consolidated revenues. OEM and semiconductor manufacturers could develop their own technologies or decide to exclude our audio rendering technology from their products altogether in an effort to reduce cost, our revenues and profitability could be adversely impacted.  The loss of or a material reduction in revenue generated from any key customer in the future could have a material adverse effect on our financial condition and results of operations.

 

General economic conditions may reduce our revenues and harm our business.

 

Our business is exposed to adverse changes in general economic conditions because products that incorporate our technologies are entertainment-oriented and generally discretionary goods. The current slowdown or decline in U.S. and foreign economic growth has adversely affected consumer confidence, disposable income and spending. As a result, sales by our licensees of consumer electronics and other products incorporating our technologies may not grow as rapidly as in prior periods or may even decrease, which could adversely affect our licensing revenue.

 

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Our business is highly dependent on the consumer electronics market, which is characterized by short product life cycles, rapid technological changes, fluctuations in demand, seasonality and declining retail prices and is subject to risks related to product transitions.

 

The consumer electronics market is characterized by intense competition, rapidly evolving technology, and ever-changing consumer preferences. These factors result in the frequent introduction of new products, short product life cycles and significant price competition. As a result, we may need to develop new products or technologies or modify our existing technologies to integrate with the new products and technologies developed by our customers. If we are unable to develop the necessary technologies to meet the changing needs of our customers on a timely basis, if at all, or to provide such technologies at competitive prices, our customers may reduce their use of our technologies and our revenues may decline. In addition, the dynamic nature of this market limits our ability and the ability of our customers to accurately forecast quarterly and annual sales. If we, or our customers, are unable to adequately manage product transitions, our business and results of operations could be negatively affected.

 

We depend on the sale by our licensees of products that incorporate our technologies, and a reduction in those sales would adversely affect our licensing revenue.

 

We derive most of our revenue from the licensing of our technologies to consumer electronics product manufacturers. We do not manufacture consumer electronics products ourselves and our licensing revenue is dependent on sales by our licensees of products that incorporate our technologies. We cannot control these manufacturers’ product development or commercialization efforts or predict their success. In addition, our license agreements, which typically require manufacturers of consumer electronics products and media software vendors to pay us a specified royalty for every electronics product shipped that incorporates our technologies, do not require these manufacturers to include our technologies in any specific number or percentage of units, and only a few of these agreements guarantee us a minimum aggregate licensing fee. Accordingly, if our licensees sell fewer products incorporating our technologies, decline to actively market products incorporating our technologies, encounter quality issues with their products or otherwise face significant economic difficulties, our revenues will decline. Changes in consumer tastes or trends, changes in industry standards or adverse changes in business and economic conditions may also adversely affect our licensing revenue.

 

Pricing pressures on the consumer electronics product manufacturers, who incorporate our technologies into their products, could limit the licensing fees we charge for our technologies, which could reduce our revenues.

 

The markets for the consumer electronics products in which our technologies are incorporated are intensely competitive and price sensitive. Retail prices for consumer electronics products that include our technologies have decreased significantly, and we expect prices to continue to decrease for the foreseeable future. In response, manufacturers have sought to reduce their product costs, which can result in downward pressure on the licensing fees we charge our customers who incorporate our technologies into their products. Alternatively, our customers may seek to eliminate our technologies in their products in favor of internally developed technologies. A decline in the licensing fees we charge could materially and adversely affect our operating results.

 

We face intense competition from companies with greater brand recognition and resources.

 

The digital audio, consumer electronics and entertainment markets are intensely competitive, subject to rapid change, and significantly affected by new product introductions and other market activities of industry participants.

 

Some of our current and potential competitors enjoy notable competitive advantages, including:

 

·                       greater name recognition;

 

·                       a longer operating history;

 

·                       more developed distribution channels and deeper relationships with consumer electronics products designers and manufacturers;

 

·                       a more extensive customer base;

 

·                       broader product and service offerings;

 

·                       greater resources for competitive activities, such as research and development, strategic acquisitions, alliances, joint ventures, sales and marketing, and lobbying on industry and government standards; and

 

·                       more technicians and engineers.

 

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As a result, these current and potential competitors may be able to respond more quickly and effectively than we can to new or changing opportunities, technologies, standards, or customer requirements.  In addition, decoding and encoding technologies of certain of our competitors have become industry standards in certain consumer electronic products that may offer such competitors an advantage.

 

We may also experience competition from certain of our customers who decide to develop their own audio technologies instead of licensing our technologies for certain or all of their products.  Increased competition could result in pricing pressures, decreased gross margins and loss of market share and may materially and adversely affect our business, financial condition and results of operations.

 

Inaccurate licensee royalty reporting and unauthorized use of our intellectual property could materially adversely affect our operating results.

 

Our licensing revenue is generated primarily from consumer electronics product manufacturers who license our technologies and incorporate them in their products. Under a significant percentage of our existing arrangements, these licensees typically pay us a specified royalty for every product they ship that incorporates our technologies. We rely on our licensees to accurately report the number of units shipped that incorporate our technologies. We calculate our license fees, prepare our financial reports, projections and budgets, and direct our sales and product development efforts based on these reports we receive from our licensees. However, it can be difficult for us to independently determine whether or not our licensees are reporting shipments accurately. This is especially true with respect to software incorporating our technologies because software can be copied relatively easily and we often do not have easy ways to determine how many copies have been made. Most of our license agreements permit us to audit our licensees’ records, but audits are generally expensive and time consuming and initiating audits could harm our customer relationships. We expect that we will continue to be subject to understatement and non-reporting of royalty bearing revenues by licensees, which could adversely affect our operating results. Conversely, to the extent that our licensees overstate the number of products incorporating our technologies, negative corrections could result in reductions of royalty revenue in subsequent periods. Some of our licensees may begin to more closely scrutinize their past licensing statements which may result in an increased receipt of negative corrective statements.

 

We also may experience problems with non-licensee consumer electronics product manufacturers and media software vendors, particularly in emerging economies, incorporating our technologies or incorporating our technologies and trademarks into their products without our authorization and without paying us any licensing fees. This unauthorized use of our intellectual property could adversely affect our operating results.

 

Our business and future prospects depend upon the strength of our brand. Awareness of our brand depends to a significant extent upon decisions by our customers to display our trademarks on their products, and if our customers do not display our trademarks on their products, our ability to increase our brand awareness may be harmed.

 

Maintaining the SRS brand and our position as an industry standard is critical to maintaining and expanding our licensing revenues and entering into new or broadening existing licensing relationships.  Because we engage in relatively little direct brand advertising, the promotion of our brand depends upon consumer electronics industry participants displaying our trademarks on their products that incorporate our technologies.  Although we do generally require our customers to place our brand on their products, some are not required to do so.  If our customers choose for any reason not to display our trademarks on their products, our ability to maintain or increase our brand awareness may be harmed, which would have an adverse effect on our business and prospects. In addition, if we fail to maintain high quality standards for our products, or the products that incorporate our technologies through the quality control evaluation process that we require of our licensees, the strength of our brand could be adversely affected.

 

Licensee products that incorporate our technologies, from time to time, experience quality problems that could damage our brand, decrease revenues and increase operating expenses.

 

Licensee products that incorporate our technologies often are complex and sometimes contain undetected software or hardware errors, particularly when first introduced or when new versions are released. In addition, those products are often combined with, or incorporated into, products from other companies, sometimes making it difficult to identify the source of a problem. Any negative publicity or negative impact relating to these product problems (even if unrelated to our technologies) could adversely affect the perception of our brand. In addition, these errors could result in loss of, or delay in, market acceptance of those products or our technologies, or cause delays in delivering them and meeting customer demands, any of which could reduce our revenue and raise significant customer relations issues. Although we generally attempt to contractually limit our liability for our licensees’ defective products, we may elect to help reengineer those products, which could increase our expenses and adversely affect our operating results.

 

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Current and future industry standards may limit our business opportunities.

 

Technology standards are important in the audio and video industry as they help to assure compatibility across a system or series of products. Generally, standards adoption occurs on either a mandatory basis, requiring a particular technology to be available in a particular product or medium, or an optional basis, meaning that a particular technology may be, but is not required to be, utilized. Certain of our competitors have been selected as mandatory industry standards, which may provide them with a competitive advantage over our technologies, making it easier to expand or gain market share.  As new technologies emerge, new standards relating to these technologies may develop. We may not be successful in our efforts to include our technologies in any such standards, which would cause our future revenue growth to be lower than expected and could have a material adverse affect on our business.

 

We are subject to risks associated with substantial international operations.

 

We conduct sales and customer support operations in a number of countries throughout the world that require refinement to adapt to the changing market conditions on a regional basis. In addition, many of our significant customers are headquartered in the Asia region, particularly Korea and Japan. Approximately 69%, 74% and 72% of our revenues were derived from customers with headquarters located in the Asia markets during the years ended December 31, 2011, 2010 and 2009, respectively. We expect to continue to derive a significant portion of our revenues from sales to customers in these markets for the foreseeable future. Also, a substantial number of products incorporating our technologies are manufactured, assembled and tested by third parties in Asia. As a result, we are subject to a number of risks of conducting business outside of the United States, any of which could have a material adverse impact on our business and results of operations, including:

 

·                  global economic downturn;

 

·                  political, social and economic instability and the risk of war, terrorist activities or other international incidents in Asia and elsewhere abroad;

 

·      currency fluctuations;

 

·                  difficulties and costs of staffing and managing foreign operations;

 

·                  unexpected changes in, or impositions of, government requirements;

 

·                  adverse changes in tariffs and other protectionist laws and business practices that favor local competitors;

 

·                  potentially longer payment cycles and greater difficulty in collecting receivables from foreign entities;

 

·                  the burdens of complying with a variety of non-U.S. laws and reduced protection of our intellectual property in some countries;

 

·                  potentially adverse tax consequences and the complexities of foreign value added tax systems; and

 

·                  other factors beyond our control, including major health concerns and natural disasters, including, but not limited to, the impact on our future revenues as a result of the recent earthquake, tsunami and related events in Japan.

 

The automotive industry and the consumer electronics industry in general may be negatively impacted by the devastating effects of the earthquake and subsequent tsunami in Japan.

 

The earthquake and subsequent tsunami in Japan in March 2011 have resulted in extensive and severe structural damage in Japan, including heavy damage to manufacturing facilities, roads and railways. As a result, Japanese automobile manufacturers and other manufacturers of consumer electronics products and components in Asia have been adversely impacted by these events. During the year ended December 31, 2011, our royalties generated from the automotive segment were negatively impacted by these events. We have not experienced a significant decline in other segments; however, we anticipate that many manufacturers of consumer electronics in Asia may have been adversely affected by these events; which, in turn, may adversely impact our revenues in future periods.

 

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Our technologies have a long and unpredictable sales cycle, which can result in uncertainty and delays in generating additional revenues.

 

Historically, because of the complexity of our technologies, it can take a significant amount of time and effort to explain the benefits of our technologies to potential new customers and to negotiate a sale. For example, it typically takes six to nine months after our first contact with a prospective customer before we start licensing our technology to that customer and another six to nine months to begin generating revenues. In addition, purchases of our products are usually made in connection with new design starts by our customers, the timing of which is outside of our control. Accordingly, we may be unable to predict accurately the timing of any significant future sales of our products. We may also spend substantial time and management attention on potential license agreements that are not consummated, or in which the consumer electronic product ultimately does not sell in large quantities, thereby foregoing other higher revenue opportunities.

 

If our patents and other intellectual property rights do not adequately protect our products, we may lose market share to our competitors and be unable to operate our business profitably.

 

Our ability to compete may be affected by our ability to protect our proprietary information. We have filed numerous U.S. and foreign patent applications and to date have a number of issued U.S. and foreign patents covering various aspects of our technologies. We cannot guarantee that the steps taken by us to protect our intellectual property will be adequate to prevent misappropriation of our technology or that our competitors will not independently develop technologies that are substantially equivalent or superior to our technology. In addition, the laws of certain foreign countries may not protect our intellectual property rights to the same extent as do the laws of the U.S. It is possible that third parties may assert claims or initiate litigation against us or our customers with respect to existing or future products. In addition, we may initiate claims or litigation against third parties for infringement of our proprietary rights or to determine the scope and validity of our proprietary rights. Litigation in the technology industry is common.  Claims and litigation brought against us or initiated by us could be costly and time consuming and could divert our management from our business. The outcome of any litigation is uncertain and could require us to pay significant damages or could prevent us from licensing some or all of our technologies, which could significantly harm our business and results of operations.

 

We may pursue the acquisition of technologies, products or businesses, which could adversely impact our business, financial condition and results of operations..

 

We plan to consider opportunities to acquire technologies, products or businesses that could enhance our technical capabilities, complement our current technologies, or expand the breadth of our markets. We have a limited history of acquiring and integrating businesses. Acquisitions and strategic investments involve numerous risks, including:

 

·                problems assimilating the purchased technologies, products or business operations;

 

·                significant future charges relating to in-process research and development and the amortization of intangible assets;

 

·                significant amount of goodwill that is not amortizable and is subject to annual impairment review;

 

·                problems maintaining uniform standards, procedures, controls, and policies;

 

·                unanticipated costs associated with the acquisition, including accounting and legal charges, capital expenditures, and transaction expenses;

 

·                diversion of management’s attention from our core business;

 

·                adverse effects on existing business relationships with customers;

 

·                risks associated with entering markets in which we have no or limited prior experience;

 

·                unanticipated or unknown liabilities relating to the acquired businesses;

 

·                the need to integrate accounting, management information, manufacturing, human resources and other administrative systems to permit effective management; and

 

·                the potential loss of key employees of acquired organizations.

 

We may not be able to identify or consummate any acquisitions.  Even if we are able to consummate an acquisition, the anticipated benefit of the acquisition may not materialize, and we may not properly integrate the operations of such acquisition.  In addition, our management team may be distracted from our day-to-day operations.  As a result, our business may be disrupted, and our operating results may suffer.

 

In addition, if we finance acquisitions by issuing equity or convertible debt securities, our existing stockholders would be diluted.  Foreign acquisitions involve unique risks in addition to those mentioned above, including those related to integration of operations across different geographies, cultures and languages, currency risks and risks associated with the particular economic, political and regulatory environment in specific countries.

 

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If we lose the services of our key personnel and/or key consultants, or if we are unable to attract and retain other key personnel, we may not be able to manage our operations or meet our growth objectives.

 

Our future success depends to a large extent upon the continued service of key personnel, including engineering, sales and administrative staff. We anticipate that any future growth will require us to recruit and hire a number of new personnel in engineering, operations, finance, sales and marketing. Competition for such personnel can be intense, and it is possible that we may not be able to recruit and retain necessary personnel to operate our business and support future growth.

 

The market price of our common stock is volatile and your investment in our common stock could suffer a decline in value.

 

The trading price of our common stock has been, and will likely continue to be, subject to wide fluctuations in response to quarterly variations in our operating results, announcements of new products or technological innovations by us or our competitors, strategic alliances between us and third parties, general market fluctuations and other events and factors. Changes in earnings estimates made by brokerage firms and industry analysts relating to the markets in which we do business, or relating to us specifically, have in the past resulted in, and could in the future result in, an immediate and adverse effect on the market price of the common stock. Even though our stock is quoted on The NASDAQ Global Market, our stock has had and may continue to have low trading volume and high volatility. The historically low trading volume of our stock makes it more likely that a severe fluctuation in volume, either up or down, will significantly impact the stock price. Because of the relatively low trading volume of our stock, our stockholders may have difficulty selling our common stock. In addition, the stock market in general, and The NASDAQ Global Market and the market for technology and small market cap companies in particular, has experienced extreme price and volume fluctuations that have often been unrelated or disproportionate to the operating performance of those companies. Further, the market prices of securities of technology companies have been particularly volatile. These broad market and industry factors may materially harm the market price of our common stock, regardless of our operating performance.

 

Our certificate of incorporation and bylaws as well as Delaware law contain provisions that could discourage transactions resulting in a change in control, which may negatively affect the market price of our common stock.

 

Our certificate of incorporation, our bylaws and Delaware law contain provisions that might enable our management to discourage, delay or prevent a change in control. In addition, these provisions could limit the price that investors would be willing to pay in the future for shares of our common stock.

 

Item 1B.  Unresolved Staff Comments.

 

None.

 

Item 2.  Properties

 

Our worldwide headquarters are located in Santa Ana, California, in a 23,400 square foot facility consisting of office and warehouse space. The lease for the facility expires in May 2013. We lease this facility from Daimler Commerce Partners, L.P., the general partner of which is Conifer Investments, Inc. (“Conifer”). The sole shareholders of Conifer are Thomas C.K. Yuen, our Chairman, Chief Executive Officer and President, and his spouse, Misako Yuen, as co-trustees of the Thomas Yuen Family Trust. Mr. and Mrs. Yuen also serve as the executive officers of Conifer. Mr. and Mrs. Yuen, as co-trustees of the trust, beneficially own a significant amount of our outstanding shares of common stock. We paid the Daimler Commerce Partners, L.P. rent of $245,232, $238,680 and $238,680 in 2011, 2010 and 2009, respectively. In February 2011, we entered into a new lease with Daimler Commerce Partners, L.P. to expand our corporate headquarters.  The lease is for a term of five years and covers an additional 11,700 square foot facility, consisting of office space adjacent to our existing facilities. We believe the terms and conditions of these leases are competitive based on a review of similar properties in the area with similar terms and conditions.

 

In 2011, we also expanded our European presence and entered into a new office lease in Budapest, Hungary. The lease is for a term of 12 months and expires in September 2012. Additionally, we lease space in Tokyo, Japan, Taipei, Taiwan, Shanghai, China and Shenzhen, China. In total, we paid rent of $505,850, $442,080 and $426,651 during 2011, 2010 and 2009, respectively, for all of our facilities.

 

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Item 3.  Legal Proceedings

 

From time to time, the Company is subject to legal proceedings and claims that arise in the normal course of business. While the outcome of these proceedings and claims cannot be predicted, we currently are not a party to any legal proceedings, the adverse outcome of which, in management’s opinion, individually or in the aggregate, is expected to have a material adverse effect on the Company’s consolidated financial position or results of operations.

 

Item 4.  Mine Safety Disclosures

 

Not applicable.

 

PART II

 

Item 5.  Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

 

Market for Common Stock

 

Our common stock trades on The NASDAQ Global Market under the symbol “SRSL”. The table below reflects the high and low sales prices of our common stock as reported by The NASDAQ Global Market for the periods indicated.

 

 

 

High

 

Low

 

Fiscal Year 2011

 

 

 

 

 

First Quarter

 

$

11.07

 

$

8.42

 

Second Quarter

 

9.76

 

7.56

 

Third Quarter

 

10.14

 

6.75

 

Fourth Quarter

 

7.45

 

5.43

 

 

 

 

 

 

 

Fiscal Year 2010

 

 

 

 

 

First Quarter

 

$

9.95

 

$

6.75

 

Second Quarter

 

10.05

 

8.50

 

Third Quarter

 

10.43

 

8.51

 

Fourth Quarter

 

9.79

 

8.12

 

 

At February 28, 2012, the closing sale price of our common stock was $6.85 per share.

 

Holders

 

At February 28, 2012, there were 363 stockholders of record.

 

Dividend Policy

 

We have never paid cash dividends on our common stock. We currently intend to retain our available funds for future growth and, therefore, we do not anticipate paying any dividends in the foreseeable future.

 

Issuer Purchases of Equity Securities

 

On February 18, 2011, the Company’s Board of Directors approved a stock repurchase program.  Under the stock repurchase program, the Company may acquire up to one million shares of the Company’s outstanding common stock on or before December 31, 2011.  Under the program, the Company may repurchase shares from time to time in open-market, in privately negotiated transactions, in block trades and possibly pursuant to a 10b5-1 program.  All repurchased shares are reflected as treasury stock in the accompanying consolidated balance sheets. The following table details our common stock repurchases for the three months ended December 31, 2011:

 

Issuer Purchases of Equity Securities

 

 

 

 

 

 

 

Total Number of

 

 

 

 

 

 

 

 

 

Shares Purchased

 

Maximum Number of

 

 

 

Total Number

 

 

 

as Part of Publicly

 

Shares that May Yet

 

 

 

of Shares

 

Average Price

 

Announced Plans

 

Be Purchased Under

 

Period

 

Purchased

 

Paid per Share

 

or Programs

 

the Plans or Programs

 

 

 

 

 

 

 

 

 

 

 

October 1-31, 2011

 

 

 

 

506,969

 

November 1-30, 2011

 

286,500

 

$

5.77

 

286,500

 

220,469

 

December 1-31, 2011

 

68,700

 

$

6.23

 

68,700

 

151,769

 

Total

 

355,200

 

$

5.86

 

355,200

 

151,769

(1)

 


(1)  This repurchase program expired on December 31, 2011 so no further shares may be repurchased thereunder.

 

Securities Authorized for Issuance Under Equity Compensation Plans

 

The following equity compensation plans have been approved by our stockholders: the SRS Labs, Inc. Amended and Restated 1996 Long-Term Incentive Plan (the “1996 Plan”), the SRS Labs, Inc. Amended and Restated 1996 Non-employee Directors’ Stock Option Plan (the “Non-employee Directors Plan”) and the SRS Labs, Inc. 2006 Stock Incentive Plan (the “2006 Plan”). A description of the material features of each of these plans is included in Note 6 to the Notes to Consolidated Financial Statements under the caption “Stock Award/Option Plans/Warrants.” On June 22, 2006, our stockholders voted to approve the 2006 Plan and to discontinue the issuance of any awards under the 1996 Plan. We do not have any equity compensation plans other than those approved by our stockholders. The following table sets forth information regarding the number of shares of our common stock that may be issued pursuant to our equity compensation plans or arrangements as of December 31, 2011.

 

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Table of Contents

 

Equity Compensation Plan Information

 

 

 

(a)

 

(b)

 

(c)

 

Plan category

 

Number of securities
to be issued upon
exercise of
outstanding options,
warrants and rights

 

Weighted-average
exercise price of
outstanding options,
warrants and rights

 

Number of securities remaining
available for future issuance
under equity compensation plans
(excluding securities
reflected in column(a))

 

Equity compensation plans approved by security holders

 

4,928,827

(1)

$

6.94

 

1,089,581

(2)

 


(1)                                  Represents shares of common stock that may be issued pursuant to outstanding options granted under the following plans as of December 31, 2011: 759,734 shares under the 1996 Plan, 172,500 shares under the Non-employee Directors Plan and 3,996,593 shares under the 2006 Plan.

 

(2)                                  Represents shares of common stock that as of December 31, 2011 may be issued pursuant to future grants under the following plans: 250,000 shares under the Non-employee Directors Plan and 839,581 shares under the 2006 Plan.

 

Stock Price Performance Graph

 

The following graph illustrates a comparison of the total return of our common stock with the total return for the S & P Smallcap 600 Index and a peer group selected by us for the five year period ended December 31, 2011. The peer group was limited to publicly traded companies in the audio enhancements and technology business and consisted of the following companies: Dolby, DTS and QSound.  The comparison assumes $100 was invested on December 31, 2006 in our common stock and in each of the indices shown and assumes that all of the dividends were reinvested.

 

The comparisons in the table are required by the SEC and are not intended to forecast or be indicative of possible future performance of our common stock. This graph shall not be deemed “filed” for purposes of Section 18 of the Securities Exchange Act of 1934, as amended (“Exchange Act”), or otherwise subject to the liabilities under the Securities Act of 1933, as amended, or the Exchange Act.

 

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Table of Contents

 

 

Item 6.  Selected Financial Data

 

The following selected financial information as of and for the dates and periods indicated have been derived from our audited consolidated financial statements. The information set forth below is not necessarily indicative of results of future operations, and should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Part II, Item 7 of this Annual Report on Form 10-K and our consolidated financial statements and related notes included elsewhere in this Report.

 

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Table of Contents

 

 

 

Years Ended December 31,

 

 

 

2011

 

2010

 

2009

 

2008

 

2007

 

 

 

(In thousands except per share data)

 

Consolidated Statement of Operations Data:

 

 

 

 

 

 

 

 

 

 

 

Revenues

 

$

32,870

 

$

31,220

 

$

24,965

 

$

18,333

 

$

18,852

 

Cost of sales

 

777

 

350

 

286

 

144

 

164

 

Gross profit

 

32,093

 

30,870

 

24,679

 

18,189

 

18,688

 

Operating expenses:

 

 

 

 

 

 

 

 

 

 

 

Sales and marketing

 

14,930

 

13,471

 

11,415

 

9,220

 

6,718

 

Research and development

 

8,849

 

8,060

 

5,721

 

3,943

 

3,107

 

General and administrative

 

7,395

 

6,526

 

5,657

 

5,913

 

5,444

 

Total operating expenses

 

31,174

 

28,057

 

22,793

 

19,076

 

15,269

 

Operating income (loss)

 

919

 

2,813

 

1,886

 

(887

)

3,419

 

Other income

 

210

 

245

 

348

 

1,275

 

2,041

 

Income before income taxes

 

1,129

 

3,058

 

2,234

 

388

 

5,460

 

Income taxes

 

11

 

52

 

98

 

117

 

46

 

Net income

 

$

1,118

 

$

3,006

 

$

2,136

 

$

271

 

$

5,414

 

Net income per common share:

 

 

 

 

 

 

 

 

 

 

 

Basic

 

$

0.08

 

$

0.20

 

$

0.15

 

$

0.02

 

$

0.34

 

Diluted

 

$

0.07

 

$

0.19

 

$

0.14

 

$

0.02

 

$

0.32

 

Weighted average number of common shares used in the calculation of per share amounts:

 

 

 

 

 

 

 

 

 

 

 

Basic

 

14,749

 

14,671

 

14,460

 

15,589

 

16,154

 

Diluted

 

15,472

 

15,602

 

14,813

 

15,842

 

16,990

 

 

 

 

 

 

 

 

 

 

 

 

 

Consolidated Balance Sheet Data:

 

 

 

 

 

 

 

 

 

 

 

Working capital

 

$

33,927

 

$

29,439

 

$

38,923

 

$

37,519

 

$

39,272

 

Total assets

 

57,097

 

57,346

 

51,749

 

46,882

 

51,383

 

Stockholders’ equity

 

54,101

 

54,794

 

48,394

 

43,769

 

49,007

 

 

Item 7.  Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

Overview

 

We are the recognized global leader in the practical application of psychoacoustics, the science behind how the human ear operates, and in the post processing segment of the market for audio delivery.  Our award-winning audio enhancement technologies and solutions dramatically restore audio and voice to its natural state, the way it was originally recorded, in both dimension and clarity, thus providing a superior consumer experience for a wide variety of CE devices such as televisions, personal computers and mobile phones.

 

Our mission is to be the dominant worldwide provider of audio and voice solutions that allow consumers to effortlessly experience rich, natural sound, the way their ears were meant to hear it.  In 2010 and 2011, licensing revenue from the home entertainment market represented 64% and 56%, respectively, of our total revenues in such periods.  In the home entertainment market, our technologies have achieved broad market acceptance in the television sector.  We plan to continue to leverage our success in the television sector to expand our audio technologies into a variety of other consumer electronic devices, including PCs, mobile phones, portable media devices and automotive audio systems, but our technologies to date have only been incorporated in products representing only a small portion of the total consumer electronics market opportunity.  The consumer electronics market in general is characterized by rapid technological changes, short product life cycles, seasonality, significant price erosion and competition, any of which may impede our ability to gain broad market acceptance for our technologies in other consumer electronic markets.  Nonetheless, we plan to continue to seek other opportunities where we can continue to leverage our core technologies and expertise.  If we are able to successfully gain broad market share for our technologies in any other market, it could significantly improve our revenues and brand name recognition.

 

Our operations are conducted through SRS Labs, Inc., the parent company, and its wholly-owned subsidiaries, SRSWOWcast.com, Inc., Shenzhen Representative Office of SRS Labs, Inc. (a Chinese company) Shanghai Representative Office of SRS Labs, Inc (a Chinese company) and SRS Labs Japan, KK (a Japanese company).  Our business is focused on developing and licensing audio, voice and surround sound technology solutions to many of the world’s leading OEMs, software providers and semiconductor companies, and limited sales and marketing of standalone software and hardware products through the Internet.

 

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Table of Contents

 

Our operations are conducted through SRS Labs, Inc., the parent company, and its wholly-owned subsidiaries, SRSWOWcast.com, Inc., Shenzhen Representative Office of SRS Labs, Inc. (a Chinese company) Shanghai Representative Office of SRS Labs, Inc (a Chinese company) and SRS Labs Japan, KK (a Japanese company). Our business is focused on developing and licensing audio, voice and surround sound technology solutions to many of the world’s leading OEMs, software providers and semiconductor companies, and limited sales and marketing of standalone software and hardware products through the Internet.

 

Critical Accounting Policies

 

Our discussion and analysis of our results of operations and liquidity and capital resources are based on our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”).

 

The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and disclosure of contingent assets and liabilities. We base our estimates on historical and anticipated results and trends and on various other assumptions that we believe are reasonable under the circumstances, including assumptions as to future events. These estimates form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. By their nature, estimates are subject to an inherent degree of uncertainty. Actual results may differ from our estimates.

 

The following represents a summary of our critical accounting policies, defined as those policies that we believe:  (a) are the most important to the portrayal of our financial condition and results of operations, and (b) require management’s most difficult, subjective or complex judgments, often as a result of the need to make estimates about matters that are inherently uncertain. Our most critical accounting estimates include (i) revenue recognition; (ii) valuation of accounts receivable, which impacts operating expenses; (iii) valuation of intangibles and long lived assets, which primarily impacts operating expenses when we impair assets or accelerate their depreciation; (iv) recognition and measurement of current and deferred income tax assets and liabilities, which impacts our tax provision; and (v) share-based compensation, which impacts operating expenses. Set forth below is a discussion of each of these policies, as well as the estimates and judgments involved. We also have other policies that we consider key accounting policies; however, these policies do not meet the definition of critical accounting estimates, because they do not generally require us to make estimates or judgments that are difficult or subjective.

 

Revenue Recognition

 

Our license agreements typically have multi-year or automatic renewal terms, and either require: (a) per-unit royalty payments for all products implementing our technologies and/or solutions; (b) fixed annual or quarterly royalty payments; or (c) a minimum fixed annual or quarterly royalty payment, which allows the licensee to ship up to a pre-determined number of units during the specified time period, with additional per-unit royalty payments thereafter.  Royalties for per-unit arrangements are reported in the quarter following shipment of the consumer electronics device and are therefore recognized by us one quarter following shipment by the OEM.  Revenues associated with fixed royalty payments are recognized ratably over the term of the agreement.  We also sell some of our products and solutions via the Internet.  Revenues associated with those sales are recognized upon shipment and are not material.

 

Accounts Receivable

 

We perform ongoing credit evaluations of our customers and adjust credit limits based upon payment history, the customer’s current credit worthiness and various other factors, as determined by our review of their current credit information. We continuously monitor collections and payments from our customers and maintain allowances for doubtful accounts based upon specific customer circumstances, current economic trends, historical experience and the age of past due receivables. While such credit losses have historically been within our expectations and the provisions established, we cannot guarantee that we will continue to experience the same credit loss rates that we have in the past. Unanticipated changes in the liquidity or financial position of our customers may require additional provisions for doubtful accounts.

 

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Table of Contents

 

Intangible Assets and Impairment of Long-Lived Assets

 

Costs paid by the Company related to the establishment and purchase of patents, primarily legal costs, are capitalized and amortized, depending on the estimated life of the technology patented. These assets are being amortized over ten years. The Company evaluates the recoverability of long-lived assets with finite lives. We assess potential impairments to our long-lived assets when there

is evidence that events or changes in circumstances indicate that the carrying amount of an asset may not be recovered. An impairment loss is recognized when the carrying amount of the long-lived asset is not recoverable and exceeds its fair value. The carrying amount of a long-lived asset is not recoverable if it exceeds the sum of the undiscounted cash flows expected to result from the use and eventual disposition of the asset. Any required impairment loss is measured as the amount by which the carrying amount of a long-lived asset exceeds its fair value and is recorded as a reduction in the carrying value of the related asset and a charge to operating results. Based upon the most recent assessment as of December 31, 2011, we have determined there was no impairment in the value of long-lived assets.

 

Income Taxes

 

In preparing our consolidated financial statements, we estimate our income taxes in each of the countries in which we operate. The process used to make these estimates includes an assessment of the current tax expense, the results from tax examinations and the effects of temporary differences resulting from the different treatment of transactions for tax and financial accounting purposes. These differences result in deferred tax assets and liabilities, which are included in our consolidated balance sheets. The Company accounts for deferred income taxes utilizing an asset and liability method, whereby deferred tax assets and liabilities are recognized based on the tax effects of temporary differences between the financial statements and the tax bases of assets and liabilities, as measured by current enacted tax rates. Deferred tax assets are reduced by a valuation allowance if it is more likely than not that some portion or all of the deferred tax asset will not be realized. We evaluate the realizability of our deferred tax assets by assessing our valuation allowance and by adjusting the amount of such allowance, if necessary. At December 31, 2011, we had net deferred tax assets primarily resulting from temporary differences between the book and tax bases of assets and liabilities, and loss and credit carry forwards. We continue to provide a valuation allowance on our deferred tax assets based on an assessment of the likelihood of their realization. In reaching our conclusion, we evaluated certain relevant criteria including deferred tax liabilities that can be used to offset deferred tax assets, estimates of future taxable income of appropriate character within the carry-forward period available under the tax laws, and tax planning strategies. Our judgments regarding future taxable income may change due to market conditions, changes in U.S. or international tax laws, the Company’s business and results of operations, and other factors. These changes, if any, may require material adjustments to these deferred tax assets, resulting either in a tax benefit, if it is estimated that future taxable income is likely, or a reduction in the value of the deferred tax assets, if it is determined that their value is impaired, resulting in a reduction in net income or an increase in net loss in the period when such determinations are made.

 

Our income tax provision is based on calculations and assumptions that will be subject to examination by the taxing authorities in the jurisdictions in which we operate.  Tax law and rate changes are reflected in the income tax provision in the period in which such changes are enacted.

 

Share-Based Compensation

 

We account for share-based compensation awards using the fair-value method and records such expense in the consolidated financial statements over the requisite service period. In 2011, 2010 and 2009, we recorded share-based compensation expense of $2,495,630, $2,253,730 and $1,956,057, respectively.

 

To determine the expected term of our employee stock options granted in fiscal year 2011, we examined the historical term for our stock options and those of our peers. To determine the risk-free interest rate, we utilized an average interest rate based on U.S. Treasury instruments whose term was consistent with the expected term of our awards. To determine the expected stock price volatility, we examined the historical volatilities for our common stock and those of our peers. See Note 6 (“Stockholders’ Equity and Share-Based Compensation”) of our Notes to Consolidated Financial Statements for further discussion.

 

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Table of Contents

 

Results of Operations

 

The following table sets forth certain consolidated operating data as a percentage of revenues for the years ended December 31, 2011, 2010 and 2009:

 

Percentage of Total Revenue

 

 

 

Years Ended December 31,

 

 

 

2011

 

2010

 

2009

 

Revenues

 

100

%

100

%

100

%

Cost of sales

 

2

 

1

 

1

 

Gross margin

 

98

 

99

 

99

 

Operating expenses:

 

 

 

 

 

 

 

Sales and marketing

 

45

 

43

 

46

 

Research and development

 

27

 

26

 

23

 

General and administrative

 

23

 

21

 

22

 

Total operating expenses

 

95

 

90

 

91

 

Operating income

 

3

 

9

 

8

 

Other income

 

0

 

1

 

1

 

Income before income taxes

 

3

 

10

 

9

 

Income taxes

 

0

 

0

 

0

 

Net income

 

3

%

10

%

9

%

 

Year Ended December 31, 2011 Compared to Year Ended December 31, 2010

 

Revenues

 

Total revenues for the year ended December 31, 2011 were $ 32,870,159 compared to $31,220,389 in the year ended December 31, 2010, an increase of $1,649,770 or 5 %. This increase was primarily attributable to increases in royalties related to higher unit sales of mobile devices containing our technologies by our licensees. In the personal telecommunications market, revenues increased $3,310,850 from 2010 to 2011.  This increase was primarily due to increased royalties from higher volumes from new and existing customers, such as Samsung, HTC and Huawei. Revenues in the personal computer market increased $80,562 from 2010 to 2011.   This increase was primarily due to increased volume from our existing customers, including Hewlett Packard.  Revenues in the automotive market decreased by $192,966 in 2011 as compared to 2010 primarily due to lower revenues due to the March 2011 tsunami in Japan, which severely impacted the Japanese automotive market and supply chain.  The home entertainment segment includes royalties related to sales of flat panel televisions, monitors, and set top boxes. Excluding royalty recoveries and the prior year one time settlement of $900,000 related to a patent dispute, revenues from the home entertainment segment were flat on a year over year basis.  Approximately $390,000 of previously underreported royalties was recorded in 2011 compared to $987,000 in 2010 in the home entertainment market.  Overall, we have not experienced a material change in our per unit license rates in the current periods other than volume pricing discounts provided pursuant to existing contractual obligations.

 

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Table of Contents

 

The following table represents our mix of revenues by market source:

 

 

 

Years Ended December 31,

 

 

 

2011

 

2010

 

Home entertainment (TV, set-top boxes)

 

56

%

64

%

Personal telecommunications (mobile phones, tablets)

 

20

 

10

 

PC (software, hardware)

 

15

 

16

 

Automotive

 

6

 

7

 

Portable media devices (digital media players, headphones)

 

3

 

3

 

 

 

100

%

100

%

 

Sales and Marketing

 

Sales and marketing expenses consist primarily of employee salaries, sales consultants’ fees and related expenses, sales commissions, tradeshow costs and costs associated with branding activities. Sales and marketing expenses were $14,929,976 for 2011, as compared to $13,470,852 for 2010. Overall sales and marketing expenses were $1,459,124, or 11%, higher in 2011.  This increase was primarily attributable to higher payroll and related costs associated with increasing the size of our sales and marketing staff by approximately 13% in 2011.  The increase is also attributable in part to increased participation in global co-branding and advertising opportunities.  We recorded $939,139 in share-based compensation expense for sales and marketing personnel during 2011 as compared to $703,875 in 2010. As a percentage of total revenues, sales and marketing expenses increased from 43% for 2010 to 45% for 2011.

 

Research and Development

 

Research and development expenses consist of salaries and related costs of employees engaged in ongoing research, design and development activities and costs for engineering materials and supplies. Research and development expenses were $8,849,119 for 2011, as compared to $8,060,246 for 2010. The overall increase in research and development expenses of $788,873, or 10%, was primarily attributable to increasing the size of our research and development staff by approximately 15% in 2011 due to the expansion of our Shanghai engineering facility and increase in worldwide field application engineers. The increase is also attributable to the continued research and development of object-oriented multi-dimensional audio technologies beyond the existing channel-based alternatives.  We recorded $580,331 in share-based compensation expense for engineering personnel during 2011 as compared to $551,934 in 2010.  As a percentage of total revenues, research and development expenses increased from 26% for 2010 to 27% for 2010.

 

General and Administrative

 

General and administrative expenses consist primarily of employee-related expenses, legal costs associated with the administration of intellectual property, facilities costs, insurance, legal and accounting professional fees related to public company reporting and compliance, and depreciation and amortization. General and administrative expenses were $7,395,327 for 2011 as compared to $6,526,171 for 2010. The overall increase of $869,156 or 13%, was primarily attributable to an increase in legal and accounting professional fees and depreciation and amortization expenses as we continue to expand our operations.  We recorded $976,160 in share-based compensation expense during 2011 as compared to $997,920 in 2010.  As a percentage of total revenues, general and administrative expenses increased from 21% for 2010 to 23% for 2011.

 

Other Income

 

Other income, which primarily consists of interest income, was $209,921 for 2011, compared to $245,127 for 2010, a decrease of $35,206, or 14%.  We continue to monitor our cash assets to maximize our interest income while maintaining an acceptable level of risk.  During 2011 and 2010, the Company did not incur any losses related to our cash and investments.

 

Provision for Income Taxes

 

The income tax provision for 2011 was $10,725 compared to $52,153 for 2010. The current and prior year provision consists primarily of estimated taxes payable to the state of California and estimated taxes payable to Japan.

 

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Table of Contents

 

We had federal and state net operating loss carryforwards at December 31, 2011 of $2,016,278 and $5,598,942, respectively. The net operating loss carryforwards begin to expire in 2014 and will continue through 2027.  In addition, we had federal foreign tax credit carryforwards of approximately $13,294,856 at December 31, 2011, which begin to expire in 2014. As of December 31, 2011, we continued to have a valuation allowance of $5,337,296 against our deferred tax assets, which was established primarily due to our cumulative losses in recent years and was based on our assessment of our future ability to realize certain deferred tax assets.

 

Year Ended December 31, 2010 Compared to Year Ended December 31, 2009

 

Revenues

 

Total revenues for the year ended December 31, 2010 were $31,220,389 compared to $24,964,577 in the year ended December 31, 2009, an increase of $6,255,812 or 25%. This increase was primarily attributable to increases in royalties related to higher unit sales of televisions, personal computers, automotives, and mobile devices containing our technologies by our licensees. In the home entertainment segment, royalty revenues increased $3,096,266 from 2009 primarily from royalties related to sales of flat panel televisions and monitors.  The revenue growth was primarily due to volume increases from certain existing licensees such as Samsung, increased demand for flat panel televisions and, to a lesser extent, due to new license agreements with Top Victory and LG.  The increase in revenues in 2010 was offset by a decrease in set top box revenues in the current year.  Included in the home entertainment market revenue was a $900,000 patent dispute settlement payment received in 2010.  Additionally, we recognized approximately $987,000 of previously under reported royalties in 2010 compared to $1,200,000 of royalties recovered in 2009 from certain customers in the home entertainment market.  The increase in revenues in the personal computer market from 2009 to 2010 was $1,901,910.   This increase was primarily due to increased volume from our existing customers, including Dell and AsusTek and revenues generated from Elitegroup Computer Systems, a new licensee. Revenues in the automotive market increased by $974,153 in 2010 as compared to 2009 primarily due to higher revenues due to volume increases from our Japanese customers who provide line install, dealer option and aftermarket automotive audio systems to many of the significant Japanese automotive manufacturers.  In the personal telecommunications market, revenues increased $418,785 from 2009 to 2010.  This increase was primarily due to increased royalties from higher volumes from Samsung.  Revenues in the portable media devices market decreased by $160,301 in 2010 as compared to 2009 due to decreased volumes from MP3/MP4 players.

 

The following table represents our mix of revenues by market source:

 

 

 

Years Ended
December 31,

 

 

 

2010

 

2009

 

Home entertainment (TV, set-top box)

 

64

%

68

%

PC (software, hardware)

 

16

 

12

 

Personal telecommunications (mobile phone, PDA)

 

10

 

11

 

Automotive

 

7

 

5

 

Portable media devices (digital media player, headphone)

 

3

 

4

 

 

 

100

%

100

%

 

Sales and Marketing

 

Sales and marketing expenses were $13,470,852 for 2010, as compared to $11,415,115 for 2009. Overall sales and marketing expenses were $2,055,737, or 18%, higher in 2010.  This increase was primarily attributable to higher payroll and related costs associated with increasing the size of our sales and marketing staff by approximately 26% in 2010.  In addition to increasing the sales and marketing personnel, we have also increased our branding efforts by creating new marketing assets, through both direct and co-marketing activities, and increased our participation in trade show activities.  We recorded $703,875 in share-based compensation expense for sales and marketing personnel during 2010 as compared to $511,301 in 2009. As a percentage of total revenues, sales and marketing expenses decreased from 46% for 2009 to 43% for 2010.

 

Research and Development

 

Research and development expenses were $8,060,246 for 2010, as compared to $5,721,195 for 2009. The overall increase in research and development expenses of $2,339,051, or 41%, was primarily attributable to increasing the size of our research and development staff by approximately 24% in 2010 due to the expansion of our Shanghai engineering facility and increase in worldwide field application engineers and quality assurance personnel. The increase is also attributable to the creation in 2010 of the state-of-the-art Advanced Rendering Lab, which has been exclusively designed and constructed to accelerate research and development of object-oriented multi-dimensional audio technologies beyond the existing channel-based alternatives.  In addition, the Company founded the

 

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Table of Contents

 

3D Audio Alliance (“3DAA”), which is a new, industry alliance committed to the development of open, royalty-free standards for the transmission of 3D audio.  We recorded $551,934 in share-based compensation expense for engineering personnel during 2010 as compared to $457,464 in 2009.  As a percentage of total revenues, research and development expenses increased from 23% for 2009 to 26% for 2010.

 

General and Administrative

 

General and administrative expenses were $6,526,171 for 2010 as compared to $5,656,616 for 2009. The overall increase of $869,555 or 15%, was primarily attributable to an increase in professional fees, increase in royalty compliance review fees, increase in payroll fees due to the addition of a new hire, and depreciation and amortization expenses as we continue to expand our operations.  We recorded $997,920 in share-based compensation expense during 2010 as compared to $987,292 in 2009. As a percentage of total revenues, general and administrative expenses decreased from 22% for 2009 to 21% for 2010.

 

Other Income

 

Other income, which primarily consists of interest income, was $245,127 for 2010, compared to $347,528 for 2009, a decrease of $102,401, or 29%.  Our goal during 2010 was to focus on asset protection of our cash, and as such we invested our cash in low-risk, high liquidity investments such as fully insured certificates of deposits and assets backed by the United States Treasury.  We continue to monitor our cash assets to maximize our interest income while maintaining an acceptable level of risk.  During 2010 and 2009, the Company did not incur any losses related to our cash and investments.

 

Provision for Income Taxes

 

The income tax provision for 2010 was $52,153 compared to $98,006 for 2009, representing a decrease of $45,853, or 47%. The current and prior year provision consists primarily of estimated taxes payable to the state of California and estimated taxes payable to Japan and China.

 

We had federal and state net operating loss carryforwards at December 31, 2010 of $4,456,821 and $5,598,943, respectively. The net operating loss carryforwards begin to expire in 2014 and should continue through 2027. In addition, we had federal foreign tax credit carryforwards of approximately $10,270,431 at December 31, 2010, which begin to expire in 2014, and federal and state tax capital loss carryforwards of approximately $16,219,585, which begin to expire in 2011. As of December 31, 2010, we continued to have a valuation allowance of $12,605,203 against our deferred tax assets, which was established primarily due to our cumulative losses in recent years and was based on our assessment of our future ability to realize certain deferred tax assets.

 

Selected Quarterly Operating Results

 

The following table sets forth certain quarterly summary consolidated financial data for the eight quarters in the period ended December 31, 2011. The quarterly information is based upon financial statements prepared by us on a basis consistent with our audited consolidated financial statements and, in management’s opinion, includes all adjustments, consisting only of normal recurring adjustments necessary for a fair presentation of the information for the periods presented. This information should be read in conjunction with our audited consolidated financial statements and notes thereto appearing elsewhere in this Report. Our quarterly operating results have varied significantly in the past and are expected to vary significantly in the future. Due to rounding differences, the quarters in a given year may not add precisely to the annual numbers for that year.

 

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Table of Contents

 

 

 

Three Months Ended

 

 

 

Mar 31,
2011

 

June 30,
2011

 

Sep 30,
2011

 

Dec 31,
2011

 

Mar 31,
2010

 

June 30,
2010

 

Sep 30,
2010

 

Dec 31,
2010

 

 

 

(In thousands except per share amounts)

 

Revenues

 

$

8,181

 

$

7,602

 

$

8,422

 

$

8,665

 

$

8,385

 

$

7,161

 

$

8,609

 

$

7,065

 

Gross profit

 

8,034

 

7,410

 

8,311

 

8,338

 

8,321

 

7,061

 

8,545

 

6,944

 

Operating expenses

 

7,784

 

7,999

 

7,748

 

7,643

 

6,876

 

6,479

 

7,220

 

7,482

 

Net income (loss)

 

$

292

 

$

(538

)

$

623

 

$

741

 

$

1,466

 

$

630

 

$

1,340

 

$

(431

)

Net income (loss) per common share:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

$

0.02

 

$

(0.04

)

$

0.04

 

$

0.05

 

$

0.10

 

$

0.04

 

$

0.09

 

$

(0.03

)

Diluted

 

$

0.02

 

$

(0.04

)

$

0.04

 

$

0.05

 

$

0.10

 

$

0.04

 

$

0.09

 

$

(0.03

)

 

Liquidity and Capital Resources

 

At December 31, 2011, cash and cash equivalents, and short and long-term investments were $38,313,987 compared to $43,053,827 as of December 31, 2010, a decrease of $4,739,840. Our cash and cash equivalents were $5,850,224 as of December 31, 2011, a decrease of $4,847,603 from cash and cash equivalents of $10,697,827 held at December 31, 2010. The decrease in cash and cash equivalents in the current year was primarily a result of the purchase of short and long-term investments and repurchase of treasury stock of $5,905,422, partially offset by positive cash flow generated by operating activities.  Cash and cash equivalents generally consist of cash, certificates of deposits, and money market funds with original maturities of three months or less. The money market funds are primarily invested in U.S. government obligations.  The cash and certificates of deposit are FDIC insured. As of December 31, 2011, we held $27,837,000 in short-term investments and $4,626,763 in long-term investments.  Short-term investments generally consist of certificates of deposit and treasury bills.  Long-term investments primarily consist of certificates of deposit with maturities greater than 12 months.  In fiscal years 2011, 2010 and 2009, our operations were funded primarily from cash generated from operating activities.

 

Net cash provided by operating activities was $1,015,432 and $1,522,995 for 2011 and 2010, respectively. The $507,563 decrease in net cash provided by operating activities in 2011, compared to 2010, was primarily a result of an increase in prepaid expenses and other current assets balance largely due to an increase in prepaid services and an increase in inventory of iWOW 3D retail product, which was launched in 2011.  In addition, the increase in our accounts receivable balance year over year decreased from $1,012,733 for December 31, 2010 to $273,228 in December 31, 2011.

 

Net cash used in investing activities was $1,556,861 and $19,952,386 in 2011 and 2010, respectively. The $18,395,525 decrease in cash used in investing activities in 2011, compared to 2010, was primarily due to the decrease in purchases of short and long-term investments offset by an increase in capital expenditures primarily related to the expansion of our corporate headquarters.

 

Net cash used in financing activities were $4,306,174 in 2011 and net cash provided by financing activities were $1,139,054 in 2010.  The $5,445,228 increase in net cash used in financing activities in fiscal year 2011, compared to fiscal year 2010, was primarily a result of repurchases of treasury stock.

 

We believe our existing cash, cash equivalents, short and long-term investment balances together with cash generated from operating activities will be sufficient to meet our anticipated cash needs for at least the next twelve months. Our future capital requirements will depend on many factors, including our level of revenues, the timing and extent of spending to support product development efforts, the expansion of sales and marketing activities, the timing of introductions of new products, the continuing market acceptance of our products and the amount of stock we are able to repurchase in 2012.

 

Contractual Cash Obligations and Contingent Liabilities and Commitments

 

We have contractual obligations and commitments with regards to operating lease arrangements. The following table quantifies our expected contractual obligations and commitments subsequent to December 31, 2011:

 

 

 

Payments due by period

 

Contractual obligations

 

Total

 

Less than
1 year

 

1-3 years

 

More than
3 years

 

Operating lease obligations

 

$

1,288,434

 

$

570,930

 

$

692,232

 

$

25,272

 

 

26



Table of Contents

 

Item 7A.  Quantitative and Qualitative Disclosures About Market Risk

 

Our exposure to market risk includes changes in interest rates, which relates primarily to our invested balances of cash, cash equivalents and investments. Our investment policy specifies excess funds are to be invested in a manner that preserves capital, provides liquidity and generates the highest available after-tax return. To limit exposure to market risk, we place our cash in banks, cash equivalents in certificates of deposits with original maturities of three months or less and money market funds, which are primarily invested in U.S. government obligations.  Short-term investments consist of certificates of deposits and treasury bills with original maturities ranging from 6 to 12 months.  Long-term investments primarily consist of certificates of deposits and treasury bills with maturities greater than 12 months.  We do not invest in any derivative instruments. All cash, cash equivalents and investments are carried at fair value, which approximates cost.  We limit our exposure to foreign currency risk by generally requiring our licensees to pay us royalties in U.S. Dollars.  Substantially all of our royalties in 2011 were paid in U.S. Dollars.  Payments to vendors and employees are generally denominated in either U.S. Dollars or the local currency.  Total payments to vendors and employees in local currencies have historically been immaterial to our total operating expenses.

 

Item 8.  Financial Statements and Supplementary Data

 

The financial statement information, including the Report of Independent Registered Public Accounting Firm, required by this Item 8 is set forth on pages 33 to 48 of this Annual Report on Form 10-K and is hereby incorporated into this Item 8 by reference. The quarterly financial information required by this Item 8 is set forth in Item 7 of this Annual Report on Form 10-K and is hereby incorporated into this Item 8 by reference.

 

Item 9.  Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

 

None.

 

Item 9A.   Controls and Procedures

 

Evaluation of Disclosure Controls and Procedures

 

We maintain “disclosure controls and procedures,” as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, that are designed to ensure that information required to be disclosed by us in reports that we file or submit under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in SEC rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating our disclosure controls and procedures, management recognized that disclosure controls and procedures, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the disclosure controls and procedures are met. Additionally, in designing disclosure controls and procedures, our management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible disclosure controls and procedures. The design of any disclosure controls and procedures also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions.

 

Subject to the limitations noted above, our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the design and operation of our disclosure controls and procedures as of the end of the year covered by this Annual Report on Form 10-K. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that, as of such date, our disclosure controls and procedures were effective to meet the objective for which they were designed and operate at the reasonable assurance level.

 

Management’s Report on Internal Control over Financial Reporting

 

Our management is responsible for establishing and maintaining adequate internal control over financial reporting for the Company as defined in Rule 13a-15(f) or 15d-15(f) of the Exchange Act. Internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles, and includes those policies and procedures that: (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of our assets; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of our management and directors; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our assets that could have a material effect on our financial statements.

 

27



Table of Contents

 

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

 

Our management assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2011 using the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission in its report, Internal Control-Integrated Framework. Based on this assessment and those criteria, management concluded that our internal control over financial reporting was effective as of December 31, 2011.

 

Attestation Report of Independent Registered Public Accounting Firm

 

Our internal control over financial reporting has been audited by Squar, Milner, Peterson, Miranda & Williamson, LLP, an independent registered public accounting firm, as stated in their report, which is included herein on page 34.

 

Changes in Internal Controls

 

There have been no changes in our internal controls over financial reporting that occurred during our fourth quarter ended December 31, 2011 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting.

 

Item 9B.  Other Information

 

None.

 

PART III

 

Item 10.  Directors, Executive Officers and Corporate Governance

 

The information set forth under the captions “Election of Directors,” “Information About the Board of Directors and Committees of the Board,” “Executive Officers” and “Transactions with Management and Others—Section 16(a) Beneficial Ownership Reporting Compliance” in our definitive proxy statement for the Company’s Annual Meeting of Stockholders to be held in 2012 (the “Proxy Statement”) is incorporated herein by reference. The Proxy Statement will be filed with the SEC no later than 120 days after the end of fiscal year 2011.

 

Item 11.  Executive Compensation

 

Except as specifically provided, the information set forth under the captions “Executive Compensation” and “Information About the Board of Directors and Committees of the Board—Compensation of Directors” in the Proxy Statement is incorporated herein by reference.

 

Item 12.  Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

 

Information regarding security ownership of certain beneficial owners and management is incorporated by reference to the information set forth under the caption “Security Ownership of Certain Beneficial Owners and Management” in the Proxy Statement.

 

Information regarding equity compensation plans required by this Item 12 is included in Item 5 of Part II of this Annual Report on Form 10-K and is incorporated into this Item by reference.

 

Item 13.  Certain Relationships and Related Transactions, and Director Independence

 

The information set forth under the captions “Transactions with Management and Others” and “Information About the Board of Directors and Committees of the Board” in the Proxy Statement is incorporated herein by reference.

 

Item 14.  Principal Accounting Fees and Services

 

Information regarding principal accounting fees and services is incorporated by reference to the information set forth under the caption “Relationship of the Company with Independent Registered Public Accounting Firm” in the Proxy Statement.

 

28



Table of Contents

 

PART IV

 

Item 15.  Exhibits and Financial Statement Schedule

 

(1)                                 Financial Statements

 

 

 

Page

Report of Independent Registered Public Accounting Firm—Squar, Milner, Peterson, Miranda & Williamson, LLP

 

34

Consolidated Balance Sheets as of December 31, 2011 and 2010

 

35

Consolidated Income Statements for the years ended December 31, 2011, 2010 and 2009

 

36

Consolidated Statements of Stockholders’ Equity for the years ended December 31, 2011, 2010 and 2009

 

37

Consolidated Statements of Cash Flows for the years ended December 31, 2011, 2010 and 2009

 

38

Notes to Consolidated Financial Statements

 

39

 

(2)                                 Financial Statement Schedule

 

 

 

Page

Schedule II—Valuation and Qualifying Accounts and Reserves for the years ended December 31, 2011, 2010 and 2009

 

49

 

The financial statement schedule included on page 50 to this Annual Report on Form 10-K and in Part II, Item 8 herein is filed as part of this Annual Report on Form 10-K. All other schedules are omitted because they are not applicable or the required information is shown in the consolidated financial statements or related notes.

 

29



Table of Contents

 

(3)                                 Exhibits

 

The exhibits listed below are hereby filed with the SEC as part of this Annual Report on Form 10-K. We will furnish a copy of any exhibit upon request, but a reasonable fee will be charged to cover our expenses in furnishing such exhibit.

 

Exhibit
Number

 

Description

3.1

 

Certificate of Incorporation of the Company, previously filed with the SEC as Exhibit 3.1 to the Company’s Registration Statement on Form SB-2, specifically included in Amendment No. 1 to such Registration Statement filed with the SEC on July 3, 1996 (File No. 333-4974-LA) (the “Registration Statement Amendment No. 1”), which is incorporated herein by reference.

 

 

 

3.2

 

Bylaws of the Company, previously filed with the SEC as Exhibit 3.1 to the Company’s Quarterly Report on Form 10-Q for the period ended September 30, 1999, filed with the SEC on November 12, 1999, which is incorporated herein by reference.

 

 

 

 

 

Material Contracts Relating to Management Compensation Plans or Arrangements

 

 

 

10.1

 

Employment Agreement dated July 1, 1996, between the Company and Thomas C.K. Yuen, previously filed with the SEC as Exhibit 10.8 to the Registration Statement Amendment No. 1, which is incorporated herein by reference.

 

 

 

10.2

 

Amendment to Employment Agreement dated as of March 14, 1997, between the Company and Thomas C.K. Yuen, previously filed with the SEC as Exhibit 10.2 to the Company’s Annual Report on Form 10-KSB for the fiscal year ended December 31, 1996, filed with the SEC on March 31, 1997 (the “1996 Annual Report”), which is incorporated herein by reference.

 

 

 

10.3

 

Employment Agreement dated July 1, 1996, between the Company and Alan D. Kraemer, previously filed with the SEC as Exhibit 10.11 to the Registration Statement Amendment No. 1, which is incorporated herein by reference.

 

 

 

10.4

 

SRS Labs, Inc. Amended and Restated 1996 Non-employee Directors Stock Option Plan, as amended, previously filed with the SEC as Appendix B to the Company’s Definitive Proxy Statement dated and filed with the SEC on April 30, 2003, which is incorporated herein by reference.

 

 

 

10.5

 

Form of Indemnification Agreement (entered into with David Dukes, Thomas C.K. Yuen, Winston E. Hickman, Carol L. Miltner, Sam Yau, Allen Gharapetian, Jeff Klaas, Alan D. Kraemer, Walter J. McBride, Maria Oppegard and Sarah Yang), previously filed with the SEC as Exhibit 99.1 to the Company’s Current Report on Form 8-K filed with the SEC on August 13, 2010, which is incorporated herein by reference.

 

 

 

10.6

 

Non-employee Director Compensation Policy adopted by the Company’s Board of Directors on September 23, 2010.

 

 

 

10.7

 

Form of Non-Employee Director Stock Option Agreement under the SRS Labs, Inc. Amended and Restated 1996 Non-Employee Directors’ Stock Option Plan (Initial Appointment), previously filed with the SEC as Exhibit 10.2 to the Company’s Current Report on Form 8-K filed with the SEC on February 3, 2005, which is incorporated herein by reference.

 

 

 

10.8

 

Form of Non-Employee Director Stock Option Agreement under the SRS Labs, Inc. Amended and Restated 1996 Non-Employee Directors’ Stock Option Plan (Re-Election), previously filed with the SEC as Exhibit 10.3 to the Company’s Current Report on Form 8-K filed with the SEC on February 3, 2005, which is incorporated herein by reference.

 

 

 

10.9

 

Form of Non-Employee Director Stock Option Agreement under the SRS Labs, Inc. Amended and Restated 1996 Long-Term Incentive Plan, previously filed with the SEC as Exhibit 10.4 to the Company’s Current Report on Form 8-K filed with the SEC on February 3, 2005, which is incorporated herein by reference.

 

 

 

10.10

 

Form of Nonqualified Stock Option Agreement under the SRS Labs, Inc. Amended and Restated 1996 Long-Term Incentive Plan dated March 29, 2005, previously filed with the SEC as Exhibit 10.1 to the Company’s Current Report Form 8-K filed with the SEC on April 4, 2005, which is incorporated herein by reference.

 

 

 

10.11

 

SRS Labs, Inc. Amended and Restated Change in Control Protection Plan approved August 3, 2009, previously filed with the SEC as Exhibit 10.1 to the Company’s Quarterly Report on Form 10-Q filed with the SEC on August 6, 2009, which is incorporated herein by reference.

 

30



Table of Contents

 

Exhibit
Number

 

Description

10.12

 

Form of Participation Agreement under the SRS Labs, Inc. Amended and Restated Change in Control Protection Plan for Selected Executive Officers (Current participants under this plan include the following officers: Thomas C.K. Yuen, Allen Gharapetian, Jeff Klaas and Alan D. Kraemer, Walter J. McBride, Maria Oppegard and Sarah Yang, ) previously filed with the SEC as Exhibit 10.2 to the Company’s Quarterly Report on Form 10-Q filed with the SEC on August 6, 2009, which is incorporated herein by reference.

 

 

 

10.13

 

SRS Labs, Inc. Amended and Restated 1996 Long-Term Incentive Plan, as amended, approved April 27, 2005, previously filed with the SEC as Exhibit 10.5 to the Form 8-K filed with the SEC on May 3, 2005, which is incorporated herein by reference.

 

 

 

10.14

 

Offer Letter dated April 22, 2008 by and between the Company and Jeff Klaas, previously filed with the SEC as Exhibit 10.15 to the Company’s Annual Report on Form 10-K for the fiscal period ended December 31, 2008, filed with the SEC on February 24, 2009 which is incorporated herein by reference.

 

 

 

10.15

 

Offer Letter dated October 3, 2011 by and between the Company and Walter J. McBride, previously filed with the SEC as Exhibit 99.2 to the Company’s Current Report on Form 8-K filed with the SEC on October 28, 2011, which is incorporated herein by reference.

 

 

 

10.16

 

Form of Nonqualified Stock Option Agreement under the SRS Labs, Inc. 1996 Amended and Restated Long-Term Incentive Plan, as amended, previously filed with the SEC as Exhibit 99.8 to the Company’s Current Report on Form 8-K filed with the SEC on January 18, 2006, which is incorporated herein by reference.

 

 

 

10.17

 

SRS Labs, Inc. Profit Sharing and Bonus Plan, as amended on February 17, 2012.

 

 

 

10.18

 

SRS Labs, Inc. 2006 Stock Incentive Plan, as amended on April 15, 2011, previously filed with the SEC as Appendix A to the Company’s Proxy Statement on Schedule 14A filed with the SEC on April 25 2011, which is incorporated herein by reference.

 

 

 

10.19

 

Form of Stock Option Award Agreement under the SRS Labs, Inc. 2006 Stock Incentive Plan, previously filed with the SEC as Exhibit 10.9 to the Company’s Quarterly Report on Form 10-Q, Amendment No. 1, filed with the SEC on September 22, 2006, which is incorporated herein by reference.

 

 

 

10.20

 

Form of Restricted Share Award Agreement under the SRS Labs, Inc. 2006 Stock Incentive Plan, previously filed with the SEC as Exhibit 10.10 to the Company’s Quarterly Report on Form 10-Q, Amendment No. 1, filed with the SEC on September 22, 2006, which is incorporated herein by reference.

 

 

 

10.21

 

Form of Restricted Share Unit Award Agreement under the SRS Labs, Inc. 2006 Stock Incentive Plan

 

 

 

10.22

 

Form of SAR Award Agreement under the SRS Labs, Inc. 2006 Stock Incentive Plan, previously filed with the SEC as Exhibit 10.12 to Amendment No. 1 to the Company’s Quarterly Report on Form 10-Q, Amendment No. 1, filed with the SEC on September 22, 2006, which is incorporated herein by reference.

 

 

 

10.23

 

SRS Labs, Inc. Patent Reward Program, previously filed as Exhibit 10.2 to the Company’s Form 8-K filed with the SEC on June 28, 2006, which is incorporated herein by reference.

 

 

 

10.24

 

Separation Agreement and Release of Claims between the Company and Ulrich Gottschling dated June 2, 2011, previously filed with the SEC as Exhibit 10.1 to the Company’s Current Report on Form 8-K filed with the SEC on June 3, 2011, which is incorporated herein by reference.

 

31



Table of Contents

 

Exhibit
Number

 

Description

 

 

Other Material Contracts

 

 

 

10.25

 

Industrial Real Estate Lease dated May 27, 2008, between the Company and Daimler Commerce Partners, L.P., previously filed with the SEC as Exhibit 10.25 to the Company’s Annual Report on Form 10-K for the fiscal period ended December 31, 2008, filed with the SEC on February 24, 2009 which is incorporated herein by reference.

 

 

 

10.26

 

Revolving Credit Agreement effective June 30, 2010, and related documents and agreements, by and between SRS Labs, Inc. and U.S. Bank N.A., previously filed with the SEC as Exhibit 10.1 to the Company’s Current Report on Form 8-K, filed with the SEC on August 18, 2010 which is incorporated herein by reference.

 

 

 

10.27

 

Settlement Agreement effective September 9, 2010 by and between SRS Labs, Inc. and Sony Corporation, previously filed with the SEC as Exhibit 10.1 to the Company’s Current Report on Form 8-K, filed with the SEC on September 13, 2010 which is incorporated herein by reference.

 

 

 

10.28

 

Standard Industrial/Commercial Multi-tenant Lease dated February 7, 2011, by and between SRS Labs, Inc. and Daimler Commerce Partners, L.P., filed with the SEC on February 22, 2011 which is incorporated herein by reference.

 

 

 

 

 

Other Exhibits

 

 

 

21

 

Subsidiaries of the Company.

 

 

 

23.1

 

Consent of Independent Registered Public Accounting Firm, Squar, Milner, Peterson, Miranda & Williamson, LLP, dated March 12, 2012.

 

 

 

31.1

 

Certification of the Chief Executive Officer of SRS Labs, Inc., pursuant to Section 302 of the Sarbanes- Oxley Act of 2002.

 

 

 

31.2

 

Certification of the Chief Financial Officer of SRS Labs, Inc., pursuant to Section 302 of the Sarbanes- Oxley Act of 2002.

 

 

 

32.1

 

Certification of Chief Executive Officer of SRS Labs, Inc., pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

 

 

32.2

 

Certification of Chief Financial Officer of SRS Labs, Inc., pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

 

 

101.INS*

 

XBRL Instance Document

 

 

 

101.SCH*

 

XBRL Taxonomy Extension Schema

 

 

 

101.CAL*

 

XBRL Taxonomy Extension Calculation Linkbase

 

 

 

101.DEF*

 

XBRL Taxonomy Extension Definition Linkbase

 

 

 

101.LAB*

 

XBRL Taxonomy Extension Label Linkbase

 

 

 

101.PRE*

 

XBRL Taxonomy Extension Presentation Linkbase

 


* Pursuant to Rule 406T of Regulation S-T, these interactive data files are deemed not filed or part of a registration statement or prospectus for purpose of Sections 11 or 12 of the Securities Act of 1933, as amended, are deemed not filed for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, and otherwise are not subject to liability under these sections.

 

32



Table of Contents

 

SIGNATURES

 

Pursuant to the requirements of Section 13 or 15(d) 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.

 

 

 

SRS Labs, Inc.

 

 

 

 

 

 

 

 

Dated: March 14, 2012

 

By:

/S/ THOMAS C.K. YUEN

 

 

 

Chairman of the Board and Chief Executive
Officer

 

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.

 

Name

 

Capacity

 

Date

 

 

 

 

 

/s/ THOMAS C.K. YUEN

 

Director, Chairman of the Board and Chief Executive Officer (Principal Executive Officer)

 

March 14, 2012

Thomas C.K. Yuen

 

 

 

 

 

 

 

 

/s/ WALTER J. MCBRIDE

 

Chief Financial Officer (Principal Financial Officer)

 

March 14, 2012

Walter J. McBride

 

 

 

 

 

 

 

 

/s/ MARIA OPPEGARD

 

Vice President, Finance and Chief Accounting Officer (Principal Accounting Officer)

 

March 14, 2012

Maria Oppegard

 

 

 

 

 

 

 

 

/s/ DAVID R. DUKES

 

Director

 

March 14, 2012

David R. Dukes

 

 

 

 

 

 

 

 

 

/s/ WINSTON E. HICKMAN

 

Director

 

March 14, 2012

Winston E. Hickman

 

 

 

 

 

 

 

 

 

/s/ CAROL L. MILTNER

 

Director

 

March 14, 2012

Carol L. Miltner

 

 

 

 

 

 

 

 

 

/s/ SAM YAU

 

Director

 

March 14, 2012

Sam Yau

 

 

 

 

 

33



Table of Contents

 

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

 

To the Board of Directors and Stockholders

SRS Labs, Inc.

Santa Ana, California

 

We have audited the accompanying consolidated balance sheets of SRS Labs, Inc. and Subsidiaries (collectively the Company) as of December 31, 2011 and 2010, and the related consolidated income statements, stockholders’ equity and cash flows for each of the three years in the period ended December 31, 2011, and the financial statement schedule of the Company listed in Item 15(2). We also have audited the Company’s internal control over financial reporting as of December 31, 2011, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. The Company’s management is responsible for these financial statements and the financial statement schedule, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting included in Management’s Report on Internal Controls over Financial Reporting.  Our responsibility is to express an opinion on these financial statements and an opinion on the Company’s internal control over financial reporting based on our audits.

 

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.

 

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (a) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the Company; (b) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (c) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

 

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

 

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of SRS Labs, Inc. and Subsidiaries as of December 31, 2011 and 2010, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2011, in conformity with accounting principles generally accepted in the United States of America, and in our opinion, the related financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, present fairly in all material respects the information set forth therein.  Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2011, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.

 

/s/ SQUAR, MILNER, PETERSON, MIRANDA & WILLIAMSON, LLP

 

 

Squar, Milner, Peterson, Miranda & Williamson, LLP

 

 

 

Newport Beach, California

March 14, 2012

 

34



Table of Contents

 

SRS LABS, INC. AND SUBSIDIARIES

 

CONSOLIDATED BALANCE SHEETS

 

 

 

December 31,
2011

 

December 31,
2010

 

ASSETS

 

 

 

 

 

Current Assets

 

 

 

 

 

Cash and cash equivalents

 

$

5,850,224

 

$

10,697,827

 

Accounts receivable, net

 

1,430,997

 

1,191,847

 

Prepaid expenses and other current assets

 

1,804,610

 

1,069,900

 

Short-term investments

 

27,837,000

 

19,033,000

 

Total Current Assets

 

36,922,831

 

31,992,574

 

 

 

 

 

 

 

Long-term investments

 

4,626,763

 

13,323,000

 

Property and equipment, net

 

1,247,343

 

672,220

 

Intangible assets, net

 

2,518,041

 

2,761,432

 

Deferred income taxes, net

 

11,782,197

 

8,597,619

 

Total Assets

 

$

57,097,175

 

$

57,346,845

 

LIABILITIES AND STOCKHOLDERS’ EQUITY

 

 

 

 

 

 

 

 

 

 

 

Current Liabilities

 

 

 

 

 

Accounts payable

 

$

556,342

 

$

516,470

 

Accrued liabilities

 

2,079,555

 

1,434,970

 

Deferred revenue

 

360,004

 

601,825

 

Total Current Liabilities

 

2,995,901

 

2,553,265

 

 

 

 

 

 

 

Commitments and contingencies (Note 4)

 

 

 

 

 

 

 

 

 

 

 

Stockholders’ Equity

 

 

 

 

 

Preferred stock—$0.001 par value; 2,000,000 shares authorized; no shares issued and outstanding

 

 

 

Common stock—$0.001 par value; 56,000,000 shares authorized; 15,154,926 shares issued and 14,306,695 shares outstanding at December 31, 2011 and 14,807,070 shares issued and outstanding at December 31, 2010

 

15,156

 

14,808

 

Additional paid-in capital

 

72,615,408

 

68,520,878

 

Treasury stock at cost, 848,231 shares at December 31, 2011

 

(5,905,422

)

 

Accumulated deficit

 

(12,623,868

)

(13,742,106

)

Total Stockholders’ Equity

 

54,101,274

 

54,793,580

 

Total Liabilities and Stockholders’ Equity

 

$

57,097,175

 

$

57,346,845

 

 

See accompanying notes to the consolidated financial statements

 

35



Table of Contents

 

SRS LABS, INC. AND SUBSIDIARIES

 

CONSOLIDATED INCOME STATEMENTS

 

 

 

Years Ended December 31,

 

 

 

2011

 

2010

 

2009

 

Revenues

 

$

32,870,159

 

$

31,220,389

 

$

24,964,577

 

Cost of sales

 

776,695

 

349,621

 

285,543

 

Gross profit

 

32,093,464

 

30,870,768

 

24,679,034

 

Operating expenses:

 

 

 

 

 

 

 

Sales and marketing

 

14,929,976

 

13,470,852

 

11,415,115

 

Research and development

 

8,849,119

 

8,060,246

 

5,721,195

 

General and administrative

 

7,395,326

 

6,526,171

 

5,656,616

 

Total operating expenses

 

31,174,421

 

28,057,269

 

22,792,926

 

Operating income

 

919,043

 

2,813,499

 

1,886,108

 

Other income

 

209,920

 

245,127

 

347,528

 

Income before income taxes

 

1,128,963

 

3,058,626

 

2,233,636

 

Income taxes

 

10,725

 

52,153

 

98,006

 

Net income

 

$

1,118,238

 

$

3,006,473

 

$

2,135,630

 

Net income per common share:

 

 

 

 

 

 

 

Basic

 

$

0.08

 

$

0.20

 

$

0.15

 

Diluted

 

$

0.07

 

$

0.19

 

$

0.14

 

Weighted average shares used in the per share calculation:

 

 

 

 

 

 

 

Basic

 

14,748,666

 

14,670,751

 

14,460,490

 

Diluted

 

15,472,084

 

15,602,051

 

14,813,372

 

 

See accompanying notes to consolidated financial statements

 

36



Table of Contents

 

SRS LABS, INC. AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

 

 

 

Common Stock

 

Additional
Paid-In

 

Accumulated

 

Treasury

 

 

 

 

 

Shares

 

Amount

 

Capital

 

Deficit

 

Stock

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

BALANCE, December 31, 2008

 

14,419,418

 

14,420

 

62,639,075

 

(18,884,209

)

 

43,769,286

 

Proceeds from exercise of stock options

 

144,297

 

145

 

533,205

 

 

 

533,350

 

Share-based compensation

 

 

 

1,956,057

 

 

 

1,956,057

 

Net income

 

 

 

 

2,135,630

 

 

2,135,630

 

BALANCE, December 31, 2009

 

14, 563,715

 

14,565

 

65,128,337

 

(16,748,579

)

 

48,394,323

 

Proceeds from exercise of stock options

 

243,355

 

243

 

1,138,811

 

 

 

1,139,054

 

Share-based compensation

 

 

 

2,253,730

 

 

 

2,253,730

 

Net income

 

 

 

 

3,006,473

 

 

3,006,473

 

BALANCE, December 31, 2010

 

14,807,070

 

$

14,808

 

$

68,520,878

 

$

(13,742,106

)

 

$

54,793,580

 

Proceeds from exercise of stock options

 

347,856

 

348

 

1,598,900

 

 

 

1,599,248

 

Share-based compensation

 

 

 

2,495,630

 

 

 

2,495,630

 

Purchase of treasury stock

 

(848,231

)

 

 

 

(5,905,422

)

(5,905,422

)

Net income

 

 

 

 

1,118,238

 

 

1,118,238

 

BALANCE, December 31, 2011

 

14,306,695

 

$

15,156

 

$

72,615,408

 

$

(12,623,868

)

(5,905,422

)

$

54,101,274

 

 

See accompanying notes to consolidated financial statements

 

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Table of Contents

 

SRS LABS, INC. AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF CASH FLOWS

 

 

 

Years Ended December 31,

 

 

 

2011

 

2010

 

2009

 

Cash Flows from Operating Activities:

 

 

 

 

 

 

 

Net income

 

$

1,118,238

 

$

3,006,473

 

$

2,135,630

 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

 

 

Depreciation and amortization

 

1,117,366

 

953,188

 

704,718

 

Provision for doubtful accounts

 

34,078

 

 

47,527

 

Deferred taxes

 

(3,184,578

)

(2,966,177

)

(2,160,021

)

Share-based compensation

 

2,495,630

 

2,253,730

 

1,956,057

 

Loss on disposition of furniture, fixtures and equipment

 

 

 

14,818

 

Write-off of intangible assets

 

 

12,500

 

13,149

 

Changes in operating assets and liabilities:

 

 

 

 

 

 

 

Accounts receivable

 

(273,228

)

(1,012,733

)

106,070

 

Prepaid expenses and other current assets

 

(734,710

)

77,250

 

(283,056

)

Accounts payable

 

39,872

 

(66,687

)

268,775

 

Accrued liabilities

 

644,585

 

(142,920

)

581,623

 

Deferred revenue

 

(241,821

)

(591,629

)

(608,570

)

Net cash provided by operating activities

 

1,015,432

 

1,522,995

 

2,776,720

 

Cash Flows from Investing Activities:

 

 

 

 

 

 

 

Purchase of short and long-term investments

 

(19,488,763

)

(40,822,000

)

(5,665,000

)

Proceeds from short and long-term investments

 

19,381,000

 

21,967,000

 

 

Purchase of property and equipment

 

(991,205

)

(363,957

)

(417,191

)

Expenditures related to intangible assets

 

(457,893

)

(733,429

)

(856,402

)

Proceeds from sale of property and equipment

 

 

 

17,600

 

Net cash used in investing activities

 

(1,556,861

)

(19,952,386

)

(6,920,993

)

Cash Flows from Financing Activities:

 

 

 

 

 

 

 

Purchase of treasury stock

 

(5,905,422

)

 

 

Proceeds from exercise of stock options

 

1,599,248

 

1,139,054

 

533,350

 

Net cash (used in) provided by financing activities

 

(4,306,174

)

1,139,054

 

533,350

 

Net Decrease in Cash and Cash Equivalents

 

(4,847,603

)

(17,290,337

)

(3,610,923

)

Cash and Cash Equivalents, Beginning of Year

 

10,697,827

 

27,988,164

 

31,599,087

 

Cash and Cash Equivalents, End of Year

 

$

5,850,224

 

$

10,697,827

 

$

27,988,164

 

Supplemental Disclosures of Cash Flow Information:

 

 

 

 

 

 

 

Cash paid during the year for:

 

 

 

 

 

 

 

Income taxes

 

$

3,039,150

 

$

2,840,844

 

$

2,203,771

 

 

See accompanying notes to consolidated financial statements

 

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Table of Contents

 

SRS LABS, INC. AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

1.  Organization and Significant Accounting Policies

 

Organization

 

SRS Labs, Inc. (collectively with its subsidiaries, the “Company,” “SRS Labs,” “SRS”, “us”, “we” or “our”) is the recognized global leader in the practical application of psychoacoustics, the science behind how the human ear operates, and in the post processing portion of the market for audio delivery.  Our award-winning audio enhancement technologies and solutions dramatically restore audio and voice to its natural state, the way it was originally recorded, in both dimension and clarity, thus providing a superior consumer experience for a wide variety of consumer electronic devices such as televisions, personal computers and mobile phones.

 

Our operations are conducted through SRS Labs, Inc., the parent company, and its wholly-owned subsidiaries, SRSWOWcast.com, Inc., Shenzhen Representative Office of SRS Labs, Inc. (a Chinese company), Shanghai Representative Office of SRS Labs, Inc. (a Chinese company) and SRS Labs Japan, KK (a Japanese company). Our business is focused on developing and licensing audio, voice and surround sound technology solutions to many of the world’s leading original equipment manufacturers (“OEMs”), original design manufacturers (“ODMs”), software providers and semiconductor companies, and limited sales and marketing of stand-alone software and hardware products through the Internet.

 

Basis of Presentation

 

The consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America and include the Company and its wholly-owned subsidiaries after elimination of all intercompany accounts and transactions.  Certain amounts in the notes to the consolidated financial statements have been reclassified in order to conform to the current year presentation.

 

Use of Estimates

 

The preparation of the Company’s consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the financial statements and the reported revenues and expenses during the reporting periods. Some of the estimates needed to be made by management include the allowance for doubtful accounts, estimated useful lives of property and equipment and intangible assets, valuation of equity instruments associated with share-based compensation and the valuation allowance for the Company’s deferred tax asset. Actual results could materially differ from these estimates.

 

Cash and Cash Equivalents; Short-term and Long-term Investments

 

Cash and cash equivalents generally consist of cash, certificates of deposit, and money market funds with original maturities of three months or less.  The money market funds are primarily invested in U.S. government obligations.  Short-term investments consist of certificates of deposit and U.S. treasury bills that mature within one year.  Long-term investments consist of certificates of deposit of approximately $6.5 million that mature beyond one year and an investment in a long-term fund, which invests in foreign start-up companies, principally based in China.  We have a total capital commitment up to $1.0 million in connection with this fund, and our investment in this fund as of December 2011 totaled $442,763.  All of the certificates of deposit are fully insured by the Federal Deposit Insurance Corporation (“FDIC”).  The Company has not experienced any losses on its short and long-term investments.  Investments are held at cost and the Company intends to hold them until maturity.

 

Accounts Receivable and Allowance for Doubtful Accounts

 

The Company makes periodic evaluations of the creditworthiness of its customers and manages its exposure to losses from bad debts by limiting the amount of credit extended whenever deemed necessary and generally does not require collateral.  The Company maintains an allowance for estimated uncollectible accounts receivable, as appropriate, and such losses have historically been minimal and within management’s expectations.  Accounts receivable are presented net of the allowance for estimated uncollectible accounts of $80,766 and $46,687 as of December 31, 2011 and 2010, respectively.

 

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Table of Contents

 

Property and Equipment

 

Property and equipment are stated at cost, net of accumulated depreciation and amortization. The cost of additions and improvements are capitalized, while repairs and maintenance are expensed as incurred. Depreciation and amortization are calculated using the straight-line method, which amortizes cost over the lesser of the estimated useful lives of the respective assets or the term of the related lease. Useful lives range from two to five years.

 

Intangible Assets

 

Costs paid by the Company related to the establishment, transfer and purchase of patents and other intangibles, primarily legal costs, are capitalized and amortized, depending on the estimated useful life of the technology patented. These assets are being amortized using the straight line method over three to ten years.

 

Impairment of Long-Lived Assets

 

The Company evaluates the recoverability of long-lived assets with finite lives.  The Company assesses potential impairments to its long-lived assets when there is evidence that events or changes in circumstances indicate that the carrying amount of an asset may not be recovered. An impairment loss is recognized when the carrying amount of the long-lived asset is not recoverable and exceeds its fair value. The carrying amount of a long-lived asset is deemed not recoverable if it exceeds the sum of the undiscounted cash flows expected to result from the use and eventual disposition of the asset. Any required impairment loss is measured as the amount by which the carrying amount of a long-lived asset exceeds its fair value and is recorded as a reduction in the carrying value of the related asset and a charge to operating results. Based upon the most recent assessment as of December 31, 2011, management has determined there was no impairment in the carrying value of long-lived assets.

 

Revenue Recognition

 

Our license agreements typically have multi-year or automatic renewal terms, and either require: (a) per-unit royalty payments for all products implementing our technologies and/or solutions; (b) fixed annual or quarterly royalty payments; or (c) a minimum fixed annual or quarterly royalty payment, which allow the licensee to ship up to a pre-determined number of units during the specified time period, with additional per-unit royalty payments thereafter.  Royalties for per-unit arrangements are reported in the quarter following shipment of the consumer electronics device and are therefore recognized by us generally one quarter following shipment by the OEM.  Revenues associated with fixed royalty payments are generally recognized ratably over the term of the agreement.  We also sell some of our products and solutions via the Internet.  Revenues associated with those sales are recognized upon shipment and are not material.

 

Research and Development

 

Research and development expenses include costs and expenses associated with the development of our design methodology and the design and development of new products, including initial nonrecurring engineering and product verification charges. Research and development is expensed as incurred.

 

Income Taxes

 

Deferred taxes on income result from temporary differences between the reporting of income for financial statement and tax reporting purposes. A valuation allowance related to a deferred tax asset is recorded when it is more likely than not that some or all of the deferred tax asset will not be realized.

 

We provide tax contingencies, if any, for federal, state, local and international exposures relating to potential audits, tax planning initiatives and compliance responsibilities.  The development of these reserves requires judgments about tax issues, potential outcomes and timing.  Although the outcome of these tax matters is uncertain, in management’s opinion adequate provisions for income taxes have been made for potential liabilities emanating from these reviews.  If actual outcomes differ materially from these estimates, they could have a material impact on our results of operations.  The Company is not currently under examination by any taxing authority.

 

Net Income Per Common Share

 

Basic net income per common share is computed by dividing net income available to common stockholders by the weighted average number of common shares outstanding during each year. Diluted net income per common share reflects the maximum dilution, based on the average price of our common stock each period and is computed similar to basic income per share except that the denominator is increased to include the number of additional shares that would have been outstanding if potentially dilutive stock options had been exercised.

 

40



Table of Contents

 

Basic and diluted net income per share for the years ended December 31, 2011, 2010 and 2009 are as follows:

 

 

 

Years Ended December 31,

 

 

 

2011

 

2010

 

2009

 

BASIC EPS

 

 

 

 

 

 

 

Numerator:

 

 

 

 

 

 

 

Net income

 

$

1,118,238

 

$

3,006,473

 

$

2,135,630

 

Denominator: Weighted average common shares outstanding

 

14,748,666

 

14,670,751

 

14,460,490

 

Net income per share

 

$

0.08

 

$

0.20

 

$

0.15

 

DILUTED EPS

 

 

 

 

 

 

 

Numerator:

 

 

 

 

 

 

 

Net income

 

$

1,118,238

 

$

3,006,473

 

$

2,135,630

 

Denominator: Weighted average common shares outstanding

 

14,748,666

 

14,670,751

 

14,460,490

 

Common equivalent shares outstanding: Dilutive options

 

723,418

 

931,300

 

352,882

 

Total diluted common shares

 

15,472,084

 

15,602,051

 

14,813,372

 

Net income per share

 

$

0.07

 

$

0.19

 

$

0.14

 

 

There were options outstanding at December 31, 2011, 2010 and 2009 to purchase 2,490,537, 2,045,710 and 2,311,784 shares of the Company’s common stock, respectively, which were not included above because they would be anti-dilutive.

 

Share-Based Compensation

 

The Company measures all employee share-based compensation awards using a fair-value method and records such expense in the consolidated financial statements over the requisite service period. We recorded share-based compensation expense of $2,495,630, $2,253,730 and $1,956,057in 2011, 2010, and 2009, respectively. See Note 6.

 

Fair Value of Financial Instruments

 

The Company measures the fair value of applicable financial and non-financial assets based on the following levels of inputs.

 

·                  Level 1 inputs: Level 1 inputs are quoted market prices in active markets for identical assets or liabilities that are accessible at the measurement date.

 

·                  Level 2 inputs: Level 2 inputs are from other than quoted market prices included in Level 1 that are observable for the asset or liability, either directly or indirectly.

 

·                  Level 3 inputs: Level 3 inputs are unobservable and should be used to measure fair value to the extent that observable inputs are not available.

 

The hierarchy noted above requires us to minimize the use of unobservable inputs and to use observable market data, if available, when determining fair value.

 

Financial assets carried at fair value as of December 31, 2011 are classified below:

 

 

 

Level 1

 

Level 2

 

Level 3

 

Total

 

Money market funds

 

$

3,235,000

 

$

 

$

 

$

3,235,000

 

Total

 

$

3,235,000

 

$

 

$

 

$

3,235,000

 

 

Financial assets carried at fair value as of December 31, 2010 are classified below:

 

 

 

Level 1

 

Level 2

 

Level 3

 

Total

 

Money market funds

 

$

8,400,000

 

$

 

$

 

$

8,400,000

 

Total

 

$

8,400,000

 

$

 

$

 

$

8,400,000

 

 

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Table of Contents

 

Customer Concentration

 

For fiscal year 2011, 2010 and 2009, Samsung accounted for approximately 40%, 38% and 39%, respectively, of our consolidated revenues.  Given the significant amount of revenues derived from Samsung, the loss of that customer or the uncollectibility of related receivables could have a material adverse effect on our consolidated financial condition and consolidated results of operations.

 

Concentrations of Credit Risk

 

Financial instruments, which potentially subject the Company to concentrations of credit risk, consist primarily of cash equivalents, investments and accounts receivable. Due to the relatively short nature of such investments, the carrying amount approximates fair value. The Company places its cash in banks and its cash equivalents in certificates of deposit and money market funds at certain financial institutions and such balances are in excess of amounts insured by federal agencies. The Company does not believe that it is subject to any unusual financial risk beyond the normal risk associated with commercial banking relationships. The Company performs periodic evaluations of the relative credit standing of these financial institutions.  The Company has not experienced any significant losses on its cash equivalents or investments.

 

The Company’s accounts receivable are derived from sales to OEMs, ODMs and platform partners primarily in Asia, North America and Europe. Customers’ headquarters geographically located in the Asia markets accounted for approximately 69%, 74% and 72% of the Company’s revenues in 2011, 2010 and 2009, respectively, and are expected to continue to account for a substantial percentage of revenues in the future.

 

Subsequent Events

 

Management has evaluated events subsequent to December 31, 2011 through the date the accompanying consolidated financial statements were filed with the Securities and Exchange Commission for transactions and other events that may require adjustment of and/or disclosure in such financial statements.

 

2. Property and Equipment

 

Property and equipment, net, consist of the following:

 

 

 

December 31,

 

 

 

2011

 

2010

 

Property and equipment

 

1,035,664

 

$

677,715

 

Computer equipment

 

696,915

 

686,164

 

Leasehold improvements

 

1,024,009

 

502,234

 

 

 

2,756,588

 

1,866,113

 

Less accumulated depreciation and amortization

 

(1,509,245

)

(1,193,893

)

 

 

$

1,247,343

 

$

672,220

 

 

Depreciation and amortization expense for property and equipment totaling $414,942, $291,531 and $208,901 for the years ended December 31, 2011, 2010 and 2009, respectively, is reflected in general and administrative expenses.

 

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Table of Contents

 

3. Intangible Assets

 

Intangible assets, net consist of the following:

 

 

 

December 31,

 

 

 

2011

 

2010

 

Patents

 

$

4,750,888

 

$

4,467,542

 

Accumulated amortization

 

(2,756,169

)

(2,399,801

)

Patents, net

 

1,994,719

 

2,067,741

 

Other intangibles:

 

 

 

 

 

License agreements acquired in purchase of SRSWOWcast

 

640,071

 

640,071

 

Capitalized software and hardware for several technologies

 

1,212,632

 

1,038,084

 

Total other intangibles

 

1,852,703

 

1,678,155

 

Accumulated amortization, other intangibles

 

(1,329,381

)

(984,463

)

Other intangibles, net

 

523,322

 

693,692

 

Intangible assets, net

 

$

2,518,041

 

$

2,761,432

 

 

Amortization periods range from three to ten years depending on the estimated useful life of the asset. Amortization expense consists of the following:

 

 

 

Years Ended December 31,

 

 

 

2011

 

2010

 

2009

 

Patents

 

$

356,367

 

$

327,050

 

$

287,232

 

Other intangibles:

 

 

 

 

 

 

 

License agreements acquired in purchase of SRSWOWcast

 

64,007

 

64,007

 

64,007

 

Capitalized software and hardware for several technologies

 

282,050

 

283,111

 

144,579

 

Total intangible amortization expense

 

$

702,424

 

$

674,168

 

$

495,818

 

 

As of December 31, 2011, the weighted average remaining useful life of the Company’s patents and intangible assets was approximately 5 years. The following table shows the estimated amortization expense for those assets for each of the five succeeding fiscal years and thereafter.

 

Years Ending December 31,

 

 

 

2012

 

$

681,332

 

2013

 

492,324

 

2014

 

335,178

 

2015

 

277,329

 

2016

 

240,535

 

Thereafter

 

491,343

 

Total

 

$

2,518,041

 

 

4. Commitments and Contingencies

 

Leases

 

The Company leases office space and certain equipment under non-cancelable operating leases expiring through 2016. The Company leases its corporate office located in Santa Ana, California, under a lease agreement with Daimler Commerce Partners, L.P., a partnership that is affiliated with a principal stockholder, who is also an executive officer and a director, of the Company, through May 2013. We paid rent of $245,232, $238,680 and $238,680 in 2011, 2010 and 2009, respectively, under this lease agreement.  In February 2011, the Company entered into a new lease with Daimler Commerce Partners, L.P. to expand our corporate headquarters. The lease is for a term of five years and covers an additional 11,700 square foot facility, consisting of office space adjacent to our existing facilities.

 

In 2011, we also expanded our European presence and entered into a new office lease in Budapest, Hungary.  The lease is for a term of 12 months and expires in September 2012.  Additionally, we lease space in Tokyo, Japan, Taipei, Taiwan, Shanghai, China and Shenzhen, China.  In total, we paid rent of $505,850, $442,080 and $426,651 during 2011, 2010 and 2009, respectively, for all of our facilities.

 

 

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Table of Contents

 

We believe that our current facilities are adequate to support our current requirements.

 

Future annual minimum lease payments under non-cancelable operating leases for the remaining periods at December 31, are as follows:

 

Years Ending December 31, 

 

Facility

 

Office
Equipment

 

Total

 

2012

 

$

538,915

 

$

32,015

 

$

570,930

 

2013

 

377,869

 

26,679

 

404,548

 

2014

 

186,596

 

 

186,596

 

2015

 

101,088

 

 

101,088

 

2016

 

25,272

 

 

25,272

 

Total

 

$

1,229,740

 

$

58,694

 

$

1,288,434

 

 

Litigation

 

From time to time, we may be involved in litigation matters and disputes arising in the normal course of business. Any such matters and disputes could be costly and time consuming, subject us to damages or equitable remedies, and divert our management and key personnel from our business operations.  While the outcome of these proceedings and claims cannot be predicted, we currently are not a party to any legal proceedings, the adverse outcome of which, in management’s opinion, individually or in the aggregate, is expected to have a material adverse effect on the Company’s consolidated financial position or results of operations.

 

Indemnifications

 

The Company enters into standard license agreements in its ordinary course of business. Pursuant to these agreements, the Company agrees to indemnify its customers for losses suffered or incurred by them as a result of any patent, copyright, or other intellectual property infringement claim by any third party with respect to the Company’s products. These agreements generally have perpetual terms. The maximum amount of indemnification the Company could be required to make under these agreements is generally limited to the license fees received by the Company. The Company estimates the fair value of its indemnification obligation as insignificant, based upon its history of litigation concerning product and patent infringement claims. Accordingly, the Company has no recorded liabilities for indemnification under these agreements as of December 31, 2011 and 2010.

 

The Company has agreements whereby its officers and directors are indemnified for certain events or occurrences while the officer or director is, or was, serving at our request in such capacity. The maximum potential amount of future payments the Company could be required to make under these indemnification agreements is unlimited; however, the Company has a directors’ and officers’ insurance policy that reduces its exposure and enables the Company to recover a portion of any future amounts paid. As a result of the insurance policy coverage, the Company believes the estimated fair value of these indemnification agreements is minimal. Currently, the Company has no recorded liabilities for these agreements as of December 31, 2011 and 2010.

 

Warranties

 

The Company offers its customers a warranty that its software products will substantially conform to their functional specifications. To date, there have been no payments or material costs incurred related to fulfilling these warranty obligations. Accordingly, the Company has no recorded liabilities for these warranties as of December 31, 2011 and 2010.

 

Employment Contracts

 

The Company has employment agreements with its Chief Executive Officer and its Chief Technology Officer (collectively “Agreements”). Each of the Agreements was entered into for an initial term that has since expired and all are now automatically renewed annually on various anniversary dates. Under the terms of each of the Agreements, the Company may be obligated to pay a severance payment ranging from one to two years of the respective employee’s base salary, depending on the date of termination, if the employee is terminated by the Company without cause.

 

Amended and Restated Change in Control Plan

 

The Compensation Committee of the Board, the sponsor of the Company’s Amended and Restated Change in Control Protection Plan (the “Change in Control Plan”), has designated certain of its executive officers as participants in the Change in Control Plan. The Change in Control Plan generally provides that if a participant’s employment is terminated without cause or if the participant resigns for good reason during a two-year period following a change in control, as defined in the Change in Control Plan,

 

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Table of Contents

 

the participant will be entitled to receive a severance payment. Under the Change in Control Plan, the size of the severance payment that would be due to a participant upon the occurrence of a covered termination ranges from to one to two times the participant’s base salary then in effect immediately prior to the change in control, depending on the participant’s position with the Company, plus the cash bonus and commissions actually paid to the participant during the last completed calendar year before the change in control.. The Change in Control Plan also provides that the Company will pay a participant’s COBRA premiums for a period of 18 months following a covered termination.

 

5. Income Taxes

 

The components of income from continuing operations before income taxes are as follows:

 

 

 

Years Ended December 31,

 

 

 

2011

 

2010

 

2009

 

United States

 

$

1,128,963

 

$

3,058,626

 

$

2,233,636

 

 

All licensing agreements are entered into between SRS Labs, Inc. and the licensee.  Some of our licensees are located in foreign countries and, accordingly, they may be obligated to withhold foreign taxes based upon local and country requirements of the taxing authority.  However, for our income tax purposes, all income is deemed to be sourced in the United States, regardless of the location of the licensee.

 

The provision for income taxes on continuing operations consists of the following:

 

 

 

Years Ended December 31,

 

 

 

2011

 

2010

 

2009

 

Current:

 

 

 

 

 

 

 

Federal

 

$

 

$

 

$

 

State

 

1,600

 

41,195

 

98,006

 

Foreign

 

3,193,774

 

2,977,135

 

2,160,021

 

Total

 

3,195,374

 

3,018,330

 

2,258,027

 

Deferred:

 

 

 

 

 

 

 

Federal

 

(2,042,521

)

(2,258,217

)

(1,528,883

)

State

 

(334,482

)

 

 

Foreign

 

 

 

 

Change in valuation allowance, net

 

(807,646

)(1)

(707,960

)

(631,138

)

Total

 

(3,184,649

)

(2,966,177

)

(2,160,021

)

Total income tax provision

 

$

10,725

 

$

52,153

 

$

98,006

 

 


(1) The expiration of the capital loss carry forwards in 2011 have been netted with the change in the valuation allowance.

 

The reconciliation of the income tax expense computed at U.S. federal statutory rates to the provision for income taxes is as follows:

 

 

 

Year Ended December 31,

 

 

 

2011

 

2010

 

2009

 

Tax at U.S. federal statutory rates

 

$

392,537

 

$

1,039,284

 

$

759,436

 

State income taxes, net of federal benefit

 

1,600

 

1,600

 

130,320

 

Nondeductible expenses

 

98,326

 

55,448

 

39,433

 

Change in valuation allowance, net

 

(7,267,907

)

(707,960

)

(631,138

)

Research and development credit

 

(386,853

)

(332,317

)

(199,984

)

Foreign tax rate differential and other

 

576,329

 

(3,902

)

(61

)

Expiration of Capital Loss Carryforward

 

6,596,693

 

 

 

Total income tax expense

 

$

10,725

 

$

52,153

 

$

98,006

 

 

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Table of Contents

 

Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the Company’s deferred tax assets are as follows:

 

 

 

December 31,

 

 

 

2011

 

2010

 

Deferred tax assets:

 

 

 

 

 

Depreciation and amortization

 

$

406,415

 

$

650,942

 

Accruals

 

363,482

 

416,531

 

Net operating loss carryforwards

 

 

 

Tax credit carryforwards

 

13,386,231

 

10,765,835

 

Capital loss carryforwards

 

 

6,460,261

 

Other

 

2,963,365

 

2,909,253

 

Valuation allowance

 

(5,337,296

)

(12,605,203

)

Total net deferred tax assets

 

$

11,782,197

 

$

8,597,619

 

 

The Company has federal and state net operating loss carryforwards at December 31, 2011 of $2,016,278 and $5,598,942, respectively.  Such net operating losses relate to excess tax benefits and have not been recognized.  These net operating loss carryforwards will begin to expire in 2014 and will continue to expire through 2027. The Company also has federal and state research credits of approximately $1,635,797 and $353,638, respectively, which will begin to expire in 2012 and will continue to expire through 2030 for federal purpose and can be carried forward indefinitely for state purposes. In addition, the Company has federal foreign tax credit carryforwards of $13,294,856 at December 31, 2011, which will begin to expire in 2014 and will continue to expire through 2019.

 

As of December 31, 2011, a valuation allowance of $5,337,296 has been provided based on the Company’s assessment of the future realizability of deferred tax assets. The valuation allowance on deferred tax assets relates to future deductible temporary differences, foreign tax credit carryforwards, research and development credit carryforwards, and net operating loss carryforwards for which the Company has concluded it is more likely than not that these items will not be realized in the ordinary course of operations. Management periodically evaluates the recoverability of the deferred tax assets and recognizes the tax benefit only as reassessment demonstrates they are realizable. At such time it is determined that it is more likely than not that the deferred tax assets are realizable, the valuation allowance is adjusted. This assessment is based on projections of future taxable income, which is impacted in future periods by income before taxes and stock option exercises. The amount of the net deferred tax assets considered realizable, however, could be reduced in the near term if actual future earnings are lower than estimated, or if there are differences in the timing or amount of future reversals of existing taxable temporary differences.

 

The use of loss carryforwards and tax credit carry forwards may become limited in the event of an ownership change as defined under Internal Revenue Code section 382. The Company commissioned a section 382 study in 2008, which confirmed that there have been no ownership changes through 2007.  Further, due to a change in California tax law in fiscal year 2008, net operating loss carryforwards may not be used in 2008, 2009, 2010 and 2011 and research and development credits were limited to fifty percent of the Company’s net tax in 2008 and 2009.

 

As of December 31, 2011, the Company has not recognized liabilities for penalty and interest as the Company does not have liability for unrecognized tax benefits. The tax years 2007 through 2010 remain open to examination by the major taxing jurisdictions.

 

Revenue is recognized gross of foreign withholding taxes that are remitted by our licensees directly to foreign tax authorities. Withholding taxes were $3.0 million, $2.9 million and $2.2 million in 2011, 2010 and 2009, respectively.

 

6. Stockholders’ Equity and Share-Based Compensation

 

Stock Award/Option Plans

 

In July 1996, the Board adopted and the Company’s stockholders approved the 1996 Long-Term Incentive Plan (as amended and restated, the “1996 Plan”), for which 1,000,000 shares of the Company’s common stock were initially reserved for issuance to officers, employees and consultants of the Company. The number of shares reserved for issuance under the 1996 Plan was increased in June 1997, June 1998, June 2000 and June 2003 by 1,000,000, 2,500,000, 2,500,000 and 1,500,000 shares, respectively.  The Compensation Committee or, in the absence of a Compensation Committee, the Board, as a whole, has been appointed to administer the 1996 Plan. Options issued under the 1996 Plan vest in the manner prescribed by the Compensation Committee or the Board, as applicable. As of December 31, 2011, options to purchase 759,734 shares of the Company’s common stock were outstanding under the 1996 Plan. No additional options have been, or will be, granted under the 1996 Plan since the date of stockholder approval of the 2006 Plan (defined below).

 

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Table of Contents

 

In July 1996, the Board adopted and the Company’s stockholders approved the 1996 Non-employee Directors Stock Option Plan (the “Non-employee Directors Plan”), a non-discretionary formula plan for which 120,000 shares of the Company’s common stock were reserved for issuance to the Company’s non-employee directors. A committee consisting of all directors who are not eligible to participate in the Non-employee Directors Plan administers the Non-employee Directors Plan. With the exception of the initial option granted to a non-employee director, which vests immediately, options granted under the Non-employee Directors Plan vest over a three-year period, the first installment vesting on the date of grant. In June 1999, the Company’s stockholders approved the Amended and Restated 1996 Non-employee Directors’ Stock Option Plan (the “Amended Non-employee Directors Plan”). Among the changes set forth in the Amended Non-employee Directors Plan was to increase by 130,000 the number of shares of common stock that may be issued under the plan. In June 2001, the Board adopted and the Company’s stockholders approved an amendment to the Amended Non-employee Directors Plan to increase the number of shares reserved for issuance under the plan by 250,000. As of December 31, 2011, options to purchase 172,500 shares of common stock were outstanding under the Amended Non-employee Directors Plan. There are 250,000 shares of common stock available for grant under the Non-employee Directors Plan as of December 31, 2011.

 

The 2006 Stock Incentive Plan (the “2006 Plan”) was adopted effective June 22, 2006.  1,500,000 shares of the Company’s common stock were initially reserved for issuance under the 2006 Plan. Either the Board or a committee appointed by the Board (the “Committee”) will administer the 2006 Plan. The Compensation Committee is currently acting as the Committee for purposes of the 2006 Plan. Under the 2006 Plan, the Committee may grant options that are intended to qualify as incentive stock options. Additionally, the Committee may also grant share appreciation rights, restricted shares, restricted share units, unrestricted shares, deferred share units, and performance awards. The vesting period is dependent on the type of award granted and may be determined by the Committee. In June 2008, June 2010 and June 2011, the number of shares reserved for issuance under the 2006 Plan was increased by 1,750,000 shares, 1,000,000 shares and 750,000 shares, respectively,  As of December 31, 2011, options to purchase 3,996,593 shares of common stock were outstanding under the 2006 Plan. There are 839,581 shares of common stock available for grant under the 2006 Plan as of December 31, 2011.

 

Share-Based Compensation

 

We account for share-based compensation by measuring all employee share-based compensation awards using a fair-value method and record such expense in the consolidated financial statements over the requisite service period.  Although share appreciation rights, restricted shares, unrestricted shares, deferred share units and performance awards may be granted under our incentive plans, the Committee has only historically granted stock options.  Accordingly, the information set forth below relates solely to stock options.

 

Total shared-based compensation cost recognized in 2011, 2010 and 2009 is as follows:

 

 

 

Years Ended December 31,

 

 

 

2011

 

2010

 

2009

 

Sales and marketing

 

$

939,139

 

$

703,876

 

$

511,301

 

Research and development

 

580,331

 

551,934

 

457,464

 

General and administrative

 

976,160

 

997,920

 

987,292

 

Total compensation cost recognized

 

$

2,495,630

 

$

2,253,730

 

$

1,956,057

 

 

Option awards are granted with an exercise price equal to the market price of the Company’s stock at the date of grant. Option awards generally have a term of 10 years and vest and become exercisable over a four-year service period.

 

The fair value of each share-based award is estimated on the grant date using the Black-Scholes-Merton (“BSM”) option-pricing model. Expected volatilities are based on the historical volatility of the Company’s stock price. The expected term for options granted in 2011, 2010 and 2009 was calculated based upon the historical term of the Company’s option grants and review of the terms of the Company’s peers.  The risk-free rate for periods within the contractual life of the option is based on the U.S. Treasury interest rates in effect at the time of grant. The fair value of options granted was estimated using the following weighted-average assumptions:

 

 

 

Years Ended December 31,

 

 

 

2011

 

2010

 

2009

 

Expected term (in years)

 

3.90

 

3.80

 

4.23

 

Expected volatility

 

50

%

49

%

54

%

Risk-free interest rate

 

0.83

%

1.09

%

1.96

%

Dividend yield

 

0.00

%

0.00

%

0.00

%

 

47



Table of Contents

 

The following table summarizes the weighted-average fair value of stock options granted and the total intrinsic value of stock options exercised during the years ended December 31, 2011, 2010 and 2009:

 

 

 

Years Ended December 31,

 

 

 

2011

 

2010

 

2009

 

Weighted-average fair value at date of grant

 

$

2.94

 

$

3.40

 

$

2.86

 

Intrinsic value of options exercised

 

$

1,010,704

 

$

1,104,364

 

$

464,136

 

 

A summary of option activity under the stock option plans and changes during the year ended December 31, 2011 is presented below:

 

 

 

 

 

Weighted-Average

 

 

 

 

 

Shares

 

Exercise
Price

 

Remaining
Contractual
Term (in Yrs)

 

Aggregate
Intrinsic
Value

 

Outstanding, January 1, 2011

 

4,643,393

 

$

6.68

 

 

 

 

 

Granted

 

844,300

 

7.56

 

 

 

 

 

Cancelled/Forfeited

 

(211,010

)

7.62

 

 

 

 

 

Exercised

 

(347,856

)

4.60

 

 

 

 

 

Outstanding, December 31, 2011

 

4,928,827

 

$

6.94

 

6.66

 

$

34,214,388

 

Options exercisable, December 31, 2011

 

2,924,063

 

$

6.43

 

5.18

 

$

18,793,143

 

 

A summary of the activity of the Company’s non-vested shares during the year ended December 31, 2011 is presented below:

 

 

 

 

 

 

 

 

 

Remaining

 

 

 

 

 

Weighted-Average

 

Unrecognized

 

 

 

Shares

 

Grant Date
Fair Value

 

Remaining
Years to Vest

 

Compensation
Cost

 

Nonvested, January 1, 2011

 

2,154,450

 

$

3.13

 

 

 

 

 

Granted

 

844,300

 

2.94

 

 

 

 

 

Vested

 

(793,563

)

3.42

 

 

 

 

 

Forfeited

 

(200,423

)

3.59

 

 

 

 

 

Nonvested, December 31, 2011

 

2,004,764

 

$

3.06

 

3.95

 

$

5,817,481

 

 

The following table summarizes information concerning currently outstanding and exercisable options at December 31, 2011.

 

Range of Exercise Prices

 

Number of
Options
Outstanding

 

Weighted
Average
Remaining
Contractual Life
(in Years)

 

Weighted
Average
Exercise Price

 

Exercisable
As of
12/31/2011

 

Weighted
Average
Exercise Price

 

$1.91–$3.80

 

155,225

 

0.74

 

$

2.60

 

155,225

 

$

2.60

 

$3.81–$5.70

 

1,174,960

 

5.19

 

4.90

 

1,013,583

 

4.91

 

$5.71–$7.60

 

1,858,394

 

6.92

 

6.62

 

1,075,957

 

6.51

 

$7.61–$9.50

 

1,590,148

 

8.11

 

8.92

 

539,086

 

9.14

 

$9.51–$11.40

 

150,100

 

5.78

 

10.52

 

140,212

 

10.58

 

 

 

4,928,827

 

6.66

 

$

6.94

 

2,924,063

 

$

6.43

 

 

7. Segment Information

 

The Company’s revenue is solely derived from licensing related revenue. The following schedule presents the Company’s revenue by geographic area. For product sales, revenue is allocated based on the country to which product was shipped. Licensing-related revenue is summarized based on the location of the licensee’s corporate headquarters. For product and online sales, revenue is allocated to the United States region. The China region includes all licensees with their corporate headquarters located in mainland China. The Asia Pacific region includes all licensees with their corporate headquarters located in Taiwan, Hong Kong, and India.

 

 

 

Years Ended December 31,

 

 

 

2011

 

%

 

2010

 

%

 

2009

 

%

 

Geographic Area Revenue:

 

 

 

 

 

 

 

 

 

 

 

 

 

Korea

 

$

13,928,964

 

42

%

$

13,691,746

 

44

%

$

11,551,403

 

46

%

United States

 

9,288,844

 

28

 

7,465,114

 

24

 

6,440,033

 

26

 

Asia Pacific

 

3,196,023

 

10

 

2,482,756

 

8

 

647,220

 

3

 

Japan

 

2,813,254

 

9

 

4,930,915

 

16

 

4,375,139

 

17

 

China

 

2,699,035

 

8

 

2,033,444

 

6

 

1,548,496

 

6

 

Europe

 

944,039

 

3

 

616,414

 

2

 

402,286

 

2

 

Total

 

$

32,870,159

 

100

%

$

31,220,389

 

100

%

$

24,964,577

 

100

%

 

48



Table of Contents

 

8. Revolving Line of Credit

 

On August 12, 2010, we entered into a Revolving Credit Agreement (collectively with the Revolving Credit Note and related documents, the “Loan Documents”) with U.S. Bank N.A.  The Loan Documents provide the Company with a $5.0 million revolving line of credit, which is available until June 30, 2012, to be used for working capital purposes.  As of December 31, 2011, the Company has not borrowed from the revolving line of credit.

 

9. Employee Benefit Plan

 

The Company’s employees based in the United States may participate in a salary deferral plan (the “401(k) Plan”), pursuant to which eligible employees can contribute up to 75% of their eligible compensation. The Company also may contribute on a discretionary basis. The Company’s matching contribution vests ratably over a four year period. During the years ended December 31, 2011, 2010 and 2009, the Company contributed approximately $228,251, $197,513 and $153,141, respectively, to the 401(k) Plan.

 

SCHEDULE II
VALUATION AND QUALIFYING ACCOUNTS AND RESERVES

 

 

 

Balance at
Beginning
of Period

 

Additions
Charged to
Expense

 

Deductions

 

Balance
at End
of Period

 

For the year ended December 31, 2011:

 

 

 

 

 

 

 

 

 

Allowance for doubtful accounts

 

$

46,687

 

$

34,079

 

$

 

$

80,766

 

For the year ended December 31, 2010:

 

 

 

 

 

 

 

 

 

Allowance for doubtful accounts

 

$

47,527

 

$

 

$

840

 

$

46,687

 

For the year ended December 31, 2009:

 

 

 

 

 

 

 

 

 

Allowance for doubtful accounts

 

$

 

$

60,000

 

$

12,473

 

$

47,527

 

 

49



Table of Contents

 

EXHIBIT INDEX

 

Exhibit
Number

 

Description

3.1

 

Certificate of Incorporation of the Company, previously filed with the SEC as Exhibit 3.1 to the Company’s Registration Statement on Form SB-2, specifically included in Amendment No. 1 to such Registration Statement filed with the SEC on July 3, 1996 (File No. 333-4974-LA) (the “Registration Statement Amendment No. 1”), which is incorporated herein by reference.

 

 

 

3.2

 

Bylaws of the Company, previously filed with the SEC as Exhibit 3.1 to the Company’s Quarterly Report on Form 10-Q for the period ended September 30, 1999, filed with the SEC on November 12, 1999, which is incorporated herein by reference.

 

 

 

 

 

Material Contracts Relating to Management Compensation Plans or Arrangements

 

 

 

10.1

 

Employment Agreement dated July 1, 1996, between the Company and Thomas C.K. Yuen, previously filed with the SEC as Exhibit 10.8 to the Registration Statement Amendment No. 1, which is incorporated herein by reference.

 

 

 

10.2

 

Amendment to Employment Agreement dated as of March 14, 1997, between the Company and Thomas C.K. Yuen, previously filed with the SEC as Exhibit 10.2 to the Company’s Annual Report on Form 10-KSB for the fiscal year ended December 31, 1996, filed with the SEC on March 31, 1997 (the “1996 Annual Report”), which is incorporated herein by reference.

 

 

 

10.3

 

Employment Agreement dated July 1, 1996, between the Company and Alan D. Kraemer, previously filed with the SEC as Exhibit 10.11 to the Registration Statement Amendment No. 1, which is incorporated herein by reference.

 

 

 

10.4

 

SRS Labs, Inc. Amended and Restated 1996 Non-employee Directors Stock Option Plan, as amended, previously filed with the SEC as Appendix B to the Company’s Definitive Proxy Statement dated and filed with the SEC on April 30, 2003, which is incorporated herein by reference.

 

 

 

10.5

 

Form of Indemnification Agreement (entered into with David Dukes, Thomas C.K. Yuen, Winston E. Hickman, Carol L. Miltner, Sam Yau, Allen Gharapetian, Jeff Klaas, Alan D. Kraemer, Walter J. McBride, Maria Oppegard and Sarah Yang), previously filed with the SEC as Exhibit 99.1 to the Company’s Current Report on Form 8-K filed with the SEC on August 13, 2010, which is incorporated herein by reference.

 

 

 

10.6

 

Non-employee Director Compensation Policy adopted by the Company’s Board of Directors on September 23, 2010.

 

 

 

10.7

 

Form of Non-Employee Director Stock Option Agreement under the SRS Labs, Inc. Amended and Restated 1996 Non-Employee Directors’ Stock Option Plan (Initial Appointment), previously filed with the SEC as Exhibit 10.2 to the Company’s Current Report on Form 8-K filed with the SEC on February 3, 2005, which is incorporated herein by reference.

 

 

 

10.8

 

Form of Non-Employee Director Stock Option Agreement under the SRS Labs, Inc. Amended and Restated 1996 Non-Employee Directors’ Stock Option Plan (Re-Election), previously filed with the SEC as Exhibit 10.3 to the Company’s Current Report on Form 8-K filed with the SEC on February 3, 2005, which is incorporated herein by reference.

 

 

 

10.9

 

Form of Non-Employee Director Stock Option Agreement under the SRS Labs, Inc. Amended and Restated 1996 Long-Term Incentive Plan, previously filed with the SEC as Exhibit 10.4 to the Company’s Current Report on Form 8-K filed with the SEC on February 3, 2005, which is incorporated herein by reference.

 

 

 

10.10

 

Form of Nonqualified Stock Option Agreement under the SRS Labs, Inc. Amended and Restated 1996 Long-Term Incentive Plan dated March 29, 2005, previously filed with the SEC as Exhibit 10.1 to the Company’s Current Report Form 8-K filed with the SEC on April 4, 2005, which is incorporated herein by reference.

 

 

 

10.11

 

SRS Labs, Inc. Amended and Restated Change in Control Protection Plan approved August 3, 2009, previously filed with the SEC as Exhibit 10.1 to the Company’s Quarterly Report on Form 10-Q filed with the SEC on August 6, 2009, which is incorporated herein by reference.

 

50



Table of Contents

 

Exhibit
Number

 

Description

10.12

 

Form of Participation Agreement under the SRS Labs, Inc. Amended and Restated Change in Control Protection Plan for Selected Executive Officers (Current participants under this plan include the following officers: Thomas C.K. Yuen, Allen Gharapetian, Jeff Klaas and Alan D. Kraemer, Walter J. McBride, Maria Oppegard and Sarah Yang, ) previously filed with the SEC as Exhibit 10.2 to the Company’s Quarterly Report on Form 10-Q filed with the SEC on August 6, 2009, which is incorporated herein by reference.

 

 

 

10.13

 

SRS Labs, Inc. Amended and Restated 1996 Long-Term Incentive Plan, as amended, approved April 27, 2005, previously filed with the SEC as Exhibit 10.5 to the Form 8-K filed with the SEC on May 3, 2005, which is incorporated herein by reference.

 

 

 

10.14

 

Offer Letter dated April 22, 2008 by and between the Company and Jeff Klaas, previously filed with the SEC as Exhibit 10.15 to the Company’s Annual Report on Form 10-K for the fiscal period ended December 31, 2008, filed with the SEC on February 24, 2009 which is incorporated herein by reference.

 

 

 

10.15

 

Offer Letter dated October 3, 2011 by and between the Company and Walter J. McBride, previously filed with the SEC as Exhibit 99.2 to the Company’s Current Report on Form 8-K filed with the SEC on October 28, 2011, which is incorporated herein by reference.

 

 

 

10.16

 

Form of Nonqualified Stock Option Agreement under the SRS Labs, Inc. 1996 Amended and Restated Long-Term Incentive Plan, as amended, previously filed with the SEC as Exhibit 99.8 to the Company’s Current Report on Form 8-K filed with the SEC on January 18, 2006, which is incorporated herein by reference.

 

 

 

10.17

 

SRS Labs, Inc. Profit Sharing and Bonus Plan, as amended on February 17, 2012.

 

 

 

10.18

 

SRS Labs, Inc. 2006 Stock Incentive Plan, as amended on April 15, 2011, previously filed with the SEC as Appendix A to the Company’s Proxy Statement on Schedule 14A filed with the SEC on April 25 2011, which is incorporated herein by reference.

 

 

 

10.19

 

Form of Stock Option Award Agreement under the SRS Labs, Inc. 2006 Stock Incentive Plan, previously filed with the SEC as Exhibit 10.9 to the Company’s Quarterly Report on Form 10-Q, Amendment No. 1, filed with the SEC on September 22, 2006, which is incorporated herein by reference.

 

 

 

10.20

 

Form of Restricted Share Award Agreement under the SRS Labs, Inc. 2006 Stock Incentive Plan, previously filed with the SEC as Exhibit 10.10 to the Company’s Quarterly Report on Form 10-Q, Amendment No. 1, filed with the SEC on September 22, 2006, which is incorporated herein by reference.

 

 

 

10.21

 

Form of Restricted Share Unit Award Agreement under the SRS Labs, Inc. 2006 Stock Incentive Plan.

 

 

 

10.22

 

Form of SAR Award Agreement under the SRS Labs, Inc. 2006 Stock Incentive Plan, previously filed with the SEC as Exhibit 10.12 to Amendment No. 1 to the Company’s Quarterly Report on Form 10-Q, Amendment No. 1, filed with the SEC on September 22, 2006, which is incorporated herein by reference.

 

 

 

10.23

 

SRS Labs, Inc. Patent Reward Program, previously filed as Exhibit 10.2 to the Company’s Form 8-K filed with the SEC on June 28, 2006, which is incorporated herein by reference.

 

 

 

10.24

 

Separation Agreement and Release of Claims between the Company and Ulrich Gottschling dated June 2, 2011, previously filed with the SEC as Exhibit 10.1 to the Company’s Current Report on Form 8-K filed with the SEC on June 3, 2011, which is incorporated herein by reference.

 

51



Table of Contents

 

Exhibit
Number

 

Description

 

 

Other Material Contracts

 

 

 

10.25

 

Industrial Real Estate Lease dated May 27, 2008, between the Company and Daimler Commerce Partners, L.P., previously filed with the SEC as Exhibit 10.25 to the Company’s Annual Report on Form 10-K for the fiscal period ended December 31, 2008, filed with the SEC on February 24, 2009 which is incorporated herein by reference.

 

 

 

10.26

 

Revolving Credit Agreement effective June 30, 2010, and related documents and agreements, by and between SRS Labs, Inc. and U.S. Bank N.A., previously filed with the SEC as Exhibit 10.1 to the Company’s Current Report on Form 8-K, filed with the SEC on August 18, 2010 which is incorporated herein by reference.

 

 

 

10.27

 

Settlement Agreement effective September 9, 2010 by and between SRS Labs, Inc. and Sony Corporation, previously filed with the SEC as Exhibit 10.1 to the Company’s Current Report on Form 8-K, filed with the SEC on September 13, 2010 which is incorporated herein by reference.

 

 

 

10.28

 

Standard Industrial/Commercial Multi-tenant Lease dated February 7, 2011, by and between SRS Labs, Inc. and Daimler Commerce Partners, L.P. filed with the SEC on February 22, 2011 which is incorporated herein by reference.

 

 

 

 

 

Other Exhibits

 

 

 

21

 

Subsidiaries of the Company.

 

 

 

23.1

 

Consent of Independent Registered Public Accounting Firm, Squar, Milner, Peterson, Miranda & Williamson, LLP, dated March 12, 2012.

 

 

 

31.1

 

Certification of the Chief Executive Officer of SRS Labs, Inc., pursuant to Section 302 of the Sarbanes- Oxley Act of 2002.

 

 

 

31.2

 

Certification of the Chief Financial Officer of SRS Labs, Inc., pursuant to Section 302 of the Sarbanes- Oxley Act of 2002.

 

 

 

32.1

 

Certification of Chief Executive Officer of SRS Labs, Inc., pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

 

 

32.2

 

Certification of Chief Financial Officer of SRS Labs, Inc., pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

 

 

101.INS*

 

XBRL Instance Document

 

 

 

101.SCH*

 

XBRL Taxonomy Extension Schema

 

 

 

101.CAL*

 

XBRL Taxonomy Extension Calculation Linkbase

 

 

 

101.DEF*

 

XBRL Taxonomy Extension Definition Linkbase

 

 

 

101.LAB*

 

XBRL Taxonomy Extension Label Linkbase

 

 

 

101.PRE*

 

XBRL Taxonomy Extension Presentation Linkbase

 


* Pursuant to Rule 406T of Regulation S-T, these interactive data files are deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, are deemed not filed for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, and otherwise are not subject to liability under these sections.

 

52