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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
_____________________________________________________________ 
FORM 10-Q
_____________________________________________________________ 
(Mark One)
  x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2014
or
  o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from             to             
Commission file number: 000-53413
_____________________________________________________________  
Rovi Corporation
(Exact name of registrant as specified in its charter)
_____________________________________________________________ 
Delaware
 
26-1739297
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
 
 
 
2830 De La Cruz Boulevard, Santa Clara, CA
 
95050
(Address of principal executive offices)
 
(Zip Code)
(408) 562-8400
(Registrant’s telephone number, including area code)
 _____________________________________________________________ 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ý    No  ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ý    No  ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act:
Large accelerated filer
ý
Accelerated filer
o
 
 
 
 
Non-accelerated filer
 o (Do not check if a smaller reporting company)
Smaller reporting company
o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  ý
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
Class
 
Outstanding as of October 30, 2014
Common stock, $0.001 par value
 
95,056,366




ROVI CORPORATION
FORM 10-Q
INDEX

PART I - FINANCIAL INFORMATION
 
 
Page
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
PART II - OTHER INFORMATION
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 




i


PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
ROVI CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands)
(Unaudited)
 
September 30, 2014
 
December 31, 2013
ASSETS
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
165,599

 
$
156,487

Short-term investments
226,997

 
365,976

Trade accounts receivable, net
77,361

 
104,386

Taxes receivable
612

 
1,907

Deferred tax assets, net
9,172

 
18,621

Prepaid expenses and other current assets
12,628

 
14,936

Assets held for sale

 
106,688

Total current assets
492,369

 
769,001

Long-term marketable investment securities
127,042

 
118,658

Property and equipment, net
32,061

 
33,350

Finite-lived intangible assets, net
477,949

 
478,229

Long-term deferred tax assets
1,735

 

Other assets
15,187

 
16,907

Goodwill
1,337,600

 
1,298,448

Total assets
$
2,483,943

 
$
2,714,593

LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 
 
Current liabilities:
 
 
 
Accounts payable and accrued expenses
$
72,599

 
$
94,560

Deferred revenue
18,653

 
9,848

Current portion of long-term debt
298,786

 

Liabilities held for sale

 
5,513

Total current liabilities
390,038

 
109,921

Taxes payable, less current portion
9,730

 
44,038

Long-term debt, less current portion
806,167

 
1,186,564

Deferred revenue, less current portion
17,732

 
4,641

Long-term deferred tax liabilities, net
69,817

 
41,379

Other non current liabilities
15,084

 
14,834

Total liabilities
1,308,568

 
1,401,377

Stockholders’ equity:
 
 
 
Common stock
131

 
128

Treasury stock
(939,833
)
 
(816,694
)
Additional paid-in capital
2,328,608

 
2,279,196

Accumulated other comprehensive loss
(4,179
)
 
(3,999
)
Retained deficit
(209,352
)
 
(145,415
)
Total stockholders’ equity
1,175,375

 
1,313,216

Total liabilities and stockholders’ equity
$
2,483,943

 
$
2,714,593


See the accompanying notes to the unaudited condensed consolidated financial statements.

1


ROVI CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share data)
(Unaudited)

 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2014
 
2013
 
2014
 
2013
Revenues
$
128,582

 
$
123,478

 
$
408,094

 
$
385,398

Costs and expenses:

 

 
 
 
 
Cost of revenues, exclusive of amortization of intangible assets
22,303

 
21,151

 
78,258

 
69,476

Research and development
25,369

 
26,787

 
79,859

 
83,986

Selling, general and administrative
34,306

 
36,644

 
109,291

 
112,486

Depreciation
4,256

 
4,007

 
13,207

 
12,283

Amortization of intangible assets
20,158

 
18,673

 
58,178

 
56,109

Restructuring and asset impairment charges
2,722

 
5,705

 
8,404

 
7,638

Gain on sale of patents
(500
)
 

 
(500
)
 

Total costs and expenses
108,614

 
112,967

 
346,697

 
341,978

Operating income from continuing operations
19,968

 
10,511

 
61,397

 
43,420

Interest expense
(13,962
)
 
(15,102
)
 
(40,721
)
 
(46,286
)
Interest income and other, net

 
653

 
1,835

 
2,341

Debt modification expense
(3,775
)
 

 
(3,775
)
 
(1,351
)
(Loss) income on interest rate swaps and caps, net
(229
)
 
(4,206
)
 
(7,565
)
 
2,239

Loss on debt redemption
(5,159
)
 

 
(5,159
)
 
(2,761
)
(Loss) income from continuing operations before income taxes
(3,157
)
 
(8,144
)
 
6,012

 
(2,398
)
Income tax expense (benefit)
3,458

 
(14,175
)
 
13,658

 
(13,183
)
(Loss) income from continuing operations, net of tax
(6,615
)
 
6,031

 
(7,646
)
 
10,785

Discontinued operations, net of tax
(417
)
 
(17,505
)
 
(56,291
)
 
(122,066
)
Net loss
$
(7,032
)
 
$
(11,474
)
 
$
(63,937
)
 
$
(111,281
)
Basic earnings per share:
 
 
 
 
 
 
 
Basic (loss) income per share from continuing operations
$
(0.07
)
 
$
0.06

 
$
(0.08
)
 
$
0.11

Basic loss per share from discontinued operations
(0.01
)
 
(0.18
)
 
(0.62
)
 
(1.24
)
Basic net earnings per share
$
(0.08
)
 
$
(0.12
)
 
$
(0.70
)
 
$
(1.13
)
Shares used in computing basic net earnings per share
91,468

 
97,674

 
91,975

 
98,821

Diluted earnings per share:
 
 
 
 
 
 
 
Diluted (loss) income per share from continuing operations
$
(0.07
)
 
$
0.06

 
$
(0.08
)
 
$
0.11

Diluted loss per share from discontinued operations
(0.01
)
 
(0.18
)
 
(0.62
)
 
(1.23
)
Diluted net earnings per share
$
(0.08
)
 
$
(0.12
)
 
$
(0.70
)
 
$
(1.12
)
Shares used in computing diluted net earnings per share
91,468

 
98,434

 
91,975

 
99,537



See the accompanying notes to the unaudited condensed consolidated financial statements.

2


ROVI CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
(In thousands)
(Unaudited)
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2014
 
2013
 
2014
 
2013
Net loss
$
(7,032
)
 
$
(11,474
)
 
$
(63,937
)
 
$
(111,281
)
Other comprehensive (loss) income, net of tax:
 
 
 
 
 
 
 
Foreign currency translation adjustment
(741
)
 
462

 
(221
)
 
(2,324
)
Unrealized (losses) gains on investments, net
(131
)
 
357

 
41

 
280

Other comprehensive (loss) income
(872
)
 
819

 
(180
)
 
(2,044
)
Comprehensive loss
$
(7,904
)
 
$
(10,655
)
 
$
(64,117
)
 
$
(113,325
)

See the accompanying notes to the unaudited condensed consolidated financial statements.


3


ROVI CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
 
Nine Months Ended September 30,
 
2014
 
2013
Cash flows from operating activities:
 
 
 
Net loss
$
(63,937
)
 
$
(111,281
)
Adjustments to reconcile net loss to net cash provided by operations:
 
 
 
Loss from discontinued operations, net of tax
56,291

 
122,066

Change in fair value of interest rate swaps and caps, net of settlements
285

 
4,260

Depreciation
13,207

 
12,283

Amortization of intangible assets
58,178

 
56,109

Asset impairment charge
1,115

 
4,075

Debt modification expense
3,775

 
1,351

Amortization of note issuance costs and convertible note discount
12,993

 
12,763

Equity-based compensation
31,813

 
42,173

Loss on debt redemption
5,159

 
2,761

Deferred taxes
(4,458
)
 
(2,488
)
Other, net
4,250

 
8,976

Changes in operating assets and liabilities, net of assets and liabilities acquired:
 
 
 
Accounts receivable, net
26,620

 
273

Deferred revenue
21,569

 
1,557

Prepaid expenses, other current assets, and other assets
3,722

 
10,255

Income taxes
4,316

 
(10,775
)
Accounts payable, accrued expenses, and other long-term liabilities
(24,276
)
 
(11,361
)
Net cash provided by operating activities of continuing operations
150,622

 
142,997

Net cash used in operating activities of discontinued operations
(5,300
)
 
(18,128
)
Net cash provided by operating activities
145,322

 
124,869

Cash flows from investing activities:
 
 
 
Purchases of long and short-term marketable investments
(229,255
)
 
(629,945
)
Sales or maturities of long and short-term marketable investments
356,214

 
648,192

Proceeds from sale of business
50,298

 
1,000

Payment to Rovi Entertainment Store buyer

 
(8,500
)
Purchases of property and equipment
(13,891
)
 
(11,192
)
Payments for acquisition, net of cash acquired
(60,707
)
 
(10,000
)
Purchase of patents
(28,000
)
 

Other investing, net
(812
)
 
(79
)
Net cash provided by (used in) investing activities of continuing operations
73,847

 
(10,524
)
Net cash used in investing activities of discontinued operations

 
(1,332
)
Net cash provided by (used in) investing activities
73,847

 
(11,856
)
Cash flows from financing activities:
 
 
 
Payments under debt obligations
(915,756
)
 
(649,142
)
Purchase of treasury stock
(123,139
)
 
(107,123
)
Proceeds from issuance of debt, net of issuance costs
812,001

 
537,524

Proceeds from exercise of options and employee stock purchase plan
16,784

 
18,280

Net cash used in financing activities of continuing operations
(210,110
)
 
(200,461
)
Net cash used in financing activities of discontinued operations

 

Net cash used in financing activities
(210,110
)
 
(200,461
)
Effect of exchange rate changes on cash
53

 
(1,313
)
Net increase (decrease) in cash and cash equivalents
9,112

 
(88,761
)
Cash and cash equivalents at beginning of period
156,487

 
285,352

Cash and cash equivalents at end of period
$
165,599

 
$
196,591

 
 
 
 
See the accompanying notes to the condensed consolidated financial statements.

4


ROVI CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)

NOTE 1 – BASIS OF PRESENTATION
Rovi Corporation and its subsidiaries (collectively “Rovi” or the “Company”) are focused on powering the discovery and personalization of digital entertainment. The Company provides a broad set of integrated solutions that are embedded in its customers' products and services, connecting consumers with entertainment. Content discovery solutions include interactive program guides (“IPGs”), search and recommendations, cloud data services and the Company's extensive database of "Metadata" (i.e. descriptive information, promotional images or other content that describe or relate to television shows, videos, movies, music, books, games or other entertainment content). In addition to offering Company developed IPGs, customers may also license the Company's patents and deploy their own IPG or a third party IPG. The Company also offers advertising and analytics services.  Rovi's solutions are deployed globally in the cable, satellite, consumer electronics, entertainment, media and online distribution markets.
The accompanying unaudited Condensed Consolidated Financial Statements have been prepared by the Company in accordance with the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures, normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America, have been condensed or omitted in accordance with such rules and regulations. However, the Company believes the disclosures are adequate to make the information not misleading. In the opinion of management, the accompanying unaudited Condensed Consolidated Financial Statements reflect all adjustments, consisting only of normal recurring adjustments, which in the opinion of management are considered necessary to present fairly the results for the periods presented. This quarterly report on Form 10-Q should be read in conjunction with the audited financial statements and notes thereto and other disclosures contained in the Company’s 2013 Annual Report on Form 10-K.
The Condensed Consolidated Statements of Operations for the interim periods presented are not necessarily indicative of the results expected for the entire year ending December 31, 2014, for any future year, or for any other future interim period. Certain prior period amounts have been reclassified to conform to the current period presentation.

NOTE 2 –SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Recently Issued Accounting Standards

In May 2014, the Financial Accounting Standards Board issued Accounting Standards Update No. 2014-09, Revenue from Contracts with Customers ("ASU 2014-09") an updated standard on revenue recognition. This ASU will supersede the revenue recognition requirements in Accounting Standards Codification Topic 605, Revenue Recognition, and most industry-specific guidance.  ASU 2014-09 provides enhancements to the quality and consistency of how revenue is reported while also improving comparability in the financial statements of companies reporting using US GAAP and International Financial Reporting Standards.  The core principle of the new standard is for companies to recognize revenue to depict the transfer of goods or services to customers in amounts that reflect the consideration to which the company expects to be entitled in exchange for those goods or services. In doing so the Company may be required to use more judgment and make more estimates than under current authoritative guidance. ASU 2014-09 will be effective for the Company in the first quarter of fiscal 2017 and may be applied on a full retrospective or modified retrospective approach. The Company is currently evaluating the impact the adoption of this standard will have on its financial statements.

Cash, Cash Equivalents and Investments
The Company considers investments with original maturities from the date of purchase of three months or less to be cash equivalents. Cash and cash equivalents consist of cash on deposit with banks, money market funds and corporate debt securities. All other liquid investments with maturities over three months and less than 12 months are classified as short-term investments. All marketable securities with maturities over one year or those for which the Company’s intent is to retain them for more than twelve months are classified as long-term marketable investment securities.
Management determines the appropriate classification of investment securities at the time of purchase and re-evaluates such designation as of each balance sheet date. Available-for-sale securities are carried at fair value, with unrealized gains and losses reported in accumulated other comprehensive income, as a separate component of stockholders’ equity. Trading securities are carried at fair value, with changes in fair value reported as part of interest income and other, net in the Condensed Consolidated Statements of Operations.

5


Realized gains and losses and declines in value judged to be other-than-temporary for available-for-sale securities are reported in interest income and other, net as incurred. The cost of securities sold is based on the specific identification method. Interest and dividends on securities classified as available-for-sale and trading are included in interest income and other, net.
Allowance for Doubtful Accounts
The Company maintains an allowance for doubtful accounts to reserve for potentially uncollectible trade receivables. The Company reviews its trade receivables by aging category to identify significant customers with known disputes or collection issues. For accounts not specifically identified, the Company provides reserves based on historical bad debt loss experience.
Property and Equipment
Property and equipment are stated at cost, net of accumulated depreciation and amortization. Depreciation and amortization is computed using the straight-line method over the estimated useful lives of the respective assets. Computer equipment and software are depreciated over three years. Furniture and fixtures are depreciated over five years. Leasehold improvements and assets recorded under capital leases are amortized on a straight-line basis over the shorter of the assets’ useful lives or lease terms.
Joint Ventures and Other Investments
Investments of 50% or less in entities in which the Company has the ability to exercise significant influence over operations are accounted for using the equity method.
Deferred Revenue
Deferred revenue represents cash amounts received from customers under certain license agreements for which the revenue earnings process has not been completed.
Comprehensive Loss
Comprehensive loss includes net loss, foreign currency translation adjustments and unrealized gains and losses, net of related taxes, on marketable investment securities that have been excluded from the determination of net loss.
Revenue Recognition
The Company’s revenue from continuing operations primarily consists of license fees for the Company's IPG products and patents, content protection technologies and entertainment Metadata and advertising revenue. The Company recognizes revenue when the following conditions are met: (i) there is persuasive evidence that an arrangement exists, (ii) delivery has occurred or service has been rendered, (iii) the price is fixed or determinable and (iv) collection is reasonably assured.
Revenue arrangements with multiple deliverables are divided into separate units of accounting when the delivered item has value to the customer on a stand-alone basis. The Company allocates the total consideration among the various elements based on their relative selling price using vendor specific objective evidence (VSOE) of selling price, if it exists; otherwise selling price is determined based on third-party evidence (TPE). If neither VSOE nor TPE exist, the Company uses its best estimate of selling price (BESP) to allocate the arrangement consideration. The allocation of value may impact the amount and timing of revenue recorded in the Condensed Consolidated Statement of Operations during a given period.
The Company accounts for cash consideration (such as sales incentives) that it gives to its customers or resellers as a reduction of revenue, rather than as an operating expense unless the Company receives a benefit that is separate from the customer’s purchase from the Company and for which it can reasonably estimate the fair value.
Amounts for fees collected or invoiced and due relating to arrangements where revenue cannot be recognized are reflected on the Company’s balance sheet as deferred revenue and recognized when the applicable revenue recognition criteria are satisfied.
IPG and ACP Licensing
The Company licenses its proprietary IPG technology and ACP technology to consumer electronics (“CE”) manufacturers, integrated circuit makers, service providers and others. The Company generally recognizes revenue from licensing technology on a per-unit shipped model with CE manufacturers or a per-subscriber model with service providers. The

6


Company’s recognition of revenues from per-unit license fees is based on units reported shipped by the manufacturer. CE manufacturers normally report their unit shipments to the Company in the quarter immediately following that of actual shipment by the manufacturer. The Company has established significant experience and relationships with certain ACP technology licensing customers to reasonably estimate current period volume for purposes of making an accurate revenue accrual. Accordingly, revenue from these customers is recognized in the period the customer shipped the units. Revenues from per-subscriber fees are recognized in the period the services are provided by a licensee, as reported to the Company by the licensee. Revenues from annual or other license fees are recognized based on the specific terms of the license arrangement. For instance, some of the Company’s large CE IPG licensees have entered into agreements for which they have the right to ship an unlimited number of units over a specified term for a flat fee. The Company records the fees associated with these arrangements on a straight-line basis over the specified term. The Company at times enters into IPG patent license agreements in which it provides a licensee a release for past infringement as well as the right to ship an unlimited number of units over a future period for a flat fee. In this type of arrangement, the Company generally would use BESP to allocate the consideration between the release for past infringement and the go-forward patent license. In determining BESP of the past infringement component and the go-forward license agreement, the Company considers such factors as the number of units shipped in the past and in what territories these units where shipped, the number of units expected to be shipped in the future and in what territories these units are expected to be shipped, as well as the licensing rate the Company generally receives for units shipped in these territories. As the revenue recognition criteria for the past infringement would generally be satisfied upon the execution of the agreement, the amount of consideration allocated to the past infringement would be recognized in the quarter the agreement is executed and the amount allocated to the go-forward license agreement would be recognized ratably over the term. In addition, the Company enters into agreements in which the licensee pays the Company a one-time fee for a perpetual license to its ACP technology. Provided that collectability is reasonably assured, the Company records revenue related to these agreements when the agreement is executed as the Company has no continuing obligation and the amounts are fixed and determinable.
The Company also generates advertising revenue through its IPGs and other platforms. Advertising revenue is recognized when the related advertisement is provided. All advertising revenue is recorded net of agency commissions and revenue shares with service providers and CE manufacturers.

Metadata Licensing

The Company licenses its Metadata to service providers, CE manufacturers and online portals among others. The Company generally receives a monthly or quarterly fee from its licensees for the right to use the Metadata, receive regular updates and integrate it into their own service. The Company recognizes revenue on a straight-line basis over the period its licensee has the right to receive the Metadata service.

Discontinued Operations-DivX and MainConcept
The Company generally licensed its DivX and MainConcept codecs for a per unit fee or an annual fee. The Company’s recognition of revenues from per-unit license fees is based on units reported shipped by the manufacturer. CE manufacturers normally report their unit shipments to the Company in the quarter immediately following that of actual shipment by the manufacturer. Revenues from annual or other license fees are recognized based on the specific terms of the license arrangement. For instance, some of the Company’s large CE licensees had entered into agreements for which they have the right to ship an unlimited number of units over a specified term for a flat fee. The Company records the fees associated with these arrangements on a straight-line basis over the specified term. In addition, the Company entered into agreements in which the licensee paid the Company a one-time fee for a perpetual license to its DivX technology. Provided that collectability is reasonably assured, the Company records revenue related to these agreements when the agreement is executed as the Company has no continuing obligation and the amounts are fixed and determinable.
Discontinued Operations-Rovi Entertainment Store Video Delivery Solution
The Company recognizes service fees it receives from retailers and others for operating their storefronts on a straight-line basis over the period it is providing services. The Company recognizes transaction revenue from the sale or rental of individual content titles in the period when the content is purchased and delivered. Transaction revenue is recorded on a gross basis when the Company is the principal in the transaction and is recorded net of payments to content owners and others when the Company is acting as an agent. The Company was generally the principal in the transaction when it was the merchant of record and was licensing the content distribution rights.
Cost of Revenues

7


Cost of revenues consists primarily of data costs, royalty expenses, patent prosecution, patent maintenance and patent litigation costs.
Equity-Based Compensation
Equity-based compensation cost is measured at the grant date based on the fair value of the award. The Company recognizes compensation costs for shares that are expected to vest, on a straight-line basis, over the requisite service period of the award.
Income Taxes
Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax carry forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. The measurement of deferred tax assets is reduced, if necessary, by a valuation allowance for any tax benefits of which future realization is not evaluated to be more likely than not.
From time to time, the Company engages in transactions in which the tax consequences may be subject to uncertainty. Significant judgment is required in assessing and estimating the tax consequences of these transactions. In determining the Company’s tax provision for financial reporting purposes, the Company establishes a reserve for uncertain tax positions unless such positions are determined to be “more likely than not” of being sustained upon examination, based on their technical merits.
In June 2013, the Emerging Issues Task Force (the "EITF") reached final consensus on Issue 13-C, Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward or Tax Credit Carryforward Exists. The EITF concluded that an unrecognized tax benefit should be presented as a reduction of a deferred tax asset for a net operating loss carryforward or other tax credit carryforward when settlement in this manner is available under the tax law. The Company adopted this consensus on January 1, 2014. The adoption reduced both the Company's long-term income tax payable and the Company's deferred tax asset for net operating loss carryforwards by $37.0 million.
Taxes Collected from Customers
The Company applies the net basis presentation for taxes collected from customers and remitted to governmental authorities.
Foreign Currency Translation
The translation of the accounts of Company subsidiaries with a foreign currency other than the United States Dollar is performed for balance sheet accounts using current exchange rates in effect at the balance sheet date and for revenues and expense accounts using an average exchange rate for the respective periods. Adjustments resulting from such translation are included in comprehensive income. Gains or losses resulting from foreign currency transactions included in the Condensed Consolidated Statements of Operations were not material in any of the periods presented.
Business and Concentration of Credit Risk
Financial instruments that potentially subject the Company to significant concentrations of credit risk consist principally of cash, cash equivalents, marketable securities, interest rate swaps and caps and trade accounts receivable. The Company places its cash and cash equivalents, marketable securities and money market funds with various high credit quality institutions.
For the nine months ended September 30, 2014 and September 30, 2013, 11% and 12%, respectively, of the Company's revenue from continuing operations was related to its contract with DIRECTV. For the nine months ended September 30, 2014 and September 30, 2013, 22% and 22%, respectively, of the Company's revenue from continuing operations was related to its contracts with DIRECTV, Comcast and Time Warner Cable. These customers' current contracts expire in the second half of 2015 and first half of 2016.

8


Goodwill and Other Intangibles from Acquisitions
Goodwill is reviewed for impairment annually, or more frequently, if facts and circumstances warrant a review. The provisions require the Company to first assess qualitative factors to determine whether events or circumstances lead to the determination that the fair value of a reporting unit is less than its carrying value. If, after assessing the totality of events or circumstances, the Company determines it is more likely than not that the fair value of a reporting unit is less than its carrying amount, then the Company performs the two-step impairment test. In the first step of the two-step impairment test, the fair value of each reporting unit is compared to its carrying value. If the fair value exceeds the carrying value, goodwill is not impaired and no further testing is performed. The second step is performed if the carrying value exceeds the fair value. The implied fair value of the reporting unit’s goodwill must be determined and compared to the carrying value of the goodwill. If the carrying value of a reporting unit’s goodwill exceeds its implied fair value, an impairment loss equal to the difference will be recorded.
Intangible assets with definite lives are amortized over their estimated useful life, generally three to eighteen years, and reviewed for impairment when events and circumstances indicate that the intangible asset might be impaired.
Impairment of Long-Lived Assets and Long-Lived Assets to Be Disposed of, Excluding Goodwill and Indefinite-Lived Intangible Assets
The Company records impairment losses on long-lived assets, excluding goodwill and indefinite-lived intangible assets, used in operations when events and circumstances indicate that long-lived assets might be impaired and the undiscounted cash flows estimated to be generated by those assets are less than the carrying amounts of those assets. If required, the impairment recognized is the difference between the fair value of the asset and its carrying amount.
Software Development Costs
Capitalization of software development costs begins upon the establishment of technological feasibility, which is generally the completion of a working prototype that has been certified as having no critical bugs and is a release candidate or when alternative future use exists. To date, software development costs incurred between completion of a working prototype and general availability of the related product have not been material and have not been capitalized.
Research and Development
Expenditures for research and development are expensed as incurred.

NOTE 3 – ACQUISITIONS
2014 Acquisitions
On February 28, 2014, the Company acquired Veveo Inc. ("Veveo") for approximately $67.6 million, plus up to an additional $7.0 million in contingent consideration that will be paid if certain sales and engineering goals are met. Veveo is a provider of intuitive and personalized entertainment discovery solutions. The contingent consideration has been included in the Condensed Consolidated Balance Sheet at its estimated Level 3 (see Note 8) fair value of $5.7 million.
On July 7, 2014, the Company purchased a portfolio of patents for $28.0 million. The portfolio includes approximately 500 issued patents and pending applications worldwide, with slightly more than half of those being issued U.S. patents. The Company has accounted for the transaction as an asset acquisition and is amortizing the purchase price of the patents over ten years.    
2013 Acquisitions
On March 8, 2013, the Company acquired IntegralReach Corporation ("IntegralReach") for approximately $10.0 million, plus an additional $3.0 million in contingent consideration that will be paid if certain customer attainment goals are met. IntegralReach is an analytics technology company with core technology built for analyzing large amounts of data. The contingent consideration has been included in accounts payable and accrued expenses on the Condensed Consolidated Balance Sheet at its estimated Level 3 (see Note 8) fair value of $3.0 million.

NOTE 4 – DISCONTINUED OPERATIONS AND ASSETS HELD FOR SALE

During the fourth quarter of 2013 the Company made a determination that it would pursue selling its DivX and MainConcept business. On March 31, 2014, the Company sold its DivX and MainConcept business for $52.5 million in cash,

9


plus up to $22.5 million in additional payments based on the achievement of certain agreed-upon revenue milestones over the next three years. The Company has recorded the operations and cash flows of the DivX and MainConcept business as discontinued operations for all periods presented.

In March 2014, the Company sold its Nowtilus business. Nowtilus was a provider of video-on-demand solutions in Germany. The Company has recorded the operations and cash flows of the Nowtilus business as discontinued operations for all periods presented.
The assets and liabilities attributable to the Company's DivX and MainConcept business unit classified in the Condensed Consolidated Balance Sheet as held for sale at December 31, 2013, consist of the following (in thousands):
 
December 31,
2013
Trade accounts receivable, net
$
5,339

Taxes receivable
4,641

Prepaid and other assets
456

Property and equipment, net
1,248

Intangible assets
94,619

Other long-term assets
385

Accounts payable and other liabilities
(3,494
)
Taxes payable, less current portion
(26
)
Deferred revenue
(1,993
)
Total net assets held for sale
$
101,175

On August 15, 2013, the Company sold its Consumer Website business, which includes the SideReel.com and allmusic.com sites, among others, for $1.0 million. The Company has recorded the operations and cash flows of the Consumer Website business as discontinued operations for all periods presented.

On September 1, 2013, the Company sold its Rovi Entertainment Store business. Additionally, the Company agreed to transfer $8.5 million to the buyer and the Company received a $2.0 million unsecured note payable from the buyer. The results of operations and cash flows of the Rovi Entertainment Store business have been reclassified to discontinued operations for all periods presented.

During the three and nine months ended September 30, 2013, the Company recorded $0.0 million and $0.5 million in expenses, respectively, related to indemnification for IP infringement claims relating to the Company’s previous software business which included Flexnet, InstallShield and AdminStudio software tools.

10


The results of operations of the Company’s discontinued businesses consist of the following (in thousands):
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2014
 
2013
 
2014
 
2013
Net revenue:
 
 
 
 
 
 
 
Rovi Entertainment Store
$

 
$
1,974

 

 
9,367

Consumer Website

 
600

 

 
3,281

DivX and MainConcept

 
19,166

 
14,952

 
57,128

Nowtilus

 
313

 
100

 
313

Pre-tax (loss) income from operations:
 
 
 
 

 

Previous Software
$

 
$
(33
)
 
$

 
$
(523
)
Roxio Consumer Software (1)

 

 

 
(3,250
)
Rovi Entertainment Store (2)

 
(8,874
)
 

 
(99,639
)
Consumer Website (3)

 
(635
)
 

 
(10,601
)
DivX and MainConcept

 
2,012

 
1,873

 
3,431

Nowtilus

 
(306
)
 
(562
)
 
(674
)
Pre-tax loss on disposal of business units
(471
)
 
(9,561
)
 
(55,119
)
 
(9,561
)
Income tax benefit (expense)
54

 
(108
)
 
(2,483
)
 
(1,249
)
Income (loss) from discontinued operations, net of tax
$
(417
)
 
$
(17,505
)
 
$
(56,291
)
 
$
(122,066
)

(1) Roxio Consumer Software pre-tax loss for the nine months ended September 30, 2013, includes $3.3 million in expenses related to settling a patent claim against the Roxio Consumer Software business for the period prior to the business being sold.    
(2) Rovi Entertainment Store pre-tax loss for the nine months ended September 30, 2013, included $73.1 million, in goodwill and intangible asset impairment charges.
(3) Consumer Website pre-tax loss for the nine months ended September 30, 2013, includes $6.8 million in goodwill and intangible asset impairment charges.

NOTE 5 – DEBT
Convertible Senior Notes Due 2040
In March 2010, the Company issued $460.0 million in 2.625% convertible senior notes (the “2040 Convertible Notes”) due in 2040 at par. The 2040 Convertible Notes may be converted, under the circumstances described below, based on an initial conversion rate of 21.1149 shares of common stock per $1,000 principal amount of notes (which represents an initial conversion price of approximately $47.36 per share).
Prior to November 15, 2039, holders may convert their 2040 Convertible Notes into cash and the Company’s common stock, at the applicable conversion rate, under any of the following circumstances: (i) during any fiscal quarter after the calendar quarter ending June 30, 2010, if the last reported sale price of the Company’s common stock for at least 20 trading days during the 30 consecutive trading days ending on the last trading day of the immediately preceding calendar quarter is greater than or equal to 130% of the applicable conversion price in effect on each applicable trading day; (ii) during the five business-day period after any ten consecutive trading-day period (the “measurement period”) in which the trading price per note for each day of such measurement period was less than 98% of the product of the last reported sale price of the Company’s common stock and the conversion rate on each such day; (iii) upon the occurrence of specified corporate transactions, as described in the indenture, or (iv) if the Company calls any or all of the notes for redemption, at any time prior to the close of business on the third scheduled trading day prior to that redemption date. From November 15, 2039 until the close of business on the scheduled trading day immediately preceding the maturity date of February 15, 2040, holders may convert their 2040 Convertible Notes into cash and shares of the Company’s common stock at the applicable conversion rate, at any time, regardless of the foregoing circumstances. After February 20, 2015, the Company has the right to call for redemption all, or a portion, of the 2040 Convertible Notes at 100% of the principal amount of notes to be redeemed, plus accrued interest to, but excluding, the redemption date. Holders have the right to require the Company to repurchase the 2040 Convertible Notes on February 20, 2015, 2020, 2025, 2030 and 2035 for cash equal to 100% of the principal amount of the notes to be repurchased, plus accrued interest to, but excluding, the repurchase date.

11


Upon conversion, a holder will receive the conversion value of the 2040 Convertible Notes converted based on the conversion rate multiplied by the volume weighted average price of the Company’s common stock over a specified observation period following the conversion date. The conversion value of each 2040 Convertible Note will be paid in cash up to the aggregate principal amount of the 2040 Convertible Notes to be converted and shares of common stock to the extent the conversion value exceeds the principal amount of the converted note. Upon the occurrence of a fundamental change (as defined in the indenture), the holders may require the Company to repurchase for cash all or a portion of their 2040 Convertible Notes at a price equal to 100% of the principal amount of the 2040 Convertible Notes being repurchased plus accrued interest, if any. In addition, following certain corporate events that occur prior to February 20, 2015, the conversion rate will be increased for holders who elect to convert their notes in connection with such a corporate event in certain circumstances.
In accordance with ASC 470, related to accounting for convertible debt instruments that may be settled in cash upon conversion, the Company separately accounted for the liability and equity components of the 2040 Convertible Notes to reflect its non-convertible debt borrowing rate of 7.75%, at the time the instrument was issued, when interest cost is recognized. The debt discount is being amortized through February 2015, which represents the first date the 2040 Convertible notes can be called by the Company or put to the Company by the note holders.
As of September 30, 2014 and December 31, 2013, the principal amount of the Company’s 2040 Convertible Notes was $291.0 million and $291.0 million, respectively. As of September 30, 2014 and December 31, 2013, the unamortized discount on the 2040 Convertible Notes was $5.5 million and $15.8 million, respectively, resulting in a carrying amount of $285.5 million and $275.2 million, respectively. During the three and nine months ended September 30, 2014, the Company recorded $3.5 million and $10.4 million of interest expense, respectively, for the 2040 Convertible Notes related to the amortization of the discount. During the three and nine months ended September 30, 2013, the Company recorded $3.3 million and $9.6 million of interest expense, respectively, for the 2040 Convertible Notes related to the amortization of the discount.
Senior Secured Credit Facility

On July 2, 2014, the Company, as parent guarantor, and two of its wholly-owned subsidiaries, Rovi Solutions Corporation and Rovi Guides, Inc., as borrowers, and certain of its other subsidiaries, as subsidiary guarantors, entered into a new Credit Agreement (the “Credit Agreement”). The Credit Agreement provides for (i) a five-year $125 million term loan A facility (the “Term Loan A Facility”), (ii) a seven-year $700 million term loan B facility (the “Term Loan B Facility” and together with the Term Loan A Facility, the “Term Loan Facility”) and (iii) a five-year $175 million revolving credit facility (including a letter of credit sub-facility) (“the Revolving Facility” and together with the Term Loan Facility, the “Senior Secured Credit Facility”). The Company used the proceeds of the Term Loan Facility, together with cash from its balance sheet, to repay existing loans under its previous credit agreement and to pay expenses related thereto. Loans under the Term Loan A Facility bear interest, at the Company's option, at a rate equal to either the LIBOR rate, plus an applicable margin equal to 2.25% per annum, or the prime lending rate, plus an applicable margin equal to 1.25% per annum. Loans under the Term Loan B Facility bear interest, at the Company's option, at a rate equal to either the LIBOR rate, plus an applicable margin equal to 3% per annum (subject to a 0.75% LIBOR floor) or the prime lending rate, plus an applicable margin equal to 2% per annum. Loans under the Revolving Facility will bear interest, at the Company's option, at a rate equal to either the LIBOR rate, plus an applicable margin equal to 2.25% per annum, or the prime lending rate, plus an applicable margin equal to 1.25% per annum, subject to reduction by 0.25% or 0.50% based upon the Company's total secured leverage ratio (as defined in the Credit Agreement).
The Credit Agreement contains customary representations and warranties and customary affirmative and negative covenants applicable to the Company and its subsidiaries, including, among other things, restrictions on indebtedness, liens, investments, mergers, dispositions, prepayment of other indebtedness, and dividends and other distributions. The Term Loan A Facility and the Revolving Facility contain financial covenants that require the Company to maintain a minimum consolidated interest coverage ratio and a maximum total leverage ratio. The Term Loan B Facility does not contain a minimum consolidated interest coverage ratio or a maximum total leverage ratio covenant. Beginning with the Company's fiscal year ending December 31, 2015, the Company may be required to make an additional payment on the Term Loan Facility each February. This payment is a percentage of the prior year's Excess Cash Flow as defined in the Credit Agreement.
As of September 30, 2014, the carrying values of the Term Loan A Facility and the Term Loan B Facility were $124.6 million and $694.9 million, net of discount, respectively. As of September 30, 2014, the Company had not drawn on the Revolving Facility.
The Company accounted for the issuance of the Senior Secured Credit Facility and subsequent repayment of its previous credit facility as a partial debt modification, as a significant number of it previous credit facility investors reinvested in the Senior Secured Credit Facility, and the change in the present value of future cash flows was less than 10%. Under debt modification accounting, $1.0 million in unamortized debt issuance costs related to previous credit facility investors who

12


reinvested in Term Loan Facility A are being amortized to Term Loan Facility A interest expense using the effective interest method. In addition, $0.2 million in Term Loan Facility A debt issuance costs, related to new investors in Term Loan Facility A, are being amortized to Term Loan Facility A interest expense using the effective interest method. Under debt modification accounting, $1.7 million in unamortized debt issuance costs related to previous credit facility investors who reinvested in Term Loan Facility B are being amortized to Term Loan Facility B interest expense using the effective interest method. In addition, $3.0 million in Term Loan Facility B debt issuance costs, related to new investors in Term Loan Facility B, are being amortized to Term Loan Facility B interest expense using the effective interest method. Debt issuance costs of $3.8 million relating to the issuance of the Senior Secured Credit Facility to previous credit facility investors, have been recorded as debt modification expenses on the Company's Condensed Consolidated Statement of Operations for the three months ended September 30, 2014. In addition, during the three months ended September 30, 2014, the Company realized a loss on debt redemption of $5.2 million related to writing off the unamortized prior credit facility debt issuance costs related to investors who did not reinvest in the Senior Secured Credit Facility and the unamortized debt discount on the prior credit facility.
The Company accounted for the issuance of its prior term loan B-3 in April 2013 and subsequent repayment of term loan B-2 as a partial debt modification, as a significant number of term loan B-2 investors reinvested in term loan B-3, and the change in the present value of future cash flows between term loan B-2 and term loan B-3 was less than 10%. Under debt modification accounting, $3.6 million in unamortized debt issuance costs related to term loan B-2 investors who reinvested in term loan B-3 are being amortized to term loan B-3 interest expense using the effective interest method. In addition, $0.1 million in term loan B-3 debt issuance costs, related to new investors in term loan B-3, are being amortized to term loan B-3 interest expense using the effective interest method. Debt issuance costs of $1.0 million relating to the issuance of term loan B-3 to term loan B-2 investors, have been recorded as debt modification expenses on the Company's Condensed Consolidated Statement of Operations for the three months ended June 30, 2013. In addition, during the three months ended June 30, 2013, the Company realized a loss on debt redemption of $2.8 million related to writing off the unamortized term loan B-2 debt issuance costs related to investors who did not reinvest in term loan B-3 and the unamortized debt discount on term loan B-2.    
Debt Repayment Program
In October 2013, the Company's Board of Directors authorized the repayment of up to $250.0 million of debt outstanding. The Company made voluntary debt payments of $200.0 million in November 2013 and $50.0 million in March 2014, to reduce loans outstanding under its previous credit agreement.
In connection with the issuance of term loan B-3 in April 2013, the Company's Board of Directors authorized the repayment of the $540.0 million remaining balance of term loan B-2. This repayment authorization was in addition to any other authorizations that were outstanding at the time.
The following is a summary of the carrying value and par value of the Company's debt (in thousands) as of September 30, 2014: 
 
Carrying Value
 
Par Value
Term Loan Facility A
$
124,555

 
$
125,000

Term Loan Facility B
694,862

 
698,250

2040 Convertible Notes
285,536

 
290,990

 
$
1,104,953

 
$
1,114,240


NOTE 6 – INVESTMENTS
The following is a summary of available-for-sale and other investment securities (in thousands) as of September 30, 2014:

13


 
Cost
 
Unrealized
Gains
 
Unrealized
Losses
 
Fair Value
Cash
$
27,665

 
$

 
$

 
$
27,665

Cash equivalents - money markets
137,934

 

 

 
137,934

Total cash and cash equivalents
$
165,599

 
$

 
$

 
$
165,599

Available-for-sale investments:
 
 
 
 
 
 
 
Auction rate securities
$
15,600

 
$

 
$
(521
)
 
$
15,079

Corporate debt securities
111,678

 
32

 
(33
)
 
111,677

Foreign government obligations
14,620

 

 
(3
)
 
14,617

U.S. Treasury/Agencies
212,691

 
80

 
(105
)
 
212,666

Total available-for-sale investments
$
354,589

 
$
112

 
$
(662
)
 
$
354,039

Total cash, cash equivalents and investments
 
 
 
 
 
 
$
519,638

The following is a summary of available-for-sale and other investment securities (in thousands) as of December 31, 2013:
 
 
Cost
 
Unrealized
Gains
 
Unrealized
Losses
 
Fair Value
Cash
$
29,764

 
$

 
$

 
$
29,764

Cash equivalents - money markets
126,723

 

 

 
126,723

Total cash and cash equivalents
$
156,487

 
$

 
$

 
$
156,487

Available-for-sale investments:
 
 
 
 
 
 
 
Auction rate securities
$
15,600

 
$

 
$
(697
)
 
$
14,903

Corporate debt securities
177,474

 
144

 
(26
)
 
177,592

Foreign government obligations
17,992

 

 
(20
)
 
17,972

U.S. Treasury/Agencies
274,145

 
45

 
(23
)
 
274,167

Total available-for-sale investments
$
485,211

 
$
189

 
$
(766
)
 
$
484,634

Total cash, cash equivalents and investments
 
 
 
 
 
 
$
641,121

As of September 30, 2014, the fair value of available-for-sale debt investments, by contractual maturity, was as follows (in thousands): 
Due in 1 year or less
$
226,997

Due in 1-2 years
111,963

Due in 2-3 years

Due in greater than 3 years
15,079

Total
$
354,039

Market values were determined for each individual security in the investment portfolio. The Company attributes the unrealized losses in its auction rate securities portfolio to liquidity issues rather than credit issues. The Company’s available-for-sale auction rate securities portfolio at September 30, 2014 is comprised solely of AAA rated investments in federally insured student loans and municipal and educational authority bonds. The Company continues to earn interest on all of its auction rate security instruments and has the ability and intent to hold these securities until they recover.

NOTE 7 – INTEREST RATE SWAPS AND CAPS
In March 2010, in connection with the issuance of the 2040 Convertible Notes, the Company entered into interest rate swaps with a notional amount of $460.0 million under which it pays a weighted average floating rate of six month USD – LIBOR minus 0.342%, set in arrears, and receives a fixed rate of 2.625%. These swaps expire in February 2015. In November 2010, after future interest rate expectations decreased, the Company entered into additional swaps with a notional amount of $460.0 million under which it pays a fixed rate which gradually increases from 0.203% for the six-month settlement period ended in February 2011, to 2.619% for the six-month settlement period ending in February 2015 and receives a floating rate of six month USD – LIBOR minus 0.342%, set in arrears. These swaps expire in February 2015. The combination of these swaps has the effect of fixing the interest rate the Company pays on its 2040 Convertible Notes at a fixed rate which gradually

14


increases from 0.203% for the six-month settlement period ended in February 2011, to 2.619% for the six-month settlement period ending in February 2015.
In May 2012, the Company entered into swaps with a notional amount of $197.0 million. These swaps have an effective date of January 2014, and under these swaps the Company pays a fixed interest rate which gradually increases from 0.58% for the three month settlement period ending June 2014, to 1.65% for the final settlement period ending in January 2016 and receives a floating rate of one month USD-LIBOR. These swaps expire in January 2016. In May 2012, the Company entered into additional swaps with a notional amount of $215.0 million. These swaps have an effective date of April 2014, and under these swaps the Company pays a fixed interest rate which gradually increases from 0.65% for the three month settlement period ending June 2014, to 2.11% for the final settlement period ending in March 2017 and receives a floating rate of one month USD-LIBOR. These swaps expire in March 2017. In June 2013, the Company entered into swaps with a notional amount of $250.0 million. These swaps have an effective date of January 2016, and under these swaps the Company pays a fixed rate of 2.23% and receives a floating rate of one month USD-LIBOR. These swaps expire in March 2019. In September 2014, the Company entered into additional swaps with a notional amount of $125.0 million. These swaps have an effective date of January 2016, and under these swaps the Company pays a fixed interest rate of 2.66% and receives a floating rate of one month USD-LIBOR. These swaps expire in July 2021. In September 2014, the Company entered into swaps with a notional amount of $200.0 million. These swaps have an effective date of March 2017, and under these swaps the Company pays a fixed rate of 2.93%and receives a floating rate of one month USD-LIBOR. These swaps expire in July 2021. The Company entered into these swaps to effectively fix the future interest rate during the applicable periods on a portion of its Senior Secured Credit Facility. In connection with refinancing its credit facility during the third quarter of 2014, the Company paid $7.6 million to terminate interest rate swaps with a notional amount of $300.0 million.

The Company has not designated any of its interest rate swaps, caps or foreign currency collars as hedges. The Company records these interest rate swaps, caps and foreign currency collars on its balance sheet at fair market value with the changes in fair value recorded as gain (loss) on interest rate swaps and caps, net, in its Condensed Consolidated Statements of Operations. During the three months ended September 30, 2014 and 2013, the Company recorded a loss of $0.2 million and $4.2 million, respectively, for the change in the fair value of its interest rate swaps and caps and the related settlements. During the nine months ended September 30, 2014 and 2013, the Company recorded a loss of $7.6 million and a gain of $2.2 million, respectively, for the change in the fair value of its interest rate swaps and caps and the related settlements. For information on the fair value of the Company’s interest rate swaps and caps, see Note 8.

NOTE 8 – FAIR VALUE MEASUREMENTS
In accordance with ASC 820, the Company uses three levels of inputs to measure fair value:
Level 1. Quoted prices in active markets for identical assets or liabilities.
Level 2. Observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities, quoted prices in markets with insufficient volume or infrequent transactions (less active markets), or valuations in which all significant inputs are observable or can be obtained from observable market data.
Level 3. Unobservable inputs to the valuation methodology that are significant to the measurement of the fair value of assets or liabilities.
The Company values its interest rate swaps using widely accepted valuation techniques, including discounted cash flow analysis on the expected cash flows of each interest rate swap. This analysis reflects the contractual terms of the interest rate swaps, including the period to maturity, and uses observable market-based inputs, including interest rate curves and implied volatilities. The fair values of interest rate swaps are determined using the market standard methodology of netting the discounted future fixed cash payments and the discounted expected variable cash receipts. The variable cash receipts are based on an expectation of future interest rates (forward curves) derived from observable market interest rate curves. The Company also incorporates credit valuation adjustments to appropriately reflect both its own nonperformance risk and the respective counterparty’s nonperformance risk in the fair value measurements. In adjusting the fair value of its interest rate swaps for the effect of nonperformance risk, the Company has considered the impact of netting and any applicable credit enhancements, such as collateral postings.
The Company’s auction rate securities are valued using a discounted cash flow analysis or other type of valuation model. These analyses are highly judgmental and consider, among other items, the likelihood of redemption, credit quality, duration, insurance wraps and expected future cash flows. These securities were also compared, when possible, to other observable market data with similar characteristics to the securities held by the Company.

15


The Company recognizes transfers between levels of the fair value hierarchy at the end of the reporting period. Assets and liabilities measured and recorded at fair value on a recurring basis consisted of the following types of instruments at September 30, 2014 (in thousands):
 
Total
 
Quoted Prices in
Active Markets
(Level 1)
 
Significant Other
Observable Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
Current Assets
 
 
 
 
 
 
 
Money market funds (1)
$
137,934

 
$
137,934

 
$

 
$

Corporate debt securities (2)
99,047

 

 
99,047

 

Foreign government obligations (2)
14,617

 

 
14,617

 

U.S. Treasuries / Agencies (2)
113,333

 

 
113,333

 

Non-Current Assets
 
 
 
 
 
 
 
Auction rate securities (3)
15,079

 

 

 
15,079

Corporate debt securities (3)
12,630

 

 
12,630

 

U.S. Treasuries / Agencies (3)
99,333

 

 
99,333

 

Total Assets
$
491,973

 
$
137,934

 
$
338,960

 
$
15,079

Liabilities
 
 
 
 
 
 
 
IntegralReach contingent consideration (4)
3,000

 
$

 
$

 
$
3,000

Veveo contingent consideration (5)
5,700

 

 

 
5,700

Interest rate swaps and caps (6)
7,227

 

 
7,227

 

Total Liabilities
$
15,927

 
$

 
$
7,227

 
$
8,700

 
(1)
Included in cash and cash equivalents on the Condensed Consolidated Balance Sheet.
(2)
Included in short-term investments on the Condensed Consolidated Balance Sheet and classified as available-for-sale securities.
(3)
Included in long-term marketable securities on the Condensed Consolidated Balance Sheet and classified as available-for-sale securities.
(4)
Included in accounts payable and accrued expenses on the Condensed Consolidated Balance Sheet
(5)
$3.2 million included in other non-current liabilities and $2.5 million included in accounts payable and accrued expenses on the Condensed Consolidated Balance Sheet.
(6)
Included in other non-current liabilities on the Condensed Consolidated Balance Sheet. As of September 30, 2014, the fair value of the Company's interest rate swaps and caps in an asset position was $5.6 million and the fair value in a liability position was $12.8 million. These amounts have been recorded on a net basis on the Company's balance sheet.



16


As of December 31, 2013, assets and liabilities measured and recorded at fair value on a recurring basis, were as follows (in thousands):
 
Total
 
Quoted Prices in
Active Markets
(Level 1)
 
Significant Other
Observable Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
Current Assets
 
 
 
 
 
 
 
Money market funds (1)
$
126,723

 
$
126,723

 
$

 
$

Corporate debt securities (2)
136,133

 

 
136,133

 

Foreign government obligations (2)
8,148

 

 
8,148

 

U.S. Treasuries / Agencies (2)
221,695

 

 
221,695

 

Non-Current Assets
 
 

 

 

Auction rate securities (3)
14,903

 

 

 
14,903

Corporate debt securities (3)
41,459

 

 
41,459

 

Foreign government obligations (3)
9,824

 

 
9,824

 

U.S. Treasuries / Agencies (3)
52,472

 

 
52,472

 

Total Assets
$
611,357

 
$
126,723

 
$
469,731

 
$
14,903

Non-Current Liabilities
 
 
 
 
 
 
 
IntegralReach contingent consideration (4)
3,000

 

 

 
3,000

Interest rate swaps and caps (5)
6,942

 

 
6,942

 

Total Liabilities
$
9,942

 
$


$
6,942

 
$
3,000


(1)
Included in cash and cash equivalents on the Condensed Consolidated Balance Sheet.
(2)
Included in short-term investments on the Condensed Consolidated Balance Sheet and classified as available-for-sale securities.
(3)
Included in long-term marketable securities on the Condensed Consolidated Balance Sheet and classified as available-for-sale securities.
(4)
Included in other non-current liabilities on the Condensed Consolidated Balance Sheet.
(5)
Included in other non-current liabilities on the Condensed Consolidated Balance Sheet. As of December 31, 2013, the fair value of the Company's interest rate swaps and caps in an asset position was $20.3 million and the fair value in a liability position was $27.2 million. These amounts have been recorded on a net basis on the Company's balance sheet.
The following table provides a summary of changes in the Company’s Level 3 auction rate securities ("ARS") as of September 30, 2014 and 2013 (in thousands): 
 
Three Months ended September 30,
 
Nine Months ended September 30,
 
2014
 
2013
 
2014
 
2013
Balance at beginning of period
$
15,145

 
$
14,547

 
14,903

 
$
14,287

Unrealized (loss) gain included in accumulated other comprehensive income
(66
)
 
117

 
176

 
477

Settlements

 

 

 
(100
)
Balance at end of period
$
15,079

 
$
14,664

 
$
15,079

 
$
14,664

The fair value of the Company’s outstanding debt at September 30, 2014 is as follows (in thousands): 
 
Carrying Value
 
Significant
Other
Observable
Inputs
(Level 2)
Term Loan A
$
124,555

 
$
123,750

Term Loan B
694,862

 
678,175

2040 Convertible Notes (1)
285,536

 
291,354

 
$
1,104,953

 
 


17


(1)
The par value of the 2040 Convertible Notes is $291.0 million. See Note 5 for additional details.

NOTE 9 – EQUITY-BASED COMPENSATION
Stock Options Plans
The Company grants stock options and restricted stock awards from the 2008 Equity Incentive Plan (the “2008 Plan”). On April 29, 2014, the Company's stockholders approved an amendment to the 2008 Plan to increase the reserve for common stock authorized for issuance by 1.5 million shares.
As of September 30, 2014, the Company had a total of 23.2 million shares reserved and 9.1 million shares available for issuance under the 2008 Plan.
These equity plans provide for the grant of stock options, restricted stock awards, restricted stock units and similar types of equity awards by the Company to employees, officers, directors and consultants of the Company. Options grants generally have vesting periods of four years where one quarter of the grant vests at the end of the first year, and the remainder vests monthly. Options grants generally have a contractual term of seven years.
Restricted stock award and restricted stock unit grants generally vest annually over four years. Restricted stock awards are considered outstanding at the time of the grant, as the stockholders are entitled to voting rights. As of September 30, 2014, the number of restricted stock awards outstanding and unvested was 3.4 million, which includes 0.9 million shares of performance based restricted stock awards. The vesting of these performance shares is primarily contingent upon meeting defined levels of achievement of financial results. As of September 30, 2014, the number of restricted stock units outstanding and unvested was 0.3 million.
Employee Stock Purchase Plan
The Company’s 2008 Employee Stock Purchase Plan (“ESPP”) allows eligible employee participants to purchase shares of the Company’s common stock at a discount through payroll deductions. The ESPP consists of a twenty-four month offering period with four six-month purchase periods in each offering period. Employees purchase shares in each purchase period at 85% of the market value of the Company’s common stock at either the beginning of the offering period or the end of the purchase period, whichever price is lower.
As of September 30, 2014, the Company had reserved, and available for future issuance, 2.5 million shares of common stock under the ESPP.
Valuation and Assumptions
The Company uses the Black-Scholes option pricing model to determine the fair value of stock options and employee stock purchase plan shares. The fair value of equity-based payment awards on the date of grant is determined by an option-pricing model using a number of complex and subjective variables. These variables include expected stock price volatility over the term of the awards, actual and projected employee stock option exercise behaviors, risk-free interest rate and expected dividends. The Company determines the fair value of its restricted stock grants as the difference between the market value on the date of grant less the exercise price.
Estimated volatility of the Company’s common stock for new grants is determined by using a combination of historical volatility and implied volatility in market traded options. When historical data is available and relevant, the expected term of options granted is determined by calculating the average term from historical stock option exercise experience. When there is insufficient historical exercise data to provide a reasonable basis upon which to estimate the expected term due to changes in the terms of option grants, the Company uses the “simplified method” as permitted under Staff Accounting Bulletin No. 110. For options granted after July 15, 2008, the Company changed its standard vesting terms from three to four years and its contractual term from five to seven years. For the period from July 15, 2008 to June 30, 2012, the Company did not have sufficient data for options with four year vesting terms and seven year contractual life and used the simplified method to calculate the expected term. The risk-free interest rate used in the option valuation model is from U.S. Treasury zero-coupon issues with remaining terms similar to the expected term on the options. The Company does not anticipate paying any cash dividends in the foreseeable future and therefore uses an expected dividend yield of zero in the option pricing model. In accordance with ASC Topic 718, Compensation – Stock Compensation, the Company estimates forfeitures at the time of grant and revises those estimates in subsequent periods if actual forfeitures differ from those estimates. The Company uses historical data to estimate pre-vesting option forfeitures and records equity-based compensation expense only for those awards that are expected to vest. The assumptions used to value equity-based payments are as follows: 

18


 
Three Months ended September 30,
 
Nine Months ended September 30,
 
2014
 
2013
 
2014
 
2013
Option Plans:
 
 
 
 
 
 
 
Dividends
0
%
 
0
%
 
0
%
 
0
%
Expected term
4.0 years

 
4.0 years

 
4.0 years

 
4.0 years

Risk free interest rate
1.2
%
 
1.0
%
 
1.1
%
 
0.6
%
Volatility rate
44
%
 
48
%
 
47
%
 
47
%
ESPP Plan:
 
 
 
 

 

Dividends
0
%
 
0
%
 
0
%
 
0
%
Expected term
1.3 years

 
1.3 years

 
1.3 years

 
1.3 years

Risk free interest rate
0.3
%
 
0.2
%
 
0.3
%
 
0.2
%
Volatility rate
34
%
 
44
%
 
35
%
 
47
%
The weighted average per share fair value of equity-based awards are as follows:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2014
 
2013
 
2014
 
2013
Weighted average fair value:
 
 
 
 
 
 
 
Option grants
$
8.39

 
$
7.75

 
$
8.88

 
$
7.61

Employee purchase share rights
$
6.53

 
$
6.60

 
$
6.54

 
$
6.38

Restricted stock award grants
$
24.42

 
$
21.37

 
$
24.54

 
$
18.35

 
As of September 30, 2014, there was $69.7 million of unrecognized compensation cost, adjusted for estimated forfeitures, related to unvested equity-based payments granted to employees in continuing operations. Total unrecognized compensation cost will be adjusted for future changes in estimated forfeitures and is expected to be recognized over a weighted average period of 2.5 years.
The total intrinsic value of options exercised during the three and nine months ended September 30, 2014 was $0.3 million and $1.9 million, respectively. The intrinsic value is calculated as the difference between the market value on the date of exercise and the exercise price of the shares.
 
NOTE 10 – GOODWILL AND OTHER INTANGIBLE ASSETS
The following table summarizes the Company’s goodwill activity associated with its continuing operations (in thousands): 
Goodwill, net at December 31, 2013
$
1,298,448

Acquisitions
39,370

Changes due to foreign currency exchange rates and other
(218
)
Goodwill, net at September 30, 2014
$
1,337,600

The Company assesses its goodwill for impairment annually as of October 1, or more frequently if circumstances indicate impairment may have occurred. To accomplish this, the Company determines the fair value of its reporting units using a discounted cash flow approach and / or a market approach and compares it to the carrying amount of the reporting units at the date of the impairment analysis. The Company’s publicly traded equity is a key input in determining the fair value of its reporting unit. An other-than-temporary decline in the value of the Company’s publicly traded equity and / or a significant decrease in the Company’s future business prospects could require the Company to record a goodwill and / or intangible asset impairment charge in the future. The Company did not record any goodwill impairment charges to its continuing operations for any of the periods presented.

19


The following tables summarize the Company’s intangible assets for its continuing operations subject to amortization as of September 30, 2014 and December 31, 2013 (in thousands): 
 
September 30, 2014
 
Gross Costs
 
Accumulated
Amortization
 
Net
Finite-lived intangibles:
 
 
 
 
 
Developed technology and patents
$
871,888

 
$
(427,232
)
 
$
444,656

Existing contracts and customer relationships
47,524

 
(30,729
)
 
16,795

Content databases and other
56,943

 
(40,445
)
 
16,498

Trademarks / Tradenames
8,300

 
(8,300
)
 

 
$
984,655

 
$
(506,706
)
 
$
477,949

 
December 31, 2013
 
Gross Costs
 
Accumulated
Amortization
 
Net
Finite-lived intangibles:
 
 
 
 
 
Developed technology and patents
$
816,988

 
$
(378,059
)
 
$
438,929

Existing contracts and customer relationships
44,724

 
(27,042
)
 
17,682

Content databases and other
56,804

 
(35,186
)
 
21,618

Trademarks / Tradenames
8,300

 
(8,300
)
 

 
$
926,816

 
$
(448,587
)
 
$
478,229

The following table summarizes the Company's estimated amortization expense for its continuing operations through the year 2018 and thereafter (in thousands): 
 
Amortization
Expense
Remainder of 2014
$
19,973

2015
76,162

2016
74,643

2017
73,382

2018
70,880

Thereafter
162,909

Total amortization expense
$
477,949


NOTE 11 – RESTRUCTURING AND ASSET IMPAIRMENT CHARGES
2014 Restructuring Actions
In conjunction with the disposition of the Rovi Entertainment Store and DivX businesses and the Company's narrowed business focus on discovery, the Company is conducting a complete review of its remaining product development, sales, data operations and general and administrative functions to create cost efficiencies for the Company. As a result of this analysis, the Company took cost reduction actions that resulted in a restructuring and asset impairment charge of $2.7 million being recorded to the Company's continuing operations during the three months ended September 30, 2014 and $8.1 million during the nine months ended September 30, 2014. Included in the restructuring charge for the three months ended September 30, 2014, is $2.6 million of severance charges and $0.1 million to accrue for the present value of lease payments for abandoned office space. Included in the restructuring charge for the nine months ended September 30, 2014, is $5.5 million of severance charges, $1.3 million to accrue for the present value of lease payments for abandoned office space, $1.1 million in asset impairment charges and $0.2 million in contract termination costs. As of September 30, 2014, $2.6 million of severance and $1.1 million in future lease payments for abandoned office space remain unpaid.
2013 Restructuring Actions
During 2013, the Company completed the review of its operations that began in the third quarter of 2012. As a result of this analysis, the Company took additional cost reduction actions, which resulted in a restructuring charge of $5.7 million being recorded during the three months ended September 30, 2013 and a total of $7.7 million being recorded during fiscal year 2013. Included in the fiscal year 2013 restructuring charge is $0.9 million of severance charges, $0.7 million to accrue for the

20


present value of lease payments for abandoned office space, $4.1 million in asset impairment charges and $2.0 million in stock compensation expense due to the contractual acceleration of the vesting of restricted stock of certain employees who are no longer with the Company. Of the total restructuring charge of $7.7 million, $7.6 million related to our continuing operations and $0.1 million relate to discontinued operations. During the three months ended March 31, 2014, the Company recorded an additional $0.3 million in expense related to the present value of lease payments for abandoned office space. As of September 30, 2014, $0.4 million in future lease payments for abandoned office space remain unpaid.

NOTE 12 – EARNINGS PER SHARE (EPS)

Basic net EPS is computed using the weighted average number of common shares outstanding during the period. Diluted EPS is computed using the weighted average number of common and dilutive common equivalent shares outstanding during the period, except for periods of operating loss for which no common share equivalents are included because their effect would be anti-dilutive.
The following is a reconciliation between weighted average number of shares used to calculate Basic EPS and Diluted EPS (in thousands):
    
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2014
 
2013
 
2014

2013
Basic EPS - weighted average number of common shares outstanding
91,468

 
97,674

 
91,975

 
98,821

Dilutive effect of employee equity incentive plans

 
760

 

 
716

Diluted EPS - weighted average number of common shares and common share equivalents outstanding
91,468

 
98,434

 
91,975

 
99,537


The following weighted average potential common shares were excluded from the computation of diluted net earnings per share as their effect would have been anti-dilutive (in thousands):
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2014
 
2013
 
2014
 
2013
Stock options
4,436

 
4,114

 
4,589

 
3,987

Restricted stock
2,985

 
1,540

 
3,119

 
1,673

Convertible notes (1)
6,144

 
6,144

 
6,144

 
6,144

Total weighted average potential common shares excluded from diluted net earnings per share
13,565

 
11,798

 
13,852

 
11,804

 
(1)
See Note 5 for additional details.

In addition, for the three months ended September 30, 2014 and 2013, the Company excluded 0.9 million and 0.9 million weighted average shares of performance based restricted stock awards from the computation of diluted net earnings per share as the performance metric had yet to be achieved or including them would have been anti-dilutive. For the nine months ended September 30, 2014 and 2013, the Company excluded 0.8 million and 0.8 million weighted average shares of performance based restricted stock awards from the computation of diluted net earnings per share as the performance metric had yet to be achieved or including them would have been anti-dilutive.

NOTE 13 – INCOME TAXES
The Company recorded income tax expense from continuing operations for the three and nine months ended September 30, 2014, of $3.5 million and $13.7 million, respectively, which primarily consists of foreign income and withholding taxes, state income taxes, and the net change in our deferred tax asset valuation allowance. Due to the fact that the Company has a significant net operating loss carryforward and has recorded a valuation allowance against its deferred tax assets, foreign withholding taxes are the primary driver of its income tax expense.
The Company recorded an income tax benefit from continuing operations for the three and nine months ended September 30, 2013, of $14.2 million and $13.2 million, respectively, which includes a $14.0 million benefit from releasing certain tax contingency reserves.

21


The Company conducts business globally and, as a result, files U.S. federal, state and foreign income tax returns in various jurisdictions. In the normal course of business, the Company is subject to examination by taxing authorities throughout the world. With few exceptions, the Company is no longer subject to income tax examinations for years before 2008.

NOTE 14 – STOCK REPURCHASE PROGRAM
During the three months ended March 31, 2014, the Company repurchased 5.0 million shares of its common stock for $123.1 million, under a previously authorized stock repurchase program. Subsequent to these repurchases, in April 2014, the Company's Board of Directors authorized the repurchase of up to $200.0 million of the Company's common stock. This April 2014 authorization includes any amounts which were outstanding under previously authorized stock repurchase programs. As of September 30, 2014, the Company had $200.0 million remaining under its existing stock repurchase program. During the nine months ended September 30, 2013, the Company repurchased 5.0 million shares of its common stock for $107.1 million. As of September 30, 2014, treasury stock consisted of 35.6 million shares of common stock that had been repurchased, with a cost basis of approximately $939.8 million.

NOTE 15 – COMMITMENTS AND CONTINGENCIES
Indemnifications
In the normal course of business, the Company provides indemnification of varying scopes and amounts to certain of its licensees against claims made by third parties arising out of the use and / or incorporation of the Company's products, intellectual property, services and / or technologies into the licensees' products and services, provided the licensee is not in violation of the terms and conditions of the agreement and / or additional performance or other requirements for such indemnification. In some cases, the Company may receive tenders of defense and indemnity arising out of products that are no longer provided by the Company due to having divested certain assets, but which were previously licensed by the Company. The Company's indemnification obligations are typically limited to the cumulative amount paid to the Company by the licensee under the license agreement, however some license agreements, including those with the Company's largest multiple system operators and digital broadcast satellite providers, have larger limits or do not specify a limit on amounts that may be payable under the indemnity arrangements. The Company cannot estimate the possible range of losses that may affect the Company's results of operations or cash flows in a given period or the maximum potential impact of these indemnification provisions on its future results of operations.
Legal Proceedings
The Company is party to various legal actions, claims and proceedings as well as other actions, claims and proceedings incidental to its business. The Company has established loss provisions only for matters in which losses are probable and can be reasonably estimated. Some of the matters pending against the Company involve potential compensatory, punitive or treble damage claims, or sanctions, that if granted, could require the Company to pay damages or make other expenditures in amounts that could have a material adverse effect on its financial position or results of operations. At this time, management has not reached a determination that any litigation matters, individually or in the aggregate, are expected to result in liabilities that will have a material adverse effect on the Company's financial position or results of operations or cash flows.

NOTE 16 – SEGMENTS

During the third quarter of 2014, the Company’s reorganized its internal financial reporting and now reports financial information for its Intellectual Property Licensing business unit and Product business unit to its chief operating decision maker. As this is the way that management internally organizes its business for assessing performance and making decisions regarding the allocation of resources to the business units, the Company will report its segment information in the same manner. In addition, the Company has certain costs which it does not allocate to its business units which it considers Corporate expenses. Segment information for the prior periods has been reclassified to conform to the current presentation.

The Company’s Intellectual Property Licensing segment consists primarily of IPG patent licensing to third party guide developers such as multi-channel video service providers (cable, satellite and IPTV), consumer electronics (“CE”) manufacturers, set-top box manufacturers and interactive television software and program guide providers in the online, over-the-top video and mobile phone businesses.

The Company’s Product segment consists primarily of the licensing of Company-developed IPG products and services provided for multi-channel video service providers and CE manufacturers, in-guide advertising revenue, analytics revenue and

22


revenue from licensing our Metadata. Our Product segment also includes sales of our legacy ACP, VCR Plus+, connected platform and media recognition products.

Corporate primarily includes certain general and administrative costs such as corporate management, finance, legal, human resources and related expenses such as certain corporate litigation and insurance costs.

The Company’s chief operating decision maker uses an adjusted EBITDA (as defined below) measurement to evaluate the performance of, and allocate resources to, the business units. Intersegment revenues and expenses have been eliminated from segment financial information as transactions between reportable segments are excluded from the measure of segment profit and loss when reviewed by the Company’s chief operating decision maker. Balance sheets of the reportable segments are not used by the chief operating decision maker to allocate resources or assess performance of the businesses.
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2014
 
2013
 
2014
 
2013
Intellectual Property Licensing:
 
 
 
 
 
 
 
        Revenues
$
67,874

 
$
65,300

 
$
213,484

 
$
204,574

        Adjusted Operating Expenses (1)
11,768

 
12,880

 
46,740

 
43,753

        Adjusted EBITDA (2)
56,106

 
52,420

 
166,744

 
160,821

Product:
 
 
 
 
 
 
 
        Revenues
60,708

 
58,178

 
194,610

 
180,824

        Adjusted Operating Expenses (1)
46,878

 
46,640

 
146,857

 
138,692

        Adjusted EBITDA (2)
13,830

 
11,538

 
47,753

 
42,132

Corporate:
 
 
 
 
 
 
 
        Adjusted Operating Expenses (1)
12,075

 
12,569

 
38,555

 
39,170

        Adjusted EBITDA (2)
(12,075
)
 
(12,569
)
 
(38,555
)
 
(39,170
)
Consolidated:
 
 
 
 
 
 
 
        Revenues
128,582

 
123,478

 
408,094

 
385,398

        Adjusted Operating Expenses (1)
70,721

 
72,089

 
232,152

 
221,615

        Adjusted EBITDA (2)
57,861

 
51,389

 
175,942

 
163,783

Equity based compensation expense
(9,658
)
 
(12,493
)
 
(31,813
)
 
(42,173
)
Transaction, transition and integration expenses
(1,099
)
 

 
(2,943
)
 
(2,160
)
Restructuring and asset impairment charges
(2,722
)
 
(5,705
)
 
(8,404
)
 
(7,638
)
Depreciation
(4,256
)
 
(4,007
)
 
(13,207
)
 
(12,283
)
Amortization of intangible assets
(20,158
)
 
(18,673
)
 
(58,178
)
 
(56,109
)
Operating income
19,968

 
10,511

 
61,397

 
43,420

Interest expense
(13,962
)
 
(15,102
)
 
(40,721
)
 
(46,286
)
Interest income and other, net

 
653

 
1,835

 
2,341

Debt modification expense and loss on debt redemption
(8,934
)
 

 
(8,934
)
 
(4,112
)
(Loss) income on interest rate swaps and caps, net
(229
)
 
(4,206
)
 
(7,565
)
 
2,239

(Loss) income from continuing operations before income taxes
$
(3,157
)
 
$
(8,144
)
 
$
6,012

 
$
(2,398
)

(1) Adjusted Operating Expenses is defined as operating expenses excluding equity based compensation expense, transaction, transition and integration expenses, restructuring and asset impairment charges and depreciation and amortization.

(2) Adjusted EBITDA is defined as operating income excluding equity based compensation expense, transaction, transition and integration expenses, restructuring and asset impairment charges and depreciation and amortization.

NOTE 17 – SUBSEQUENT EVENTS

On October 31, 2014, the Company acquired Fanhattan, Inc., and its cloud based Fan TV branded products, for $12.0 million in cash.

23


Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

This quarterly report on Form 10-Q and other reports filed by the Company from time to time with the U.S. Securities and Exchange Commission (collectively, the “Filings”) contain or may contain forward-looking statements and information that are based upon beliefs of, and information currently available to, the Company's management as well as estimates and assumptions made by Company's management. Readers are cautioned not to place undue reliance on these forward-looking statements, which are only predictions and speak only as of the date hereof. When used in the Filings, the words “anticipate,” “believe,” “estimate,” “expect,” “future,” “intend,” “plan,” or the negative of these terms and similar expressions as they relate to the Company or the Company's management identify forward-looking statements. Such statements reflect the current view of the Company with respect to future events and are subject to risks, uncertainties, assumptions, and other factors. Should one or more of these risks or uncertainties materialize, or should the underlying assumptions prove incorrect, actual results may differ significantly from those anticipated, believed, estimated, expected, intended, or planned. Although the Company believes that the expectations reflected in the forward-looking statements are reasonable, the Company cannot guarantee future results, levels of activity, performance, or achievements. Except as required by applicable law, including the securities laws of the United States, the Company does not intend to update any of the forward-looking statements to conform these statements to actual results.

The following commentary should be read in conjunction with the financial statements and related notes contained in our Annual Report on Form 10-K for the year ended December 31, 2013 as filed with the Securities and Exchange Commission.

Overview
We are focused on powering the discovery and personalization of digital entertainment. We provide a broad set of integrated solutions that are embedded in our customers' products and services, connecting consumers with entertainment. Content discovery solutions include interactive program guides (“IPGs”), search and recommendations, cloud data services and our extensive database of Metadata. We also offer advertising and analytics services.  Our advertising services are primarily sold in guides we provide or where a service provider allows us to sell advertising.  Our analytics services utilize our proprietary data and data we acquire to offer service providers and advertisers the opportunity to optimize their television advertising and promotional efforts. In addition to offering IPGs developed by us, our customers may also license our patents and deploy their own IPG or a third party IPG. We have patented many aspects of content discovery, DVR and VOD functionality, multi-screen functionality, as well as interactive applications and advertising.  We have historically licensed this portfolio for use with linear television broadcast.  However, there is an emerging industry transition to Internet platform technologies which is enabling new video services for television in homes as well as on multiple screens such as tablets and smartphones.  We believe this transition presents new opportunities to license our intellectual property portfolio for different use cases and to different customers, as well as to develop, market and sell products and services which enable such functionality. Building upon this, we are establishing broad industry relationships with the companies leading the next generation of digital entertainment.  Our strategy includes developing products and services that complement our intellectual property and address the opportunity presented by this industry transformation. Our solutions are deployed globally in the cable, satellite, consumer electronics, entertainment, media and online distribution markets.

Our patent portfolio provides the foundation for our intellectual property licensing business and includes over 5,000 issued patents and pending applications.  Through ongoing investment, targeted acquisitions and strategic portfolio management, our patent portfolio has continued to grow in size and relevance.  We generate substantially all of our intellectual property licensing revenue from our discovery patent portfolio, which represents approximately 76% of our total patents. Over the last 10 years, our US discovery patent portfolio has more than doubled in size and US discovery issued patents has more than tripled in size. The scope and relevance of our discovery patent portfolio has also grown over this period.  Our discovery patent portfolio includes important coverage and protection for key features and functionality across guidance, search and recommendations, digital video recorders, video-on-demand, over-the-top video, second screen offerings and various interactive television applications. Our ongoing innovation efforts are intended on ensuring that our patent portfolio continues to provide long-term protection across these key areas of discovery.  Our discovery portfolio's patents have expiration dates that range from 2014 to 2033. For the nine months ended September 30, 2014, 22% of our revenue from continuing operations was related to our contracts with DIRECTV, Comcast and Time Warner Cable.  These customers' current contracts expire in the second half of 2015 and first half of 2016.
During the third quarter of 2014, we reorganized our financial reporting into two segments; Intellectual Property Licensing and Products. Within our Intellectual Property Licensing Segment we group our revenue into the following categories (i) service providers and (ii) consumer electronics (“CE”) manufacturers. Service provider includes revenue from

24


licensing our IPG patents to multi-channel video service (cable, satellite and IPTV) providers and program guide providers in the online and over-the-top video businesses. We also include in service provider revenues any IPG patent revenue related to an IPG deployed by a service provider in a subscriber household whether the ultimate payment for that IPG comes from the service provider or from a manufacturer of a set-top box. CE includes the licensing of our IPG patents to consumer electronics manufacturers. Revenue related to an IPG deployed in a set-top box sold at retail is also included in CE manufacturers. Our Product Segment includes the results of our product businesses. Within our Product segment we group our revenue into the following categories – (i) service providers, (ii) CE, and (iii) Other. Service provider revenue includes revenue from licensing our IPGs to service providers, advertising revenue from those IPGs, analytics revenue and revenue from licensing our Metadata to service providers. CE includes license revenue received from consumer electronics companies for our IPG products, Metadata and advertising revenue from our CE IPGs. Other revenue consists primarily of revenue generated from our legacy ACP, VCR Plus+, connected platform and media recognition products.

Costs and Expenses
Cost of revenues consists primarily of employee compensation and benefits, patent prosecution, patent maintenance and patent litigation costs and an allocation of overhead and facilities. Research and development expenses are comprised primarily of employee compensation and benefits, consulting costs and an allocation of overhead and facilities costs. Selling and marketing expenses are comprised primarily of employee compensation and benefits, travel, advertising and an allocation of overhead and facilities costs. General and administrative expenses are comprised primarily of employee compensation and benefits, travel, accounting, tax and corporate legal fees and an allocation of overhead and facilities costs.

Results of Operations
Consolidated Results
The following tables present our condensed consolidated statements of operations compared to the same periods in the prior year (in thousands):
 
Three Months Ended
September 30,
 
 
 
 
 
2014
 
2013
 
Change $
 
Change %
Revenues
$
128,582

 
$
123,478

 
5,104

 
4
 %
Costs and expenses:
 
 
 
 
 
 
 
Cost of revenues, exclusive of amortization of intangible assets
22,303

 
21,151

 
1,152

 
5
 %
Research and development
25,369

 
26,787

 
(1,418
)
 
(5
)%
Selling, general and administrative
34,306

 
36,644

 
(2,338
)
 
(6
)%
Depreciation
4,256

 
4,007

 
249

 
6
 %
Amortization of intangible assets
20,158

 
18,673

 
1,485

 
8
 %
Restructuring and asset impairment charges
2,722

 
5,705

 
(2,983
)
 
(52
)%
Gain on sale of patents
(500
)
 

 
(500
)
 
NA

Total operating expenses
108,614

 
112,967

 
(4,353
)
 
(4
)%
Operating income from continuing operations
19,968

 
10,511

 
9,457

 
90
 %
Interest expense
(13,962
)
 
(15,102
)
 
1,140

 
(8
)%
Interest income and other, net

 
653

 
(653
)
 
(100
)%
Debt modification expense
(3,775
)
 

 
(3,775
)
 
NA

Loss on interest rate swaps and caps, net
(229
)
 
(4,206
)
 
3,977

 
(95
)%
Loss on debt redemption
(5,159
)
 

 
(5,159
)
 
NA

(Loss) from continuing operations before taxes
(3,157
)
 
(8,144
)
 
4,987

 
(61
)%
Income tax expense (benefit)
3,458

 
(14,175
)
 
17,633

 
(124
)%
(Loss) income from continuing operations, net of tax
(6,615
)
 
6,031

 
(12,646
)
 
(210
)%
Loss from discontinued operations, net of tax
(417
)
 
(17,505
)
 
17,088

 
(98
)%
Net loss
$
(7,032
)
 
$
(11,474
)
 
4,442

 
(39
)%


25


 
Nine Months Ended
September 30,
 
 
 
 
 
2014
 
2013
 
Change $
 
Change %
Revenues
$
408,094

 
$
385,398

 
22,696

 
6
 %
Costs and expenses:
 
 
 
 
 
 
 
Cost of revenues, exclusive of amortization of intangible assets
78,258

 
69,476

 
8,782

 
13
 %
Research and development
79,859

 
83,986

 
(4,127
)
 
(5
)%
Selling, general and administrative
109,291

 
112,486

 
(3,195
)
 
(3
)%
Depreciation
13,207

 
12,283

 
924

 
8
 %
Amortization of intangible assets
58,178

 
56,109

 
2,069

 
4
 %
Restructuring and asset impairment charges
8,404

 
7,638

 
766

 
10
 %
Gain on sale of patents
(500
)
 

 
(500
)
 
NA

Total operating expenses
346,697

 
341,978

 
4,719

 
1
 %
Operating income from continuing operations
61,397

 
43,420

 
17,977

 
41
 %
Interest expense
(40,721
)
 
(46,286
)
 
5,565

 
(12
)%
Interest income and other, net
1,835

 
2,341

 
(506
)
 
(22
)%
Debt modification expense
(3,775
)
 
(1,351
)
 
(2,424
)
 
179
 %
(Loss) income on interest rate swaps and caps, net
(7,565
)
 
2,239

 
(9,804
)
 
(438
)%
Loss on debt redemption
(5,159
)
 
(2,761
)
 
(2,398
)
 
87
 %
Income (loss) from continuing operations before taxes
6,012

 
(2,398
)
 
8,410

 
(351
)%
Income tax expense (benefit)
13,658

 
(13,183
)
 
26,841

 
(204
)%
(Loss) income from continuing operations, net of tax
(7,646
)
 
10,785

 
(18,431
)
 
(171
)%
Loss from discontinued operations, net of tax
(56,291
)
 
(122,066
)
 
65,775

 
(54
)%
Net loss
$
(63,937
)
 
$
(111,281
)
 
47,344

 
(43
)%
Total Revenue
For the three and nine months ended September 30, 2014, total revenue increased by 4% and 6%, respectively, as compared to the same periods in the prior year. This was driven by an increase in revenue from both our Intellectual Property Licensing and Product segments. For additional details on the increase in revenue see the discussion of our segment results below.
Cost of Revenues
For the three months ended September 30, 2014, cost of revenues increased compared to the same period in the prior year, primarily due to a $3.2 million increase in employee and consulting costs, driven primarily by the international expansion of our Metadata offering and an increase in professional services headcount, partially offset by a $2.4 million decrease in patent litigation and prosecution costs. For the nine months ended September 30, 2014, cost of revenues increased 13% compared to the same period in the prior year primarily due to an increase in employee and consulting costs, driven primarily by the international expansion of our Metadata offering and an increase in professional services headcount.
Research and Development
For the three months ended September 30, 2014, research and development expenses decreased compared to the same period in the prior year, primarily due to a $1.6 million decrease in stock compensation expense. For the nine months ended September 30, 2014, research and development expenses decreased compared to the same period in the prior year, primarily due to a $5.9 million decrease in stock compensation expense, partially offset by a $1.7 million increase in consulting costs primarily related to the development of our cloud-based platform.
Selling, General and Administrative
For the three months ended September 30, 2014, selling, general and administrative expenses decreased compared to the same period in the prior year. This decrease was primarily due to a $1.7 million decrease in stock compensation expense, a $0.9 million decrease in corporate legal expenses and a $0.7 million decrease in marketing programs, partially offset by a $1.2 million increase in consulting expense related to planning for the upcoming major service provider renewals. The decrease in

26


corporate legal expenses was primarily due to a $0.8 million reimbursement of legal fees related to a previously settled case. For the nine months ended September 30, 2014, selling, general and administrative expense decreased compared to the same period in the prior year primarily due to a $5.5 million decrease in stock compensation expense and a $1.5 million decrease in corporate legal expenses, partially offset by a $3.4 million increase in consulting expenses related to planning for the upcoming renewals with Time Warner Cable and DIRECTV in the second half of 2015 and with Comcast and EchoStar in the first half of 2016 (see also Note 2 to the Condensed Consolidated Financial Statements).

Amortization of Intangible Assets
For the three and nine months ended September 30, 2014, amortization of intangible assets increased, as compared to the same periods in the prior year, primarily due to the $28.0 million patent acquisition described in Note 3 to the Condensed Consolidated Financial Statements and the Veveo acquisition.    

Restructuring and Asset Impairment Charges
In conjunction with the disposition of the Rovi Entertainment Store and DivX business and our narrowed business focus on discovery, we are conducting a complete review of our product development, sales, data operations and general and administrative functions to create cost efficiencies for the Company. As a result of this analysis, we took cost reduction actions that resulted in a restructuring and asset impairment charge of $2.7 million being recorded to the Company's continuing operations during the three months ended September 30, 2014 and $8.1 million during the nine months ended September 30, 2014. Included in the restructuring charge for the three months ended September 30, 2014, is $2.6 million of severance charges and $0.1 million to accrue for the present value of lease payments for abandoned office space. Included in the restructuring charge for the nine months ended September 30, 2014, is $5.5 million of severance charges, $1.3 million to accrue for the present value of lease payments for abandoned office space, $1.1 million in asset impairment charges and $0.2 million in contract termination costs. This review is ongoing and we anticipate recording additional charges in the fourth quarter of 2014. In addition, during the three months ended March 31, 2014, we also recorded $0.3 million in expense related to the present value of lease payments for abandoned office space related to the restructuring action described below.
    
During 2013, we completed the review of our operations that began in the third quarter of 2012 (see Note 11 to the Condensed Consolidated Financial Statements). As a result of this analysis, we took additional cost reduction actions, which resulted in a restructuring charge of $5.7 million during the three months ended September 30, 2013 and $7.6 million during the nine months ended September 30, 2013.
    
Gain on Sale of Patents
During the three months ended September 30, 2014, we received $0.5 million from the sale of a patent. We anticipate selling additional patents in the future as we continue to look for additional ways to monetize patents we hold that are outside of our core discovery portfolio.

Interest Expense
For the three and nine months ended September 30, 2014, interest expense decreased, as compared to the same periods in the prior year, primarily due to a decrease in average debt outstanding.
Interest Income and Other, Net
For the three and nine months ended September 30, 2014, interest income and other, net decreased, as compared to the same periods in the prior year, primarily due to an increase in foreign exchange losses and a decrease in investment income due to a decrease in our average investment balances. For the nine months ended September 30, 2014, these decreases were partially offset by the release of a $1.2 million contingent liability which was acquired in a prior acquisition.
Loss on Debt Redemption and Debt Modification Expense
On July 2, 2014, we entered into a new Credit Agreement (the “Credit Agreement”). The Credit Agreement provides for (i) a five-year $125 million term loan A facility (the “Term Loan A Facility”), (ii) a seven-year $700 million term loan B facility (the “Term Loan B Facility” and together with the Term Loan A Facility, the “Term Loan Facility”) and (iii) a five-year $175 million revolving credit facility (including a letter of credit sub-facility) (“the Revolving Facility” and together with the Term Loan Facility, the “Senior Secured Credit Facility”). We used the proceeds of the Term Loan Facility, together with cash from our balance sheet, to repay existing loans under our previous credit agreement and to pay expenses related thereto. We accounted for the issuance of the Senior Secured Credit Facility and subsequent repayment of our previous credit facility as a

27


partial debt modification, as a significant number of previous credit facility investors reinvested in the Senior Secured Credit Facility, and the change in the present value of future cash flows was less than 10%. Under debt modification accounting, $1.0 million in unamortized debt issuance costs related to previous credit facility investors who reinvest