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EX-31.1 - EXHIBIT 31.1 - CAFEPRESS INC.exhibit31120150930-10q.htm
EX-31.2 - EXHIBIT 31.2 - CAFEPRESS INC.exhibit31220150930-10q.htm
EX-32.2 - EXHIBIT 32.2 - CAFEPRESS INC.exhibit32220150930-10q.htm
EX-32.1 - EXHIBIT 32.1 - CAFEPRESS INC.exhibit32120150930-10q.htm

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549 
_____________________________________
Form 10-Q
_____________________________________
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2015
or 
¨
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 001-35468 
_____________________________________
CafePress Inc.
(Exact name of registrant as specified in its charter) 
_____________________________________
Delaware
 
94-3342816
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification Number)
6901 Riverport Drive, Louisville, KY 40258
(502)-995-2258
(Address, including zip code, and telephone number, including area code, of registrant’s principal executive offices)
_____________________________________
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 or the Exchange Act during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes  x     No  ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes  x    No  ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
 
¨
Accelerated filer
 
¨
 
 
 
 
 
 
Non-accelerated filer
 
¨   (Do not check if a smaller reporting company)
Smaller reporting company
 
x
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).        Yes ¨     No  x
The number of shares outstanding of the registrant’s common stock as of November 6, 2015 was 16,945,998 shares.
 



CAFEPRESS INC.
TABLE OF CONTENTS
 
 
Page No.
 
 
 
PART I.
 
 
 
Item 1.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
PART II.
 
 
 
Item 1.
 
 
 
Item 1A.
 
 
 
Item 2.
 
 
 
Item 6.
 
 
 
 
 
 
 
 


2


PART I. FINANCIAL INFORMATION
Item 1.
Condensed Consolidated Financial Statements
CAFEPRESS INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except par value amounts)
 
September 30,
2015
 
December 31,
2014
 
(Unaudited)
ASSETS
 
 
 
CURRENT ASSETS:
 
 
 
Cash and cash equivalents
$
26,316

 
$
26,971

Short-term investments
14,153

 

Accounts receivable
820

 
1,029

Inventory, net
4,543

 
6,750

Deferred costs
846

 
1,948

Assets held for sale, current

 
15,944

Prepaid expenses and other current assets
3,948

 
4,517

Restricted cash
3,417

 

Total current assets
54,043

 
57,159

Property and equipment, net
8,946

 
11,659

Goodwill
20,899

 
20,535

Assets held for sale, non-current

 
32,891

Other assets
578

 
241

TOTAL ASSETS
$
84,466

 
$
122,485

 
 
 
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 
 
CURRENT LIABILITIES:
 
 
 
Accounts payable
$
1,350

 
$
8,015

Partner commissions payable
37

 
1,100

Accrued royalties payable
3,234

 
5,883

Accrued liabilities
6,841

 
12,007

Deferred revenue
1,338

 
2,448

Capital lease obligation, current
559

 
494

Liabilities held for sale, current

 
20,825

Total current liabilities
13,359

 
50,772

Capital lease obligation, non-current
491

 
910

Liabilities held for sale, non-current

 
79

Other long-term liabilities
308

 
539

TOTAL LIABILITIES
14,158

 
52,300

Commitments and Contingencies

 

Stockholders’ Equity:
 
 
 
Preferred stock, $0.0001 par value: 10,000 shares authorized as of September 30, 2015 and December 31, 2014; none issued and outstanding

 

Common stock, $0.0001 par value — 500,000 shares authorized and 17,037 and 17,417 shares issued and outstanding as of September 30, 2015 and December 31, 2014, respectively
2

 
2

Additional paid-in capital
99,937

 
101,158

Accumulated deficit
(29,631
)
 
(30,975
)
TOTAL STOCKHOLDERS’ EQUITY
70,308

 
70,185

TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY
$
84,466

 
$
122,485

See the accompanying notes to the condensed consolidated financial statements.

1


CAFEPRESS INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share amounts)
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2015
 
2014
 
2015
 
2014
 
(Unaudited)
 
(Unaudited)
Net revenues
$
19,472

 
$
25,897

 
$
64,812

 
$
81,612

Cost of net revenues
11,463

 
16,686

 
39,213

 
52,048

Gross profit
8,009

 
9,211

 
25,599

 
29,564

Operating expenses:
 
 
 
 
 
 
 
Sales and marketing
4,146

 
6,497

 
13,757

 
21,520

Technology and development
2,972

 
3,417

 
8,961

 
10,100

General and administrative
2,978

 
4,955

 
9,319

 
12,739

Acquisition related costs

 
50

 

 
50

Restructuring costs
4

 
42

 
530

 
42

Total operating expenses
10,100

 
14,961

 
32,567

 
44,451

Loss from operations
(2,091
)
 
(5,750
)
 
(6,968
)
 
(14,887
)
Interest income
12

 
4

 
34

 
9

Interest expense
(19
)
 
(17
)
 
(46
)
 
(61
)
Other (expense) income, net
(51
)
 

 
14

 
(19
)
Loss before income taxes
(2,149
)
 
(5,763
)
 
(6,966
)
 
(14,958
)
Provision (benefit) for income taxes
1,521

 
(367
)
 
108

 
(582
)
Net loss from continuing operations
(3,670
)
 
(5,396
)
 
(7,074
)
 
(14,376
)
Income (loss) from discontinued operations, net of tax
1,610

 
(857
)
 
8,418

 
(1,012
)
Net income (loss)
$
(2,060
)
 
$
(6,253
)
 
$
1,344

 
$
(15,388
)
Net income (loss) per share of common stock:
 
 
 
 
 
 
 
Basic:
 
 
 
 
 
 
 
Continuing operations
$
(0.21
)
 
$
(0.31
)
 
$
(0.41
)
 
$
(0.83
)
Discontinued operations
$
0.09

 
$
(0.05
)
 
$
0.49

 
$
(0.06
)
Diluted:
 
 
 
 
 
 
 
Continuing operations
$
(0.21
)
 
$
(0.31
)
 
$
(0.41
)
 
$
(0.83
)
Discontinued operations
$
0.09

 
$
(0.05
)
 
$
0.48

 
$
(0.06
)
Shares used in computing net income (loss) per share of common stock:
 
 
 
 
 
 
 
Basic
17,094

 
17,324

 
17,351

 
17,273

Diluted
17,153

 
17,324

 
17,403

 
17,273

See the accompanying notes to the condensed consolidated financial statements.


2


CAFEPRESS INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
 
Nine Months Ended September 30,
 
2015
 
2014
 
(Unaudited)
Cash Flows from Operating Activities:
 
 
 
Net income (loss)
$
1,344

 
$
(15,388
)
Adjustments to reconcile net income (loss) to net cash used in operating activities:
 
 
 
Depreciation and amortization
5,439

 
7,497

Amortization of intangible assets
1,229

 
3,258

Loss on disposal of fixed assets
209

 
67

Stock-based compensation
1,316

 
2,287

Change in fair value of contingent consideration liability

 
(741
)
Impairment charges — assets held for sale
7,311

 

Gain on sale of businesses
(17,319
)
 

Deferred income taxes
82

 
401

Changes in operating assets and liabilities, net of effect of divestitures:
 
 
 
Accounts receivable
209

 
2,746

Inventory
2,207

 
1,454

Prepaid expenses and other current assets
1,646

 
(2,656
)
Other assets
68

 
78

Accounts payable
(6,709
)
 
(13,663
)
Partner commissions payable
(1,063
)
 
(1,996
)
Accrued royalties payables
(2,649
)
 
(2,029
)
Accrued and other liabilities
(5,509
)
 
(518
)
Assets and liabilities held for sale
1,125

 
(1,331
)
Deferred revenue
(1,110
)
 
(319
)
Net cash used in operating activities
(12,174
)
 
(20,853
)
Cash Flows from Investing Activities:
 
 
 
Purchase of short-term investments
(19,880
)
 

Proceeds from maturities of short-term investments
5,727

 
1,493

Proceeds from sale of businesses, net
34,438

 

Purchase of property and equipment
(782
)
 
(2,144
)
Capitalization of software and website development costs
(1,661
)
 
(2,269
)
Change in restricted cash
(3,417
)
 
75

Net cash provided by (used in) investing activities
14,425

 
(2,845
)
Cash Flows from Financing Activities:
 
 
 
Principal payments on capital lease obligations
(354
)
 
(431
)
Proceeds from exercise of common stock options
390

 
448

Payments under insurance financing

 
(256
)
Repurchases of common stock
(2,942
)
 

Net cash used in financing activities
(2,906
)
 
(239
)
Net decrease in cash and cash equivalents
(655
)
 
(23,937
)
Cash and cash equivalents — beginning of period
26,971

 
32,205

Cash and cash equivalents — end of period
$
26,316

 
$
8,268

Supplemental Disclosures of Cash Flow Information:
 
 
 
Cash paid for interest
$
61

 
$
115

Income taxes paid during the period
90

 
7

Non-cash Investing and Financing Activities:
 
 
 
Accrued purchases of property and equipment
51

 
336

See the accompanying notes to the condensed consolidated financial statements.

3


CAFEPRESS INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

1. Business and Summary of Significant Accounting Policies
Business
CafePress Inc., or the Company, formerly CafePress.com, Inc., was incorporated under the laws of the State of California on October 18, 1999. On January 19, 2005, the Company was reincorporated under the laws of the State of Delaware. On June 7, 2011, the name of the Company was changed to CafePress Inc.

CafePress is a leading online retailer enabling consumers to shop, create, and sell a wide variety of customized and personalized made-on-demand products such as t-shirts, mugs, pillows, and more through its flagship website, CafePress.com.  In addition, under its Retail Partners Channel, the company sells its products through a variety of leading online marketplace and third-party retail channels under the CafePress brand. CafePress also leverages its Licensed Content relationships, which consists of large entertainment companies and brands, to create unique officially licensed and crowd-sourced “fan” products for sale within its own marketplace and third-party retail partner channels.
Basis of Presentation
The accompanying unaudited condensed financial statements include the accounts of the Company and its wholly owned subsidiary. All intercompany transactions and balances have been eliminated.
The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles, or U.S. GAAP, and following the requirements of the Securities and Exchange Commission, or SEC, for interim reporting. As permitted under those rules, certain footnotes or other financial information that are normally required by U.S. GAAP can be condensed or omitted. These financial statements have been prepared on the same basis as the Company’s annual financial statements and, in the opinion of management, reflect all adjustments, consisting only of normal recurring adjustments that are necessary for a fair statement of the Company’s financial information. The results of operations for the three and nine months ended September 30, 2015 are not necessarily indicative of the results to be expected for the year ending December 31, 2015 or for any other interim period or for any other future year. The balance sheet as of December 31, 2014 has been derived from audited financial statements at that date but does not include all of the information required by U.S. GAAP for complete financial statements.
The accompanying condensed consolidated financial statements and related financial information should be read in conjunction with the audited financial statements and the related notes thereto for the year ended December 31, 2014 included in the Company’s Annual Report on Form 10-K as filed on March 31, 2015 with the SEC.
Segments
The Company’s chief operating decision maker is its Chief Executive Officer, who manages the Company’s operations on a consolidated basis for purposes of allocating resources. As a result, the Company has a single operating segment which is the Company’s single reportable segment. All of the Company’s principal operations and decision-making functions are located in the United States.
Discontinued operations
Prior year financial statements have been recast to reflect the sale of the Company’s InvitationBox.com business assets in the fourth quarter of 2014, the sale of its Art and Groups businesses in the first fiscal quarter of 2015, and the sale of its EZ Prints, Inc. assets in the third quarter of 2015 in accordance with the Financial Accounting Standards Board Accounting Standards Codification 205-20-55 within discontinued operations. Results of discontinued operations are excluded from the accompanying notes to the consolidated financial statements for all periods presented, unless otherwise noted. See Note 4, Discontinued Operations, in the accompanying Notes to Consolidated Financial Statements.

4


Use of Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. On an ongoing basis, the Company evaluates its estimates, including but not limited to those related to revenue recognition, provisions for doubtful accounts, credit card chargebacks, sales returns, inventory write-downs, stock-based compensation, legal contingencies, depreciable lives, asset impairments, accounting for business combinations, and income taxes including required valuation allowances. The Company bases its estimates on historical experience, projections for future performance and other assumptions that it believes to be reasonable under the circumstances. Actual results could differ materially from those estimates.
Revenue Recognition
The Company recognizes revenues from product sales, net of estimated returns based on historical experience, when the following revenue recognition criteria are met: (1) persuasive evidence of an arrangement exists; (2) delivery has occurred or the service has been provided; (3) the selling price or fee revenue earned is fixed or determinable; and (4) collection of the resulting receivable is reasonably assured.
The Company evaluates whether it is appropriate to record the gross amount of product sales and related costs as product revenues or the net amount earned as fulfillment revenues. Revenues are recorded at the gross amount when the Company is the primary obligor in a transaction, is subject to inventory and credit risk, has latitude in establishing prices and selecting suppliers, or has most of these indicators. When the Company is not the primary obligor and does not take inventory risk, revenues will be recorded at the net amount received by the Company as fulfillment revenues.
Product sales and shipping revenues are recognized net of promotional discounts, rebates, and return allowances. Revenues from product sales and services rendered are recorded net of sales and consumption taxes. The Company periodically provides incentive offers to customers to encourage purchases. Such offers include current discount offers, such as percentage discounts off current purchases, and other similar offers. Current discount offers, when used by customers, are treated as a reduction of revenues. The Company maintains an allowance for estimated future returns and credit card chargebacks based on current period revenues and historical experience.
The Company accounts for flash deal promotions through group-buying websites as gift certificates. Deferred revenue is recorded at the time of the promotion based on the gross fee payable by the end customer as the Company considers it is the primary obligor in the transaction. The Company defers the costs for the direct and incremental sales commission retained by group-buying websites and records the associated expense as a component of sales and marketing expense at the time revenue is recognized. Revenue is recognized on redemption of the offer and delivery of the product to the Company’s customers.
The Company recognizes gift certificate breakage from flash deal promotions, its internally managed voucher promotions, and gift certificate sales as a component of revenues. The Company monitors historical breakage experience and when sufficient history of redemption exists, the Company records breakage revenue in proportion to actual gift certificate redemptions. When the Company concludes that insufficient history of redemption and breakage experience exists, breakage revenue is recognized upon expiration of the flash deal promotion or in the period the Company considers the obligation for future performance related to such breakage to be remote. Changes in customers’ behavior could impact the amounts that are ultimately redeemed and could affect the breakage recognized as a component of revenues.
Deferred revenues include funds received in advance of product fulfillment, deferred revenue for flash deal promotions and gift cards and amounts deferred until applicable revenue recognition criteria are met. Direct and incremental costs associated with deferred revenue are deferred, classified as deferred costs and recognized in the period revenue is recognized.
Goodwill
Goodwill represents the excess of the purchase price over the fair value of assets acquired and liabilities assumed related to a business combination. Goodwill is presumed to have an indefinite life and is not subject to amortization. The Company conducts a quantitative test for the impairment of goodwill at least annually, as of July 1 of each year, and also whenever events or changes in circumstances indicate that the carrying value of the goodwill may not be fully recoverable. The quantitative impairment test is a two-step process. The first step is a comparison of the fair value of the reporting unit with its carrying amount, including goodwill. If this step indicates impairment, then the Company needs to proceed with Step 2 where the potential impairment loss is measured as the excess of recorded goodwill over its implied fair value.

5


The Company determined its reporting units for goodwill impairment testing by identifying those components at, or one level below, the operating segments that (1) constitute a business, (2) have discrete financial information available, and (3) are regularly reviewed by segment management.
As of the dates of the Company’s annual goodwill impairment test and other goodwill impairment analyses, it had one operating segment and one reporting unit.
In performing the Company’s quantitative impairment tests, it determines the fair value of its reporting unit through a combination of the income and market approaches. Under the income approach, the Company estimates fair value based on a discounted cash flow model using a discount rate determined by management to be commensurate with the risk inherent in the Company’s current business model. Under the market approach, the Company estimates the fair value of its overall business based on its current market capitalization, market comparables, or other objective evidence of fair value.
During fiscal year 2014, the Company’s market value dropped below its book value, it had management changes, and it had changes to certain strategic objectives and operations. The Company considered these items to be triggering events which resulted in additional goodwill impairment tests carried out at September 30, 2014 and December 31, 2014. As a result, the Company updated its quantitative impairment test using a combination of the income and market approaches. Based on the Company’s goodwill impairment analyses performed as of September 30, 2014 and as of December 31, 2014, which considered cash flows from continuing operations, excluding the sale of its InvitationBox.com, Art, and Groups businesses there was excess fair value over carrying value of 20% and 27%, respectively. Accordingly, the Company concluded that step two of the goodwill impairment tests were not required at either of these dates and no impairment was recorded.
In the first quarter of 2015, the Company closed the sale of its Art and Groups businesses and in the second quarter of 2015 classified its EZ Prints business as “Assets Held for Sale” and “Liabilities Held for Sale” in accordance with FASB Accounting Standards Codification (“ASC”) 205-20-55, Presentation of Financial Statements and ASC 360, Property, Plant, and Equipment. The Company considered these items to be triggering events, and accordingly, performed goodwill impairment tests as of March 31, 2015 and June 30, 2015. These tests resulted in estimated excess fair value over carrying value of 3% and 6%, respectively. Accordingly, the Company concluded that step two of the goodwill impairment tests was not required at either of these dates and no impairment was recorded.
In the third quarter of 2015, the Company performed its annual impairment test as of July 1, 2015 and, subsequently, performed an impairment test as of September 1, 2015 upon the sale of its EZ Prints business assets, which it considered a triggering event. These tests resulted in estimated excess fair value over carrying value of 6% and 7%, respectively. Accordingly, the Company concluded that step two of the goodwill impairment tests was not required at either of these dates and no impairment was recorded.
The application of the goodwill impairment test requires judgment, including the identification of reporting units, assigning assets and liabilities to reporting units, assigning goodwill to reporting units, and determining the fair value of each reporting unit. Significant judgment, and the use of significant estimates and assumptions, is required to estimate the fair value of reporting units, including estimating future cash flows, future market conditions, and determining the appropriate discount rates, growth rates, and operating margins, among others.
The Company’s discounted cash flow analyses factor in assumptions on revenue and expense growth rates. These estimates are based upon the Company’s historical experience and projections of future activity, factoring in customer demand, and a cost structure necessary to achieve the related revenues. Additionally, these discounted cash flow analyses factor in expected amounts of working capital and weighted average cost of capital. The Company believes its assumptions are reasonable, however, the fair value of the reporting unit is close to its carrying amount, including goodwill, and is sensitive to changes in assumptions. There can be no assurance that its estimates and assumptions made for purposes of its goodwill impairment testing, at the annual date and the interim testing date, will prove to be accurate predictions of the future. A sustained decline in the Company’s stock price and resulting market capitalization, decline in overall revenues, delays in expected new business opportunities, unforeseen losses or failure to achieve planned profitability improvements in the future and changes in other estimates and assumptions as noted above could result in a significant goodwill impairment charge. In addition, a change in reporting units from any further reorganization, could materially affect the determination of reporting units or fair value for each reporting unit, which could trigger impairment in the future. It is not possible at this time to determine if any such future impairment charge would result.

6



The change in the carrying amount of goodwill is as follows (in thousands):
 
Carrying Amount
Balance at December 31, 2014
$
20,535

Divestiture of business — adjustment based on final sale price
364

Balance at September 30, 2015
$
20,899

Recent accounting pronouncements

In September 2015, the FASB issued new guidance related to business combinations. The new guidance requires that adjustments made to provisional amounts recognized in a business combination be recorded in the period such adjustments are determined, rather than retrospectively adjusting previously reported amounts. The new standard is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. Early adoption is permitted. We are evaluating the impact, if any, of adopting this new accounting guidance on our consolidated financial statements.
In July 2015, the FASB issued ASU 2015-11, Inventory - Simplifying the Measurement of Inventory (Topic 330). ASU 2015-11 requires inventory to be subsequently measured using the lower of cost and net realizable value, thereby eliminating the market value approach. Net realizable value is defined as the “estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal and transportation.” ASU 2015-11 is effective for reporting periods beginning after December 15, 2016 and is applied prospectively. Early adoption is permitted. The Company is evaluating the impact, if any, of adopting this new accounting guidance on its financial statements.
In August 2014, the Financial Accounting Standards Board (FASB) issued a new accounting standard to provide guidance on management’s responsibility in evaluating whether there is substantial doubt about a company’s ability to continue as a going concern and to provide related footnote disclosures. The new standard is effective for the Company in the fourth quarter of fiscal 2017 with early adoption permitted. The Company is currently evaluating adoption methods and whether this standard will have a material impact on its financial statements and related disclosures.
In May 2014, the FASB issued a new accounting standard that requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. The new standard will replace most existing revenue recognition guidance in U.S. GAAP when it becomes effective. Early application is not permitted. The new standard will be effective for the Company beginning January 1, 2018. The new standard permits the use of either the retrospective or cumulative effect transition method. The Company is currently evaluating adoption methods and whether this standard will have a material impact on its financial statements and related disclosures.
In April 2014, the FASB issued a new accounting standard that limits discontinued operations reporting to situations where the disposal represents a strategic shift that has (or will have) a major effect on an entity’s operations and financial results, and requires expanded disclosures for discontinued operations. The new standard became effective prospectively for disposals occurring in fiscal years beginning after December 15, 2014. The adoption of this standard did not have a material impact on the Company’s financial statements and related disclosures.
In 2013, the FASB issued a new accounting standard that requires the presentation of certain unrecognized tax benefits as reductions to deferred tax assets rather than as liabilities in the Consolidated Balance Sheets when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists. The standard required adoption on a prospective basis in the first quarter of 2015. The adoption of this standard did not have a material impact on the Company’s financial statements and related disclosures.
Revision of Prior Periods
During the fourth quarter of 2014, the Company identified errors in its accounting for certain inventory purchases and other operating costs that were originally recognized in the fourth quarter of 2010 through the third quarter of 2014. The identified errors related to the incorrect invoice vouchering of prepayments of inventory purchases and certain operating expense transactions. The Company assessed the materiality of the errors on each financial period impacted in accordance with the SEC’s Staff Accounting Bulletin (“SAB”) No. 99 and SAB No. 108 and concluded that the error was not material to any previously issued financial statements, but was material in the aggregate to the results of the fourth quarter of 2014 and therefore it was not recorded as an out of period adjustment. Accordingly, the financial statements provided herein have been revised to correct these errors. The adjustments related to years prior to 2012 are reflected as a $0.3 million increase to the beginning Accumulated Deficit for 2012. The revision had no net impact on the Company’s net cash provided by operating activities for any period presented.

7


The following tables summarize the corrections to the Company’s Condensed Consolidated Statements of Operations for the three and nine months ended September 30, 2014 (after adjusting for discontinued operations) and Condensed Consolidated Statements of Cash Flow for the nine months ended September 30, 2014 (in thousands):
 
Three Months Ended
September 30, 2014
 
As
previously
reported
 
Adjustment
 
As
revised
Statements of Operations:
 
 
 
 
 
Cost of net revenues
$
16,628

 
$
58

 
$
16,686

Loss before income taxes
$
(5,705
)
 
$
(58
)
 
$
(5,763
)
Net loss from continuing operations
$
(5,338
)
 
$
(58
)
 
$
(5,396
)
Basic and diluted net loss per share of common stock from continuing operations
$
(0.31
)
 
$

 
$
(0.31
)

 
Nine Months Ended
September 30, 2014
 
As
previously
reported
 
Adjustment
 
As
revised
Statements of Operations:
 
 
 
 
 
Cost of net revenues
$
52,015

 
$
33

 
$
52,048

Loss before income taxes
$
(14,925
)
 
$
(33
)
 
$
(14,958
)
Net loss from continuing operations
$
(14,343
)
 
$
(33
)
 
$
(14,376
)
Basic and diluted net loss per share of common stock from continuing operations
$
(0.83
)
 
$

 
$
(0.83
)

 
Nine Months Ended
September 30, 2014
 
As
previously
reported
 
Adjustment
 
As
revised
Statements of Cash Flow:
 
 
 
 
 
Net loss
$
(15,214
)
 
$
(174
)
 
$
(15,388
)
Accounts receivable
$
2,753

 
$
(7
)
 
$
2,746

Prepaid expenses and other current assets
$
(2,268
)
 
$
(388
)
 
$
(2,656
)
Accounts payable
$
(13,650
)
 
$
(13
)
 
$
(13,663
)
Accrued royalties payable
$
(1,920
)
 
$
(109
)
 
$
(2,029
)
Accrued and other liabilities
$
(943
)
 
$
425

 
$
(518
)
Deferred income taxes
$
331

 
$
70

 
$
401

Deferred revenue
$
(515
)
 
$
196

 
$
(319
)



8


2. Investments and Fair Value of Financial Instruments
The components of the Company’s cash, cash equivalents and short-term investments, including unrealized gains and losses associated with each are as follows (in thousands):
 
September 30, 2015
 
Amortized
cost
 
Gross
unrealized
gains
 
Gross
unrealized
losses
 
Fair Value
Cash and cash equivalents:
 
 
 
 
 
 
 
Cash
$
14,207

 
$

 
$

 
$
14,207

Money market funds
12,109

 

 

 
12,109

Total cash equivalents
26,316

 

 

 
26,316

Short-term investments:
 
 
 
 
 
 
 
Certificates of deposit
14,153

 

 

 
14,153

Total cash and cash equivalents and short term investments
$
40,469

 
$

 
$

 
$
40,469

 
December 31, 2014
 
Amortized
cost
 
Gross
unrealized
gains
 
Gross
unrealized
losses
 
Fair Value
Cash and cash equivalents:
 
 
 
 
 
 
 
Cash
$
8,383

 
$

 
$

 
$
8,383

Money market funds
18,588

 

 

 
18,588

Total cash and cash equivalents and short term investments
$
26,971

 
$

 
$

 
$
26,971

The Company records its financial assets and liabilities at fair value. The accounting guidance for fair value provides a framework for measuring fair value, clarifies the definition of fair value, and expands disclosures regarding fair value measurements. Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the reporting date. The accounting guidance establishes a three-tiered hierarchy, which prioritizes the inputs used in the valuation methodologies in measuring fair value:
Level 1 — Quoted prices in active markets for identical assets or liabilities.
Level 2 — Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.
Level 3 — Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.
The Company’s financial instruments, including cash and cash equivalents, short-term investments, accounts receivable, short-term borrowings, accounts payable, partner commissions payable and accrued liabilities have carrying amounts which approximate fair value due to the short-term maturity of these instruments.

9


The following table represents the Company’s fair value hierarchy for its financial assets and liabilities (in thousands):
 
September 30, 2015
 
Total
Fair Value
 
Level I
 
Level II
 
Level III
Cash and cash equivalents:
 
 
 
 
 
 
 
Money market funds
$
12,109

 
$
12,109

 
$

 
$

Short-term investments:
 
 
 
 
 
 
 
Certificates of deposit
14,153

 
14,153

 

 

Total financial assets
$
26,262

 
$
26,262

 
$

 
$

 
December 31, 2014
 
Total
Fair Value
 
Level I
 
Level II
 
Level III
Cash and cash equivalents:
 
 
 
 
 
 
 
Money market funds
$
18,588

 
$
18,588

 
$

 
$

Total financial assets
$
18,588


$
18,588


$


$

The Company holds money market funds that invest primarily in high-quality short-term money market instruments, including certificates of deposit, banker’s acceptances, commercial paper, and other money market securities. Investments in these funds are not insured or guaranteed by the Federal Deposit Insurance Corporation (FDIC) or any other government agency.
As of September 30, 2015, the Company held certificates of deposits, classified as cash equivalents or short-term investments, based on the original term. A certificate of deposit is a time deposit with a fixed term that is commonly offered by banks, thrifts, and credit unions. As of September 30, 2015, the certificates of deposit held by the Company had a term of 365 days or less. All certificates of deposit held by the Company were within the insured limits of the FDIC.


3. Balance Sheet Items
Inventory, net are comprised of the following (in thousands):
 
September 30,
2015
 
December 31, 2014
Raw materials
$
5,206

 
$
7,153

Finished goods
32

 

Less: reserve for obsolescence
(695
)
 
(403
)
Inventory, net
$
4,543

 
$
6,750

Property and equipment, net are comprised of the following (in thousands):
 
September 30,
2015
 
December 31, 2014
Building
$
3,782

 
$
3,782

Computer equipment and office furniture
13,347

 
13,262

Computer software
2,339

 
2,221

Internal use software and website development
14,176

 
12,886

Production equipment
18,951

 
19,276

Leasehold improvements
5,080

 
4,933

Total property and equipment
57,675

 
56,360

Less: accumulated depreciation and amortization
(48,729
)
 
(44,701
)
Property and equipment, net
$
8,946

 
$
11,659


10


Property and equipment acquired under capital leases are as follows (in thousands):
 
September 30,
2015
 
December 31, 2014
Building
$
3,782

 
$
3,782

Less: accumulated depreciation
(3,198
)
 
(2,958
)
Building, net
$
584

 
$
824

 
 
 
 
Production equipment
$
389

 
$
389

Less: accumulated depreciation
(384
)
 
(372
)
Production equipment, net
$
5

 
$
17

Depreciation and amortization expense was $1.6 million and $1.8 million for the three months ended September 30, 2015 and 2014, respectively, and $4.9 million and $5.6 million for the nine months ended September 30, 2015 and 2014, respectively.
Depreciation expense for assets under capital leases was $0.1 million for both the three months ended September 30, 2015 and 2014, respectively, and $0.3 million for both the nine months ended September 30, 2015 and 2014, respectively.
Accrued liabilities consist of the following (in thousands):
 
September 30,
2015
 
December 31, 2014
Payroll and employee related expense
$
2,370

 
$
1,673

Production costs
1,177

 
3,496

Unclaimed royalty payments
1,030

 
984

Other accrued liabilities
988

 
2,467

Professional services
648

 
2,174

Accrued advertising
429

 
480

Royalties-minimum guarantee
115

 
439

Allowance for sales returns and chargebacks
84

 
294

Accrued liabilities
$
6,841

 
$
12,007

The following table presents the changes in the allowance for sales returns and chargebacks (in thousands):
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2015
 
2014
 
2015
 
2014
Balance, beginning of period
$
107

 
$
138

 
$
294

 
$
295

Add: provision
514

 
811

 
1,910

 
2,481

Less: deductions and other adjustments
(537
)
 
(859
)
 
(2,120
)
 
(2,686
)
Balance, end of period
$
84

 
$
90

 
$
84

 
$
90



4. Discontinued Operations
In the fourth quarter of 2014 and the first quarter of 2015, in order to improve the Company’s core business and further enhance stockholder value, the Company entered into definitive agreements to divest its Art, Groups and InvitationBox.com businesses for a total of approximately $40.3 million in cash. The Art and Groups asset sales closed in the first fiscal quarter of 2015 and the InvitationBox.com asset sale closed in the fourth fiscal quarter of 2014. The Company has classified the assets and liabilities associated with the Art and Groups businesses as assets and liabilities held for sale in the Company’s consolidated balance sheet at December 31, 2014 in accordance with ASC 360-10-45 which was prior to January 1, 2015, the effective date of the new accounting standards in relation to discontinued operations reporting. See Note 1. Business and Summary of Significant Accounting Policies, Recent Accounting Pronouncements. Therefore, the Company did not apply the new accounting standard to the divestitures of Art and Groups businesses although the businesses were disposed of after the effective date.

11


In the second quarter of 2015, the Company committed to a plan to divest its EZ Prints business. Certain assets and liabilities of the EZ Prints business have been classified as assets and liabilities held for sale in accordance with ASC 205-20-55 in the Company's Consolidated Balance Sheets and have been included in discontinued operations for all periods presented. In addition, condensed cash flow information for all periods presented is included. In the second quarter of 2015, the Company reviewed the carrying value of the EZ Prints assets as compared to the fair value of such assets as measured by the offers received. Accordingly, as prescribed by ASC 360, Impairment or Disposal of Long-Lived Assets, the Company recorded an impairment charge of $7.3 million to lower the carrying value of the assets to fair value, which is included in the operating section of “Discontinued Operations” in the Consolidated Statement of Operations. The Company completed the sale of its EZ Prints business in the third quarter of 2015 and recorded a gain on the sale of $0.3 million which is included in the "Other (income)\expense" section of “Discontinued Operations” in the Consolidated Statement of Operations.
Income (loss) from discontinued operations, net of tax, in the Company’s Consolidated Statements of Operations, represents the net income from the disposal of assets and liabilities associated with the sale of Art and Groups in the first quarter of 2015, the impairment charge associated with the writedown of EZ Prints net assets to fair value in the second quarter of 2015, the gain on disposal of the EZ Prints business in the third quarter of 2015, as well as the historical operations of the Art, Groups, InvitationBox.com and EZ Prints businesses for all periods presented in accordance with ASC 205-20-55.
EZ Prints business asset sale
On September 1, 2015, the Company sold its EZ Prints business, which provided a suite of enterprise class deployable software products and services focused on private label e-commerce customization services, pursuant to an asset purchase agreement with EZ Prints Holdings, Inc. (“EZP Holdings”). Vincent Sarrecchia, the chief executive officer of EZP Holdings, was previously serving as the interim chief executive officer of the EZ Prints business pursuant to a consulting agreement with the Company. Total consideration for the sale was $0.6 million, of which $0.1 million has been received and $0.5 million is in the form of a note receivable due on or before December 31, 2018. As part of the closing of the sale, the Company agreed to pay a current obligation of $1.25 million to one of the Company's current customers.
The Company also entered into a transition services agreement with EZP Holdings for a maximum period of one year from the closing date, a license agreement whereby the Company continues to have the right to use certain software, and cross fulfillment agreements whereby each party agrees to fulfill certain products for the other party. The Company's management is required to estimate the expected continuing cashflows against the cashflows of the disposed business in order to determine if discontinued operations presentation is applicable. Management has estimated the expected future cashflows in relation to the transition services agreement, the license agreement, and the cross fulfillment agreements on a gross basis in relation to the expected cashflows of the disposed business and has concluded that these cashflows will be insignificant to the disposed business. The Company will have no involvement in the management of EZP Holdings. As a result, management has applied discontinued operations presentation to the EZ Prints business asset sale in accordance with the ASC 205-20-55.
Art business asset sale
On March 1, 2015, the Company sold its Art business, which enabled users to transform photographs and images into canvas works of art, pursuant to an asset purchase agreement with Circle Graphics, Inc. (“Circle Graphics”). The Company received proceeds of $28.5 million, net of expenses, of which $2.4 million is in escrow for its indemnification obligations pursuant to an escrow agreement between the Company, Circle Graphics and the escrow agent.
The Company also entered into a transition services agreement with Circle Graphics for a period of one year from the closing date, and a commercial agreement whereby certain products purchased on the Company’s websites will be exclusively fulfilled by Circle Graphics for a period of three years following the closing date. There is no material relationship between the Company and Circle Graphics. Management is required to estimate the expected continuing cashflows against the cashflows of the disposed business in order to determine if discontinued operations presentation is applicable. Management has estimated the expected future cashflows in relation to the commercial agreement and the transition services agreement on a gross basis in relation to the expected cashflows of the disposed business and has concluded that these cashflows will be insignificant to the disposed business. The Company will have no involvement in the management of Circle Graphics. As a result, management has applied discontinued operations presentation to the Art business asset sale in accordance with the ASC 205-20-55.
Groups business asset sale
On March 6, 2015, the Company sold its Groups business, which provided personalized apparel and merchandise for groups and organizations through its e-commerce websites, pursuant to an asset purchase agreement with Logo Sportswear Inc. (“Logo

12


Sportswear”). The Company received proceeds of $9.2 million, net of expenses, of which $1.0 million is in escrow for its indemnification obligations pursuant to an escrow agreement between the Company, Logo Sportswear and the escrow agent.
In connection with the sale of the Groups business, the Company also entered into a transition services agreement for a period of one year from the closing date and referral agreement with Logo Sportswear for a period of two years following the closing date. There is no material relationship between the Company and Logo Sportswear. Management is required to estimate the expected continuing cashflows against the cashflows of the disposed business in order to determine if discontinued operations presentation is applicable. Management has estimated the expected future cashflows in relation to the referral agreement and the transition services agreement on a gross basis in relation to the expected cashflows of the disposed business and has concluded that these cashflows will be insignificant to the disposed business. The Company will have no involvement in the management of Logo Sportswear. As a result, management has applied discontinued operations presentation to the Groups business asset sale in accordance with the ASC 205-20-55.
InvitationBox.com business asset sale
On November 5, 2014, the Company entered into an asset purchase agreement with Phoenix Online LLC, a related party, pursuant to which the Company sold certain assets and liabilities of its InvitationBox.com business for a nominal amount of cash and quarterly revenue share payments equal to: a) 5% of the gross revenue generated by the InvitationBox.com business for a period of five years from the effective date of the asset purchase agreement; b) 3% of the gross revenue generated by the InvitationBox.com business for a period of five years from the effective date of the asset purchase agreement as consideration for the Company’s guaranty of a certain assumed lease for up to $900,000; and c) 2% of the gross revenue generated by the InvitationBox.com business for a period of five years from the effective date of the asset purchase agreement as consideration for certain transition services to be provided by the Company. The Company will have no involvement in the management of Phoenix Online, LLC. If and when such guaranty is released or the underlying lease is terminated, and/or the transition services end, the additional cash revenue payments will cease.
Financial information for the combined discontinued operations is summarized as follows (in thousands):
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2015
 
2014
 
2015
 
2014
Net revenues
$
2,440

 
$
22,422

 
$
22,280

 
$
66,273

Cost of net revenues
1,735

 
13,854

 
14,623

 
40,849

Gross profit
705

 
8,568

 
7,657

 
25,424

Operating expenses:
 
 
 
 
 
 
 
Sales and marketing
187

 
6,194

 
4,825

 
18,129

Technology and development
463

 
1,976

 
3,030

 
5,855

General and administrative
282

 
917

 
1,375

 
2,665

Acquisition related costs

 
575

 

 
(719
)
Impairment charges

 

 
7,311

 

Restructuring costs

 
(342
)
 

 
449

Total operating expenses
932

 
9,320

 
16,541

 
26,379

Loss from operations
(227
)
 
(752
)
 
(8,884
)
 
(955
)
Interest expense

 
(19
)
 
(17
)
 
(57
)
Gain on sale of assets
257

 

 
17,319

 

Income (loss) before income taxes
30

 
(771
)
 
8,418

 
(1,012
)
Provision (benefit) for income taxes
(1,580
)
 
86

 

 

Net income (loss) from discontinued operations
$
1,610


$
(857
)

$
8,418


$
(1,012
)

13


Components of assets and liabilities held for sale (in thousands):
 
 
December 31,
2014
Assets
 
 
Cash and cash equivalents
 
$
3,678

Accounts receivable
 
7,564

Inventory
 
2,323

Deferred costs
 
1,402

Prepaid expense and other current assets
 
977

Assets held for sale — short term
 
$
15,944

Property and equipment, net
 
$
4,513

Goodwill
 
18,660

Intangible assets, net
 
9,511

Other assets
 
207

Assets held for sale — long term
 
$
32,891

 
 
 
Liabilities
 
 
Accounts payable
 
$
8,773

Partner commissions payable
 
3,486

Accrued royalties payable
 
1,023

Accrued liabilities
 
3,575

Deferred revenue
 
3,936

Capital lease obligations, current
 
32

Liabilities held for sale — short-term
 
$
20,825

Liabilities held for sale — long term
 
$
79


14


Condensed cash flow information for EZ Prints discontinued operations is summarized as follows (in thousands):
 
Nine Months Ended September 30,
 
2015
 
2014
Cash Flows from Operating Activities:
 
 
 
Net loss
$
(9,386
)
 
$
(4,287
)
Adjustments to reconcile net loss to net cash (used in) provided by operating activities:
 
 
 
Depreciation and amortization
555

 
883

Amortization of intangible assets
1,229

 
1,846

Stock-based compensation
38

 
64

Change in fair value of contingent consideration liability

 
(194
)
Gain on sale of assets
(257
)
 

Impairment charge
7,311

 

Change in operating assets and liabilities
295

 
3,363

Net cash (used in) provided by operating activities
(215
)
 
1,675

Cash Flows from Investing Activities:
 
 
 
Purchase of property and equipment
(121
)
 
(154
)
Capitalization of software and website development costs
(127
)
 
(167
)
Divestiture of business, cash
(3,215
)
 

Net cash used in investing activities
(3,463
)
 
(321
)
Cash Flows from Financing Activities:
 
 
 
Principal payments on capital lease obligations

 
(23
)
Net cash used in financing activities

 
(23
)
Net (decrease) increase in cash and cash equivalents
(3,678
)
 
1,331

Cash and cash equivalents — beginning of period
3,678

 
1,130

Cash and cash equivalents — end of period
$

 
$
2,461



5. Line of Credit
In March 2013, the Company entered into a credit agreement which provides for a revolving credit facility of $5.0 million to fund acquisitions, share repurchases and other general corporate needs. The credit line is available through June 2016 and bears interest at either the London Inter Bank Offer Rate +1.75% or the bank’s prime rate +.75%. This credit agreement requires the Company to comply with various financial covenants, all of which the Company was in compliance with at September 30, 2015 and December 31, 2014, and is secured by all assets of the Company. There were no draws against the facility as of September 30, 2015 and December 31, 2014.
In July 2014, the Company amended its credit agreement (See Note 12, Commitments and Contingencies) which extended the maximum amount available under the Company’s revolving credit facility from $5.0 million to $6.5 million, and simultaneously entered into a Letter of Credit in connection with its amended facility lease agreement for $1.5 million. The Letter of Credit will expire no later than September 15, 2020. All other terms, conditions, covenants and the interest rate under the original March 2013 credit facility remained the same. The revolving credit facility is available for ordinary operations.


6. Stock-Based Compensation
The fair value of the Company’s stock-based payment awards was estimated on the grant date using the Black-Scholes option-pricing model. The expected term of options granted is calculated using the simplified method. The risk-free rate is based on the rates in effect at the time of grant for zero coupon U.S. Treasury notes with maturities approximately equal to each grant’s expected life. The expected volatility is based upon the volatility of a group of publicly traded industry peer companies. A dividend yield of zero is applied since the Company has not historically paid dividends and has no intention to pay dividends in the near future.

15


The following table summarizes stock option activity related to shares of common stock (in thousands, except the weighted average exercise price):
 
Number of
Stock Options
Outstanding
 
Weighted-
Average Exercise
Price
 
Weighted-
Average
Remaining
Contractual
Life (Years)
 
Aggregate
Intrinsic Value
Outstanding — December 31, 2014
2,750

 
$
9.70

 
3.39
 
$

Granted
718

 
4.26

 
 
 
 
Exercised
(148
)
 
2.62

 
 
 
 
Forfeited
(1,125
)
 
12.50

 
 
 
 
Outstanding — September 30, 2015
2,195

 
$
6.91

 
5.35
 
$
201

Vested and expected to vest — September 30, 2015
1,543

 
$
7.86

 
4.71
 
$
124

Options exercisable — September 30, 2015
895

 
$
9.88

 
3.49
 
$
45

The fair value of the option awards was calculated using the Black-Scholes option valuation model with the following assumptions:
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2015
 
2014
 
2015
 
2014
Expected term (in years)
6.0

 
4.5

 
5.0

 
4.5

Risk-free interest rate
1.4
%
 
1.6
%
 
1.3
%
 
1.6
%
Expected volatility
47
%
 
48
%
 
47
%
 
48
%
Expected dividend rate
0.0
%
 
0.0
%
 
0.0
%
 
0.0
%
Restricted Stock Unit Activity
The Company may grant restricted stock units, or RSUs, to its employees, consultants or outside directors under the provisions of the Company’s Amended and Restated 2012 Stock Incentive Plan. The cost of RSUs is determined using the fair value of the Company’s common stock on the date of grant. Compensation cost is amortized on a straight-line basis over the requisite service period.
Restricted stock unit activity for the nine months ended September 30, 2015 is summarized as follows (unit numbers in thousands):
 
Number of Units
Outstanding
 
Weighted
Average Grant
Date Fair Value
Per Unit
Awarded and unvested at December 31, 2014
243

 
$
5.81

Granted
316

 
4.14

Vested
(110
)
 
5.49

Forfeited and canceled
(107
)
 
5.85

Awarded and unvested at September 30, 2015
342

 
$
4.42


16


Stock-Based Compensation Expense
Cost of net revenues and operating expenses include stock-based compensation as follows (in thousands):
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2015
 
2014
 
2015
 
2014
Cost of net revenues
$
41

 
$
41

 
$
123

 
$
126

Sales and marketing
48

 
78

 
242

 
248

Technology and development
35

 
67

 
138

 
210

General and administrative
295

 
543

 
768

 
1,598

Total stock-based compensation expense
$
419

 
$
729

 
$
1,271

 
$
2,182

Capitalizable stock-based compensation relating to software development was not significant for any period presented.


7. Stock Repurchase Program:
In May 2015, the Company’s Board of Directors approved a stock repurchase program of up to 20% of the outstanding shares of its common stock or an aggregate of 3.5 million shares of the Company’s common stock, whichever is less, over a period of one year. Any stock repurchases may be made through open market and privately negotiated transactions, or as otherwise may be determined by management, at times and in such amounts as management deems appropriate, and may or may not be made pursuant to one or more Rule 10b5-1trading plans adopted in accordance with Rule 10b5-1 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Under a Rule 10b5-1trading plan, the Company may repurchase its shares regardless of any subsequent possession of material nonpublic information. The timing and amount of stock repurchased, if any, will depend on a variety of factors including stock price, market conditions, corporate and regulatory requirements (including applicable securities laws and regulations and the rules of The NASDAQ Stock Market), any additional constraints related to material inside information the Company may possess, and capital availability.
During the three months ended September 30, 2015, the Company repurchased 148,383 shares of its common stock at an average cost of $4.41 per share for a total cost of $0.7 million. During the nine months ended September 30, 2015, the Company repurchased 637,570 shares of its common stock at an average cost of $4.60 per share for a total cost of $2.9 million. All repurchased shares were retired.


8. Net Income (Loss) per Share of Common Stock
Basic net income (loss) per share is computed by dividing the net income (loss) attributable to common shares for the period by the weighted average number of common shares outstanding during the period.
Diluted net income (loss) per share attributed to common shares is computed by dividing the net loss attributable to common shares for the period by the weighted average number of common and potential common shares outstanding during the period, if the effect of each class of potential common shares is dilutive. Potential common shares include restricted stock units and incremental shares of common stock issuable upon the exercise of stock options.

17


The following table sets forth the computation of the Company’s basic and diluted net income (loss) per share of common stock (in thousands, except for per share amounts).
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2015
 
2014
 
2015
 
2014
Numerator:
 
 
 
 
 
 
 
Net loss from continuing operations
$
(3,670
)
 
$
(5,396
)
 
$
(7,074
)
 
$
(14,376
)
Income (loss) from discontinued operations, net of tax
1,610

 
(857
)
 
8,418

 
(1,012
)
Net income (loss)
$
(2,060
)
 
$
(6,253
)
 
$
1,344

 
$
(15,388
)
Shares used in computing net income (loss) per share of common stock:
 
 
 
 
 
 
 
Basic
17,094

 
17,324

 
17,351

 
17,273

Diluted
17,153

 
17,324

 
17,403

 
17,273

Net income (loss) per share of common stock:
 
 
 
 
 
 
 
Basic:
 
 
 
 
 
 
 
Continuing operations
$
(0.21
)
 
$
(0.31
)
 
$
(0.41
)
 
$
(0.83
)
Discontinued operations
$
0.09

 
$
(0.05
)
 
$
0.49

 
$
(0.06
)
Total
$
(0.12
)
 
$
(0.36
)
 
$
0.08

 
$
(0.89
)
Diluted:
 
 
 
 
 
 
 
Continuing operations
$
(0.21
)
 
$
(0.31
)
 
$
(0.41
)
 
$
(0.83
)
Discontinued operations
$
0.09

 
$
(0.05
)
 
$
0.48

 
$
(0.06
)
Total
$
(0.12
)
 
$
(0.36
)
 
$
0.08

 
$
(0.89
)
The following outstanding shares of potentially dilutive securities were excluded from the computation of diluted net income (loss) per share of common stock for the periods in which the Company incurred a loss because including them would have been antidilutive:
 
September 30,
 
2015
 
2014
Stock options to purchase common stock
2,195

 
2,898

Restricted stock units
342

 
318



9. Income Taxes
The Company recorded a $1.5 million expense and $0.4 million benefit for income taxes for the three months ended September 30, 2015 and 2014, respectively and a $0.1 million expense and $0.6 million benefit for income taxes for the nine months ended September 30, 2015 and 2014. During the quarter ended September 30, 2015, the tax benefit from continuing operations under the intraperiod allocation rules was reversed upon the sale of the EZ Prints business as the Company now expects a taxable loss in discontinued operations.
During the quarter ended December 31, 2013, the Company weighed both positive and negative evidence and determined that there is a need for the valuation allowance due to the existence of three years of historical cumulative losses which the Company considered significant verifiable negative evidence. Accordingly, the Company recorded a non-cash income tax provision of $9.3 million to its valuation allowance. As of September 30, 2015, the Company continues to maintain a valuation allowance on its deferred tax assets.


10. Segment Information
Operating segments are defined as components of an enterprise that engage in business activities for which separate financial information is available and evaluated by the chief operating decision maker in deciding how to allocate resources and assessing performance. The Company’s chief operating decision maker is its chief executive officer.

18


The chief executive officer reviews financial information presented on a consolidated basis, for purposes of allocating resources and evaluating financial performance. The Company has one business activity and there are no segment managers who are held accountable for operations, or plan for levels or components below the consolidated unit level. Accordingly, the Company operates as a single reportable segment.
The Company’s revenues by geographic region, based on the location to where the product was shipped, are summarized as follows (in thousands):
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2015
 
2014
 
2015
 
2014
United States
$
16,995

 
$
21,683

 
$
56,830

 
$
68,792

International
2,477

 
4,214

 
7,982

 
12,820

Total
$
19,472

 
$
25,897

 
$
64,812

 
$
81,612

All of the Company’s long-lived assets are located in the United States.


11. Restructuring
Restructuring costs were $4 thousand and $0.5 million for the three and nine months ended September 30, 2015, and were $42 thousand for the three and nine months ended September 30, 2014 and are included in “Restructuring costs” in the accompanying Condensed Consolidated Statements of Operations. In 2015, this expense consists of charges related to the downsizing of the Company’s San Mateo, California operations, including a $0.3 million charge for the early termination of its lease for office space and a $0.2 million charge for severance payments related to a headcount reduction.
The change in the restructuring liability is summarized as follows:
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2015
 
2014
 
2015
 
2014
Accrued restructuring balance, beginning of period
$
33

 
$

 
$

 
$

Employee severance
4

 

 
199

 

Lease restructuring

 
42

 
331

 
42

Cash payments
(37
)
 
(42
)
 
(530
)
 
(42
)
Accrued restructuring balance, end of period
$

 
$

 
$

 
$



12. Commitments and Contingencies
Leases
Lease agreements are accounted for as either operating or capital leases depending on certain defined criteria. The Company leases certain of its facilities and equipment under capital and operating leases with various expiration dates through 2021. Certain of the operating lease agreements contain rent holidays and rent escalation provisions. Rent holidays and rent escalation provisions are considered in determining straight-line rent expense to be recorded over the lease term. The lease term begins on the date of initial possession of the lease property for purposes of recognizing rent expense on a straight-line basis over the term of the lease.
In 2005, the Company entered into a capital lease agreement for a production facility in Louisville, Kentucky consisting of 126,352 square feet. The lease was amended in May 2007 to lease an additional 20,000 square feet. The capital lease has an interest rate of 6.5% and expires in 2017.

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Pursuant to an amendment to the lease in August of 2012, the Company added 184,813 square feet. On August 1, 2014, the Company further amended its primary facility lease (“Facility Lease Amendment”) to extend the term related only to the 184,813 square feet of leased production and office space from July 31, 2014 to July 31, 2021. In connection with the Facility Lease Amendment, the Company also entered into an option to terminate the lease in its entirety on or after July 31, 2018. In the case of such early lease termination, the Company would be required to pay a termination fee dependent upon the effective date of an early lease termination, as follows:
 
(i)
For a termination effective as of July 31, 2018: $1,512,679
(ii)
For a termination effective as of July 31, 2019: $934,814
(iii)
For a termination effective as of July 31, 2020: $429,736.
Under the terms of the Facility Lease Amendment, the Company is further required to maintain a Letter of Credit naming the Landlord as the beneficiary for the maximum amount of the termination fee for which the Company may be liable under the terms of the Facility Lease Amendment. See Note 5, Line of Credit.
In October 2007, the Company entered into an operating lease for office space in San Mateo, California. In December 2012, the Company amended the lease agreement. The amended lease term ends in March 2018. The lease includes an option for early termination effective January 31, 2016. On June 12, 2015, the Company exercised the early termination option and, accordingly, paid a termination fee of $0.3 million. See Note 11, Restructuring.
In July 2015, the Company entered into an operating lease for office space in Hayward, California. The lease commences on January 1, 2016 and ends on January 31, 2019.
Future minimum lease payments under noncancelable operating and capital leases as of September 30, 2015 are as follows:
Years Ended December 31,
Capital
leases
 
Operating
leases
Remaining three months of 2015
$
155

 
$
381

2016
607

 
947

2017
355

 
917

2018

 
637

2019

 
19

Total minimum lease payments
1,117

 
$
2,901

Less amount representing interest
(67
)
 
 
Present value of capital lease obligations
1,050

 
 
Less current portion
(559
)
 
 
Long-term portion of capital lease obligations
$
491

 
 
The future minimum operating lease commitments assume that the Company exercises its option for early termination under its current primary facility lease agreement, and does not include an early termination fee of approximately $1.5 million in 2017.


13. Related Party Transaction
On September 1, 2015, the Company sold its EZ Prints business, which provided a suite of enterprise class deployable software products and services focused on private label e-commerce customization services, pursuant to an asset purchase agreement with EZP Holdings. Vincent Sarrecchia, the chief executive officer of EZP Holdings, was previously serving as the interim chief executive officer of the EZ Prints business pursuant to a consulting agreement with the Company. Total consideration for the sale was $0.6 million, of which $0.1 million has been received by the Company and $0.5 million is in the form of a note receivable due on or before December 31, 2018. As part of the closing, the Company agreed to pay a current obligation of $1.25 million to one of EZ Prints' current customers.

14. Subsequent Events
On October 9, 2015, the Company entered into a purchase agreement (the "Purchase Agreement") to acquire approximately 1.6 acres of land and an on-site building with approximately 25,000 square feet located in Louisville, Kentucky, which the Company expects to use for its corporate offices.

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Under the Purchase Agreement, the Company will pay the seller a total purchase price of $1.8 million, with $1.65 million due upon closing, and the remaining $150,000 due after the completion of certain post-closing conditions, including the receipt of governmental approvals. The Purchase Agreement also contains certain representations and warranties of the Company, and provides for a due diligence period of 60 days from October 9, 2015. The transaction is expected to close within 30 days after the completion of the due diligence period.

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Item 2.
MANAGAMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
You should read the following discussion in conjunction with our condensed consolidated financial statements (unaudited) and related notes included elsewhere in this report. Except for the historical financial information contained herein, this quarterly report on Form 10-Q contains certain forward-looking statements within the meaning of Section 27A of the Private Securities Litigation Reform Act of 1995, as amended and Section 21E of the Securities Exchange Act of 1934, as amended and are subject to the safe harbor created by the Securities Litigation Reform Act of 1995. In some cases, you can identify forward-looking statements by terms such as “may,” “might,” “will,” “objective,” “intend,” “should,” “could,” “can,” “would,” “expect,” “believe,” “estimate,” “predict,” “potential,” “plan,” or the negative of these terms, and similar expressions intended to identify forward-looking statements. These statements reflect our current views with respect to future events and are based on assumptions and subject to risks and uncertainties. Given these uncertainties, you should not place undue reliance on these forward-looking statements. These forward-looking statements, include, but are not limited to, statements about our recent divestitures and potential impacts and anticipated benefits and consequences thereof and our ongoing obligations under the terms of the related agreements; our plans and obligations with respect to the Kentucky facility purchase agreement; our plans for future services and enhancements of existing services; the benefits of our services, technology and manufacturing processes; our expectations regarding our expenses and revenue, including statements about our expectations as to the variability of our revenues and growth rates from period to period and our valuation allowances; our expectations regarding the effect of seasonality and cyclicality on our business; critical accounting policies; customer acquisition costs as a driver of future growth; statements regarding continuing customer desire for custom products; the impairment of goodwill; anticipated trends and challenges in our business and the markets in which we operate; status of our strategic evaluations process and our intent to continue with an ongoing general evaluation of our business overall; the effect of any potential strategic alternatives, if and to the extent implemented; the payment of any contingent consideration from our divestiture transactions: our belief that the strategic steps we have taken will provide us with resources required to focus on improving our core business, enhance stockholder value and strengthen our balance sheet; quarterly trends; our liquidity position and cash flows; anticipated cash needs and our capital requirements and our needs for additional financing and the potential impact; our ability to recognize and remedy issues with internal controls and accounting treatment thereof; the expected results of any remediation plans; benefits of non-GAAP financial results; our investment plans; our anticipated growth strategies; our expectations with respect to raw materials and suppliers; the impact of production issues and delayed orders; our expectations regarding the volatility of cash provided by operating activities and the causes thereof; our ability to retain and attract customers and drive traffic to our websites; our expectations regarding the shift to mobile site access and the projected impact of such shift on our business; our regulatory environment; our legal proceedings and related risks and impact and timing of costs related thereto; our expectations with regard to how changes in market interest rates would affect us; our exposure to foreign currency exchange rate fluctuations; the impact of inflationary pressures; intellectual property; competition; sources of new revenue; and expectations regarding our share repurchase program. These statements involve known and unknown risks, uncertainties and other factors which may cause our actual results, performance or achievements to be materially different from any future results, performances or achievements expressed or implied by the forward-looking statements. Forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those projected. These risks and uncertainties include, but are not limited to, the risks set forth throughout this Report, including under Item 1A, “Risk Factors”. These forward-looking statements speak only as of the date hereof. We expressly disclaim any obligation or undertaking to release publicly any updates or revisions to any forward-looking statements contained herein to reflect any change in our expectations with regard thereto or any change in events, conditions or circumstances on which any such statement is based.


Recent Strategic Transactions
Art business sale
On March 1, 2015, we completed the sale of our Arts business pursuant to an asset purchase agreement with Circle Graphics, Inc. (“Circle Graphics”), dated as of February 11, 2015, whereby we received $28.5 million in proceeds, net of expenses, $2.4 million of which is in escrow for our indemnification obligations pursuant to an escrow agreement between us, Circle Graphics and the escrow agent.
In connection with the Art business asset purchase agreement, we also entered into a transition services agreement and a commercial agreement with Circle Graphics. The transition services agreement with Circle Graphics requires us to provide certain corporate support services that our Art business has historically received from us. The transition services agreement is effective as of the closing date, and certain services can be provided for up to one year after close. The commercial agreement permits us to continue to sell Art products on our websites. If the fulfillment price provided by Circle Graphics is consistent with market prices, the Art products we sell on our websites must be exclusively fulfilled by Circle Graphics, provided that

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Circle Graphics meets certain pricing criteria. The initial term of the commercial agreement is for a period of three years following the closing date.
Groups business sale
On March 6, 2015, we completed the sale of our Groups business, which provided personalized apparel and merchandise for groups and organizations through our e-commerce websites (“Groups”), pursuant to an asset purchase agreement with Logo Sportswear Inc. (“Logo Sportswear”) whereby we received $9.2 million in proceeds, net of expenses, $1.0 million of which is in escrow for our indemnification obligations under the terms of an escrow agreement between us, Logo Sportswear and the escrow agent.
In connection with the Groups business asset purchase agreement, we also entered into a transition services agreement and a referral agreement with Logo Sportswear. The transition services agreement with Logo Sportswear requires us to provide certain corporate support services that our Groups business has historically received from us. The transition services agreement is effective as of the closing date, and certain services can be provided for up to one year after close. Under the referral agreement we will continue to promote Logo Sportswear product types on our websites and redirect potential customers from our websites to a Logo Sportswear website. The initial term of the referral agreement is for a period of two years following the closing date.
EZ Prints business asset sale
In the second quarter of 2015, we committed to a plan to divest our EZ Prints business. Certain assets and liabilities of the EZ Prints business have been classified as assets and liabilities held for sale in accordance with ASC 205-20-55 on our Consolidated Balance Sheets and have been included in discontinued operations for all periods presented. In addition, condensed cash flow information for all periods presented is included. At this time, we reviewed the carrying value of the EZ Prints assets as compared to the fair value of such assets as measured by the offers received. Accordingly, as prescribed by ASC 360, Impairment or Disposal of Long-Lived Assets, we recorded an impairment charge of $7.3 million to lower the carrying value of the assets to fair value and is included in the operating section of “Discontinued Operations” in the Consolidated Statement of Operations.
On September 1, 2015, we sold our EZ Prints business, which provided a suite of enterprise class deployable software products and services focused on private label e-commerce customization services, pursuant to an asset purchase agreement with EZ Prints Holdings, Inc. (“EZP Holdings”). Vincent Sarrecchia, the chief executive officer of EZP Holdings, was previously serving as the interim chief executive officer of the EZ Prints business pursuant to a consulting agreement. Total consideration for the sale was $0.6 million, of which $0.1 million has been received and $0.5 million is in the form of a note receivable due on or before December 31, 2018. As part of the closing of the sale, we agreed to pay a current obligation of $1.25 million to one of the Company's current customers.
In connection with the EZ Prints asset purchase agreement, we entered into a transition services agreement with EZP Holdings for a maximum period of one year from the closing date, a license agreement whereby we continues to have the right to use certain software, and cross fulfillment agreements whereby each party agrees to fulfill certain products for the other party.
InvitationBox.com business asset sale
On November 5, 2014, we entered into an asset purchase agreement with Phoenix Online LLC, a related party that subsequently separated from CafePress, pursuant to which we sold certain assets and liabilities of our InvitationBox.com business for a nominal amount of cash and quarterly revenue share payments equal to: a) 5% of the gross revenue generated by the InvitationBox.com business for a period of five years; b) 3% of the gross revenue generated by the InvitationBox.com business for a period of five years as consideration for our guaranty of a certain assumed lease for up to $900,000; and c) 2% of the gross revenue generated by the InvitationBox.com business for a period of five years as consideration for certain transition services to be provided by us. If and when such corporate guaranty is released or the underlying lease is terminated, and/or the transition services end then the additional cash revenue payments will cease.
Summary
The divestiture of these businesses together represented approximately 43% of our total revenue in 2014. We believe these strategic steps will provide us with the resources required to focus on improving our core business, further enhance stockholder value and strengthen our balance sheet.

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Prior year consolidated statements of operations have been recast to reflect the sale of our InvitationBox.com business assets in 2014, the sale of our Art and Groups businesses in the first quarter of 2015, and the sale of our EZ Prints business in the third quarter of 2015. Results of discontinued operations are excluded from Management’s Discussion and Analysis of Financial Condition and Results of Operations for all periods presented, unless otherwise noted. See Note 4, Discontinued Operations, in the accompanying Notes to Consolidated Financial Statements.
As previously disclosed, our Board of Directors authorized the review of various strategic alternatives to streamline our operations, unlock stockholder value and strengthen our balance sheet, and retained Raymond James & Associates as our exclusive independent financial advisor to assist the Board of Directors in this review. Recent announcements of the closed divestitures of our Art, Groups, InvitationBox.com, and EZ Prints businesses are the successful result of our formal strategic evaluations process, which is now substantially completed. We intend to continue with an ongoing general evaluation of our business overall.


Our Business
We are a leading online retailer enabling consumers to shop, create, and sell a wide variety of customized and personalized made-on-demand products such as t-shirts, mugs, pillows, and more through our flagship website, CafePress.com.  In addition, under our Retail Partners Channel, we sell our products through a variety of leading online marketplace and third-party retail channels under the CafePress brand. We also leverage our Licensed Content relationships, which consists of large entertainment companies and brands, to create unique officially licensed and crowd-sourced “fan” products for sale within our own marketplace and third-party retail partner channels.
Our facility in Louisville, Kentucky has innovative technology and manufacturing processes that enable us to provide high-quality customized products that are individually built to order. Our proprietary processes enable us to produce a broad range of merchandise efficiently, cost effectively and quickly.
The majority of our net revenues are generated from sales of customized products through our e-commerce websites, associated partner websites or through storefronts hosted by CafePress. In addition, we generate revenues from fulfillment services, including print and production services provided to third parties. Customized products include user-designed products as well as products designed by our content owners.
An important revenue driver is customer acquisition, primarily through online marketing efforts including paid and natural search, email, social, affiliate and an array of other channels, as well as the acquisition efforts of our content owners. As a result, our sales and marketing expenses are our largest operating expense.
Our consumers and content owner customers are increasingly accessing e-commerce sites from their mobile devices. This shift to mobile site access presents challenges for us as we cope with shifting traffic patterns, and we have experienced lower conversion rates from traffic from mobile devices. We expect that this shift to mobile site access will continue for the foreseeable future.
Seasonal and cyclical influences impact our business volume. A significant portion of our sales are realized in conjunction with traditional retail holidays, with the largest sales volume in the fourth quarter of each calendar year. Our offering of custom gifts for the holidays combined with consumers’ continued shift to online purchasing drive this trend. As a result of this seasonality, our revenues in each of the first three quarters of the year are generally substantially lower than our revenues in the fourth quarter of the preceding year, and we expect this to continue for the foreseeable future.
We monitor several key operating metrics from continuing operations including:
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2015
 
2014
 
2015
 
2014
Key operating metrics:
 
 
 
 
 
 
 
Total number of orders
566,540

 
659,566

 
1,792,434

 
2,043,357

Average order size
$
35

 
$
39

 
$
36

 
$
40



24


Total number of orders
Total number of orders represents the number of individual transactions that are shipped during the period. We monitor the total number of orders as a leading indicator of revenue trends. For the three and nine month periods ended September 30, 2015, the decrease in orders is primarily the result of a decline in business volumes within our CafePress.com marketplace and in our international domains. These decreases more than offset a business volume increase within our Retail Partner Channel.
Average order size
Average order size is calculated as billings for a given period based on shipment date divided by the total number of associated orders in the same period. Due to timing of meeting revenue recognition criteria, billings may not be recognized as revenues until the following period. We closely monitor the average order size as it relates to changes in order volume, product pricing and product mix. The year-over-year decrease in average order size is primarily due to an increase in volume of single-item orders through our Retail Partner Channel.


Basis of presentation
Net revenues
We generate revenues from online transactions through our portfolio of e-commerce websites and through our partners' websites.
We recognize revenues associated with an order when all revenue recognition criteria have been met. Revenues are recorded at the gross amount when we are the primary obligor in a transaction, are subject to inventory and credit risk, have latitude in establishing prices and selecting suppliers, or have most of these indicators. For transactions where we act as principal and record revenues on a gross basis, applicable royalty payments to our content owners are recorded in cost of net revenues.
We have entered into arrangements with certain customers and business partners to provide fulfillment services under which we are not the primary obligor. These arrangements constituted a smaller component of our business. We consider ourselves as acting as an agent in such transactions. The net fees received on such transactions are recorded as revenues.
Cost of net revenues
Cost of net revenues includes materials, labor, royalties and fixed overhead costs related to our manufacturing facilities, as well as outbound shipping and handling costs. The cost of materials may vary based on revenues as well as the price we are able to negotiate. Shipping fluctuates with volume as well as the method of shipping and fuel surcharges. Labor varies primarily by volume and product mix, and to a lesser extent, based on whether the employee is an hourly or a salary employee. We rely on temporary employees to augment our permanent staff particularly during periods of peak demand. Our royalty expenses are comprised of fees we pay to our content owners for the use of their content on our products. Such fees vary based primarily on sales channel and volume. Certain sales transactions under our Create & Buy program do not incur royalties. Royalty-based obligations are expensed to cost of net revenues at the contractual rate for the relevant product sales.
Operating expenses
Operating expenses consist of sales and marketing, technology and development, general and administrative expenses and acquisition-related costs.
Sales and marketing
Sales and marketing expenses consist primarily of customer acquisition costs, personnel costs and costs related to customer support, order processing and other marketing activities. Customer acquisition, customer support and order processing expenses are variable and historically have represented the majority of our overall sales and marketing expenses.
Our customer acquisition costs consist of various online media programs, such as paid search engine marketing, email, flash deal promotions through group-buying and social websites, display advertising and affiliate channels. We believe this expense is a key lever that we can use within our business as we adjust volumes to our target return on investment. We expect to continue to invest in sales and marketing expense in the foreseeable future to fund new customer acquisition, increase focus on driving repeat customer purchases, and build our brand.

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Technology and development
Technology and development expenses consist of costs incurred for engineering, network operations, and information technology, including personnel expenses, as well as the costs incurred to operate our websites. Technology and development costs are expensed as incurred, except for certain costs related to the development of internal use software and website development, which are capitalized and amortized over the estimated useful lives ranging from two to three years.
General and administrative
General and administrative expenses consist of personnel, professional services and facilities costs related to our executive, finance, human resources and legal functions. Professional services consist primarily of outside legal and accounting services. General and administrative expenses also include headcount and related costs for operations related to our content usage and fraudulent review personnel.
Acquisition-related costs
Acquisition-related costs include performance-based compensation payments, any changes in the estimated fair value of performance-based contingent consideration payments which were initially recorded in connection with our acquisitions and third-party fees incurred in connection with our acquisition activity.
In each period, we revise our accrual for earn-out payments based on our current estimates of performance relative to the stated targets and, where applicable, additional service provided. The accrual could be adjusted if the achievement of goals results in an amount paid that is different from our accrual estimate.
As of December 31, 2014 we had fulfilled our obligations related to our previous acquisitions and therefore maintained no accrual for performance-based contingent consideration payments.


Critical accounting policies and estimates
The discussion and analysis of our financial condition and results of operations are based upon our unaudited condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. On an on-going basis, we evaluate our critical accounting policies and estimates. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. Our critical accounting policies and estimates are discussed in our Annual Report on Form 10-K filed on March 31, 2015 with the SEC. We update our critical accounting policies and estimates in our periodic reports on Form 10-Q when they are modified or expected to be modified.
Goodwill and intangible assets
Goodwill represents the excess of the purchase price over the fair value of assets acquired and liabilities assumed related to a business combination. Goodwill is presumed to have an indefinite life and is not subject to amortization. We conduct a quantitative test for the impairment of goodwill at least annually, as of July 1 of each year, and also whenever events or changes in circumstances indicate that the carrying value of the goodwill may not be fully recoverable. The quantitative impairment test is a two-step process. The first step is a comparison of the fair value of the reporting unit with its carrying amount, including goodwill. If this step indicates impairment, then the loss is measured as the excess of recorded goodwill over its implied fair value.
We determine our reporting units for goodwill impairment testing by identifying those components at, or one level below, our operating segments that (1) constitute a business, (2) have discrete financial information available, and (3) are regularly reviewed by segment management.
As of the date of our goodwill impairment tests, we determined we had one operating segment.
In performing our quantitative impairment tests, we determine the fair value of our reporting unit through a combination of the income and market approaches. Under the income approach, we estimate fair value based on a discounted cash flow model using a discount rate determined by our management to be commensurate with the risk inherent in our current business model.

26


Under the market approach, we estimate the fair value of our overall business based on our current market capitalization, market comparables, or other objective evidence of fair value.
During fiscal year 2014, our market value dropped to below its book value, we had management changes, and we had changes to certain strategic objectives and operations. We considered these items to be triggering events which resulted in additional goodwill impairment tests carried out at September 30, 2014 and December 31, 2014. As a result, we updated our quantitative impairment test using a combination of the income and market approaches. Based on our updated impairment analyses performed as of September 30, 2014 and as of December 31, 2014, which considered cash flows from continuing operations, excluding the sale of our InvitationBox.com, Art, and Groups businesses, there was excess fair value over carrying value of 20% and 27%, respectively. Accordingly, we concluded that step two of the goodwill impairment tests was not required at either of these dates and no impairment was recorded.
In the first quarter of 2015, we closed the sale of our Art and Groups businesses and in the second quarter of 2015 classified our EZ Prints business as “Assets Held for Sale” and “Liabilities Held for Sale” in accordance with ASC 205-20-55, Presentation of Financial Statements and ASC 360, Property, Plant, and Equipment. We considered these items to be triggering events, and accordingly, performed goodwill impairment tests as of March 31, 2015 and June 30, 2015. These tests resulted in estimated excess fair value over carrying value of 3% and 6%, respectively. Accordingly, we concluded that step two of the goodwill impairment tests was not required at either of these dates and no impairment was recorded.
In the third quarter of 2015, we performed our annual impairment test as of July 1, 2015 and, subsequently, performed an impairment test as of September 1, 2015 upon the sale of our EZ Prints business, which we considered a triggering event. These tests resulted in estimated excess fair value over carrying value of 6% and 7%, respectively. Accordingly, we concluded that step two of the goodwill impairment tests was not required at either of these dates and no impairment was recorded.
The application of the goodwill impairment test requires judgment, including the identification of reporting units, assigning assets and liabilities to reporting units, assigning goodwill to reporting units, and determining the fair value of each reporting unit. Significant judgment, and the use of significant estimates and assumptions, is required to estimate the fair value of reporting units, including estimating future cash flows, future market conditions, and determining the appropriate discount rates, growth rates, and operating margins, among others.
Our discounted cash flow analyses factor in assumptions on revenue and expense growth rates. These estimates are based upon our historical experience and projections of future activity, factoring in customer demand, and a cost structure necessary to achieve the related revenues. Additionally, these discounted cash flow analyses factor in expected amounts of working capital and weighted average cost of capital. We believe our assumptions are reasonable, however, the fair value of the reporting unit is close to its carrying amount, including goodwill, and is sensitive to changes in assumptions.
There can be no assurance that our estimates and assumptions made for purposes of our goodwill impairment testing, at the annual date and the interim testing date, will prove to be accurate predictions of the future. A sustained decline in our stock price and resulting market capitalization, delays in expected new business opportunities, unforeseen losses or failure to achieve planned profitability improvements in the future and changes in other estimates and assumptions as noted above could result in a significant goodwill impairment charge. In addition, a change in reporting units from any further reorganization, could materially affect the determination of reporting units or fair value for each reporting unit, which could trigger impairment in the future. It is not possible at this time to determine if any such future impairment charge would result.
Further, should some or all of our strategic alternatives fail to come to fruition, our assigned fair value could be impacted and result in the fair value of our reporting unit dropping below its book value. We will continue to review our results against forecasts and assess our assumptions to ensure they continue to be appropriate.
We evaluate our finite-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of the asset is impaired or the estimated useful lives are no longer appropriate. Intangible assets resulting from the acquisition of entities accounted for using the purchase method of accounting are estimated by management based on the fair value of assets received. Our intangible assets have an economic useful life and/or expire after a specified period of time and thus are classified as finite-lived intangible assets on our balance sheets. Amortization of finite-lived intangible assets is computed using the straight-line method over the estimated economic life of the assets which range from three years to eight years. If indicators of impairment exist and the undiscounted projected cash flows associated with such assets are less than the carrying amount of the asset, an impairment loss is recorded to write the asset down to its estimated fair value. Fair value is estimated based on discounted future cash flows. Factors that could result in an impairment review include, but are not limited to, significant underperformance relative to projected future operating results, significant negative industry or economic trends and changes in the planned use of assets. During the third and fourth quarters of 2014, we considered the impact of our annual

27


and interim goodwill impairment tests, as well as the change in management and in certain strategic objectives and operations, on the recoverability of our long-lived assets. We concluded that there was no impairment of our long-lived intangible assets as of December 31, 2014.
In the second quarter of 2015, we committed to a plan to divest our EZ Prints business. Certain assets and liabilities of the EZ Prints business have been classified as assets and liabilities held for sale in accordance with ASC 205-20-55 on our Consolidated Balance Sheets and have been included in discontinued operations for all periods presented. In addition, condensed cash flow information for all periods presented is included. At this time, we reviewed the carrying value of the EZ Prints assets as compared to the fair value of such assets as measured by the offers received. Accordingly, as prescribed by ASC 360, Impairment or Disposal of Long-Lived Assets, we recorded an impairment charge of $7.3 million to lower the carrying value of the assets to fair value and such charge is included in the operating section of “Discontinued Operations” in the Consolidated Statement of Operations. We completed the sale of our EZ Prints business in the third quarter of 2015 and recorded a gain on the sale of $0.3 million which is included in the "Other (expense) income, net" section of “Discontinued Operations” in the Consolidated Statement of Operations.
In connection with the sale of InvitationBox.com assets in 2014, and the sale of the Art and Groups businesses in the first quarter of 2015, we eliminated $18.5 million of goodwill.


Results of Operations
The following table presents the components of our statement of operations as a percentage of net revenues:
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2015
 
2014
 
2015
 
2014
Net revenues
100
 %
 
100
 %
 
100
 %
 
100
 %
Cost of net revenues
59

 
64

 
61

 
64

Gross profit
41

 
36

 
39

 
36

Operating expenses:
 
 
 
 
 
 
 
Sales and marketing
21

 
25

 
21

 
26

Technology and development
15

 
13

 
14

 
12

General and administrative
15

 
19

 
14

 
16

Restructuring

 

 
1

 

Total operating expenses
52


58


50


54

Loss from operations
(11
)
 
(22
)
 
(11
)
 
(18
)
Interest income

 

 

 

Interest expense

 

 

 

Other (expense) income

 

 

 

Loss before income taxes
(11
)

(22
)

(11
)

(18
)
Provision (benefit) for income taxes
8

 
(1
)
 

 
(1
)
Net loss from continuing operations
(19
)%
 
(21
)%
 
(11
)%
 
(18
)%
Effective tax rate
(70.8
)%
 
6.4
 %
 
(1.6
)%
 
3.9
 %

28


Comparison of the Three Months Ended September 30, 2015 and 2014
The following table presents our statements of operations for the periods indicated (in thousands, except for percentages):
 
Three Months Ended
September 30,
 
 
 
 
 
2015
 
2014
 
$ Change
 
% Change
 
(Unaudited)
 
 
 
 
Net revenues
$
19,472

 
$
25,897

 
$
(6,425
)
 
(25
)%
Cost of net revenues
11,463

 
16,686

 
(5,223
)
 
(31
)
Gross profit
8,009

 
9,211

 
(1,202
)
 
(13
)
Operating expenses:
 
 
 
 
 
 
 
Sales and marketing
4,146

 
6,497

 
(2,351
)
 
(36
)
Technology and development
2,972

 
3,417

 
(445
)
 
(13
)
General and administrative
2,978

 
4,955

 
(1,977
)
 
(40
)
Acquisition-related costs

 
50

 
(50
)
 
(100
)
Restructuring costs
4

 
42

 
(38
)
 
(90
)
Total operating expenses
10,100

 
14,961

 
(4,861
)
 
(32
)
Loss from operations
(2,091
)
 
(5,750
)
 
3,659

 
(64
)
Interest income
12

 
4

 
8

 
200

Interest expense
(19
)
 
(17
)
 
(2
)
 
12

Other (expense) income, net
(51
)
 

 
(51
)
 
NM

Loss before income taxes
(2,149
)
 
(5,763
)
 
3,614

 
(63
)
Provision (benefit) for income taxes
1,521

 
(367
)
 
1,888

 
NM

Net loss from continuing operations
$
(3,670
)
 
$
(5,396
)
 
$
1,726

 
(32
)%
NM = Not meaningful
Net revenues
Net revenues decreased $6.4 million, or 25%, for the three months ended September 30, 2015 compared to the same period in 2014. The decrease in revenue resulted from a decline in orders primarily within our CafePress.com marketplace and in our international domains. These declines more than offset a modest revenue increase within our Retail Partner channel. The decline in revenue from CafePress.com is primarily attributable to changes to our pricing and promotional strategy and a reduction in our variable advertising expenses. The decline in international revenue within the quarter is due in part to a reduction in the number of international web site domains that we maintain which occurred in the first quarter of this year. As in previous quarters, net revenues were negatively impacted by the continued shifts in customer behavior resulting in shifting traffic mix toward mobile devices. Within our Retail Partner Channel, growth in net revenues from our feed partnerships more than offset a decline from our Corporate Shops platform. Our net revenues have historically varied from period to period and we expect this trend to continue.
Cost of net revenues
Cost of net revenues decreased $5.2 million, or 31%, for the three months ended September 30, 2015 compared to the same period in 2014. Cost of net revenues was 59%, as a percentage of net revenues, for the three months ended September 30, 2015 and 64% for the same period in 2014. Within cost of net revenues, the variable components of materials and commissions collectively decreased as a percentage of net revenues by approximately 5.0 percentage points. In addition, labor and plant overhead decreased by approximately 0.5 percentage points. Costs of shipping increased moderately as a percentage of net revenues compared to the same period in 2014. The resulting improvement in gross profit margin is driven by changes to our pricing and promotional strategy and improvements in the optimization of our manufacturing processes.
Sales and marketing
Sales and marketing expenses decreased $2.4 million, or 36%, for the three months ended September 30, 2015 compared to the same period in 2014. Sales and marketing expenses were 21% of net revenues for the three months ended September 30, 2015

29


compared to 25% for the same period in 2014. The decrease in absolute dollars in sales and marketing expenses consists of reductions in variable costs, primarily due to lower keyword and other online advertising expenses as we changed the focus of our advertising programs to higher levels of return on investment. To a lesser extent, our variable sales and marketing expenses declined due to lower customer service costs and a decrease in credit card processing fees.
Technology and development
Technology and development expenses decreased $0.4 million, or 13%, for the three months ended September 30, 2015 compared to the same period in 2014. Technology and development expenses were 15% of net revenues in the three months ended September 30, 2015 compared to 13% in the same period in 2014. The decrease in absolute dollars is primarily due to a $0.2 million decrease in personnel related costs, a $0.1 million decrease in our co-location facility hosting and data costs, and a $0.2 million decrease in depreciation expense. These decreases were partially offset by a $0.1 million write off of capitalized website development costs.
General and administrative
General and administrative expenses decreased $2.0 million, or 40%, for the three months ended September 30, 2015 compared to the same period in 2014. General and administrative expenses were 15% of net revenues in the three months ended September 30, 2015 compared to 19% in the same period in 2014. The decrease in absolute dollars was primarily due to a reduction in professional services fees of $1.1 million, consisting primarily of lower legal costs from decreased litigation activity this year and a reduction in external audit expenses. In addition, personnel costs declined by approximately $0.9 million, primarily due to one-time costs associated with the resignation of our former Chief Executive Officer last year, and to a lesser extent, lower stock-based compensation expense.
Restructuring costs
Restructuring costs were $4 thousand and $42 thousand for the three months ended September 30, 2015 and 2014, respectively. The expense in 2015 consisted of employee severance payments related to the downsizing of our operations and the expense in 2014 related to the early termination of a facility lease.
Provision (benefit) for income taxes
We recorded a $1.5 million expense and $0.4 million benefit for income taxes for the three months ended September 30, 2015 and 2014, respectively. Our effective tax rate was 70.8% and 6.4% for the three months ended September 30, 2015 and 2014, respectively. For the three months ended September 30, 2015, our effective tax rate was different than our statutory tax rate primarily due to the reversal of the tax benefit from continuing operations under the intraperiod allocation rules upon the sale of our EZ Prints business as we now expect a taxable loss in discontinued operations. For the three months ended September 30, 2014, our effective tax rate was different than the statutory tax rate primarily due to the effect of our reduction of the estimated fair value of contingent consideration and a tax loss carryback generated in the quarter while maintaining a full valuation allowance against our deferred tax assets.
During the quarter ended December 31, 2013, we weighed both positive and negative evidence and determined that there was a need for the valuation allowance due to the existence of three years of historical cumulative losses which we considered significant verifiable negative evidence. Accordingly, we recorded a non-cash income tax provision of $9.3 million to our valuation allowance. We intend to maintain the valuation allowance until sufficient positive evidence exists to support reversal of the valuation allowance.

30


Comparison of the Nine Months Ended September 30, 2015 and 2014
The following table presents our statements of operations for the periods indicated (in thousands, except for percentages):
 
Nine Months Ended
September 30,
 
 
 
 
 
2015
 
2014
 
$ Change
 
% Change
 
(Unaudited)
 
 
 
 
Net revenues
$
64,812

 
$
81,612

 
$
(16,800
)
 
(21
)%
Cost of net revenues
39,213

 
52,048

 
(12,835
)
 
(25
)
Gross profit
25,599

 
29,564

 
(3,965
)
 
(13
)
Operating expenses:
 
 
 
 
 
 
 
Sales and marketing
13,757

 
21,520

 
(7,763
)
 
(36
)
Technology and development
8,961

 
10,100

 
(1,139
)
 
(11