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ITEM 2.
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Management’s Discussion and Analysis of Financial Condition and Results of Operations
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The following information should be read in conjunction with the unaudited consolidated financial information and the notes thereto included in this Quarterly Report on Form 10-Q. In addition to historical information, the following discussion and other parts of this Quarterly Report contain forward-looking statements, as that term is defined in the Private Securities Litigation Reform Act of 1995, which involve risks and uncertainties. You should not place undue reliance on these forward-looking statements. Actual events or results may differ materially due to competitive factors and other factors referred to in Part I, Item 1A. Risk Factors in our Annual Report on Form 10-K for our fiscal year ended January 31, 2011 and elsewhere in this Quarterly Report. These factors may cause our actual results to differ materially from any forward-looking statement.
Overview
We are a global leader in the delivery of multi-screen video. Our products and services facilitate the aggregation, licensing, storage, management and distribution of video, television programming, and advertising content to cable system operators, telecommunications companies and broadcast television companies.
The Company is managed and operated as three segments, Software, Servers and Storage, and Media Services. Effective February 1, 2011, the Company realigned its segments by reclassifying the Broadcast software solutions from the Software segment to the Servers and Storage segment. The Company believes the Broadcast software product line is better aligned with the Servers and Storage segment and therefore made the decision in the first quarter of fiscal 2012 to have this product line managed by the Servers and Storage Business Unit Manager. The Segment data for the three and nine months ended October 31, 2010 has been recast to reflect the reclassification of the Broadcast software solutions to Servers and Storage. The reclassification of the Broadcast software solutions resulted in a recast of $1.7 million and $5.7 million of revenue for the three and nine months ended October 31, 2010, respectively, and did not have a material impact to the income from operations for the Software segment and Servers and Storage segment for the three and nine months ended October 31, 2010. A description of the three reporting segments is as follows:
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Software segment includes product revenues from the Company’s Advertising, VOD, Middleware, Home Networking and related services such as professional services, installation, training, project management, product maintenance, technical support and software development for those software products, and operating expenses relating to the Software segment such as research and development, selling and marketing and amortization of intangibles.
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Servers and Storage segment includes product revenues from VOD servers, Broadcast server and software solutions and related services such as professional services, installation, training, project management, product maintenance, and technical support for those products and operating expenses relating to the Servers and Storage segment, such as research and development and selling and marketing.
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·
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Media Services segment includes the operations of our ODG subsidiary, which include content acquisition and preparation services for television and wireless service providers and related operating expenses.
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Under this reporting structure, the Company further determined that there are significant functions, and therefore costs, that are considered corporate expenses and are not allocated to the reportable segments for the purposes of assessing performance and making operating decisions. These unallocated costs include general and administrative expenses, other than direct general and administrative expenses related to Media Services and Software, other income (expense), net, taxes and equity income (losses) in earnings of affiliates, which are managed separately at the corporate level. The basis of the assumptions for all such revenues, costs and expenses includes significant judgments and estimations. There are no inter-segment revenues for the periods shown below. The Company does not separately track all assets by operating segments nor are the segments evaluated under this criterion.
We have experienced fluctuations in our product revenues from quarter to quarter due to the timing of the receipt of customer orders and the shipment of those orders. The factors that impact the timing of the receipt of customer orders include among other factors:
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the customer’s receipt of authorized signatures on their purchase orders;
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the budgetary approvals within the customer’s company for capital purchases; and
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the ability to process the purchase order within the customer’s organization in a timely manner.
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Factors that may impact the shipment of customer orders include:
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the availability of material to produce the product;
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the time required to produce and test the product before delivery; and
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the customer’s required delivery date.
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The delay in the timing of receipt and shipment of any one customer order can result in significant fluctuations in our revenue reported on a quarterly basis.
Our operating results are significantly influenced by a number of factors, including the mix of products sold and services provided, pricing, costs of materials used in our products, and the expansion of our operations during the fiscal year. We price our products and services based upon our costs and consideration of the prices of competitive products and services in the marketplace. The costs of our products primarily consist of the costs of components and subassemblies that have generally declined from product introduction to product maturity. As a result of the growth of our business, our operating expenses have historically increased in the areas of research and development, selling and marketing, and administration. In the current state of the economy, we currently expect that customers may still have limited capital spending budgets as we believe they are dependent on advertising revenues to fund their capital equipment purchases. Accordingly, we expect our financial results to vary from quarter to quarter and our historical financial results are not necessarily indicative of future performance. In light of the higher proportion of our international business, we expect movements in foreign exchange rates to have a greater impact on our financial condition and results of operations in the future.
Our ability to continue to generate revenues within the markets that our products are sold and to generate cash from operations and net income is dependent on several factors which include:
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market acceptance of the products and services offered by our customers and increased subscriber usage and demand for these products and services;
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selection by our customers of our products and services versus the products and services being offered by our competitors;
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our ability to introduce new products to the market in a timely manner and to meet the demands of the market for new products and product enhancements;
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our ability to maintain gross margins from the sale of our products and services at a level that will provide us with cash to fund our operations given the pricing pressures within the market and the costs of materials to manufacture our products;
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our ability to control operating costs given the fluctuations that we have experienced with revenues from quarter to quarter; and
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our ability to successfully integrate businesses acquired by us, including eventIS and VividLogic.
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As previously disclosed, with the help of financial advisors, the Company has been engaged in an evaluation of strategic alternatives for the Company. After an extensive review, the Company has decided that it is in the best interest of shareholders to continue as a standalone publicly traded company. The Company is focused on significantly improving and streamlining operations, and will continue to evaluate alternatives for certain non-core businesses.
On November 30, 2011, the Company announced the appointment, effective immediately, of technology executive and SeaChange board member Raghu Rau as interim Chief Executive Officer, following the retirement of William C. Styslinger, III as Chairman and Chief Executive Officer effective December 8, 2011. The Company also announced the appointment of Thomas Olson, a SeaChange board member and former CEO of Katz Media Group and National Cable Media, as Chairman of the Board.
Revenue Recognition
SeaChange’s transactions frequently involve the sales of hardware, software, systems and services in multiple element arrangements. Revenues from sales of hardware, software and systems that do not require significant modification or customization of the underlying software are recognized when title and risk of loss has passed to the customer, there is evidence of an arrangement, fees are fixed or determinable and collection of the related receivable is considered probable. Customers are billed for installation, training, project management and at least one year of product maintenance and technical support at the time of the product sale. Revenue from these activities are deferred at the time of the product sale and recognized ratably over the period these services are performed. Revenue from ongoing product maintenance and technical support agreements are recognized ratably over the period of the related agreements. Revenue from software development contracts that include significant modification or customization, including software product enhancements, is recognized based on the percentage of completion contract accounting method using labor efforts expended in relation to estimates of total labor efforts to complete the contract. Accounting for contract amendments and customer change orders are included in contract accounting when executed. Revenue from shipping and handling costs and other out-of-pocket expenses reimbursed by customers are included in revenues and cost of revenues. SeaChange’s share of intercompany profits associated with sales and services provided to affiliated companies are eliminated in consolidation in proportion to our equity ownership
The Company has historically applied the software revenue recognition rules as prescribed by Accounting Standards Codification (ASC) Subtopic 985-605. In October 2009, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) Number 2009-14, “Certain Revenue Arrangements That Include Software Elements,” which amended ASC Subtopic 985-605. This ASU removes tangible products containing software components and non-software components that function together to deliver the product’s essential functionality from the scope of the software revenue recognition rules. In the case of the Company’s hardware products with embedded software, the Company has determined that the hardware and software components function together to deliver the product’s essential functionality, and therefore, the revenue from the sale of these products no longer falls within the scope of the software revenue recognition rules. Revenue from the sale of software-only products remains within the scope of the software revenue recognition rules. Maintenance and support, training, consulting, and installation services no longer fall within the scope of the software revenue recognition rules, except when they are sold with and relate to a software-only product. Revenue recognition for products that no longer fall under the scope of the software revenue recognition rules is similar to that for other tangible products and ASU Number 2009-13, “Multiple-Deliverable Revenue Arrangements,” which amended ASC Topic 605 and was also issued in October 2009, is applicable for multiple-deliverable revenue arrangements. ASU 2009-13 allows companies to allocate revenue in a multiple-deliverable arrangement in a manner that better reflects the transaction’s economics. ASU 2009-13 and 2009-14 are effective for revenue arrangements entered into or materially modified in the Company’s fiscal year 2012.
Under the software revenue recognition rules, the fee is allocated to the various elements based on VSOE of fair value. Under this method, the total arrangement value is allocated first to undelivered elements, based on their fair values, with the remainder being allocated to the delivered elements. Where fair value of undelivered service elements has not been established, the total arrangement value is recognized over the period during which the services are performed. The amounts allocated to undelivered elements, which may include project management, training, installation, maintenance and technical support and certain hardware and software components, are based upon the price charged when these elements are sold separately and unaccompanied by the other elements. The amount allocated to installation, training and project management revenue is based upon standard hourly billing rates and the estimated time required to complete the service. These services are not essential to the functionality of systems as these services do not alter the equipment’s capabilities, are available from other vendors and the systems are standard products. For multiple element arrangements that include software development with significant modification or customization and systems sales where vendor-specific objective evidence of the fair value does not exist for the undelivered elements of the arrangement (other than maintenance and technical support), percentage of completion accounting is applied for revenue recognition purposes to the entire arrangement with the exception of maintenance and technical support. All multiple-deliverable revenue arrangements negotiated prior to February 1, 2011 and the sale of all software-only products and associated services have been accounted for under this guidance during the three and nine months ended October 31, 2011.
Under the revenue recognition rules for tangible products as amended by ASU 2009-13, the fee from a multiple-deliverable arrangement is allocated to each of the deliverables based upon their relative selling prices as determined by a selling-price hierarchy. A deliverable in an arrangement qualifies as a separate unit of accounting if the delivered item has value to the customer on a stand-alone basis. A delivered item that does not qualify as a separate unit of accounting is combined with the other undelivered items in the arrangement and revenue is recognized for those combined deliverables as a single unit of accounting. The selling price used for each deliverable is based upon VSOE if available, third-party evidence (TPE) if VSOE is not available, and best estimate of selling price (BESP) if neither VSOE nor TPE are available. TPE is the price of the Company’s or any competitor’s largely interchangeable products or services in stand-alone sales to similarly situated customers. BESP is the price at which the Company would sell the deliverable if it were sold regularly on a stand-alone basis, considering market conditions and entity-specific factors. All multiple-deliverable revenue arrangements negotiated after February 1, 2011, excluding the sale of all software-only products and associated services, have been accounted for under this guidance during the three and nine months ended October 31, 2011.
The selling prices used in the relative selling price allocation method for certain of the Company’s services are based upon VSOE. The selling prices used in the relative selling price allocation method for third-party products from other vendors are based upon TPE. The selling prices used in the relative selling price allocation method for the Company’s hardware products, software, subscriptions, and customized services for which VSOE does not exist are based upon BESP. The Company does not believe TPE exists for these products and services because they are differentiated from competing products and services in terms of functionality and performance and there are no competing products or services that are largely interchangeable. Management establishes BESP with consideration for market conditions, such as the impact of competition and geographic considerations, and entity-specific factors, such as the cost of the product, discounts provided and profit objectives. Management believes that BESP is reflective of reasonable pricing of that deliverable as if priced on a stand-alone basis.
Since all of the Company’s revenue prior to the adoption of ASU 2009-14 fell within the scope of the software revenue recognition rules and the Company has only established VSOE for services and revenue in a multiple-deliverable arrangement involving products, revenue was frequently deferred until the last item was delivered. The adoption of ASU 2009-13 and 2009-14 has resulted in earlier revenue recognition in multiple-deliverable arrangements involving the Company’s hardware products with embedded software because revenue can be recognized for each of these deliverables based upon their relative selling prices as defined above. In the three and nine months ended October 31, 2011, revenue was $1.4 million and $3.2 million, respectively, higher than it would have been if ASU 2009-13 and 2009-14 had not been adopted. The revenue impact in the Software segment would have been lower by $128,000 and higher by $1.3 million, respectively, for the three and nine months ended October 31, 2011. The revenue impact in the Servers and Storage segment was an increase of $1.5 million and $1.9 million, respectively, for the three and nine months ended October 31, 2011.
Three Months Ended October 31, 2011 Compared to the Three Months Ended October 31, 2010
The following table sets forth statement of operations data for the three months ended October 31, 2011 and 2010.
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Three Months Ended
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October 31,
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2011
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2010
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(in thousands)
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Revenues:
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Products
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$ |
22,306 |
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$ |
18,378 |
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Services
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31,055 |
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30,757 |
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53,361 |
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49,135 |
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Costs and expenses:
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Cost of product revenues
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6,751 |
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7,299 |
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Cost of services revenues
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20,506 |
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18,595 |
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Research and development
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11,479 |
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11,570 |
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Selling and marketing
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6,031 |
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5,726 |
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General and administrative
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6,412 |
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6,112 |
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Amortization of intangibles
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983 |
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805 |
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Acquisition costs
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1,412 |
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105 |
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Restructuring
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(6 |
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2,435 |
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Loss from operations
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(207 |
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(3,512 |
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Other (loss) income, net
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(252 |
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278 |
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Loss before income taxes and equity loss in earnings of affiliates
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(459 |
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(3,234 |
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Income tax (benefit) provision
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(478 |
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1,942 |
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Equity income (loss) in earnings of affiliates, net of tax
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389 |
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(39 |
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Net income (loss)
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$ |
408 |
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$ |
(5,215 |
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Revenues
The following table summarizes information about the Company’s reportable segment revenues for the three months ended October 31, 2011 and 2010.
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Three Months Ended
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October 31,
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2011
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2010
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%
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(in thousands, except for percentage data)
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Software revenues:
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Products
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$ |
17,698 |
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$ |
14,443 |
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23 |
% |
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Services
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19,926 |
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18,738 |
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6 |
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Total Software revenues
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37,624 |
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33,181 |
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13 |
% |
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Servers and Storage revenues:
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Products
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4,607 |
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3,935 |
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17 |
% |
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Services
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3,265 |
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3,913 |
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(17 |
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Total Servers and Storage revenues
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7,872 |
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7,848 |
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0 |
% |
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Media Services revenues:
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Services
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7,865 |
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8,106 |
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(3 |
%) |
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Total consolidated revenue:
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Products
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22,305 |
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18,378 |
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21 |
% |
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Services
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31,056 |
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30,757 |
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1 |
% |
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Total consolidated revenues
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$ |
53,361 |
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$ |
49,135 |
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9 |
% |
Product Revenues. Product revenues increased 21% to $22.3 million in the three months ended October 31, 2011 from $18.4 million in the three months ended October 31, 2010. Product revenues from the Software segment accounted for 79% of the total product revenues for the three months ended October 31, 2011 and 2010, respectively. The Servers and Storage segment accounted for 21% of total product revenues in the three months ended October 31, 2011 and 2010, respectively. The increase in Product revenues compared to the third quarter ending October 31, 2010 was due to higher shipments of VOD servers, higher VOD and Advertising software product revenues and a significant home gateway licensing transaction with a large domestic customer. These increases were partially offset by lower TV Navigator product revenues due to a portion of middleware revenues from Virgin Media being recorded as service revenues during the three and nine months ended October 31, 2011, while recorded entirely as product revenue in prior periods. In previous years, the agreement with Virgin Media provided for licensing rights and specified enhancements to the software and therefore the associated revenues were classified as product revenues. However, the agreement in the first quarter of fiscal 2012 provided for software licensing rights and software maintenance services, and was accordingly split between product and services revenues.
Services Revenues. Services revenues increased 1% year over year to $31.0 million in the three months ended October 31, 2011 from $30.8 million in the three months ended October 31, 2010. For the three months ended October 31, 2011 and 2010, services revenues for the Software segment accounted for 64% and 61%, respectively, of the total services revenue. Servers and Storage services revenues accounted for 11% and 13% of total services revenue and Media Services revenues accounted for 25% and 26% of total services revenues in the three months ended October 31, 2011 and 2010, respectively. The increase in Service revenues compared to the three months ended October 31, 2010 was due to the reclassification of a portion of middleware revenues from Virgin Media from product revenues to Service revenues as noted previously.
For the three months ended October 31, 2011, two customers accounted for more than 33% of our total revenues, and three customers accounted for more than 41% of our total revenues for the three months ended October 31, 2010. Revenues from each of these customers was included in revenues from the Software, Servers and Storage, and Media Services segments. We believe that a significant amount of our revenues will continue to be derived from a limited number of customers.
International sales accounted for approximately 49% and 50% of total revenues in the three months ended October 31, 2011 and 2010, respectively. With the acquisition of eventIS, headquartered in the Netherlands, and continued growth in our Media Services business at ODG, we expect that international products and services revenues will be a significant portion of our business in the future.
Software Revenues. Revenues from our Software segment for the three months ended October 31, 2011 increased $4.4 million, or a 13% increase compared to the three months ended October 31, 2010. The increase in Software revenues was due to the significant home gateway licensing transaction noted earlier, higher VOD software revenues from our European customers and higher Advertising product revenues from North American service providers.
Servers and Storage Revenues. Revenues from the Servers and Storage segment for the three months ended October 31, 2011 were flat compared to the three months ended October 31, 2010. The 17% increase in product revenue was offset by a 17% decrease in service revenues. The increase in product revenues was due to higher shipments of VOD server products. In addition, last year’s third quarter included the return of VOD servers due to a warranty claim from a customer, which resulted in the reduction of previously recorded VOD server revenue of approximately $1.9 million. The 17% decrease in Service revenues is due to lower maintenance for VOD servers and Broadcast products and lower VOD server professional services.
Media Services. Revenues from Media Services decreased by approximately $241,000 to $7.9 million in the three months ended October 31, 2011 compared to the three months ended October 31, 2010. The decrease in revenue was due primarily to lower content processing revenues from customers in the United Kingdom, Greece and Dubai, partially offset by higher revenues from customers in France and new contracts from customers in Latin America and Eastern Europe.
Product Gross Profit. Costs of product revenues consist primarily of the cost of purchased material components and subassemblies, labor and overhead relating to the final assembly and testing of complete systems and related expenses. The gross profit percentage for products increased to 70% for the three months ended October 31, 2011 from 60% for the three months ended October 31, 2010. The ten point increase in product margin was due to a greater mix of higher margin Advertising product revenues combined with the favorable impact from the large home gateway licensing transaction.
Services Gross Profit. Cost of services revenues consist primarily of labor, materials and overhead relating to the installation, training, product maintenance and technical support, software development, and project management provided by us and costs associated with providing video content services. The gross profit percentage for services of 34% for the three months ended October 31, 2011 decreased from 40% for the three months ended October 31, 2010 due to lower VOD server professional services revenues, lower VOD server and Broadcast product maintenance revenues and lower Media Services margins.
Software Revenues Gross Profit. Software segment gross margin of 60% for the three months ended October 31, 2011 was five percentage points higher compared to the three months ended October 31, 2010. The increase in Software gross margin was primarily due to a greater mix of higher margin Advertising revenues and the favorable impact from the large home gateway licensing transaction.
Servers and Storage Gross Profit. Servers and Storage segment gross margin of 36% for the three months ended October 31, 2011 was eleven points lower than for the three months ended October 31, 2010 due to lower VOD server maintenance and professional service revenues and lower VOD server margins on a large order from a U.K. customer during the third quarter of fiscal 2012.
Media Services Gross Profit. Media Services segment gross margin of 11% for the three months ended October 31, 2011 was four percentage points lower than the gross margin for the three months ended October 31, 2010 due to higher headcount-related costs and increased content costs to support new customer contracts in Latin America and Eastern Europe.
Research and Development. Research and development expenses consist primarily of the compensation of development personnel, depreciation of development and test equipment and an allocation of related facilities expenses. Research and development expenses decreased to $11.5 million, or 22% of total revenues, in the three months ended October 31, 2011, from $11.6 million or 24% of total revenues, in the three months ended October 31, 2010. The decrease year over year was primarily due to lower Servers and Storage and Software segment domestic headcount-related costs, partially offset by increased research and development costs related to our In Home product line.
Selling and Marketing. Selling and marketing expenses consist primarily of compensation expenses, including sales commissions, travel expenses and certain promotional expenses. Selling and marketing expenses increased from $5.7 million, or 12% of total revenues, in the three months ended October 31, 2010, to $6.0 million, or 11% of total revenues, in the three months ended October 31, 2011. The increase compared to the three months ended October 31, 2010 was primarily due to higher commission expense resulting from higher product revenues.
General and Administrative. General and administrative expenses consist primarily of the compensation of executive, finance, human resource and administrative personnel, legal and accounting services and an allocation of related facilities expenses. In the three months ended October 31, 2011, general and administrative expenses increased to $6.4 million, or 12% of total revenues, from $6.1 million, or 12% of total revenues, in the three months ended October 31, 2010. The increase in general and administrative expense is due to higher legal and professional fees associated with the Company’s review of strategic alternatives. After an extensive review of strategic alternatives, the Company decided in November 2011 that it was is in the best interest of shareholders to continue as a standalone public company and concluded this review.
Amortization of intangible assets. Amortization expense consists of the amortization of acquired intangible assets which are operating expenses and not considered costs of revenues. In the three months ended October 31, 2011 and 2010, amortization expense was $1.0 million and $805,000, respectively. Additional amortization expense of $506,000 and $466,000 for the three months ended October 31, 2011 and 2010, respectively, related to acquired technology that was charged to cost of sales.
Acquisition-Related Costs. Acquisition-related costs include changes in the fair value of acquisition-related contingent consideration, and changes in contingent liabilities related to estimated earn-out payments. During the third quarter of fiscal 2012, the Company revised its estimate of potential earn-outs payments to the former shareholders of VividLogic and eventIS and recorded an expense of $1.3 million to reflect estimated future financial performance compared to the respective earn-out criteria.
Other (loss) income, net. Other (loss) income, net was $252,000 of loss in the three months ended October 31, 2011, compared to $303,000 of income in the three months ended October 31, 2010. The $252,000 of loss for the three months ended October 31, 2011 was comprised primarily of foreign exchange losses of $316,000, mainly offset by interest income. The $278,000 of income for the three months ended October 31, 2010 was primarily comprised of $39,000 of interest income and $239,000 of foreign exchange gains.
Equity Income (Loss) in Earnings of Affiliates. Equity income (loss) in earnings of affiliates was $389,000 and $39,000 in the three months ended October 31, 2011 and 2010, respectively. For the three months ended October 31, 2011, $115,000 of equity income was recognized from On Demand Deutschland in addition to $144,000 in accreted gains related to customer contracts and content licensing agreements and a capital distribution related to reimbursement of previously incurred costs and $129,000 in equity income from eventIS’s equity investment in High-Tech. For the three months ended October 31, 2010, the equity loss related to On Demand Deutschland of $181,000 was partially offset by $142,000 in accreted gains related to customer contracts and content licensing agreements and a capital distribution related to reimbursement of previously incurred costs.
Income Tax Provision. For the three months ended October 31, 2011, the Company recorded an income tax benefit of $478,000 on loss before tax of $459,000. The Company recognized $479,000 of tax benefits resulting from the expiration of the statute of limitations for uncertain tax positions. The statute of limitations varies by the various jurisdictions in which we operate. In any given year, the statute of limitations in certain jurisdictions may lapse without examination and any uncertain tax position taken in those years will result in reduction of the liability for unrecognized tax benefits for that year.
The difference between our forecasted effective tax rate and the federal statutory rate of 35% was primarily due to the differential in foreign tax rates and the utilization of U.S. tax credits. The effective income tax rate is based upon the estimated income for the year, the composition of the income in different countries and adjustments, if any, in the applicable quarterly periods for the potential tax consequences, benefits, resolution of tax audits or other tax contingencies.
Non-GAAP Measures. As part of our ongoing review of financial information related to our business, we regularly use non-GAAP measures, in particular, adjusted non-GAAP earnings per share, as we believe they provide a meaningful insight into our business and trends. We also believe that these adjusted non-GAAP measures provide readers of our financial statements with useful information and insight with respect to the results of our business. However, the presentation of adjusted non-GAAP information is not intended to be considered in isolation or as a substitute for results prepared in accordance with GAAP. Below are tables for the three months ended October 31, 2011 and 2010, respectively:
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Three Months Ended
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Three Months Ended
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October 31, 2011
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October 31, 2010
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GAAP
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Adjustment
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Non-GAAP
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GAAP
|
|
|
Adjustment
|
|
|
Non-GAAP
|
|
| |
|
(in thousands except share data)
|
|
|
(in thousands except share data)
|
|
|
Revenues
|
|
$ |
53,361 |
|
|
$ |
10 |
|
|
$ |
53,371 |
|
|
$ |
49,135 |
|
|
$ |
785 |
|
|
$ |
49,920 |
|
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating expenses
|
|
|
26,311 |
|
|
|
|
|
|
|
26,311 |
|
|
|
26,753 |
|
|
|
|
|
|
|
26,753 |
|
|
Stock-based compensation
|
|
|
- |
|
|
|
1,153 |
|
|
|
1,153 |
|
|
|
- |
|
|
|
413 |
|
|
|
413 |
|
|
Amortization of intangible assets
|
|
|
- |
|
|
|
1,489 |
|
|
|
1,489 |
|
|
|
- |
|
|
|
1,271 |
|
|
|
1,271 |
|
|
Acquisition costs
|
|
|
- |
|
|
|
1,412 |
|
|
|
1,412 |
|
|
|
- |
|
|
|
105 |
|
|
|
105 |
|
|
Restructuring
|
|
|
- |
|
|
|
(6 |
) |
|
|
(6 |
) |
|
|
- |
|
|
|
2,435 |
|
|
|
2,435 |
|
|
Strategic alternatives related costs
|
|
|
|
|
|
|
597 |
|
|
|
597 |
|
|
|
- |
|
|
|
- |
|
|
|
- |
|
| |
|
|
26,311 |
|
|
|
4,645 |
|
|
|
21,666 |
|
|
|
26,753 |
|
|
|
4,224 |
|
|
|
22,529 |
|
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(Loss) income from operations
|
|
|
(207 |
) |
|
|
4,655 |
|
|
|
4,448 |
|
|
|
(3,512 |
) |
|
|
5,009 |
|
|
|
1,497 |
|
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income tax (benefit) expense impact
|
|
|
(478 |
) |
|
|
931 |
|
|
|
453 |
|
|
|
1,942 |
|
|
|
(1,667 |
) |
|
|
275 |
|
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss)
|
|
$ |
408 |
|
|
$ |
3,724 |
|
|
$ |
4,132 |
|
|
$ |
(5,215 |
) |
|
$ |
6,676 |
|
|
$ |
1,461 |
|
|
Diluted income (loss) per share
|
|
$ |
0.01 |
|
|
$ |
0.12 |
|
|
$ |
0.13 |
|
|
$ |
(0.17 |
) |
|
$ |
0.22 |
|
|
$ |
0.05 |
|
|
Diluted weighted average common shares outstanding
|
|
|
32,817 |
|
|
|
32,817 |
|
|
|
32,817 |
|
|
|
31,496 |
|
|
|
31,496 |
|
|
|
31,496 |
|
In managing and reviewing our business performance, we exclude a number of items required by GAAP. Management believes that excluding these items, mentioned below, is useful in understanding trends and managing our operations. We believe it is useful for investors to understand the effects of these items on our total operating expenses. Our non-GAAP financial measures include adjustments based on the following items, as well as the related income tax effects and adjustments to the valuation allowance.
Revenue. Business combination accounting rules require us to account for the fair value of customer contracts assumed in connection with our acquisitions. Because customer contracts may take up to 18 months to complete, our GAAP revenues subsequent to these acquisitions do not reflect the full amount of software revenues on assumed customer contracts that would have otherwise been recorded by eventIS Group B.V. and VividLogic, Inc. We believe this adjustment is useful to investors as a measure of the ongoing performance of our business because we have historically experienced high renewal rates on similar customer contracts, although we cannot be certain that customers will renew these contracts.
Stock-based compensation expenses. We have excluded the effect of stock-based compensation and stock-based payroll expenses from our non-GAAP operating expenses and net income measures. Although stock-based compensation is a key incentive offered to our employees, we continue to evaluate our business performance excluding stock-based compensation expenses. Stock-based compensation expenses will recur in future periods.
| |
|
Three Months Ended
|
|
| |
|
October 31,
|
|
| |
|
2011
|
|
|
2010
|
|
| |
|
(in thousands)
|
|
|
Cost of revenues
|
|
$ |
142 |
|
|
$ |
27 |
|
|
Research and development
|
|
|
107 |
|
|
|
108 |
|
|
Selling and marketing
|
|
|
292 |
|
|
|
72 |
|
|
General and administrative
|
|
|
612 |
|
|
|
206 |
|
|
Total stock-based compensation
|
|
$ |
1,153 |
|
|
$ |
413 |
|
Amortization of intangible assets. We have excluded the effect of amortization of intangible assets from our non-GAAP operating expenses and net income measures. Amortization of intangibles is inconsistent in amount and frequency and is significantly affected by the timing and size of our acquisitions.
| |
|
Three Months Ended
|
|
| |
|
October 31,
|
|
| |
|
2011
|
|
|
2010
|
|
|
Cost of revenues
|
|
$ |
506 |
|
|
$ |
466 |
|
|
Operating expenses
|
|
|
983 |
|
|
|
805 |
|
|
Total amortization of intangibles
|
|
$ |
1,489 |
|
|
$ |
1,271 |
|
Restructuring. We incurred charges due to the restructuring of our business including severance charges, write down of inventory to net realizable value, and the disposal of fixed assets resulting from the restructuring, which we generally would not have otherwise incurred in the periods presented as part of our continuing operations.
Strategic alternatives related costs. We incurred legal and other professional fees in connection with the Company’s review of strategic alternatives.
Acquisition-Related Costs. Acquisition-related costs include changes in the fair value of acquisition-related contingent consideration, and changes in contingent liabilities related to estimated earn-out payments.
Income tax expense (benefit) impact. The non-GAAP income tax adjustment reflects the effective tax rate for the year in which the non-GAAP adjustment occurs and excludes any changes in the tax valuation allowance arising from the gain on the sale of the equity investment in Casa Systems, Inc.
Nine Months Ended October 31, 2011 Compared to the Nine Months Ended October 31, 2010
The following table sets forth statement of operations data for the nine months ended October 31, 2011 and 2010.
| |
|
Nine Months Ended
|
|
| |
|
October 31,
|
|
| |
|
2011
|
|
|
2010
|
|
| |
|
(in thousands)
|
|
|
Revenues:
|
|
|
|
|
|
|
|
Products
|
|
$ |
58,909 |
|
|
$ |
64,993 |
|
|
Services
|
|
|
96,602 |
|
|
|
90,367 |
|
| |
|
|
155,511 |
|
|
|
155,360 |
|
| |
|
|
|
|
|
|
|
|
|
Costs and expenses:
|
|
|
|
|
|
|
|
|
|
Cost of product revenues
|
|
|
19,732 |
|
|
|
26,082 |
|
|
Cost of services revenues
|
|
|
60,010 |
|
|
|
53,799 |
|
|
Research and development
|
|
|
33,507 |
|
|
|
37,351 |
|
|
Selling and marketing
|
|
|
18,944 |
|
|
|
18,315 |
|
|
General and administrative
|
|
|
19,019 |
|
|
|
18,089 |
|
|
Amortization of intangibles
|
|
|
2,968 |
|
|
|
2,512 |
|
|
Acquisition costs
|
|
|
1,517 |
|
|
|
334 |
|
|
Restructuring
|
|
|
221 |
|
|
|
6,944 |
|
|
Loss from operations
|
|
|
(407 |
) |
|
|
(8,066 |
) |
|
Gain on sale of investment in affiliate
|
|
|
- |
|
|
|
25,188 |
|
|
Other income , net
|
|
|
372 |
|
|
|
77 |
|
|
(Loss) income before income taxes and equity loss in earnings of affiliates
|
|
|
(35 |
) |
|
|
17,199 |
|
|
Income tax benefit
|
|
|
(437 |
) |
|
|
(1,700 |
) |
|
Equity income (loss) in earnings of affiliates, net of tax
|
|
|
409 |
|
|
|
(284 |
) |
|
Net income
|
|
$ |
811 |
|
|
$ |
18,615 |
|
Revenues
The following table summarizes information about the Company’s reportable segment revenues for the nine months ended October 31, 2011 and 2010.
| |
|
Nine Months Ended
|
|
|
|
|
| |
|
October 31,
|
|
|
|
|
| |
|
2011
|
|
|
2010
|
|
|
%
|
|
| |
|
(in thousands, except for percentage data)
|
|
|
Software revenues:
|
|
|
|
|
|
|
|
|
|
|
Products
|
|
$ |
45,875 |
|
|
$ |
47,492 |
|
|
|
(3 |
)% |
|
Services
|
|
|
61,874 |
|
|
|
57,315 |
|
|
|
8 |
% |
|
Total Software revenues
|
|
|
107,749 |
|
|
|
104,807 |
|
|
|
3 |
% |
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
Servers and Storage revenues:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Products
|
|
|
13,033 |
|
|
|
17,501 |
|
|
|
(26 |
)% |
|
Services
|
|
|
10,188 |
|
|
|
11,447 |
|
|
|
(11 |
)% |
|
Total Servers and Storage revenues
|
|
|
23,221 |
|
|
|
28,948 |
|
|
|
(20 |
)% |
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
Media Services revenues:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Services
|
|
|
24,541 |
|
|
|
21,605 |
|
|
|
14 |
% |
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
Total consolidated revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Products
|
|
|
58,908 |
|
|
|
64,993 |
|
|
|
(9 |
)% |
|
Services
|
|
|
96,603 |
|
|
|
90,367 |
|
|
|
7 |
% |
|
Total consolidated revenues
|
|
$ |
155,511 |
|
|
$ |
155,360 |
|
|
|
0 |
% |
Product Revenues. Product revenues decreased 9% to $58.9 million in the nine months ended October 31, 2011 from $65.0 million in the nine months ended October 31, 2010. Product revenues from the Software segment accounted for 78% and 73% of the total product revenues for the nine months ended October 31, 2011 and 2010, respectively. The Servers and Storage segment accounted for 22% and 27% of total product revenues in the nine months ended October 31, 2011 and 2010, respectively. The decrease in product revenues compared to the nine months ending October 31, 2010 was due to lower VOD software product shipments to a large North American customer in the previous year partially offset by higher Advertising products revenues and a significant home gateway licensing transaction. In addition, the decrease in product revenues was due to a portion of middleware revenues from Virgin Media that were recorded as service revenues during the nine months ended October 31, 2011, while recorded entirely as product revenue in the prior year. In the prior year, the agreement with Virgin Media provided for licensing rights and specified enhancements to the software and therefore the associated revenues were classified as product revenues. However, the agreement in the first quarter of fiscal 2012 provided for software licensing rights and software maintenance services, and was accordingly split between product and services revenues.
Services Revenues. Services revenues increased 7% year over year to $96.6 million in the nine months ended October 31, 2011 from $90.4 million in the nine months ended October 31, 2010. For the nine months ended October 31, 2011 and 2010, services revenues for the Software segment accounted for 64% and 63% of the total services revenue, respectively. Servers and Storage services revenue accounted for 11% and 13% of total services revenue and Media Services revenue accounted for 25% and 24% of total services revenues in the nine months ended October 31, 2011 and 2010, respectively. The increase in Service revenues compared to the nine months ended October 31, 2010 was due to the reclassification of a portion of middleware revenues from Virgin Media from product revenues to Service revenues as noted previously, and higher Media Services contract revenues from customers in France and Eastern Europe.
For the nine months ended October 31, 2011, two customers accounted for more than 33% of our total revenues, and two customers accounted for more than 36% of our total revenues for the nine months ended October 31, 2010. Revenue from each of these customers were included in revenues from the Software, Servers and Storage, and Media Services segments. We believe that a significant amount of our revenues will continue to be derived from a limited number of customers.
International sales accounted for approximately 50% and 47% of total revenues in the nine months ended October 31, 2011 and 2010, respectively. With the acquisition of eventIS, headquartered in the Netherlands, we expect that international products and services revenues will be a significant portion of our business in the future.
Software Revenues. Revenues from our Software segment for the nine months ended October 31, 2011 increased $2.9 million, or a 3% increase compared to the nine months ended October 31, 2010. The 3% decrease in the Software products revenues was due to a significant VOD software order to a large North American customer that was recognized as revenue in last year’s first quarter that was partially offset in the current period by higher VOD software revenues to our European customers, higher Advertising product revenues and the previously mentioned large home gateway licensing transaction. In addition, the decrease in software product revenues stemmed from the reclassification of a portion of middleware revenues from Virgin Media to service revenues. The $4.6 million or 8% increase in services revenue compared to the nine months ended October 31, 2010 was due mainly to the reclassification of middleware revenue from Virgin Media.
Servers and Storage Revenues. Revenues from the Servers and Storage segment for the nine months ended October 31, 2011 decreased $5.7 million or 20% compared to the nine months ended October 31, 2010. The decrease in product revenues in the nine months ended October 31, 2011 of $4.5 million compared to the same period in the previous year was primarily due to decreased shipments of VOD servers and Broadcast products to North American customers. In addition, last year’s third quarter included the return of VOD servers due to a warranty claim from a customer, which resulted in the reduction of previously recorded VOD server revenue of approximately $1.9 million. The decrease in Service revenues is due to lower VOD professional services and lower Broadcast maintenance revenues.
Media Services. Revenues from Media Services increased by approximately $2.9 million or 14% in the nine months ended October 31, 2011 compared to the nine months ended October 31, 2010. The increase in revenue was due primarily to increased content processing revenues from a customer in France and several new customer contracts signed this year partially offset by lower revenues from Virgin Media.
Product Gross Profit. Costs of product revenues consist primarily of the cost of purchased material components and subassemblies, labor and overhead relating to the final assembly and testing of complete systems and related expenses. The gross profit percentage increased six points from 60% for the nine months ended October 31, 2010 to 66% for the nine months ended October 31, 2011, due to a greater mix of higher margin Advertising product revenues, improved eventIS product margins and favorable margin impact from the large home gateway licensing transaction.
Services Gross Profit. Cost of services revenues consist primarily of labor, materials and overhead relating to the installation, training, product maintenance and technical support, software development, and project management provided by us and costs associated with providing video content services. The gross profit percentage decreased two points from 40% for the nine months ended October 31, 2010 to 38% for the nine months ended October 31, 2011. The two point decrease compared to last year was primarily due to lower VOD server professional service revenues, lower Broadcast maintenance revenues and lower Media Services margin due to higher content and headcount costs to support newer customer contracts.
Software Revenues Gross Profit. Software segment gross margin of 58% for the nine months ended October 31, 2011 was three percentage points higher compared to the nine months ended October 31, 2010. The increase in software gross margins was primarily due to a greater mix of higher margin Advertising revenues, eventIS product revenues and home gateway licensing revenues in the nine months ended October 31, 2011 compared to the nine months ended October 31, 2010 as well as lower than normal Software gross margin related to the large software product shipment to a North American customer in last year’s first quarter.
Servers and Storage Gross Profit. Servers and Storage segment gross margin of 42% in the nine months ended October 31, 2011 was three percentage points lower compared to the nine months ended October 31, 2010 primarily due to lower Broadcast maintenance revenues and lower VOD server professional services and maintenance revenues.
Media Services Gross Profit. Media Services segment gross margin of 13% for the nine months ended October 31, 2011 was eight percentage points lower than the gross margin for the nine months ended October 31, 2010 due to higher headcount-related costs and increased content costs to support newer contracts for customers in Latin America, South Africa, and Eastern Europe.
Research and Development. Research and development expenses consist primarily of the compensation of development personnel, depreciation of development and test equipment and an allocation of related facilities expenses. Research and development expenses decreased from $37.4 million, or 24% of total revenues, in the nine months ended October 31, 2010, to $33.5 million, or 22% of total revenues, in the nine months ended October 31, 2011. The year over year decrease is primarily due to lower Servers and Storage and Software segment domestic headcount-related costs, partially offset by increased Philippines and eventIS headcount-related costs.
Selling and Marketing. Selling and marketing expenses consist primarily of compensation expenses, including sales commissions, travel expenses and certain promotional expenses. Selling and marketing expenses were $18.9 million, or 12% of total revenues, for the nine months ended October 31, 2011, as compared to $18.3 million, or 12% of total revenues, for the nine months ended October 31, 2010. The increase of $500,000 was primarily due to an increase in eventIS headcount-related costs and higher third-party commissions.
General and Administrative. General and administrative expenses consist primarily of the compensation of executive, finance, human resource and administrative personnel, legal and accounting services and an allocation of related facilities expenses. In the nine months ended October 31, 2011, general and administrative expenses increased to $19.0 million, or 12% of total revenues, from $18.1 million, or 12% of total revenues, in the nine months ended October 31, 2010. The increase was primarily due to increased legal fees associated with patent litigation and the Company’s review of various strategic alternatives that were partially offset by the absence of transaction costs related to the VividLogic acquisition which was included in last year’s first quarter. After an extensive review of strategic alternatives, the Company decided in November 2011 that it was in the best interest of shareholders to continue as a standalone public company and concluded this review.
Amortization of intangible assets. Amortization expense consists of the amortization of acquired intangible assets which are operating expenses and not considered costs of revenues. In the nine months ended October 31, 2011 and 2010, amortization expense was $3.0 million and $2.5 million, respectively. An additional $1.6 million and $1.4 million of amortization expense related to acquired technology was charged to cost of sales for the nine months ended October 31, 2011 and 2010, respectively.
Acquisition-Related Costs. Acquisition-related costs include changes in the fair value of acquisition-related contingent consideration, and changes in contingent liabilities related to estimated earn-out payments. During the third quarter of fiscal 2012, the Company revised its estimate of potential earn-out payments to the former shareholders of VividLogic and eventIS and recorded an expense of $1.3 million to reflect estimated future financial performance compared to the respective earn-out criteria.
Restructuring. During the second quarter of fiscal 2012, the Company continued to take actions to lower its cost structure as it strives to improve its financial performance and incurred restructuring charges totaling $227,000 related to severance costs primarily in manufacturing. For the nine months ended October 31, 2010, restructuring charges totaled $2.0 million for severance costs related to the termination of approximately 76 employees as well as a write down of inventory of approximately $2.5 million related to the decision in the first quarter to discontinue certain products within the Servers and Storage segment.
Other (expense) income, net. Other (expense) income, net was $372,000 of income in the nine months ended October 31, 2011, compared to $77,000 of income in the nine months ended October 31, 2010. The $372,000 of income for the nine months ended October 31, 2011 was comprised primarily of interest income and foreign exchange losses. The $77,000 of expense for the nine months ended October 31, 2010 was comprised of $136,000 of interest income and $435,000 of an insurance settlement resulting from the purchase of the ODG building which was partially offset by $494,000 of foreign exchange losses.
Equity Income (Loss) in Earnings of Affiliates. Equity income in earnings of affiliates was income of $409,000 and a loss of $284,000 for the nine months ended October 31, 2011 and 2010, respectively. For the nine months ended October 31, 2011, $244,000 of equity loss was recognized from On Demand Deutschland, offset by $438,000 in accreted gains related to customer contracts and content licensing agreements and a capital distribution related to reimbursement of previously incurred costs. In addition, there was $216,000 in equity gains on eventIS’s investment in High Tech. For the nine months ended October 31, 2010, the equity loss related to On Demand Deutschland loss of $699,000 was partially offset by $415,000 in accreted gains related to customer contracts and content licensing agreements and a capital distribution related to reimbursement of previously incurred costs.
Income Tax Provision. For the nine months ended October 31, 2011, we recorded an income tax benefit of $437,000 on a loss before tax of $35,000. During the third quarter of fiscal, the Company recognized $479,000 of tax benefits resulting from the expiration of the statute of limitations for uncertain tax positions. The statute of limitations varies by the various jurisdictions in which we operate. In any given year, statute of limitations in certain jurisdictions may lapse without examination and any uncertain tax position taken in these years will result in reduction of the liability for unrecognized tax benefits for that year. The difference between our forecasted effective tax rate and the federal statutory rate of 35% was primarily due to the differential in foreign tax rates and the utilization of U.S. tax credits.
For the nine months ended October 31, 2010, we recorded an income tax benefit of $1.7 million on income before tax of $17.2 million. The income tax benefit recorded for the nine months ended October 31, 2010 includes the third quarter benefit resulting from the change in lower forecasted fiscal 2011 profit before tax as well as the benefit in the first quarter associated with the gain on the sale of the Company’s equity investment in Casa Systems, Inc. in the first quarter and the benefit from the decrease of a portion of the valuation allowance against its deferred tax assets due to the Company having met the “more likely than not” realization criteria on its U.S. deferred tax assets as of October 31, 2010. Our income tax provision consists of federal, foreign, and state income taxes. The difference in the fiscal 2010 period between our effective tax rate and the federal statutory rate of 35% was primarily due to the differential in foreign tax rates and the utilization of foreign tax credits.
The effective income tax rate is based upon the estimated income for the year, the composition of the income in different countries and adjustments, if any, in the applicable quarterly periods for the potential tax consequences, benefits, resolution of tax audits or other tax contingencies.
Non GAAP Measures. As part of our ongoing review of financial information related to our business, we regularly use non-GAAP measures, in particular adjusted non-GAAP earnings per share, as we believe they provide a meaningful insight into our business and trends. We also believe that these adjusted non-GAAP measures provide readers of our financial statements with useful information and insight with respect to the results of our business. However, the presentation of adjusted non-GAAP information is not intended to be considered in isolation or as a substitute for results prepared in accordance with GAAP. Below are tables for the nine months ended October 31, 2011 and 2010, respectively:
| |
|
Nine Months Ended
|
|
|
Nine Months Ended
|
|
| |
|
October 31, 2011
|
|
|
October 31, 2010
|
|
| |
|
GAAP
|
|
|
Adjustment
|
|
|
Non-GAAP
|
|
|
GAAP
|
|
|
Adjustment
|
|
|
Non-GAAP
|
|
| |
|
(in thousands except for share data)
|
|
|
(in thousands except for share data)
|
|
|
Revenues
|
|
$ |
155,511 |
|
|
$ |
19 |
|
|
$ |
155,530 |
|
|
$ |
155,360 |
|
|
$ |
3,888 |
|
|
$ |
159,248 |
|
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating expenses
|
|
|
76,176 |
|
|
|
|
|
|
|
76,176 |
|
|
|
83,545 |
|
|
|
|
|
|
|
83,545 |
|
|
Stock-based compensation
|
|
|
- |
|
|
|
3,600 |
|
|
|
3,600 |
|
|
|
- |
|
|
|
1,258 |
|
|
|
1,258 |
|
|
Amortization of intangible assets
|
|
|
- |
|
|
|
4,607 |
|
|
|
4,607 |
|
|
|
- |
|
|
|
3,916 |
|
|
|
3,916 |
|
|
Acquisition related costs
|
|
|
- |
|
|
|
1,517 |
|
|
|
1,517 |
|
|
|
- |
|
|
|
1,134 |
|
|
|
1,134 |
|
|
Restructuring
|
|
|
- |
|
|
|
221 |
|
|
|
221 |
|
|
|
- |
|
|
|
6,944 |
|
|
|
6,944 |
|
|
Strategic alternatives related costs
|
|
|
- |
|
|
|
1,258 |
|
|
|
1,258 |
|
|
|
- |
|
|
|
- |
|
|
|
- |
|
| |
|
|
76,176 |
|
|
|
11,203 |
|
|
|
64,973 |
|
|
|
83,545 |
|
|
|
13,252 |
|
|
|
70,293 |
|
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(Loss) income from operations
|
|
|
(407 |
) |
|
|
11,222 |
|
|
|
10,815 |
|
|
|
(8,066 |
) |
|
|
17,140 |
|
|
|
9,074 |
|
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from sale of investment in affiliate
|
|
|
- |
|
|
|
- |
|
|
|
- |
|
|
|
25,188 |
|
|
|
(25,188 |
) |
|
|
- |
|
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income tax expense (benefit) impact
|
|
|
(437 |
) |
|
|
1,942 |
|
|
|
1,505 |
|
|
|
(1,700 |
) |
|
|
3,118 |
|
|
|
1,418 |
|
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss)
|
|
$ |
811 |
|
|
$ |
9,280 |
|
|
$ |
10,091 |
|
|
$ |
18,615 |
|
|
$ |
(11,166 |
) |
|
$ |
7,449 |
|
|
Diluted income (loss) per share
|
|
$ |
0.02 |
|
|
$ |
0.28 |
|
|
$ |
0.30 |
|
|
$ |
0.58 |
|
|
$ |
(0.34 |
) |
|
$ |
0.24 |
|
|
Diluted weighted average common shares outstanding
|
|
|
32,706 |
|
|
|
32,706 |
|
|
|
32,706 |
|
|
|
31,929 |
|
|
|
31,929 |
|
|
|
31,929 |
|
In managing and reviewing our business performance, we exclude a number of items required by GAAP. Management believes that excluding these items, mentioned below, is useful in understanding trends and managing our operations. We believe it is useful for investors to understand the effects of these items on our total operating expenses. Our non-GAAP financial measures include adjustments based on the following items, as well as the related income tax effects and adjustments to the valuation allowance.
Revenue: Business combination accounting rules require us to account for the fair value of customer contracts assumed in connection with our acquisitions. In connection with the acquisition of eventIS Group B.V. on September 1, 2009 and VividLogic, Inc on February 1, 2010, the book value of our deferred software revenue was reduced by approximately $2.3 million in the adjustment to fair value. Because these customer contracts may take up to 18 months to complete, our GAAP revenues subsequent to this acquisition do not reflect the full amount of software revenues on assumed customer contracts that would have otherwise been recorded by eventIS Group B.V. and VividLogic, Inc. We believe this adjustment is useful to investors as a measure of the ongoing performance of our business because we have historically experienced high renewal rates on similar customer contracts, although we cannot be certain that customers will renew these contracts.
Stock-based compensation expenses: We have excluded the effect of stock-based compensation and stock-based payroll expenses from our non-GAAP operating expenses and net income measures. Although stock-based compensation is a key incentive offered to our employees, we continue to evaluate our business performance excluding stock-based compensation expenses. Stock-based compensation expenses will recur in future periods.
| |
|
Nine Months Ended |
|
| |
|
October 31,
|
|
| |
|
2011
|
|
|
2010
|
|
| |
|
(in thousands)
|
|
|
Cost of revenues
|
|
$ |
383 |
|
|
$ |
147 |
|
|
Research and development
|
|
|
427 |
|
|
|
339 |
|
|
Selling and marketing
|
|
|
1,005 |
|
|
|
270 |
|
|
General and administrative
|
|
|
1,785 |
|
|
|
502 |
|
|
Total stock-based compensation
|
|
$ |
3,600 |
|
|
$ |
1,258 |
|
Amortization of intangible assets: We have excluded the effect of amortization of intangible assets from our non-GAAP operating expenses and net income measures. Amortization of intangibles is inconsistent in amount and frequency and is significantly affected by the timing and size of our acquisitions.
| |
|
Nine Months Ended
|
|
| |
|
October 31,
|
|
| |
|
2011
|
|
|
2010
|
|
| |
|
(in thousands)
|
|
|
Cost of revenues
|
|
$ |
1,639 |
|
|
$ |
1,404 |
|
|
Operating expenses
|
|
|
2,968 |
|
|
|
2,512 |
|
|
Total amortization of intangibles
|
|
$ |
4,607 |
|
|
$ |
3,916 |
|
Restructuring: We incurred charges due to the restructuring of our business including severance charges and write down of inventory to net realizable value, which we generally would not have otherwise incurred in the periods presented as part of our continuing operations.
Acquisition-Related Costs. Acquisition-related costs include changes in the fair value of acquisition-related contingent consideration, and changes in contingent liabilities related to estimated earn-out payments.
Strategic alternatives related costs: We incurred legal and other professional fees in connection with the Company’s review of strategic alternatives.
Income from sale of investment in affiliate: We generated income due to the sale of our investment in Casa Systems, Inc. We excluded the income generated by this investment due to its non recurring nature.
Income tax (expense) benefit impact: The non-GAAP income tax adjustment reflects the effective tax rate in which the non-GAAP adjustment occurs and excludes any changes in the tax valuation allowance arising from the gain on the sale of the equity investment in Casa Systems, Inc
Off-Balance Sheet Arrangements
We do not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements. As such, we are not exposed to any financing, liquidity, market or credit risk that could arise if we had engaged in such relationships.
Liquidity and Capital Resources
Historically, we have financed our operations and capital expenditures primarily with cash on-hand. Cash and marketable securities increased from $86.2 million at January 31, 2011 to $88.9 million at October 31, 2011. Working capital increased from $92.6 million at January 31, 2011 to $99.6 million at October 31, 2011. The increase in cash and marketable securities in the nine months ended October 31, 2011 was primarily the result of an increase in cash provided by operating activities offset partially by payments to the former shareholders of eventIS and VividLogic and capital expenditures.
Net cash provided by operating activities was $8.2 million for the nine months ended October 31, 2011 compared to net cash provided by operating activities of $9.4 million for the nine months ended October 31, 2010. The net cash provided by operating activities for the nine months ended October 31, 2011 was primarily the result of non-cash expenses providing $17.0 million and strong collection efforts resulting in a decrease of $5.7 million in accounts receivable both of which were partially offset by a decrease in accounts payable, customer deposits, and deferred revenue.
Net cash used by investing activities was $12.7 million for the nine months ended October 31, 2011 compared to net cash provided by investing activities of $13.6 million for the nine months ended October 31, 2010. Investment activities for the nine months ended October 31, 2011 consisted mainly of the payment of $4.9 million to the former shareholders of VividLogic and eventIS, $2.4 million in purchases of fixed assets, and net purchases of $5.4 million of marketable securities.
Net cash provided by financing activities was $1.8 million for the nine months ended October 31, 2011 and net cash provided by financing activities was $855,000 for the nine months ended October 31, 2010. The increase in net cash provided by financing activities for the first nine months of fiscal 2012 was due to the proceeds from the exercise of stock options.
Effect of exchange rates increased cash and cash equivalents by $165,000 for the nine months ended October 31, 2011, due to the translation of ODG’s and eventIS’s cash balances, which use the British pound and the Euro, respectively, as their functional currencies, to U.S. dollars at October 31, 2011.
Under the share purchase agreement with the former shareholder of eventIS, on September 1, 2012, the Company is obligated to make an additional fixed payment, in an aggregate amount of $2.8 million with $1.7 million payable in cash and $1.1 million payable by the issuance of restricted shares of SeaChange common stock, which will vest in equal installments over three years starting on the first anniversary of the date of issuance. At the option of the former shareholder of eventIS, up to forty percent of the payment otherwise to be paid in restricted stock may be payable instead in cash on the vesting date of the restricted shares. Under the earn-out provisions of the share purchase agreement, the Company has estimated a payment of $750,000 each year for fiscal 2012 and fiscal 2013.
Under the share purchase agreement with the former shareholders of VividLogic, the Company is obligated to make fixed payments of $1.0 million in cash on February 1, 2012 and 2013. Additional earn-out payments may be earned over each of the next two years ended January 31, 2012 and 2013 if certain performance goals are met.
As disclosed in the notes to the accompanying financial statements and in Item 1 of Part II of this Quarterly Report on Form 10-Q, the Company is party to litigation with ARRIS Group, Inc. The Company believes that its products do not infringe on the ’804 patent and that it has meritorious defenses against the suit; however, the ultimate resolution of the matter is not reasonably estimable at this time, but could result in a material liability for the Company.
The Company maintains a revolving line of credit with RBS Citizens (a subsidiary of the Royal Bank of Scotland Group plc) for $20.0 million which expires on October 31, 2012. Loans made under this revolving line of credit bear interest at a rate per annum equal to the bank’s prime rate. Borrowings under this line of credit are collateralized by substantially all of our assets. The loan agreement requires SeaChange to comply with certain financial covenants. As of October 31, 2011, we were in compliance with the financial covenants and there were no amounts outstanding under the revolving line of credit.
We are occasionally required to post letters of credit, issued by a financial institution, to secure certain sales contracts. Letters of credit generally authorize the financial institution to make a payment to the beneficiary upon the satisfaction of a certain event or the failure to satisfy an obligation. The letters of credit are generally posted for one-year terms and are usually automatically renewed upon maturity until such time as we have satisfied the commitment secured by the letter of credit. We are obligated to reimburse the issuer only if the beneficiary collects on the letter of credit. We believe that it is unlikely we will be required to fund a claim under our outstanding letters of credit. As of October 31, 2011, the full amount of the letters of credit of $1.5 million was supported by our credit facility.
On February 27, 2007, ODG, a wholly-owned subsidiary of SeaChange, entered into an agreement with Tele-Munchen Fernseh GmbH & Co. Produktionsgesellschaft (TMG) to create a joint venture named On Demand Deutschland GmbH & Co. KG. The related shareholder’s agreement requires ODG and TMG to provide cash contributions up to $4.2 million upon the request of the joint venture’s management and approval by the shareholders of the joint venture. To date the Company has contributed $1.6 million as required per the shareholders agreement.
We believe that existing funds combined with available borrowings under the revolving line of credit and cash provided by future operating activities are adequate to satisfy our working capital, potential acquisitions and capital expenditure requirements and other contractual obligations for the foreseeable future, including at least the next 12 months. However, if our expectations are incorrect, we may need to raise additional funds to fund our operations, to take advantage of unanticipated strategic opportunities or to strengthen our financial position.
In addition, we actively review potential acquisitions that would complement our existing product offerings, enhance our technical capabilities or expand our marketing and sales presence. Any future transaction of this nature could require potentially significant amounts of capital or could require us to issue our stock and dilute existing stockholders. If adequate funds are not available, or are not available on acceptable terms, we may not be able to take advantage of market opportunities, to develop new products or to otherwise respond to competitive pressures.
Effects of Inflation
Management believes that financial results have not been significantly impacted by inflation and price changes in materials we use in manufacturing our products.
Significant Accounting Policies
Goodwill
In connection with acquisitions of operating entities, we recognize the excess of the purchase price over the fair value of the net assets acquired as goodwill. Goodwill is not amortized, but is evaluated for impairment, at the reporting unit level, annually in our third quarter as of August 1. Goodwill of a reporting unit may be tested for impairment on an interim basis, in addition to the annual evaluation, if an event occurs or circumstances change which would more likely than not reduce the fair value of a reporting unit below its carrying amount.
During the third quarter of fiscal 2012, we performed our annual impairment testing of goodwill. We first calculated the fair value of each reporting unit using two generally accepted approaches for valuing businesses. We then performed “Step 1” and compared the fair value of each reporting unit of accounting to its carrying value as of August 1, 2011. Reporting units that we test are equivalent to our business segments. We have three reporting segments: the Software segment, Servers and Storage segment and Media Services segment. Goodwill assigned to our reportable segments as of August 1, 2011 was as follows:
| |
|
Software
|
|
|
Servers & Storage
|
|
|
Media Services
|
|
|
Total
|
|
| |
|
(in thousands)
|
|
|
Goodwill balance
|
|
$ |
45,272 |
|
|
$ |
2,021 |
|
|
$ |
20,124 |
|
|
$ |
67,417 |
|
The process of evaluating goodwill for impairment requires several judgments and assumptions to be made to determine the fair value of the reporting units, including the method used to determine fair value, discount rates, expected levels of cash flows, revenues and earnings, and the selection of comparable companies used to develop market based assumptions. The Company may employ three generally accepted approaches for valuing businesses: the market approach, the income approach, and the asset-based (cost) approach to arrive at the fair value of each reporting unit. In calculating the fair value, we derived the standalone projected five year cash flows for all three reporting units. This process starts with the projected cash flows of each of the three reporting units and then the cash flows are discounted. The choice of which approach and methods to use in a particular situation depends on the facts and circumstances.
We determined that based on “Step 1” of our annual goodwill test, the reporting fair values of all three of our reporting units containing goodwill balances exceeded their carrying values. In aggregate, there was excess fair value over the carrying value of the net assets ranging from $21-$121 million. Below is a summary of the fair values ranges calculated by the company as of August 1, 2011:
| |
|
Premium Ranges over
Carrying Value
|
|
|
Software
|
|
|
163%-222% |
|
|
Servers and Storage
|
|
|
170%-237% |
|
|
Media Services
|
|
|
98%-123% |
|
Key data points included in the market capitalization calculation were as follows:
|
|
·
|
Shares outstanding as of August 1, 2011: 31.8 million; and
|
|
|
·
|
$9.60 closing price as of August 1, 2011.
|
Accordingly, as no impairment indicator existed as of August 1, 2011, our annual impairment date, and the implied fair value of goodwill did not exceed the carrying value of any of our three reporting units, we determined that goodwill was not at risk of failing “Step 1” and was appropriately stated as of August 1, 2011.
To validate our conclusions and determine the reasonableness of our annual impairment test, we performed the following:
|
|
·
|
Reconciled our estimated enterprise value to market capitalization comparing the aggregate, calculated fair value of our reporting units to our market capitalization as of August 1, 2011, our annual impairment test date. As compared with the market capitalization value of $305 million as of August 1, 2010, the aggregate carrying fair value was approximately $170 million;
|
|
|
·
|
Prepared a “reporting unit” fair value calculation using three different approaches;
|
|
|
·
|
Reviewed the historical operating performance of each reporting unit for the current fiscal year;
|
|
|
·
|
Performed a sensitivity analysis on key assumptions such as weighted-average cost of capital and terminal growth rates; and
|
|
|
·
|
Reviewed market participant assumptions.
|
The Company used two generally accepted approaches to value its reporting segments. The Market approach provides value indications through a comparison with guideline public companies or guideline transactions. The valuation multiple is an expression of what investors believe to be a reasonable valuation relative to a measure of financial information such as revenues, earnings or cashflows. The Income approach provides value indications through an analysis of its projected earnings, discounted to present value. We employed a weighted-average cost of capital rate for each of our reporting units. The estimated weighted-average cost of capital was based on the risk-free interest rate and other factors such as equity risk premiums and the ratio of total debt to equity capital. In performing the annual impairment tests, we took steps to ensure appropriate and reasonable cash flow projections and assumptions were used. The discount rate used to estimate future cash flows was between 16% and 19.5% for each of the reporting units.
Our projections for the next five years included increased revenue and operating expenses, in line with the expected revenue growth over the next five years based on current market and economic conditions and our historical knowledge of the reporting units. Historical growth rates served as only one input to the projected future growth used in the goodwill impairment analysis. These historical growth rates were adjusted based on other inputs regarding anticipated customer contracts. The forecasts have incorporated any changes to the revenue and operating expense resulting from the third quarter of fiscal 2012. We projected growth for each reporting unit ranging from 8% to 10% annually for the Software segment, a decline of 16% to growth of 10% for Servers and Storage segment, and growth from 24% to 58% annually for the Media Services segment. The higher projected growth for the Media Services segment is due to the recent contract wins by ODG and its recent year over year growth rate. We estimated the operating expenses based on a rate consistent with the current experience for each of the reporting units and estimated revenue growth over the next five years. The failure of any of our reporting units to execute as forecasted over the next five years could have an adverse effect on our annual impairment test. Future adverse changes in market conditions or poor operating results of the reporting unit could result in losses or an inability to recover the carrying value of the investments in reporting units, thereby possibly requiring an impairment charge in the future. We record an impairment charge when we believe an investment has experienced a decline in value that is other-than-temporary.
Effective February 1, 2011 and completed during the first quarter of fiscal 2012, the Company realigned its segments by reclassifying the Broadcast software solutions from the Software segment to the Servers and Storage segment. The goodwill reallocation shown in the table below relates to the reclassification of the Broadcast software solutions from the Software segment to the Servers and Storage segment effective on February 1, 2011. The goodwill was allocated based on a relative fair value approach using management estimates of fair value of the Broadcast Software solutions product line. No impairment was recorded as a result of the change in segments.
| |
|
Goodwill
|
|
| |
|
Software
|
|
|
Servers & Storage
|
|
|
Media Services
|
|
|
Total
|
|
| |
|
(in thousands)
|
|
|
Balance at January 31, 2011
|
|
$ |
45,097 |
|
|
$ |
754 |
|
|
$ |
19,422 |
|
|
$ |
65,273 |
|
|
Reallocation of Broadcast software
|
|
|
(1,267 |
) |
|
|
1,267 |
|
|
|
- |
|
|
|
- |
|
|
Cumulative translation adjustment
|
|
|
985 |
|
|
|
- |
|
|
|
338 |
|
|
|
1,323 |
|
|
Balance at October 31, 2011
|
|
$ |
44,815 |
|
|
$ |
2,021 |
|
|
$ |
19,760 |
|
|
$ |
66,596 |
|
We also monitor economic, legal and other factors as a whole and for each reporting unit between annual impairment tests to ensure that there are no indicators that make it more likely than not that there has been a decline in the fair value of the reporting unit below its carrying value. Specifically, we monitor industry trends, our market capitalization, recent and forecasted financial performance of our reporting units and the timing and nature of any restructuring activities. We do not believe that there are any indicators of impairment as of October 31, 2011. If these estimates or the related assumptions change, we may be required to record non-cash impairment charges for these assets in the future.
Recently Issued Accounting Guidance
Fair Value Measurement
In May 2011, the FASB issued amended guidance clarifying how to measure and disclose fair value. This guidance amends the application of the “highest and best use” concept to be used only in the measurement of the fair value of nonfinancial assets, clarifies that the measurement of the fair value of equity-classified financial instruments should be performed from the perspective of a market participant who holds the instrument as an asset, clarifies that an entity that manages a group of financial assets and liabilities on the basis of its net risk exposure to those risks can measure those financial instruments on the basis of its net exposure to those risks, and clarifies when premiums and discounts should be taken into account when measuring fair value. The fair value disclosure requirements also were amended. These provisions are effective for reporting periods beginning on or after December 15, 2011 applied prospectively. Early application is not permitted. The Company is currently reviewing what effect, if any, this new provision will have on its Consolidated Financial Statements.
Goodwill Impairment Test
In September 2011, the FASB issued additional guidance on goodwill impairment testing. This guidance permits an entity to first assess qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount as a basis for determining whether it is necessary to perform the two-step goodwill impairment test. This guidance is effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011 with early adoption permitted. The Company will adopt the new guidance in the first quarter of fiscal 2012 starting on February 1, 2012. The Company anticipates that it will not have a material impact on our consolidated financial position or results of operations.
ITEM 3. Quantitative and Qualitative Disclosures About Market Risk
Foreign Currency Exchange Risk
We face exposure to financial market risks, including adverse movements in foreign currency exchange rates and changes in interest rates. These exposures may change over time as business practices evolve and could have a material adverse impact on our financial results. Our foreign currency exchange exposure is primarily associated with product sales arrangements or settlement of intercompany payables and receivables among subsidiaries and its parent company, and/or investment/equity contingency considerations denominated in the local currency where the functional currency of the foreign subsidiary is the U.S. dollar.
Substantially all of our international product sales are payable in United States Dollars (USD). In the case of our Media Services operations in the United Kingdom and eventIS in the Netherlands, product sales are generally payable in local currencies, providing a natural hedge for receipts and local payments. In light of the high proportion of our international businesses, we expect the risk of any adverse movements in foreign currency exchange rates could have an impact on our translated results within the Consolidated Statements of Operations and Balance Sheets. For the three months ended October 31, 2011, the Company generated a foreign currency translation loss of $897,000 and for the nine months ended October 31, 2011 the Company generated a translation gain of $2.7 million which were recorded as accumulated other comprehensive gain, increasing the Company’s equity section of the consolidated balance sheet over the prior year.
All foreign currency gains and losses are included in interest and other income, net, in the accompanying Consolidated Statements of Operations. In the three and nine month periods ending October 31, 2011, the Company recorded approximately $316,000 and $13,000, respectively in loss due to international subsidiary translations and cash settlements of revenues and expenses.
Interest Rate Risk
Exposure to market risk for changes in interest rates relates primarily to the Company’s investment portfolio of marketable debt securities of various issuers, types and maturities and to SeaChange’s borrowings under its bank line of credit facility. The Company does not use interest rate related derivative instruments in its investment portfolio, and its investment portfolio only includes highly liquid instruments. Our cash and marketable securities include cash equivalents, which we consider to be investments purchased with original maturities of three months or less. There is risk that losses could be incurred if the Company were to sell any of its securities prior to stated maturity. Given the short maturities and investment grade quality of the portfolio holdings at October 31, 2011, a sharp change in interest rates should not have a material adverse impact on the fair value of our investment portfolio. Additionally, our long term marketable investments, which are carried at the lower of cost or market, have fixed interest rates, and therefore are subject to changes in fair value.
|
ITEM 4.
|
Controls and Procedures
|
(a) Evaluation of disclosure controls and procedures. The Company evaluated the effectiveness of its disclosure controls and procedures, as defined in Rule 13a-15(e) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), as of the end of the period covered by this quarterly report on Form 10-Q. Raghu Rau, our Chief Executive Officer, and Kevin M. Bisson, our Chief Financial Officer, reviewed and participated in this evaluation. Based upon that evaluation, Messrs. Rau and Bisson concluded that the Company’s disclosure controls and procedures were effective as of the end of the period covered by this report and as of the date of the evaluation.
(b) Changes in internal controls over financial reporting. As a result of the evaluation completed by the Company, and in which Messrs. Rau and Bisson participated, the Company has concluded that there were no changes during the fiscal quarter ended October 31, 2011 in its internal controls over financial reporting, which have materially affected, or are reasonably likely to materially affect, the Company’s internal controls over financial reporting.