e10vk
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-K
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(Mark one) |
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ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 |
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For the Fiscal Year Ended December 31, 2005 |
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TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 |
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For the transition period
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Commission file number 0-23137
RealNetworks, Inc.
(Exact Name of Registrant as Specified in Its Charter)
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Washington
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91-1628146 |
(State of incorporation) |
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(I.R.S. Employer Identification Number) |
2601 Elliott Avenue, Suite 1000
Seattle, Washington |
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98121 |
(Address of principal executive offices) |
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(Zip Code) |
(Registrants telephone number, including area code)
(206) 674-2700
Securities registered pursuant to Section 12(b) of the
Act:
None
Securities registered pursuant to Section 12(g) of the
Act:
(Title of Class)
Common Stock, Par Value $0.001 per share
Indicate by check mark if the registrant is a well-known
seasoned issuer, as defined in Rule 405 of the Securities
Act. Yes þ No o
Indicate by check mark if the registrant is not required to file
reports pursuant to Section 13 or Section 15(d) of the
Act Yes o No þ
Indicate by check mark whether the registrant: (1) has
filed all reports required to be filed by Section 13 or
15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has
been subject to such filing requirements for the past
90 days. Yes þ No o
Indicate by check mark if disclosure of delinquent filers
pursuant to Item 405 of
Regulation S-K is
not contained herein, and will not be contained, to the best of
the registrants knowledge, in definitive proxy or
information statements incorporated by reference in
Part III of this
Form 10-K or any
amendment to this
Form 10-K. þ
Indicate by check mark whether the registrant is a large
accelerated filer, an accelerated filer, or a non-accelerated
filer. See definition of accelerated filer and large
accelerated filer in
Rule 12b-2 of the
Exchange Act.
Large accelerated
filer þ Accelerated
filer o Non-accelerated
filer o
Indicate by check mark whether the registrant is a shell company
(as defined in Exchange Act
Rule 12b-2). Yes o No þ
The aggregate market value of the Common Stock held by
non-affiliates of the registrant was approximately $485,843,879
on June 30, 2005, based on the closing price of the Common
Stock on that date, as reported on the Nasdaq National Market.(1)
The number of shares of the registrants Common Stock
outstanding as of February 28, 2006 was 158,907,481.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrants Proxy Statement relating to
the registrants 2006 Annual Meeting of Shareholders to be
held on or about June 5, 2006 are incorporated by reference
into Part III of this Report.
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(1) |
Excludes shares held of record on that date by directors,
executive officers and 10% shareholders of the registrant.
Exclusion of such shares should not be construed to indicate
that any such person directly or indirectly possesses the power
to direct or cause the direction of the management of the
policies of the registrant. |
TABLE OF CONTENTS
1
PART I.
This Annual Report on
Form 10-K and the
documents incorporated herein by reference contain
forward-looking statements that have been made pursuant to the
provisions of the Private Securities Litigation Reform Act of
1995. These forward-looking statements are based on current
expectations, estimates and projections about RealNetworks
industry, managements beliefs, and certain assumptions
made by management. Words such as anticipates,
expects, intends, plans,
believes, seeks, estimates
and similar expressions are intended to identify forward-looking
statements. These statements are not guarantees of future
performance and actual actions or results may differ materially.
These statements are subject to certain risks, uncertainties and
assumptions that are difficult to predict, including those noted
in the documents incorporated herein by reference. Particular
attention should also be paid to the cautionary language in the
section of Item 1 entitled Competition, in
Item 3 entitled Legal Proceedings and in the
section that includes Risk Factors and Special
Note Regarding Forward-Looking Statements.
RealNetworks undertakes no obligation to update publicly any
forward-looking statements as a result of new information,
future events or otherwise, unless required by law. Readers
should, however, carefully review the risk factors included in
other reports or documents filed by RealNetworks from time to
time with the Securities and Exchange Commission, particularly
the Quarterly Reports on
Form 10-Q and any
Current Reports on
Form 8-K.
Overview
RealNetworks, Inc. is a leading creator of digital media
services and software, such as Rhapsody, RealArcade and
RealPlayer. Consumers use our services and software to find,
play, purchase and manage free and premium digital content,
including music, games and video. Broadcasters, network
operators, media companies and enterprises use our products and
services to create and deliver digital media to PCs, mobile
phones and other consumer electronics devices.
We have used our technology to create a large base of consumers,
network operators and content owners who use our products and
services to create, send and receive both free and paid content.
In addition, we have developed a variety of products and
services to connect content providers, broadcasters and
advertisers, including our subscription services. Our strategy
is to continue to leverage our Internet media technology and our
worldwide user base to increase our sales of digital media
products, services and advertising in order to build a
long-term, sustainable and profitable business.
We were incorporated in 1994 in the State of Washington. We
completed our initial public offering in 1997 and our common
stock is listed on the Nasdaq National Market under the symbol
RNWK. We pioneered the development of technology for
the transmission of digital media over the Internet. We also
developed a suite of software and products for Internet media
delivery for sale to business customers, including our
RealServer and Helix products. We have increasingly focused our
consumer business on providing digital content and services to
consumers, including the provision of premium subscription
services for the delivery of online music, games and video.
Consumer Products and Services
We own and manage a comprehensive set of digital music products
and services designed to provide consumers with broad access to
digital music. Our goal is to enable consumers to access digital
content anytime, anywhere and from any device. Our music
services include Rhapsody, an on-demand digital music
subscription service, Rhapsody To Go, our portable digital music
subscription service, and RadioPass, our Internet radio
subscription service. We recently launched Rhapsody.com, a
Web-based version of our digital music service. We also operate
the RealPlayer Music Store, which enables consumers to purchase
and download individual digital music tracks.
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Rhapsody. Our Rhapsody music service and jukebox software
is the centerpiece of our comprehensive set of music offerings.
Our software allows consumers to manage their entire music
collection in one application and subscribers to our Rhapsody
subscription services receive legal, unlimited, streaming access
to over 1.5 million tracks in exchange for a monthly
subscription fee. Our Rhapsody services enable subscribers to
stream songs on-demand to their PC, feature
significant editorial content and provide user-friendly ways for
subscribers to explore, organize and listen to music. Rhapsody
subscribers can build and share playlists, create customized
radio stations and customize their own homepage within Rhapsody
to receive recommendations, new release information and other
content specific to their music tastes and listening history.
Rhapsody subscribers can also purchase most of the tracks
available from the service at a discounted price and can use the
Rhapsody jukebox software to download an unlimited number of
songs to their computer to listen offline as long as they remain
subscribers.
Consumers can also use our Rhapsody software and service for
free. Any U.S. consumer who downloads and installs our
Rhapsody jukebox software can listen to and legally share songs
every month. Once installed, users that register for our
Rhapsody 25 service can listen to up to 25 on-demand songs each
month and gain access to the jukeboxs other features at no
additional cost. Rhapsody.com offers consumers a free and legal
way to find, play and share songs and albums through an Internet
browser. U.S. consumers can listen to up to 25 on-demand
songs per month for free and Rhapsody subscribers can listen to
an unlimited number of tracks through our Rhapsody.com website.
We also offer Rhapsody To Go, a premium subscription service for
subscribers who want to listen to their music on portable
devices. Rhapsody To Go subscribers receive all of the benefits
of our Rhapsody Unlimited service, as well as the ability to
transfer songs to compatible portable music devices.
Our Rhapsody music services are marketed through our family of
websites, including Rhapsody.com, and we also distribute these
services through third party distribution channels, such as
broadband service providers, home network hardware providers,
music retailers and mobile network operators.
RadioPass. We offer consumers a subscription-based
Internet radio product called RadioPass. RadioPass subscribers
gain access to over 70 pre-programmed, ad-free, high fidelity
digital music radio stations in addition to simulcasts of 3,200
worldwide broadcast stations for a monthly subscription fee. We
have agreements with broadband service providers to provide our
Rhapsody jukebox software and Internet radio service on a
wholesale basis in order to expose their customers to our online
music. We also recently launched Rhapsody Radio, a version of
our Internet radio service for distribution to customers via the
PC and through certain wireless phone carriers.
RealPlayer Music Store. The RealPlayer Music Store is a
music download service available through the RealPlayer and the
Internet. The RealPlayer Music Store enables customers to
purchase individual digital music tracks without subscribing to
one of our music subscription services. The RealPlayer Music
Store has over one million songs available for purchase by
U.S. consumers. Songs purchased from the RealPlayer Music
Store also feature our Harmony technology which enables
transferability to a broad range of portable devices.
We own and operate a comprehensive digital games service that
includes a broad range of downloadable games products and
subscription services focused primarily on casual
gamers for PC and mobile wireless platforms. These products and
services include RealArcade, an Internet game download service,
and GamePass, an Internet games subscription service. In
addition, we develop original content for these services through
our game studios, GameHouse and Mr. Goodliving. We also
operate an affiliate network for the publishing and distribution
of other third party content for our customers. We market our
games products and services through our own family of websites
as well as through third party distributors, paid search
advertising and affiliate marketing programs. We also distribute
our games products and services internationally through our own
websites and third party European websites. In January 2006, we
acquired Zylom Media Group B.V., a distributor and developer of
casual online games in Europe, to strengthen our games business
in Europe.
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PC Games. Our free client software, RealArcade enables
consumers to purchase games from our existing catalog of over
370 downloadable PC games and 120 web games across a variety of
popular casual game genres, including puzzle, word and arcade
type games. RealArcade makes it easy for consumers to discover,
manage and play downloadable PC games. All games are made
available with a limited time free trial and can be purchased on
an individual basis or as part of our GamePass subscription
service. In exchange for a monthly subscription fee, GamePass
subscribers receive a credit to download one game each month
from our game catalog and receive discounts for additional game
purchases.
Mobile Games. We develop and publish original content
that consumers can purchase individually or packaged through a
subscription mobile games service available over wireless
network carriers in the U.S. and Europe. In 2005, we acquired
Mr. Goodliving Ltd. to expand our catalog of mobile games.
Mr. Goodliving also has created a technology development
platform, called EMERGE, that enables us to efficiently convert
game content for use on over 300 mobile handsets.
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Video and consumer software |
We provide technology that facilitates the delivery and
consumption of digital media over the Internet. RealPlayer is
our media player software and the foundation for our online
video business, including our SuperPass premium subscription
service.
RealPlayer. RealPlayer includes features and services
that enable consumers to discover, play and manage audio and
video programming on the Internet. RealPlayer plays every major
digital media type and is compatible with over 100 portable
music devices. RealPlayer is available to consumers as a free
download from our Real.com website and also through bundling
with third-party products.
SuperPass. Our subscription service, SuperPass, offers
consumers a broad range of video and digital music and games
content, as well as commercial free Internet radio stations,
advanced CD burning and expanded features for the RealPlayer.
SuperPass provides a single source for consumers to access
popular news, sports, music and entertainment online and
provides content owners with the ability to offer exclusive
access to content and to potentially profit from multiple
revenue opportunities. Subscribers to SuperPass also receive one
game download and ten song downloads per month.
Our media properties business consists primarily of advertising
and the distribution of third party software products. We market
and sell advertising on our websites and client software. Our
primary online presence consists of our Real.com family of
websites. We also manage the Rollingstone.com website pursuant
to a licensing agreement with Rolling Stone. Additionally, we
market and distribute third-party software products and services
directly to end users via our websites and by bundling third
party products and services with the distribution of our own
products, including our distribution relationship with Google,
through which we offer consumers who download the RealPlayer,
RealArcade and Rhapsody software the opportunity to also
simultaneously download and install the Google browser toolbar.
Business Products and Services
We develop and make available a variety of software products
that enable media content creators, website owners and wireline
and wireless network operators to create, secure and distribute
digital media content to PCs and non-PC devices. These software
products are marketed under our Real and Helix brands and
include:
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Helix Server, our server software that allows broadcasters and
content providers to broadcast live and on-demand audio, video
and other multimedia programming to large numbers of
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RealProducer, a multimedia creation and publishing tool that
content owners use to convert audio and video content into our
RealAudio and RealVideo formats; and |
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Helix DRM, a set of products for the secure licensing, delivery
and rights management of digital media. |
We have also created enhanced versions of our media player and
server products for use in wireless applications and we license
our server software and products to a variety of mobile network
operators on a worldwide basis. For example, our RealPlayer
Mobile Player and related media server enable consumers to
access streaming or downloaded content via 2.5G and 3G mobile
networks. We have entered into agreements with wireless
carriers, including Cingular, to use our mobile platform
(primarily in international markets) and with mobile handset
manufacturers to preinstall our mobile player software on mobile
handsets, including Nokia and Motorola.
In connection with the licensing of our business software
products, we also provide professional technical services and
specialized technical support to certain customers. The nature
of these services varies from
customer-to-customer
and from
period-to-period. In
general, these services are designed to customize and integrate
our technology with our customers existing systems and
technology.
Open Source Development. To further the development and
adoption of our system software products and application
programming interfaces on PCs and non-PC consumer devices,
we also created the Helix Community (www.helixcommunity.org), a
collaborative developer network that enables software developers
and technology companies to license, enhance and build products
from the core source code of our producer, server and player
products. Our Helix strategy is designed to address and leverage
the needs and interests of both commercial products companies
and of the open source community that has made
products such as the Linux operating system and Apache web
server platform successful. As part of this strategy, the Helix
Community offers the source code of our producer, server and
player products under both open and commercial source code
licenses. The commercial licenses we offer are structured to
ensure that products built upon it remain compatible with our
Helix interfaces while allowing Helix Community members to
create their own proprietary, value-added extensions.
Research and Development
We devote a substantial portion of our resources to developing
new products, enhancing existing products, expanding and
improving our fundamental streaming technology and strengthening
our technological expertise. During the years ended
December 31, 2005, 2004 and 2003, we expended approximately
22%, 19% and 23%, respectively, of our total net revenue on
research and development activities.
Customers
Our customers include consumers and businesses located
throughout the world. Sales to customers outside the United
States, primarily in Asia and Europe, were approximately 23%,
24% and 27% of total net revenue in the years ended
December 31, 2005, 2004 and 2003, respectively.
Sales, Marketing and Distribution
Our marketing programs are aimed at increasing brand awareness
of our products and services and stimulating market demand. We
use a variety of methods to market our products and services,
including paid search advertising and affiliate marketing
programs, advertising in print, electronic and other online
media, direct mail and
e-mail offers to
qualified potential and existing customers and providing product
specific information through our websites. We have subsidiaries
and offices in several other countries that market and sell our
products outside the United States.
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Consumer Products and Services Marketing |
We market and sell our consumer products and services directly
through our own websites (www.real.com, www.rhapsody.com,
www.realarcade.com, www.gamehouse.com), our client software
and a variety of third-party distribution channels, such as
broadband service providers, offline retailers and home
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network hardware providers. Our websites and client software
provide us with a low-cost, globally accessible sales channel
that is generally available 24 hours per day, seven days
per week. We also have an advertising sales force that markets
and sells advertising on our websites and client software. We
use a third party advertising representation firm to sell
international advertising inventory.
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Business Products and Services Marketing |
We market and sell our business products and services directly
through our websites, our direct sales force and other
distributors. Our direct sales force primarily markets and sells
our business products and services to enterprise,
infrastructure, mobile, broadband and media customers. We also
sell our business products and services to other distributors,
including hardware server companies, content aggregators, ISPs
and other hosting providers that redistribute or provide end
users access to our streaming technology from their websites and
systems. We also have agreements with many popular software and
hardware companies and websites to distribute our products as a
click-through or to bundle our player products into their
applications and software.
Customer Support
Customer support is integral to the provision of our consumer
products and services and to the success of our system software
customers. Consumers who purchase our consumer software products
and services, including games, music, news, sports and
entertainment services, can get assistance via the Internet,
e-mail or telephone. We
contract with third-party outsource support vendors to provide
the primary staffing for our first-tier customer support
globally. We also provide various support service options for
our business customers and for software developers using our
software products and associated services. Support service
options include hotline telephone support, online support
services and on-site
support personnel covering technical and business-related
support topics.
Competition
The market for software and services for media delivery over the
Internet is relatively new, constantly changing and intensely
competitive. Many of our current and potential competitors have
longer operating histories, greater name recognition or brand
awareness, more employees and/or significantly greater resources
than we do.
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Consumer Products and Services |
We compete in the market for delivery of online content services
primarily on the basis of the quality and quantity of the
content available in our services, the quality and usability of
our media player products, the reach of our media formats, and
the price and perceived value of our products and services to
consumers.
Our Rhapsody music subscription services and our RealPlayer
Music Store face competition from traditional offline music
distribution competitors and from other online digital music
services, including Apples iTunes music store and
Napsters and Yahoos music subscription services, as
well as a wide variety of other competitors that are now
offering digital music for sale over the Internet. Microsoft
also offers premium music services in conjunction with its
Windows Media Player and MSN services. We also expect increasing
competition from media companies such as MTV and online
retailers such as Amazon.com, which recently announced plans to
develop and market a digital music player and a related digital
music subscription service. Our music offerings also face
substantial competition from the illegal use of free
peer-to-peer services.
The ongoing presence of these free services
substantially impairs the marketability of legitimate services
such as Rhapsody and the RealPlayer Music Store.
Our Rhapsody subscription service competes primarily on the
basis of the overall quality and perceived value of the user
experience and on the effectiveness of our distribution network
and marketing programs, including the effectiveness of our
initiatives to expose non-subscribers to our services by
offering a limited number of free plays per month. We believe
that Rhapsodys subscription-based service offers
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customers a superior value compared to the purchase of
individual digital music tracks through competing online music
download sites. We also believe that Rhapsodys tools to
search for and discover music, as well as its editorial content,
organization of music and related artists, and overall ease of
use differentiates Rhapsody from other online digital music
services. As the market for purchasing music online grows, we
expect that competition for subscribers and purchasers will
become increasingly intense. In particular, Yahoo is currently
offering a competitive subscription service and prices some of
its products lower than our similar products, although we also
offer free products, such as Rhapsody 25. In addition, Apple
heavily markets and promotes its brand and digital music
download services in order to drive sales of its higher margin
hardware products. We expect that competing subscription
services will continue to compete aggressively for new
subscribers and that Apple will continue to spend significantly
to market and promote its brand and the sale of downloadable
music to further its business model. We also expect that other
competitors will continue to spend heavily to promote their
brands and to attract and retain consumers for their services.
We also believe that our ability to compete in the digital music
business has been negatively impacted by the lack of a
compelling portable device solution for our music subscription
services.
Our games business competes with a variety of distributors,
publishers and developers of casual games for the PC
and mobile wireless platforms. Our RealArcade service competes
with other high volume distribution channels for downloadable
games including Yahoo Games, MSN Gamezone, Pogo.com and
Shockwave. We compete in this market primarily on the basis of
the quality and convenience of our RealArcade service, the reach
and quality of our distribution arrangements and the quality and
breadth of our game catalog. Our GameHouse and
Mr. Goodliving content development studios compete with
other developers and publishers of downloadable PC and mobile
games. Our development studios compete based on our ability to
develop and publish high quality games that resonate with
consumers, our effectiveness at building our brands and our
ability to secure broad distribution relationships for our
titles, including distribution of mobile titles through mobile
carriers.
Our video content services, including our SuperPass subscription
service, face competition from existing competitive alternatives
and other emerging services and technologies. We face
competition in these markets from traditional media outlets such
as television, radio, CDs, DVDs, videocassettes and others. We
also face significant competition from emerging Internet media
sources and established companies entering into the Internet
media content market, including Time Warners AOL
subsidiary, Microsoft, Apple, Yahoo!, Google and broadband
Internet service providers, many of which provide these services
for free or bundle these services with other offerings. We
expect this competition to become more intense as the markets
and business models for Internet video content mature and more
competitors enter these new markets. Our video services compete
primarily on the basis of the quality and perceived value of the
content and services we provide, and on the effectiveness of our
distribution network and marketing programs.
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Business Products and Services |
We believe that the primary competitive factors in the media
delivery market include:
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the quality, reliability, price and licensing terms of the
overall media delivery solution; |
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ubiquitous and easy consumer accessibility to media playback
capability; |
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access to distribution channels necessary to achieve broad
distribution and use of products; |
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the ability to license or develop, support and distribute secure
formats and digital rights management systems for digital media
delivery, particularly music and video, which includes the
ability to convince consumer electronics manufacturers to adopt
our technology and the willingness of content providers to use
our digital rights management technology; |
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the ability to license and support popular and emerging media
formats for digital media delivery in a market where competitors
may control the intellectual property rights for these formats; |
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scalability of streaming media and media delivery technology and
cost per user; |
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the ability to obtain any necessary patent rights underlying
important streaming media and digital distribution technologies
that gain market acceptance; and |
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compatibility with new and existing media formats, and with the
users existing network components and software systems. |
Microsoft is a principal competitor in the development and
distribution of digital media and media distribution technology.
Microsoft currently competes with us in the market for digital
media servers, players, encoders, digital rights management,
codecs and other technology and services related to digital
distribution of media. Microsofts commitment to and
presence in the media delivery industry is significant and we
expect that Microsoft will continue to increase competition in
the overall market for digital media and media distribution
products and services.
Microsoft distributes its competing streaming media server,
player, tools and digital rights management products by bundling
them with its Windows operating systems, including
Windows NT and Windows XP, at no additional cost or
otherwise making them available free of charge. Microsofts
Windows Media Player competes with our media player products. We
expect that by leveraging its monopoly position in operating
systems and tying streaming of digital media into its operating
systems and its Web browser, Microsoft will distribute
substantially more copies of the Windows Media Player in the
future than it has in the past and may be able to attract more
users and content providers to use its streaming or digital
media products.
While some industry standards have been specified with respect
to non-PC wireless systems, these standards have not had a
significant market impact in terms of mobile media consumer
usage. Likewise, no single company has yet gained a dominant
position in the mobile device market. Although certain third
party products and services in this market currently support our
technology, our competitors, such as Microsoft, may be able to
use their greater financial resources and other advantages to
drive the adoption of industry standards that are incompatible
with our technology. In addition, our brand and capabilities are
not as well known in this market sector, which has created and
may continue to create opportunities for smaller competitors to
effectively compete with us, especially in the market for mobile
devices outside the United States.
Intellectual Property
As of December 31, 2005, we had 39 U.S. patents and
numerous patent applications on file relating to various aspects
of our technology. We are continuously preparing additional
patent applications on other current and anticipated features of
our technology.
As of December 31, 2005, we had 51 registered
U.S. trademarks or service marks, and had applications
pending for several more U.S. trademarks. We also have
several unregistered trademarks. In addition, we have several
foreign trademark registrations and pending applications. Many
of our marks begin with the word Real (such as
RealPlayer, RealAudio and RealVideo). We are aware of other
companies that use Real in their marks alone or in
combination with other words, and we do not expect to be able to
prevent all third-party uses of the word Real for
all goods and services.
To protect our proprietary rights, we rely on a combination of
patent, trademark, copyright and trade secret laws,
confidentiality agreements with our employees and third parties,
and protective contractual provisions. These efforts to protect
our intellectual property rights may not be effective in
preventing misappropriation of our technology, or may not
prevent the development and design by others of products or
technologies similar to or competitive with those we develop.
Employees
At December 31, 2005, we had 915 full-time employees
and 18 part-time employees, 641 of whom were based at our
executive offices in Seattle, Washington, 77 of whom were based
in our office in San Francisco, California, 139 of whom
were based at our offices in Australia, Canada, China, France,
Germany, Finland, Hong Kong, Japan, Singapore and the United
Kingdom, and 76 of whom were based
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at other locations. None of our employees are subject to a
collective bargaining agreement, and we believe that our
relations with our employees are good.
Position on Charitable Responsibility
In periods where we achieve profitability, we intend to donate
5% of our net income to charitable organizations, which will
reduce our net income for those periods. The non-profit
RealNetworks Foundation manages our charitable giving efforts.
We attempt to encourage employee giving by using a portion of
our intended contribution to match charitable donations made by
employees.
Available Information
Our corporate Internet address is www.realnetworks.com.
We make available free of charge on www.realnetworks.com
our annual, quarterly and current reports as soon as
reasonably practicable after we electronically file such
material with, or furnish it to, the SEC. However, the
information found on our corporate website is not part of this
or any other report.
Executive Officers of the Registrant
The executive officers of RealNetworks as of February 28,
2006 were as follows:
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Robert Glaser
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44 |
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Chairman of the Board and Chief Executive Officer |
Michael Eggers
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34 |
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Senior Vice President, Chief Financial Officer and Treasurer |
Savino (Sid) Ferrales
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55 |
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Senior Vice President Human Resources |
John Giamatteo
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39 |
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Executive Vice President Business Products and
Services and International Operations |
Robert Kimball
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42 |
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Senior Vice President, Legal and Business Affairs, General
Counsel and Corporate Secretary |
Michael Schutzler
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44 |
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Senior Vice President Games Division and Advertising
Operations |
Dan Sheeran
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39 |
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Senior Vice President Music and Video |
Carla Stratfold
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Senior Vice President North American Sales |
ROBERT GLASER has served as Chairman of the Board and Chief
Executive Officer of RealNetworks since its inception in
February 1994, and as Treasurer from February 1994 to April
2000. Mr. Glasers professional experience also
includes ten years of employment with Microsoft Corporation
where he focused on the development of new businesses related to
the convergence of the computer, consumer electronics and media
industries. Mr. Glaser holds a B.A. and an M.A. in
Economics and a B.S. in Computer Science from Yale University.
MICHAEL EGGERS has served as Senior Vice President, Chief
Financial Officer and Treasurer of RealNetworks since February
2006. Mr. Eggers joined RealNetworks in 1997 and held the
positions of Vice President, Finance from September 2003 to
February 2006, General Manager, Finance from November 2002 to
September 2003, Director of Finance and Controller from 1999 to
October 2002, and Manager of Financial Reporting from 1997 to
1999. Prior to RealNetworks, Mr. Eggers was employed by
KPMG in the audit practice division. Mr. Eggers holds a
B.A., magna cum laude, in Business Administration with a
concentration in accounting from the University of Washington.
SAVINO SID FERRALES has served as Senior Vice
President, Human Resources of RealNetworks since April 2004.
From February 1998 to April 2004, Mr. Ferrales served as
Senior Vice President and Chief Human Resources Officer of
Interland, Inc., a provider of Web hosting and online
9
solutions to small businesses. Over the past twenty-five years,
Mr. Ferrales has been employed as a human resources
executive at several high technology companies, including Power
Computing Corporation, Digital Equipment Corporation, Dell
Computer Corporation and Motorola, Inc. Mr. Ferrales holds
a B.A. in Sociology from Texas State University and an M.A. in
Social Rehabilitation from Sam Houston State University.
JOHN GIAMATTEO has served as Executive Vice President, Worldwide
Business Products and Services and International Operations
since June 2005. From 1988 to June 2005, Mr. Giamatteo was
employed by Nortel Networks Corporation, a provider of
communications solutions, where he held various management
positions, most recently serving as President, Asia Pacific.
Mr. Giamatteo holds a B.S. in Accounting and an M.B.A. from
St. Johns University.
ROBERT KIMBALL has served as Senior Vice President, Legal and
Business Affairs, General Counsel and Corporate Secretary of
RealNetworks since January 2005. From January 2003 to January
2005, Mr. Kimball served as Vice President, Legal and
Business Affairs, General Counsel and Corporate Secretary of
RealNetworks. Mr. Kimball held the positions of Vice
President, Legal and Business Affairs of RealNetworks from May
2001 to January 2003 and Associate General Counsel from March
1999 to April 2001. Mr. Kimball has a B.A. with distinction
from the University of Michigan and a J.D., magna cum
laude, from the University of Michigan Law School.
MICHAEL SCHUTZLER has served as Senior Vice President, Games
Division and Advertising Operations of RealNetworks since
October 2005. Mr. Schutzler joined RealNetworks in August
2004 and was appointed Senior Vice President, Media Business in
September 2004. From March 2003 to August 2004,
Mr. Schutzler served as Senior Vice President of Consumer
Products of Monster Worldwide, Inc., a global marketing and
careers company. From September 2000 to September 2002,
Mr. Schutzler served as President and Chief Executive
Officer of Classmates.com, Inc., an online community-based
networking service. Mr. Schutzler holds an M.B.A. in
Finance and Economics from University of Rochester W. E. Simon
School and a Bachelors degree in Electrical Engineering
from Pennsylvania State University.
DAN SHEERAN has served as Senior Vice President, Music and Video
of RealNetworks since November 2005. Mr. Sheeran joined
RealNetworks in August 2001 and served as Senior Vice President,
International Operations from March 2004 to July 2005, and as
Senior Vice President, Premium Consumer Services from July 2005
to November 2005. From June 2003 to March 2004, Mr. Sheeran
served as Senior Vice President, Marketing of RealNetworks and
from August 2001 to June 2003, Mr. Sheeran served as Vice
President, Media Systems Marketing. From 1999 to August 2001,
Mr. Sheeran served as Senior Vice President of Worldwide
Sales and Marketing of nCUBE, a provider of on-demand media
systems and digital advertising systems for cable operators and
telecommunications network providers. Mr. Sheeran holds a
B.S. in the School of Foreign Service, cum laude, from
Georgetown University, and an M.B.A. from Northwestern
University.
CARLA STRATFOLD has served as Senior Vice President, North
American Sales of RealNetworks since May 2001. From December
1998 to March 2000, Ms. Stratfold served as Vice President
of Business Development of BackWeb Technologies Ltd., a provider
of Internet communication infrastructure software.
Ms. Stratfold holds a B.S. in Political Science from
Washington State University.
You should carefully consider the risks described below together
with all of the other information included in this annual report
on Form 10-K. The
risks and uncertainties described below are not the only ones
facing our company. If any of the following risks actually
occurs, our business, financial condition or operating results
could be harmed. In such case, the trading price of our common
stock could decline, and investors in our common stock could
lose all or part of their investment.
10
Risks Related to Our Consumer Products and Services
Business
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Our online consumer businesses have grown substantially in
recent periods and these businesses compete in rapidly evolving
markets, which makes their prospects difficult to
evaluate. |
Our Consumer Products and Services segment in the fourth quarter
of 2005 represented approximately 86% of our total revenue.
Despite the substantial impact of these consumer businesses on
our financial results, we are competing in new and rapidly
evolving markets and face substantial competitive threats. Our
prospects must be considered in light of the risks, expenses and
difficulties frequently encountered by businesses in new and
fiercely competitive markets. Our Consumer Products and Services
revenue and subscriber and user base have grown substantially in
the past two years and it is unlikely that we will be able to
sustain our recent growth rates.
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Our online consumer businesses have generally lower
margins than our traditional software license business. |
The gross margin for our Consumer Products and Services segment
is lower than the gross margins in our Business and Products
Services segment. The cost of third party content, in
particular, is a substantial percentage of net revenue and is
unlikely to decrease significantly over time as a percentage of
net revenue. Our Consumer Products and Services businesses now
represent a substantial majority of our revenue and include our
music subscriptions and sales, video subscription services and
games subscription and sales as well as advertising revenue
across our web properties. If our Consumer Products and Services
revenue continues to grow as a percentage of our overall
revenue, our margins may further decrease which may affect our
ability to sustain profitability. We are also increasingly
acquiring music subscribers through wholesale relationships with
broadband service providers and other distribution partners,
such as our agreement with Comcast for the distribution of our
radio products. Our gross margins could be negatively impacted
if usage of our radio products by these subscribers
significantly exceeds our forecasts.
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Our subscription levels may vary due to
seasonality. |
Our subscription businesses are rapidly evolving and we are
still determining the impact of seasonality on these businesses,
including our music and games subscription businesses. In
addition, some of the most popular premium content that we have
offered in our premium video subscription services is seasonal
or periodic in nature and we are experimenting with different
types of content to determine what consumers prefer. We have
limited experience with these types of offerings and cannot
predict how the seasonal or periodic nature of these offerings
will impact our subscriber growth rates for these products,
future subscriber retention levels or our quarterly financial
results.
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The success of our subscription services businesses
depends upon our ability to add new subscribers and minimize
subscriber churn. |
Our operating results could be adversely impacted by subscriber
churn. Internet subscription businesses are a relatively new
media delivery model and we cannot predict with accuracy our
long-term ability to retain subscribers or add new subscribers.
Subscribers may cancel their subscriptions to our services for
many reasons, including a perception that they do not use the
services sufficiently or that the service does not provide
enough value, a lack of attractive or exclusive content
generally or as compared to competitive service offerings
(including Internet piracy), or because customer service issues
are not satisfactorily resolved. In addition, the costs of
marketing and promotional activities necessary to add new
subscribers and the costs of obtaining content that customers
desire may adversely impact our margins and operating results.
In recent periods, we have seen an increase in the number of
gross customer cancellations attributable to our subscription
services due in part to our increasingly large subscriber base
and to initial service transition issues that arose with the
introduction of our new Rhapsody music products in 2005. We are
also increasingly acquiring music subscribers through
alternative marketing channels, including direct marketing and
third party distribution. We believe that subscribers obtained
through these channels are likely to have higher cancellation
rates.
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Our digital content subscription businesses depend on our
continuing ability to license compelling content on commercially
reasonable terms. |
We must continue to obtain compelling digital media content for
our video, music and games subscription services in order to
maintain and increase subscription service revenue and overall
customer satisfaction for these products. In some cases, we paid
substantial fees to obtain premium content. In particular, we
pay substantial royalty fees to the music labels to license
content. If we cannot obtain premium digital content for any of
our digital content subscription services on commercially
reasonable terms, or at all, our business will be harmed.
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Our online music services depend upon our licensing
agreements with the major music label and music publishing
companies. |
Our online music service offerings depend on music licenses from
the major music labels and publishers. The current license
agreements are for relatively short terms and we cannot be sure
that the music labels will renew the licenses on commercially
viable terms, or at all. Due to the increasing importance of our
music services to our overall revenue, the failure of any major
music label or publisher to renew these licenses under terms
that are acceptable to us will harm our ability to offer
successful music subscription services and would harm our
operating results.
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Music publishing royalty rates for music subscription
services are not yet fully established; a determination of high
royalty rates could negatively impact our operating
results. |
Publishing royalty rates associated with music subscription
services in the U.S. and abroad are not fully established.
Public performance licenses are negotiated individually, and we
have not yet agreed to rates with all of the performing rights
societies for all of our music subscription service activities.
We may be required to pay a rate that is higher than we expect,
as the issue was recently submitted to a Rate Court
by ASCAP for judicial determination. We have a license agreement
with the Harry Fox Agency, an agency that represents music
publishers, to reproduce musical compositions as required in the
creation and delivery of on-demand streams and tethered
downloads, but this license agreement does not include a rate.
The license agreement anticipates industry-wide agreement on
rates, or, if no industry-wide agreement can be reached,
determination by a copyright royalty board (CARB),
an administrative judicial proceeding supervised by the United
States Copyright Office. If the rates agreed to or determined by
a CARB or by Congress are higher than we expect, this expense
could negatively impact our operating results. The publishing
rates associated with our international music streaming services
are also not yet determined and may be higher than our current
estimates.
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Our consumer businesses face substantial competitive
challenges that may prevent us from being successful in those
businesses. |
Music. Our online music services face significant
competition from traditional offline music distribution
competitors and from other online digital music services. Some
of these competing online services have spent substantial
amounts on marketing and have received significant media
attention, including Apples iTunes music download service,
which it markets closely with its extremely popular iPod line of
portable digital audio players, Napsters music
subscription service and Yahoo!, which offers certain of its
competing music subscription products at a lower price than our
similar products. Microsoft has also begun offering premium
music services in conjunction with its Windows Media Player and
MSN services. We also expect increasing competition from media
companies such as MTV, and from online retailers such as
Amazon.com, which recently announced plans to develop and market
a digital music player and a related digital music subscription
service. Our current music service offerings may not be able to
compete effectively in this highly competitive market,
particularly if new or existing competitors continue to price
their competing digital music products and services lower than
ours or increase the costs of customer acquisition through their
marketing efforts. Our online music services also face
significant competition from free
peer-to-peer services
which allow consumers to directly access an expansive array of
free content without securing licenses from content providers.
Enforcement efforts have not effectively shut
12
down these services and there can be no assurance that these
services will ever be shut down. The ongoing presence of these
free services substantially impairs the
marketability of legitimate services like ours.
Video Products and Services. Our video content products
and services (primarily our SuperPass subscription service) face
competition from existing competitive alternatives and other
emerging services and technologies, such as user generated
content services like Google Video. Content owners are
increasingly marketing their content on their own websites
rather than licensing to other distributors such as us. We face
competition in these markets from traditional media outlets such
as television, radio, CDs, DVDs, videocassettes and others. We
also face competition from emerging Internet media sources and
established companies entering into the Internet media content
market, including Time Warners AOL subsidiary,
Microsoft, Apple, Yahoo! and broadband Internet service
providers. We expect this competition to become more intense as
the market and business models for Internet video content mature
and more competitors enter these new markets. Competing services
may be able to obtain better or more favorable access to
compelling video content than us, may develop better offerings
than us and may be able to leverage other assets to promote
their offerings successfully.
Games. Our RealArcade service competes with other online
distributors of downloadable casual PC games. Some of these
distributors have high volume distribution channels and greater
financial resources than us, including Yahoo! Games, MSN
Gamezone, Pogo.com and Shockwave. We expect competition to
intensify in this market from these and other competitors and no
assurance can be made that we will be able to continue to grow
our revenue. We also own and operate GameHouse, a developer and
distributor of downloadable casual PC games, and we recently
acquired Mr. Goodliving, a developer and publisher of
mobile games primarily in the European market. Game development
is a new business for us, and we may not be able to successfully
develop and market software games in the future. GameHouse
competes primarily with other developers of downloadable casual
PC games and must continue to develop popular and high-quality
game titles to maintain its competitive position. In addition,
certain competitors of our RealArcade service also distribute
and promote games developed by GameHouse. These distributors may
not continue to distribute and promote our games in the same
manner as a result of our ownership of GameHouse.
Mr. Goodliving faces intense competition from a wide
variety of mobile game developers and publishers, many of which
are larger and devote substantially more resources to the mobile
games business than we do. We also recently acquired Zylom, a
developer and distributor of casual PC games in Europe.
Combining Zyloms European business with our European games
business could result in cannibalization of customer revenue and
in developers distributing their games through alternative
sources.
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We may not be successful in the market for downloadable
media and personal music management software. |
The market for software products that enable the downloading of
media and personal music management software is still evolving
and we may be unable to develop a revenue model or sufficient
demand to take advantage of this market opportunity. We cannot
predict whether consumers will adopt or maintain our media
player products as their primary application to play, record,
download and manage their digital music, especially in light of
the fact that Microsoft bundles its competing Windows Media
Player with its Windows operating system. Our inability to
achieve or maintain widespread acceptance for our digital music
architecture or widespread distribution of our player products
could hold back the development of revenue streams from these
market segments, including digital music content, and therefore
could harm the prospects for our business.
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Our consumer businesses depend upon effective digital
rights management solutions. |
Our consumer businesses depend upon effective digital rights
management solutions that control of accessibility to digital
content. These solutions are important to address concerns of
content providers regarding online piracy. We cannot be certain
that we can develop, license or acquire such solutions, or that
content licensors, electronic device makers or consumers will
accept them. In addition, consumers may be unwilling to accept
the use of digital rights management technologies that limit
their use of content, especially with large amounts of free
content readily available. If digital rights management
solutions are not effective, or are perceived as not effective,
content providers may not be willing to include
13
content in our services, which would harm our business and
operating results. If our digital rights management technology
is compromised or otherwise malfunctions, we could be subject to
lawsuits seeking compensation for any harm caused and our
business could be harmed.
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Our Harmony Technology may not achieve consumer or market
acceptance. |
Our Harmony technology enables consumers to securely transfer
purchased music to portable digital music devices, including
certain versions of the market leading iPod line of digital
music players made by Apple Computer, as well as certain devices
that use Microsoft Windows Media DRM. Harmony is designed to
enable consumers to transfer music purchased from our RealPlayer
Music Store to a wide variety of portable music devices, rather
than being restricted to a specific portable device. We do not
know whether consumers will accept Harmony or whether it will
lead to increased sales of any of our consumer products or
services or increased usage of our media player products. There
are other risks associated with our Harmony technology,
including the risk that Apple will continue to modify its
technology to break the interoperability that
Harmony provides to consumers, which Apple has done in
connection with the release of certain new products. This could
result in substantial costs or lower customer satisfaction.
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The success of our music services depend, in part, on
interoperability with our customers music playback
hardware. |
In order for our digital music services to continue to grow we
must design services that interoperate effectively with a
variety of hardware products, including home stereos, car
stereos, portable digital audio players, mobile handsets and
PCs. We depend on significant cooperation with manufacturers of
these products and with software manufacturers that create the
operating systems for such hardware devices to achieve our
objectives. To date, Apple has not agreed to design its popular
iPod line of portable digital audio players to function with our
music services and users of our music services must rely on our
Harmony technology for interoperability with iPods. If we cannot
successfully design our service to interoperate with the music
playback devices that our customers own, either through
relationships with manufacturers or through our Harmony
technology, our business will be harmed.
Risks Related to Our Business Products and Services
Business
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Our system software business has been negatively impacted
by the effects of our competitors and our recent settlement
agreement with Microsoft may not improve our sales of our system
software products. |
We believe that our system software sales have been negatively
impacted primarily by the competitive effects of Microsoft,
which markets and often bundles its competing technology with
its market leading operating systems and server software. In
December 2003, we filed suit against Microsoft in
U.S. District Court to redress what we believed were
illegal, anticompetitive practices by Microsoft. On
October 11, 2005, we entered into a settlement agreement
with Microsoft regarding these claims and we also entered into
two commercial agreements related to our digital music and
casual games businesses. Although the settlement agreement
contains a substantial cash payment to us and a series of
technology agreements between the two companies, Microsoft will
continue to be an aggressive competitor with our systems
software business. We cannot be sure if the parts of the
settlement agreement designed to limit Microsofts ability
to leverage its market power will be effective and we cannot
predict when, or if, we will experience increased demand for our
system software products.
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Our Helix open source initiative is subject to risks
associated with open source technology. |
There are a number of risks associated with our Helix Community
initiative, including risks associated with market and industry
acceptance, development processes and software licensing
practices, and business models. The broader media technology and
product industry may not adopt the Helix DNA Platform and/or the
Helix Community as a development platform for media delivery and
playback products and third parties may not enhance, develop or
introduce technologies or products based on Helix
DNA technology. While we have invested substantial
resources in the development of the underlying technology within
the Helix DNA technology and the Helix Community process itself,
the market and industry may not accept them and we may not
derive royalty or support revenue from them. The introduction of
the Helix DNA Platform open source and community source
licensing schemes may adversely affect sales of our commercial
system software products to mobile operators, broadband
providers, corporations, government agencies, educational
institutions and other business and non-business organizations.
In those areas where adoption of the Helix Community and Helix
DNA occurs, our community and open source approach means that we
no longer exercise sole control over many aspects of the
development of the Helix DNA technology.
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Sales of our commercial system products could be
negatively affected by open source technologies. |
Competitive technologies to our commercial system software
products have been made available under open source license
terms. The introduction of such technologies under broadly
available open source software license terms may adversely
affect sales of our commercial system software products to
mobile operators, broadband providers, corporations, government
agencies, educational institutions and other business
organizations.
Risks Related to Our Business in General
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We have a history of losses, and we cannot be sure that we
will be able to sustain profitability in the future. |
With the exception of 2005, we have incurred losses in every
year since our inception. The substantial profit in 2005 was
primarily related to cash payments from Microsoft related to our
antitrust litigation settlement and commercial agreements. Due
to our cost structure, we may not generate sufficient revenue to
be profitable on a quarterly or annual basis in the future.
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Our operating results are difficult to predict and may
fluctuate, which may contribute to fluctuations in our stock
price. |
As a result of the rapidly changing markets in which we compete,
our operating results may fluctuate from
period-to-period. In
past periods, our operating results have been affected by
personnel reductions and related charges, charges relating to
losses on excess office facilities, and impairment charges for
certain of our equity investments. Our operating results may be
adversely affected by similar or other charges or events in
future periods, which could cause the trading price of our stock
to decline. Certain of our expense decisions (for example,
research and development and sales and marketing efforts) are
based on predictions regarding our business and the markets in
which we compete. To the extent that these predictions prove
inaccurate, our revenue may not be sufficient to offset these
expenditures, and our operating results may be harmed.
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Our settlement agreement with Microsoft may not improve
our business prospects. |
In 2003, we filed suit against Microsoft Corporation in the
U.S. District Court for the Northern District of
California, alleging that Microsoft violated U.S. and California
antitrust laws. In our lawsuit, we alleged that Microsoft had
illegally used its monopoly power to restrict competition, limit
consumer choice and attempt to monopolize the field of digital
media. On October 11, 2005, we entered into a settlement
agreement with Microsoft regarding these claims and we also
entered into two commercial agreements with Microsoft related to
our digital music and casual games businesses. The settlement
agreement
15
consists of a series of substantial cash payments to us and a
series of technology agreements between the two companies. We
cannot be sure that we will be able to apply the proceeds of the
settlement in a way that will improve our operating results or
otherwise increase the value of our shareholders
investments in our stock. Under the music and games agreements,
Microsoft is scheduled to pay us approximately $301 million
over a period of eighteen months. Microsoft can earn credits at
pre-determined market rates for subscribers and users delivered
to us through marketing and promotional efforts of its MSN
network of websites, which will be applied against the quarterly
contractual payments in the music agreement. The rate at which
Microsoft may deliver subscribers and users to us and the rate
at which Microsoft may earn the related credits is unpredictable
and we do not know whether these agreements will have a
substantial impact on our music and games businesses. In
addition, our music and games agreements are fixed-term
arrangements that require joint collaborative efforts to be
successful and may not result in a sustainable favorable impact
on our business or financial results during or beyond the term
of the agreements.
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Our products and services must compete with the products
and services of strong or dominant competitors. |
Our software and services must compete with strong existing
competitors, and new competitors may enter with competitive new
products, services and technologies. These market conditions
have in the past resulted in, and could likely continue to
result in the following consequences, any of which could
adversely affect our business, our operating results and the
trading price of our stock:
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reduced prices, revenue and margins; |
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increased expenses in responding to competitors; |
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loss of current and potential customers, market share and market
power; |
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lengthened sales cycles; |
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degradation of our stature in the market and reputation; |
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changes in our business and distribution and marketing
strategies; |
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changes to our products, services, technology, licenses and
business practices, and other disruption of our operations; |
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strained relationships with partners; and |
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pressure to prematurely release products or product enhancements. |
Many of our current and potential competitors have longer
operating histories, greater name recognition, more employees
and significantly greater resources than we do. Our competitors
across the breadth of our product lines include a number of
large and powerful companies, such as Microsoft, Apple Computer,
and Yahoo!. Some of our competitors have in the past and may in
the future enter into collaborative arrangements with each other
that enable them to better compete with our business.
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Microsoft is one of our strongest competitors, and employs
highly aggressive tactics against us. |
Microsoft is one of our principal competitors in the development
and distribution of digital media and media distribution
technology. Microsofts market power in related markets
such as personal computer operating systems, office software
suites and web browser software give it unique advantages in the
digital media markets. Despite our settlement of our antitrust
litigation with Microsoft, we expect that Microsoft will
continue to compete vigorously in the digital media markets in
the future. Microsofts dominant position in certain parts
of the computer and software markets, and its aggressive
activities have had, and in the future will likely continue to
have, adverse effects on our business and operating results.
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Any development delays or cost overruns may affect our
operating results. |
We have experienced delays and cost overruns in our development
efforts in the past and we may encounter such problems in the
future. Delays and cost overruns could affect our ability to
respond to
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technological changes, evolving industry standards, competitive
developments or customer requirements. Also, our products may
contain undetected errors that could cause increased development
costs, loss of revenue, adverse publicity, reduced market
acceptance of our products or services or lawsuits by customers.
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Our business is dependent in part on third party vendors
whom we do not control. |
Certain of our products and services are dependent in part on
the licensing and incorporation of technology from third party
vendors. If the technology of these vendors fails to perform as
expected or if a key vendor does not continue to support its
technology, then we may incur substantial costs in replacing the
products and services, or we may fall behind in our development
schedule while we search for a replacement. These costs or the
potential delay in the development of our products and services
could harm our business and our prospects.
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If our products are not able to support the most popular
digital media formats, our business will be substantially
impaired. |
We may not be able to license technologies, like codecs or
digital rights management technology, that obtain widespread
consumer and developer use, which would harm consumer and
developer acceptance of our products and services. In addition,
our codecs and formats may not continue to be in demand or as
desirable as other third party codecs and formats, including
codecs and formats created by Microsoft or industry standard
formats created by MPEG.
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Our mobile digital media products and services are new and
innovative and might not be successful. |
Mobile operators may select technology from our competitors or
our mobile consumer services might not generate significant
revenue. In order for our investments in the development of
mobile products to be successful, consumers must adopt and use
mobile devices for consumption of digital media and utilize our
products and services. To date, consumers have not widely
adopted these mobile digital media products and services.
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We depend on key personnel who may not continue to work
for us. |
Our success depends on the continued employment of certain
executive officers and key employees, particularly Robert
Glaser, our founder, Chairman of the Board and Chief Executive
Officer. The loss of the services of Mr. Glaser or other
key executive officers or employees could harm our business. If
any of these individuals were to leave, we could face
substantial difficulty in hiring qualified successors and could
experience a loss in productivity while any such successor
obtains the necessary training and experience. If we do not
succeed in retaining and motivating existing personnel, our
business and prospects could be harmed.
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Our industry is experiencing consolidation that may cause
us to lose key relationships and intensify competition. |
The Internet and media distribution industries are undergoing
substantial change, which has resulted in increasing
consolidation and formation of strategic relationships.
Acquisitions or other consolidating transactions could harm us
in a number of ways, including:
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the loss of strategic relationships if our strategic partners
are acquired by or enter into relationships with a competitor
(which could cause us to lose access to distribution, content,
technology and other resources); |
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the loss of customers if competitors or users of competing
technologies consolidate with our current or potential
customers; and |
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our current competitors could become stronger, or new
competitors could form, from consolidations. |
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Any of these events could put us at a competitive disadvantage,
which could cause us to lose customers, revenue and market
share. Consolidation in our industry, or in related industries
such as broadband carriers, could force us to expend greater
resources to meet new or additional competitive threats, which
could also harm our operating results.
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Potential acquisitions involve risks that could harm our
business and impair our ability to realize potential benefits
from acquisitions. |
As part of our business strategy, we have acquired technologies
and businesses in the past, and expect that we will continue to
do so in the future. The failure to adequately address the
financial, legal and operational risks raised by acquisitions of
technology and businesses could harm our business and prevent us
from realizing the benefits of the acquisitions. Financial risks
related to acquisitions may harm our financial position,
reported operating results or stock price.
Acquisitions also involve operational risks that could harm our
existing operations or prevent realization of anticipated
benefits from an acquisition. These operational risks include:
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difficulties and expenses in assimilating the operations,
products, technology, information systems or personnel of the
acquired company and difficulties in retaining key management or
employees of the acquired company; |
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entrance into unfamiliar markets or industry segments; |
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impairment of relationships with employees, affiliates,
advertisers or content providers of our business or the acquired
business; and |
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the assumption of known and unknown liabilities of the acquired
company, including intellectual property claims. |
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Our recent acquisitions create unique challenges for us
and if we fail to integrate and successfully operate the
acquired companies, our business will be harmed. |
We acquired Listen in 2003 and the operations associated with
Listen have remained in San Francisco. This is our first
experience operating and integrating a substantial acquired
business in a remote location. We also acquired GameHouse in
2004, Mr. Goodliving in 2005 and Zylom in 2006. The
acquisition of GameHouse is our first attempt to operate and
manage a content creation business and we may not be successful
in operating this type of business. Mr. Goodliving is a
game developer and also competes in the mobile games market
which is a new business for us and is a highly competitive
market. No assurance can be made that we will be able to
leverage Mr. Goodlivings European assets and
distribution network to compete successfully in the global
mobile games market.
Our two most recent acquisitions, Mr. Goodliving and Zylom,
are based in Europe. These acquisitions represent our first
attempts at acquiring and integrating businesses abroad.
Mr. Goodliving is located in Finland and Zylom is located
in the Netherlands. We have no prior experience in managing
businesses in these countries and in certain cases we will have
to adjust our operating procedures to conform to local cultural
and legal issues, many of which are unfamiliar to us. No
assurance can be made that we will be able to successfully
manage businesses in these countries.
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Acquisition-related costs could cause significant
fluctuation in our net income (loss). |
Previous acquisitions have resulted in significant expenses,
including amortization of purchased technology, charges for
in-process research and development and amortization of acquired
identifiable intangible assets, which are reflected in our
operating expenses. New acquisitions and any potential future
impairment of the value of purchased assets could have a
significant negative impact on our future operating results.
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Our strategic investments may not be successful and we may
have to recognize expenses in our income statement in connection
with these investments. |
We have made, and in the future we may continue to make,
strategic investments in other companies, including joint
ventures. These investments often involve immature and unproven
businesses and technologies, and involve a high degree of risk.
We could lose the entire amount of our investment. We also may
be required to record on our financial statements significant
charges from reductions in the value of our strategic
investments, and, potentially from the net losses of the
companies in which we invest. We have taken these charges in the
past, and these charges could adversely impact our reported
operating results in the future. No assurance can be made that
we will realize the anticipated benefits from any strategic
investment.
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We need to develop relationships and technical standards
with manufacturers of non-PC media and communication devices to
grow our business. |
Access to the Internet through devices other than a personal
computer, such as personal digital assistants, cellular phones,
television set-top devices, game consoles, Internet appliances
and portable music and games devices has increased dramatically
and is expected to continue to increase. Manufacturers of these
types of products are increasingly investing in digital
media-related applications. If a substantial number of
alternative device manufacturers do not license and incorporate
our technology into their devices, we may fail to capitalize on
the opportunity to deliver digital media to non-PC devices which
could harm our business prospects. We do not believe that
complete standards have emerged with respect to non-PC wireless
and cable-based systems and if our technologies are not adopted,
our results could suffer. If we do not successfully make our
products and technologies compatible with emerging standards and
the most popular devices used to access digital media, we may
miss market opportunities and our business and results will
suffer.
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If we are not successful in maintaining, managing and
adding to our strategic relationships, our business and
operating results will be adversely affected. |
We rely on strategic relationships with third parties in
connection with our business, including relationships providing
for content acquisition and distribution of our products. The
loss of current strategic relationships, the inability to find
other strategic partners, our failure to effectively manage
these relationships or the failure of our existing relationships
to achieve meaningful positive results could harm our business.
We may not be able to replace these relationships with others on
acceptable terms, or at all, or find alternative sources for
resources that these relationships provide.
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Our business and operating results will suffer if our
systems or networks fail, become unavailable, unsecure or
perform poorly so that current or potential users do not have
adequate access to our products, services and websites. |
Our ability to provide our products and services to our
customers and operate our business depends on the continued
operation of our information systems and networks. A significant
or repeated reduction in the performance, reliability or
availability of our information systems and network
infrastructure could harm our ability to conduct our business,
and harm our reputation and ability to attract and retain users,
customers, advertisers and content providers. Also, any
compromise of our ability to transmit data securely could damage
our business, hurt our ability to distribute products and
services and collect revenue. We have on occasion experienced
system errors and failures that cause interruption in
availability of products or content or an increase in response
time. Problems with our systems and networks could result from
our failure to adequately maintain and enhance these systems and
networks, natural disasters and similar events, power failures,
intentional actions to disrupt our systems and networks and many
other causes. The vulnerability of our computer and
communications infrastructure is enhanced because it is located
at a single leased facility in Seattle, Washington, an area that
is at heightened risk of earthquake, flood, and volcanic events.
We do not currently have fully redundant systems or a formal
disaster recovery plan, and
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we may not have adequate business interruption insurance to
compensate us for losses that may occur from a system outage.
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We rely on the continued reliable operation of third
parties systems and networks and, if these systems and
networks fail to operate or operate poorly, our business and
operating results will be harmed. |
Our operations are in part dependent upon the continued reliable
operation of the information systems and networks of third
parties. If these third parties do not provide reliable
operation, our ability to service our customers will be impaired
and our business, reputation and operating results could be
harmed.
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Our network is subject to security risks that could harm
our business and reputation and expose us to litigation or
liability. |
Online commerce and communications depend on the ability to
transmit confidential information and licensed intellectual
property securely over private and public networks. Any
compromise of our ability to transmit and store such information
and data securely, and any costs associated with preventing or
eliminating such problems, could damage our business, hurt our
ability to distribute products and services and collect revenue,
threaten the proprietary or confidential nature of our
technology, harm our reputation, and expose us to litigation or
liability. We also may be required to expend significant capital
or other resources to protect against the threat of security
breaches or hacker attacks or to alleviate problems caused by
such breaches or attacks. Any successful attack or breach of our
security could hurt consumer demand for our products and
services, expose us to consumer class action lawsuits and harm
our business.
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The growth of our business is dependent in part on
successfully implementing our international expansion
strategy. |
A key part of our strategy is to develop localized products and
services in international markets through subsidiaries, branch
offices and joint ventures. If we do not successfully implement
this strategy, we may not recoup our international investments
and we may fail to develop or lose worldwide market share. Our
foreign operations involve risks inherent in doing business on
an international level, including difficulties in managing
operations due to distance, language and cultural differences,
different or conflicting laws and regulations and exchange rate
fluctuations. Any of these factors could harm operating results
and financial condition. Our foreign currency exchange risk
management program reduces, but does not eliminate, the impact
of currency exchange rate movements.
In particular, we intend to grow our business in the
Peoples Republic of China (the PRC). The PRC
government regulates our business in the PRC through regulations
and license requirements restricting (i) the scope of
foreign investment in the Internet, retail and delivery sectors,
(ii) Internet content and (iii) the sale of certain
media products. In order to meet the PRC local ownership and
regulatory licensing requirements, our business in the PRC will
be operated through a PRC subsidiary which acts in cooperation
with PRC companies owned by nominee shareholders who are PRC
nationals. Although we believe this structure complies with
existing PRC laws, it involves unique risks. There are
substantial uncertainties regarding the interpretation of PRC
laws and regulations, and it is possible that the PRC government
will ultimately take a view contrary to ours. If any of our PRC
entities were found to be in violation of existing or future PRC
laws or regulations or if interpretations of those laws and
regulations were to change, the business could be subject to
fines and other financial penalties, have its licenses revoked
or be forced to shut down entirely. In addition, if we are
unable to enforce our contractual relationships with respect to
management and control of our PRC business, we might be unable
to continue to operate the business or we may lose the ability
to effectively control the operations of the local PRC company.
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We may be unable to adequately protect our proprietary
rights. |
Our ability to compete partly depends on the superiority,
uniqueness and value of our technology, including both
internally developed technology and technology licensed from
third parties. To protect our
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proprietary rights, we rely on a combination of patent,
trademark, copyright and trade secret laws, confidentiality
agreements with our employees and third parties, and protective
contractual provisions. Despite these efforts, any of the
following occurrences may reduce the value of our intellectual
property:
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Our applications for patents and trademarks relating to our
business may not be granted and, if granted, may be challenged
or invalidated; |
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Issued patents and trademarks may not provide us with any
competitive advantages; |
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Our efforts to protect our intellectual property rights may not
be effective in preventing misappropriation of our technology; |
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Our efforts may not prevent the development and design by others
of products or technologies similar to or competitive with, or
superior to those we develop; or |
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Another party may obtain a blocking patent and we would need to
either obtain a license or design around the patent in order to
continue to offer the contested feature or service in our
products. |
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We may be forced to litigate to defend our intellectual
property rights, or to defend against claims by third parties
against us relating to intellectual property rights. |
Disputes regarding the ownership of technologies and rights
associated with streaming media, digital distribution and online
businesses are common and likely to arise in the future. We may
be forced to litigate to enforce or defend our intellectual
property rights, to protect our trade secrets or to determine
the validity and scope of other parties proprietary
rights. Any such litigation could be very costly and could
distract our management from focusing on operating our business.
The existence and/or outcome of any such litigation could harm
our business.
From time to time we receive claims and inquiries from third
parties alleging that our internally developed technology or
technology we license from third parties may infringe the third
parties proprietary rights, especially patents. Third
parties have also asserted and most likely will continue to
assert claims against us alleging infringement of copyrights,
trademark rights, trade secret rights or other proprietary
rights, or alleging unfair competition or violations of privacy
rights. We are now investigating a number of such pending
claims, some of which are described in Part I of this
report under the heading Legal Proceedings. In
addition, certain of these pending claims are moving closer to
trial and we expect that our potential costs of defending these
claims may increase as we move into the trial phase of the
proceedings. In July 2002, a lawsuit was filed against us in
federal court in Boston, Massachusetts by Ethos Technologies,
Inc., alleging that we willfully infringe certain patents
relating to the downloading of data from a server computer
to a client computer. The court has scheduled that case
for trial beginning in March 2006. We plan to vigorously defend
ourself at trial based upon our belief that the Ethos claims are
meritless. If we are unable to prevail at trial, we may be
required to pay damages and royalties that could affect our
operating results.
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Interpretation of existing laws that did not originally
contemplate the Internet could harm our business and operating
results. |
The application of existing laws governing issues such as
property ownership, copyright and other intellectual property
issues to the Internet is not clear. Many of these laws were
adopted before the advent of the Internet and do not address the
unique issues associated with the Internet and related
technologies. In many cases, the relationship of these laws to
the Internet has not yet been interpreted. New interpretations
of existing laws may increase our costs, require us to change
business practices or otherwise harm our business.
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It is not yet clear how laws designed to protect children
that use the Internet may be interpreted, and such laws may
apply to our business in ways that may harm our business. |
The Child Online Protection Act and the Child Online Privacy
Protection Act impose civil and criminal penalties on persons
distributing material harmful to minors (e.g., obscene material)
over the Internet to persons under the age of 17, or
collecting personal information from children under the age
of 13. We do not knowingly distribute harmful materials to
minors or collect personal information from children under the
age of 13. The manner in which these Acts may be interpreted and
enforced cannot be fully determined, and future legislation
similar to these Acts could subject us to potential liability if
we were deemed to be non-compliant with such rules and
regulations, which in turn could harm our business.
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We may be subject to market risk and legal liability in
connection with the data collection capabilities of our products
and services. |
Many of our products are interactive Internet applications that
by their very nature require communication between a client and
server to operate. To provide better consumer experiences and to
operate effectively, our products send information to our
servers. Many of the services we provide also require that a
user provide certain information to us. We post an extensive
privacy policy concerning the collection, use and disclosure of
user data involved in interactions between our client and server
products. Any failure by us to comply with our posted privacy
policy and existing or new legislation regarding privacy issues
could impact the market for our products and services, subject
us to litigation and harm our business.
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We may be subject to legal liability for the provision of
third-party products, services or content. |
We periodically enter into arrangements to offer third-party
products, services, content or advertising under our brands or
via distribution on our websites or in our products or service
offerings. We may be subject to claims concerning these
products, services, content or advertising by virtue of our
involvement in marketing, branding, broadcasting or providing
access to them. Our agreements with these third parties may not
adequately protect us from these potential liabilities. It is
also possible that, if any information provided directly by us
contains errors or is otherwise negligently provided to users,
third parties could make claims against us, including, for
example, claims for intellectual property infringement.
Investigating and defending any of these types of claims is
expensive, even if the claims do not result in liability. If any
of these claims result in liability, we could be required to pay
damages or other penalties, which could harm our business and
our operating results.
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When we account for employee stock options using the fair
value method, it could significantly reduce our results of
operations. |
In December 2004, the FASB issued SFAS 123 (revised 2004),
Share-Based Payment (SFAS 123R), which requires
a company to recognize, as an expense, the fair value of stock
options and other stock-based compensation beginning in the
quarter ending September 30, 2005. In April 2005, the
Securities and Exchange Commission issued Amendment to
Rule 4-01(a) of
Regulation S-X
Regarding the Compliance Date for Statement of Financial
Accounting Standards No. 123 (Revised 2004), Share Based
Payment, which amends the compliance date with regard to
SFAS 123R to annual periods beginning on or after
June 15, 2005, which will result in our recognizing the
related expense starting in the quarter ending March 31,
2006. We will be required to record an expense for our
stock-based compensation plans using the fair value method as
described in SFAS 123R, which will result in significant
and ongoing accounting charges. Stock options are also a key
part of the compensation packages that we offer our employees.
If we are forced to curtail our broad-based option program due
to these additional charges, it may become more difficult for us
to attract and retain employees.
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We may be subject to assessment of sales and other taxes
for the sale of our products, license of technology or provision
of services. |
We do not currently collect sales or other taxes on the sale of
our products, license of technology or provision of services in
states and countries other than those in which we have offices
or employees. Our business would be harmed if one or more states
or any foreign country were to require us to collect sales or
other taxes from past sales or income related to products,
licenses of technology or provision of services.
Effective July 1, 2003, we began collecting Value Added
Tax, or VAT, on sales of electronically supplied
services provided to European Union residents, including
software products, games, data, publications, music, video and
fee-based broadcasting services. There can be no assurance that
the European Union will not make further modifications to the
VAT collection scheme, the effects of which could require
significant enhancements to our systems and increase the cost of
selling our products and services into the European Union. The
collection and remittance of VAT subjects us to additional
currency fluctuation risks.
The Internet Tax Freedom Act, or ITFA, which Congress extended
until November 2007, among other things, imposed a moratorium on
discriminatory taxes on electronic commerce. The imposition by
state and local governments of various taxes upon Internet
commerce could create administrative burdens for us and could
decrease our future sales.
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We donate a portion of our net income to charity. |
In periods where we achieve profitability, we intend to donate
5% of our annual net income to charitable organizations, which
will reduce our net income for those periods. The non-profit
RealNetworks Foundation manages our charitable giving efforts.
Risks Related to the Securities Markets and Ownership of Our
Common Stock
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Our directors and executive officers beneficially own
approximately one third of our stock, which gives them
significant control over certain major decisions on which our
shareholders may vote, may discourage an acquisition of us, and
any significant sales of stock by our officers and directors
could have a negative effect on our stock price. |
Our executive officers, directors and affiliated persons
beneficially own more than one third of our common stock. Robert
Glaser, our Chief Executive Officer and Chairman of the Board,
beneficially owns the majority of that stock. As a result, our
executive officers, directors and affiliated persons will have
significant influence to:
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elect or defeat the election of our directors; |
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amend or prevent amendment of our articles of incorporation or
bylaws; |
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effect or prevent a merger, sale of assets or other corporate
transaction; and |
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control the outcome of any other matter submitted to the
shareholders for vote. |
Managements stock ownership may discourage a potential
acquirer from making a tender offer or otherwise attempting to
obtain control of RealNetworks, which in turn could reduce our
stock price or prevent our shareholders from realizing a premium
over our stock price.
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Provisions of our charter documents, Shareholder Rights
Plan, and Washington law could discourage our acquisition by a
third party. |
Our articles of incorporation provide for a strategic
transaction committee of the board of directors. Without the
prior approval of this committee, and subject to certain limited
exceptions, the board of directors does not have the authority
to:
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adopt a plan of merger; |
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authorize the sale, lease, exchange or mortgage of assets
representing more than 50% of the book value of our assets prior
to the transaction or on which our long-term business strategy
is substantially dependent; |
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authorize our voluntary dissolution; or |
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take any action that has the effect of any of the above. |
RealNetworks also entered into an agreement providing
Mr. Glaser with certain contractual rights relating to the
enforcement of our charter documents and Mr. Glasers
roles and authority within RealNetworks.
We have adopted a shareholder rights plan that provides that
shares of our common stock have associated preferred stock
purchase rights. The exercise of these rights would make the
acquisition of RealNetworks by a third party more expensive to
that party and has the effect of discouraging third parties from
acquiring RealNetworks without the approval of our board of
directors, which has the power to redeem these rights and
prevent their exercise.
Washington law imposes restrictions on some transactions between
a corporation and certain significant shareholders. The
foregoing provisions of our charter documents, shareholder
rights plan, our agreement with Mr. Glaser, our zero coupon
convertible subordinated notes and Washington law, as well as
our charter provisions that provide for a classified board of
directors and the availability of blank check
preferred stock, could have the effect of making it more
difficult or more expensive for a third party to acquire, or of
discouraging a third party from attempting to acquire, control
of us. These provisions may therefore have the effect of
limiting the price that investors might be willing to pay in the
future for our common stock.
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We are exposed to potential risks from recent legislation
requiring companies to evaluate controls under Section 404
of the Sarbanes-Oxley Act of 2002. |
We have evaluated our internal controls in order to allow
management to report on, and our registered independent public
accounting firm to attest to, our internal controls, as required
by Section 404 of the Sarbanes-Oxley Act of 2002. We have
performed the system and process evaluation and testing required
in an effort to comply with the management certification and
auditor attestation requirements of Section 404. The
requirements and processes associated with Section 404 are
relatively new and still evolving and we cannot be certain that
the measures we have taken will be sufficient to meet the
Section 404 requirements as the guidance and our reporting
environment changes or that we will be able to implement and
maintain adequate controls over financial reporting processes
and reporting in the future. Moreover, we cannot be certain that
the costs associated with such measures will not exceed our
estimates, which could impact our overall level of
profitability. Any failure to meet the Section 404
requirements or to implement required new or improved controls,
or difficulties or unanticipated costs encountered in their
implementation, could cause investors to lose confidence in our
reported financial information or could harm our financial
results, which could have a negative effect on the trading price
of our stock.
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Our stock price has been volatile in the past and may
continue to be volatile. |
The trading price of our common stock has been highly volatile.
For example, during the
52-week period ended
December 31, 2005, the price of our common stock ranged
from $9.08 to $4.65 per share. Our stock price could be
subject to wide fluctuations in response to factors such as
actual or anticipated
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variations in quarterly operating results, changes in financial
estimates, recommendations by securities analysts, changes in
the competitive environment, as well as any of the other risk
factors described above.
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Financial forecasting of our operating results will be
difficult because of the changing nature of our products and
business, and our actual results may differ from
forecasts. |
As a result of the dynamic markets in which we compete, it is
difficult to accurately forecast our operating results and
metrics. Our inability or the inability of the financial
community to accurately forecast our operating results could
result in our reported net income (losses) in a given quarter to
differ from expectations, which could cause a decline in the
trading price of our common stock.
Special Note Regarding Forward-Looking Statements
We have made forward-looking statements in this document, all of
which are subject to risks and uncertainties. When we use words
such as may, anticipate,
expect, intend, plan,
believe, seek and estimate
or similar words, we are making forward-looking statements.
Forward-looking statements include information concerning our
possible or assumed future business success or financial
results. Such forward-looking statements include, but are not
limited to, statements as to our expectations regarding:
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increasing competition for subscribers and purchasers in the
market for the purchase of music online; |
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future competitive activities of online music subscription
services for new subscribers, including Apples efforts to
market and promote its services; |
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increasing competition to our video content services; |
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future competitive activities of Microsoft in the overall market
for digital media and media distribution products and services,
including its ability to distribute more copies of the Windows
Media Player and attract more users and content providers by
tying streaming of digital media into its operating systems and
web browser; |
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anticipated increased cancellation rates of subscribers to our
internet subscription services who we obtain through alternative
marketing channels; |
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increasing competition to our online music services from media
companies, online retailers and Internet portals; |
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increasing competition to our online game distribution business; |
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the growth of our business in China; |
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slowing sequential revenue growth in 2006 of our Consumer
Products and Services; |
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the impact on our gross margins if revenue from our digital
media subscription services continues to grow as a percentage of
our net revenue; |
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the increase of our sales and marketing expenses in dollars and
as a percentage of total net revenue as we grow our consumer
business and shift our marketing efforts to consumer products
and services; |
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potential future charges relating to excess office facilities; |
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the impact of SFAS 123R on our consolidated statement of
operations; |
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our future activities under our stock repurchase programs; |
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future capital needs and expenditures; |
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the future impact of a sudden change in market interest rates on
our operating results and cash flows; and |
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the impact and duration of current litigation in which we are
involved. |
You should note that an investment in our common stock involves
certain risks and uncertainties that could affect our future
business success or financial results. Our actual results could
differ materially from those anticipated in these
forward-looking statements as a result of certain factors,
including those set forth in Risk Factors and
elsewhere in our Annual Report on
Form 10-K.
We believe that it is important to communicate our expectations
to our investors. However, there may be events in the future
that we are not able to predict accurately or over which we have
no control. Before you invest in our common stock, you should be
aware that the occurrence of the events described in the
Risk Factors and elsewhere in our Annual Report on
Form 10-K could
materially and adversely affect our business, financial
condition and operating results. We undertake no obligation to
publicly update any forward-looking statements for any reason,
even if new information becomes available or other events occur
in the future.
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Item 1B. |
Unresolved Staff Comments |
None.
We lease three separate principal properties in the United
States, two of which are located in Seattle, Washington and one
of which is located in San Francisco, California. The lease
for our corporate headquarters, located in Seattle, commenced on
April 1, 1999 and expires on September 30, 2014, with
an option to renew for two five-year periods. At this location
we lease approximately 264,000 square feet at an average
monthly rent of approximately $340,000. At a second location in
Seattle, we lease approximately 133,000 square feet of
office space at an average monthly rent of approximately
$405,000 under a lease that commenced on October 1, 2000
and expires on September 30, 2010. In 2001, we re-evaluated
our facilities requirements and as a result, decided to sublet
all of this office space for the remainder of the term of our
lease. Our lease in San Francisco commenced on
August 4, 2003 in connection with our acquisition of
Listen.Com, Inc. (Listen) and expires on November 30, 2007.
This lease is for approximately 28,750 square feet of
office space at an average monthly rent of approximately
$30,000. We also lease other office space in the United States
and various other countries.
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Item 3. |
Legal Proceedings |
See Notes to Consolidated Financial Statements
Commitments and Contingencies (Note 13C) for
information regarding legal proceedings.
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Item 4. |
Submission of Matters to a Vote of Security Holders |
No matters were submitted to a vote of RealNetworks
shareholders during the fourth quarter of its fiscal year ended
December 31, 2005.
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PART II.
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Item 5. |
Market for Registrants Common Equity, Related
Shareholder Matters and Issuer Purchases of Equity
Securities |
Our common stock has been traded on the Nasdaq National Market
under the symbol RNWK since our initial public
offering in November 1997. There is no assurance that any
quantity of the common stock could be sold at or near reported
trading prices.
The following table sets forth for the periods indicated the
high and low sale prices for our common stock. These quotations
represent prices between dealers and do not include retail
markups, markdowns or commissions and may not necessarily
represent actual transactions.
Year Ended December 31, 2005
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First Quarter
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7.08 |
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5.42 |
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Second Quarter
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7.40 |
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4.85 |
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Third Quarter
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5.95 |
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4.65 |
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Fourth Quarter
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|
|
9.08 |
|
|
|
5.63 |
|
Year Ended December 31, 2004
|
|
|
|
|
|
|
|
|
|
|
High | |
|
Low | |
|
|
| |
|
| |
First Quarter
|
|
$ |
7.14 |
|
|
$ |
5.01 |
|
Second Quarter
|
|
|
6.97 |
|
|
|
5.45 |
|
Third Quarter
|
|
|
7.08 |
|
|
|
4.39 |
|
Fourth Quarter
|
|
|
7.27 |
|
|
|
4.64 |
|
As of February 28, 2006, there were approximately 842
holders of record of our common stock. Most shares of our common
stock are held by brokers and other institutions on behalf of
shareholders. We have not paid any cash dividends.
The information required by this item regarding equity
compensation plans is incorporated by reference to the
information set forth in Part III, Item 12 of this
Form 10-K.
In September 2001, we announced a share repurchase program. Our
Board of Directors authorized the repurchase of up to an
aggregate of $50 million of our outstanding common stock.
We repurchased approximately 9.1 million shares of our
common stock at an average cost of $4.64 per share for an
aggregate value of $42.4 million from the inception of the
program through August 2005. There were no repurchases during
2005 or 2004 related to the September 2001 repurchase program.
In August 2005, our Board of Directors authorized a new share
repurchase program for the repurchase of up to an aggregate of
$75 million of our outstanding common stock, which replaced
the September 2001 program. In November 2005, our Board of
Directors authorized a new share repurchase program for the
repurchase of up to an aggregate of $100 million of our
outstanding common stock, which replaced the August 2005
repurchase program. The repurchases may be made from time to
time, depending on market conditions, share price and other
factors. Repurchases may be made in the open market or through
private transactions, in accordance with Securities and Exchange
Commission requirements. We entered into a Rule 10(b)5-1
plan designed to facilitate the repurchase of the authorized
repurchase amount. In addition, the repurchase program does not
require RealNetworks to acquire a specific number of shares and
may be terminated under certain conditions. During 2005, under
both the August 2005 and November 2005 repurchase programs, we
repurchased approximately 8.6 million shares at an average
cost of $6.29 per share for an aggregate value of
approximately $54.3 million. As of December 31, 2005,
the remaining amount authorized under the November 2005 program
was approximately $76.6 million.
27
|
|
Item 6. |
Selected Financial Data |
The following selected consolidated financial data should be
read in conjunction with Managements Discussion and
Analysis of Financial Condition and Results of Operations
and the Consolidated Financial Statements and Notes to
Consolidated Financial Statements included elsewhere in this
report.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
2003 | |
|
2002 | |
|
2001 | |
|
|
| |
|
| |
|
| |
|
| |
|
| |
|
|
(In thousands, except per share data) | |
Consolidated Statements of Operations Data:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net revenue
|
|
$ |
325,059 |
|
|
$ |
266,719 |
|
|
$ |
202,377 |
|
|
$ |
182,679 |
|
|
$ |
188,905 |
|
Cost of revenue
|
|
|
98,249 |
|
|
|
97,145 |
|
|
|
68,343 |
|
|
|
50,269 |
|
|
|
38,188 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
|
226,810 |
|
|
|
169,574 |
|
|
|
134,034 |
|
|
|
132,410 |
|
|
|
150,717 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Research and development
|
|
|
70,631 |
|
|
|
51,607 |
|
|
|
46,763 |
|
|
|
48,186 |
|
|
|
55,904 |
|
|
Sales and marketing
|
|
|
130,515 |
|
|
|
96,779 |
|
|
|
77,335 |
|
|
|
73,928 |
|
|
|
73,129 |
|
|
General and administrative
|
|
|
50,669 |
|
|
|
31,302 |
|
|
|
21,007 |
|
|
|
19,820 |
|
|
|
20,554 |
|
|
Loss on excess office facilities
|
|
|
|
|
|
|
866 |
|
|
|
7,098 |
|
|
|
17,207 |
|
|
|
22,208 |
|
|
Personnel reduction and related charges
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
3,595 |
|
|
|
3,613 |
|
|
Goodwill amortization, acquisitions charges, and stock-based
compensation(A)
|
|
|
128 |
|
|
|
695 |
|
|
|
1,120 |
|
|
|
1,328 |
|
|
|
40,633 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Subtotal operating expenses
|
|
|
251,943 |
|
|
|
181,249 |
|
|
|
153,323 |
|
|
|
164,064 |
|
|
|
216,041 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Antitrust litigation expenses (benefit), net
|
|
|
(422,500 |
) |
|
|
11,048 |
|
|
|
1,574 |
|
|
|
|
|
|
|
|
|
|
|
Total operating expenses (benefit)
|
|
|
(170,557 |
) |
|
|
192,297 |
|
|
|
154,897 |
|
|
|
164,064 |
|
|
|
216,041 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income (loss)
|
|
|
397,367 |
|
|
|
(22,723 |
) |
|
|
(20,863 |
) |
|
|
(31,654 |
) |
|
|
(65,324 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other income (expense), net
|
|
|
32,176 |
|
|
|
248 |
|
|
|
(444 |
) |
|
|
(727 |
) |
|
|
(13,497 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) before income taxes
|
|
|
429,543 |
|
|
|
(22,475 |
) |
|
|
(21,307 |
) |
|
|
(32,381 |
) |
|
|
(78,821 |
) |
|
Income tax (provision) benefit
|
|
|
(117,198 |
) |
|
|
(522 |
) |
|
|
(144 |
) |
|
|
(5,972 |
) |
|
|
4,058 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss)
|
|
$ |
312,345 |
|
|
$ |
(22,997 |
) |
|
$ |
(21,451 |
) |
|
$ |
(38,353 |
) |
|
$ |
(74,763 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic net income (loss) per share
|
|
$ |
1.84 |
|
|
$ |
(0.14 |
) |
|
$ |
(0.13 |
) |
|
$ |
(0.24 |
) |
|
$ |
(0.47 |
) |
Diluted net income (loss) per share
|
|
$ |
1.70 |
|
|
$ |
(0.14 |
) |
|
$ |
(0.13 |
) |
|
$ |
(0.24 |
) |
|
$ |
(0.47 |
) |
Shares used to compute basic net income (loss) per share
|
|
|
169,986 |
|
|
|
168,907 |
|
|
|
160,309 |
|
|
|
159,365 |
|
|
|
160,532 |
|
Shares used to compute diluted net income (loss) per share
|
|
|
184,161 |
|
|
|
168,907 |
|
|
|
160,309 |
|
|
|
159,365 |
|
|
|
160,532 |
|
28
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
2003 | |
|
2002 | |
|
2001 | |
|
|
| |
|
| |
|
| |
|
| |
|
| |
|
|
(In thousands) | |
Consolidated Balance Sheets data:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash, cash equivalents and short-term investments
|
|
$ |
781,327 |
|
|
$ |
363,621 |
|
|
$ |
373,593 |
|
|
$ |
309,071 |
|
|
$ |
344,509 |
|
Working capital
|
|
|
710,804 |
|
|
|
287,599 |
|
|
|
310,679 |
|
|
|
248,400 |
|
|
|
285,279 |
|
Total assets
|
|
|
1,112,997 |
|
|
|
602,502 |
|
|
|
580,939 |
|
|
|
462,101 |
|
|
|
567,860 |
|
Convertible debt
|
|
|
100,000 |
|
|
|
100,000 |
|
|
|
100,000 |
|
|
|
|
|
|
|
|
|
Shareholders equity
|
|
|
841,733 |
|
|
|
380,805 |
|
|
|
366,486 |
|
|
|
349,765 |
|
|
|
464,879 |
|
|
|
(A) |
For the years ended December 31, 2005, 2004, 2003 and 2002,
this amount includes only stock-based compensation. As of
January 1, 2002, the Company adopted new accounting
standard SFAS 142, which requires that goodwill no longer
be amortized but instead tested at least annually for impairment. |
|
|
Item 7. |
Managements Discussion and Analysis of Financial
Condition and Results of Operations |
The discussion in this report contains forward-looking
statements that involve risks and uncertainties.
RealNetworks actual results could differ materially from
those discussed below. Factors that could cause or contribute to
such differences include, but are not limited to, those
identified below, and those discussed in the section titled
Risk Factors included elsewhere in this Report. You
should also carefully review the risk factors set forth in other
reports or documents that RealNetworks files from time to time
with the Securities and Exchange Commission, particularly
Quarterly Reports on
Form 10-Q and any
Current Reports on
Form 8-K. You
should also read the following discussion and analysis in
conjunction with our consolidated financial statements and
related notes included in this report.
Overview
RealNetworks is a leading creator of digital media services and
software, such as Rhapsody, RealArcade and RealPlayer. Consumers
use our services and software to find, play, purchase and manage
free and premium digital content, including music, games and
video. Broadcasters, network operators, media companies and
enterprises use our products and services to create, secure and
deliver digital media to PCs, mobile phones and other consumer
electronics devices.
Over the last several years, we have focused on the development
of our consumer businesses through both internal initiatives and
strategic acquisitions of businesses and technologies. These
efforts have resulted in increases in the number of subscribers
to our music and games subscription offerings and increased
sales of our digital music and games content. This shift in
focus and the increases in subscribers and sales of digital
media content have resulted in a significantly higher percentage
of our total revenue arising from our consumer businesses. Our
Consumer Products and Services segment accounted for
approximately 86% of our total revenue in 2005. In addition, we
have increased our focus on our
free-to-consumer
products and services, such as Rhapsody 25, our
Rhapsody.com website and our RealArcade game service, which
generate advertising revenue and are designed to increase the
exposure of our paid digital music and games products and
services to consumers.
Our Business Products and Services revenue declined in 2005 from
2004 and in 2004 from 2003. We believe that the reduction in
sales in our Business Products and Services segment in 2005, and
in recent periods generally, was caused primarily by
Microsofts practice of bundling its competing Windows
Media Player and server software for free with its Windows
operating system products. In response to these business
practices, we filed suit against Microsoft in the
U.S. District Court for the Northern District of California
in 2003, pursuant to U.S. and California antitrust laws, seeking
monetary and injunctive relief to
29
remedy these violations. On October 11, 2005, we entered
into a Settlement Agreement with Microsoft resolving all of our
antitrust disputes worldwide as more fully described below.
In 2005, we recorded the highest total revenue in our history
due to the significant growth in our Consumer Products and
Services segment. This growth was driven primarily by our focus
on direct marketing programs for our consumer businesses and the
impact of our distribution relationships. Our consumer business
was also favorably impacted by the introduction of new marketing
strategies. In addition, revenue in our Media Properties
business (which consists primarily of revenue from the
distribution of third party products and advertising on our web
properties that are not related to our music and games
businesses) grew at a higher rate than the rest of our business
as we benefited from favorable market conditions for Internet
advertising on our websites and we generated increased revenue
from third party distribution relationships, particularly our
agreement with Google to distribute a version of Googles
toolbar product.
Although our total revenue for 2005 grew approximately 22% over
2004, our quarterly revenue growth rate slowed in the second
half of the year. We believe our sequential revenue growth
declined in the second half of 2005 principally because of:
(1) a decline in revenue from our video business as we
shifted our focus to our music and games businesses which we
believe represents higher growth opportunities for us;
(2) the expiration of a long-term legacy systems license
agreement in our Business Products and Services segment which
was substantially completed in the second quarter of 2005; and
(3) slowing growth of our premium music subscription
service revenue arising primarily from: (i) intense and
increasing competition in the digital music business;
(ii) a shift in the focus of our marketing and promotion
efforts to our
free-to-consumer
products; and (iii) customer cancellations to our
subscription services. We also believe that our music business
has been negatively impacted by the lack of a compelling
portable device solution for our music subscription services
which limits the size of the market for our services and has led
to lower overall customer satisfaction and higher cancellation
rates.
On October 11, 2005, we entered into an agreement to settle
all of our antitrust disputes worldwide with Microsoft. Upon
settlement of the legal disputes, we also entered into two
commercial agreements with Microsoft that provide for
collaboration in digital music and casual games. The combined
contractual payments to be made by Microsoft to us over the
terms of the settlement agreement and the two commercial
agreements is approximately $761.0 million, of which
Microsoft paid $478.0 million to us in 2005 and is
scheduled to deliver an additional $283.0 million in cash
and services to us through 2007 in support of our music and
games businesses. Microsoft can earn credits at pre-determined
market rates for music subscribers and users delivered to us
through its MSN network during the contract period which will be
netted against the quarterly contractual payments in the music
agreement.
We manage our business, and correspondingly report revenue,
based on our two operating segments: Consumer Products and
Services and Business Products and Services.
|
|
|
|
|
Consumer Products and Services primarily includes revenue from:
digital media subscription services such as Rhapsody, RadioPass,
GamePass and SuperPass; sales and distribution of third party
software and services; sales of digital content such as music
and game downloads; sales of premium versions of our RealPlayer
and related products; and advertising. |
|
|
|
Business Products and Services includes revenue from: sales of
our media delivery system software, including Helix system
software and related authoring and publishing tools, both
directly to customers and indirectly through original equipment
manufacturer (OEM) channels; support and maintenance
services that we sell to customers who purchase our software
products; broadcast hosting services; and consulting services we
offer to our customers. |
30
The following table sets forth certain financial data for the
periods indicated as a percentage of total net revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
2003 | |
|
|
| |
|
| |
|
| |
Net revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
License fees
|
|
|
24.9 |
% |
|
|
26.9 |
% |
|
|
30.6 |
% |
|
Service revenue
|
|
|
75.1 |
|
|
|
73.1 |
|
|
|
69.4 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Total net revenue
|
|
|
100.0 |
|
|
|
100.0 |
|
|
|
100.0 |
|
Cost of revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
License fees
|
|
|
10.4 |
|
|
|
10.6 |
|
|
|
4.9 |
|
|
Service revenue
|
|
|
19.8 |
|
|
|
24.0 |
|
|
|
28.9 |
|
|
Loss on content agreement
|
|
|
|
|
|
|
1.8 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cost of revenue
|
|
|
30.2 |
|
|
|
36.4 |
|
|
|
33.8 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
|
69.8 |
|
|
|
63.6 |
|
|
|
66.2 |
|
|
|
|
|
|
|
|
|
|
|
Operating expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Research and development
|
|
|
21.7 |
|
|
|
19.4 |
|
|
|
23.1 |
|
|
Sales and marketing
|
|
|
40.2 |
|
|
|
36.3 |
|
|
|
38.2 |
|
|
General and administrative
|
|
|
15.6 |
|
|
|
11.7 |
|
|
|
10.4 |
|
|
Loss on excess office facilities
|
|
|
|
|
|
|
0.3 |
|
|
|
3.4 |
|
|
Stock-based compensation
|
|
|
|
|
|
|
0.3 |
|
|
|
0.6 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Subtotal operating expenses
|
|
|
77.5 |
|
|
|
68.0 |
|
|
|
75.7 |
|
|
|
|
|
|
|
|
|
|
|
|
Antitrust litigation expenses (benefit), net
|
|
|
(130.0 |
) |
|
|
4.1 |
|
|
|
0.8 |
|
|
|
Total operating expenses (benefit)
|
|
|
(52.5 |
) |
|
|
72.1 |
|
|
|
76.5 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income (loss)
|
|
|
122.2 |
|
|
|
(8.5 |
) |
|
|
(10.3 |
) |
Other income (expense), net
|
|
|
10.0 |
|
|
|
0.1 |
|
|
|
(0.2 |
) |
|
|
|
|
|
|
|
|
|
|
Net income (loss) before income taxes
|
|
|
132.2 |
|
|
|
(8.4 |
) |
|
|
(10.5 |
) |
|
|
|
|
|
|
|
|
|
|
Income tax provision
|
|
|
(36.1 |
) |
|
|
(0.2 |
) |
|
|
(0.1 |
) |
|
|
|
|
|
|
|
|
|
|
Net income (loss)
|
|
|
96.1 |
% |
|
|
(8.6 |
)% |
|
|
(10.6 |
)% |
|
|
|
|
|
|
|
|
|
|
Critical Accounting Policies and Estimates
The preparation of our financial statements requires us to make
estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the
reported amounts of revenue and expenses during the reported
period. Our critical accounting policies and estimates are as
follows:
|
|
|
|
|
Revenue recognition; |
|
|
|
Estimating music publishing rights and music royalty accruals; |
|
|
|
Estimating sales returns and the allowance for doubtful accounts; |
|
|
|
Estimating losses on excess office facilities; |
|
|
|
Determining whether declines in the fair value of investments
are other-than-temporary and estimating fair market value of
investments in privately held companies; |
|
|
|
Valuation of goodwill; |
31
|
|
|
|
|
Accounting for income taxes; and |
|
|
|
Determining the loss on a purchase commitment. |
Revenue Recognition. As described below, significant
management judgments and estimates must be made and used in
connection with the revenue recognized in any accounting period.
Material differences may result in the amount and timing of our
revenue for any period if our management made different
judgments or utilized different estimates.
For software related products and services, we recognize revenue
pursuant to the requirements of Statement of Position
No. 97-2, Software Revenue Recognition
(SOP 97-2), as
amended by Statement of Position No. 98-9, Software
Revenue Recognition with Respect to Certain Arrangements
(SOP 98-9). Under
SOP 97-2, revenue
attributable to an element in a customer arrangement is
recognized when persuasive evidence of an arrangement exists and
delivery has occurred, provided the fee is fixed or
determinable, collectibility is probable and the arrangement
does not require significant customization of the software. Some
of our software arrangements include consulting implementation
services sold separately under consulting engagement contracts.
Consulting revenue from these arrangements is generally
accounted for separately from new software license revenue
because the arrangements qualify as service transactions as
defined in
SOP 97-2. Revenue
for consulting services is generally recognized as the services
are performed.
If we provide consulting services that are considered essential
to the functionality of the software products, both the software
product revenue and services revenue are recognized under
contract accounting in accordance with the provisions of
SOP 81-1, Accounting for Performance of
Construction-Type and Certain Production-Type Contracts.
Revenue from these arrangements is recognized under the
percentage of completion method based on the ratio of direct
labor hours incurred to date to total projected labor hours.
In addition, for transactions not falling under the scope of
SOP 97-2, our
revenue recognition policies are in accordance with Emerging
Issues Task Force Issue
No. 00-21,
Revenue Arrangements with Multiple Deliverables
(EITF 00-21) and
Securities and Exchange Commission (SEC) Staff Accounting
Bulletin 104, Revenue Recognition
(SAB 104).
For all sales, except those completed via credit card
transactions through the Internet, we use either a binding
purchase order or signed agreement, depending on the nature of
the transaction, as evidence of an arrangement. For sales made
via the Internet, we use the customers authorization to
charge their credit card as evidence of an arrangement. Sales
through our distributors are evidenced by a master agreement
governing the relationship together with binding purchase orders
on a transaction-by-transaction basis.
For software license fees in single element arrangements and
multiple element arrangements that do not include customization
or consulting services, delivery typically occurs when the
product is made available to the customer for download or when
products are shipped to the customer. For service and
advertising revenue, delivery typically occurs as the services
are being performed.
At the time of each transaction, we assess whether the fee
associated with our revenue transaction is fixed and
determinable and whether or not collection is probable. We
assess whether the fee is fixed and determinable based on the
payment terms associated with the transaction. If a significant
portion of a fee is due after our normal payment terms or is
subject to refund, we consider the fee to not be fixed and
determinable. In these cases, we defer revenue and recognize it
when it becomes due and payable.
We assess the probability of collection based on a number of
factors, including past transaction history with the customer
and the current financial condition of the customer. We do not
request collateral from our customers but often require payments
before or at the time products and services are delivered. If we
determine that collection of a fee is not probable, we defer
revenue until the time collection becomes probable, which is
generally upon receipt of cash.
For multiple element arrangements, when company-specific
objective evidence of fair value exists for all of the
undelivered elements of the arrangement, but does not exist for
one or more of the delivered
32
elements in the arrangement, we recognize revenue under the
residual method. Under the residual method, at the outset of the
arrangement with a customer, we defer revenue for the fair value
of the arrangements undelivered elements such as product
support and upgrades, and recognize the revenue for the
remainder of the arrangement fee attributable to the elements
initially delivered, such as software licenses, when the
criteria in
SOP 97-2 have been
met. Company-specific objective evidence is established for
support and upgrades of standard products for which no
installation or customization is required based upon the amounts
we charge when support and upgrades are sold separately. For
multiple element arrangements involving installation or
customization, company-specific objective evidence is
established for support and upgrade arrangements if our
customers have an optional renewal rate specified in the
arrangement and the rate is substantive. For software license
fees in single element arrangements such as consumer software
sales and music copying or burning, revenue
recognition typically occurs when the product is made available
to the customer for download or when products are shipped to the
customer, or in the case of music burns, when the burn occurs.
If Company-specific objective evidence does not exist for an
undelivered element in a software arrangement, which may include
distribution or other term-based arrangements in which the
license fee includes support during the arrangement term,
revenue is recognized over the term of the support period
commencing upon delivery of our technology to the customer.
Revenue from software license agreements with OEMs is recognized
when the OEM delivers its product incorporating our software to
the end user. In the case of prepayments received from an OEM,
we typically recognize revenue based on the actual products sold
by the OEM. If we provide ongoing support to the OEM in the form
of future upgrades, enhancements or other services over the term
of the contract, all of the revenue under the arrangement is
generally recognized ratably over the term of the contract.
Service revenue include payments under support and upgrade
contracts, SuperPass and Rhapsody subscription services,
consulting services and streaming media content hosting. Support
and upgrade revenue is recognized ratably over the term of the
contract, which typically is twelve months. Media subscription
service revenue is recognized ratably over the period that
services are provided. Fees generated from advertising are
recognized as advertising is delivered over the term of the
contract. Other service revenue is recognized as the services
are performed.
Music Publishing Rights and Music Royalty Accruals. We
must make estimates of our music publishing rights and music
royalties owed for our domestic and international music
services. Material differences may result in the amount and
timing of our expense for any period if our management made
different judgments or utilized different estimates. Under
copyright law, we may be required to pay licensing fees for
digital sound recordings and compositions we deliver. Copyright
law generally does not specify the rate and terms of the
licenses, which are determined by voluntary negotiations among
the parties or, for certain compulsory licenses where voluntary
negotiations are unsuccessful, by arbitration. There are certain
geographies and agencies for which we have not yet completed
negotiations with regard to the royalty rate to be applied to
our current or historic sales of our digital music offerings.
Our estimates are based on contracted or statutory rates, when
established, or managements best estimates based on facts
and circumstances regarding the specific music services and
agreements in similar geographies or with similar agencies.
While the Company bases its estimates on historical experience
and on various other assumptions that management believes to be
reasonable under the circumstances, actual results may differ
materially from these estimates under different assumptions or
conditions.
Sales Returns and the Allowance for Doubtful Accounts. We
must make estimates of potential future product returns related
to current period revenue. We analyze historical returns,
current economic trends, and changes in customer demand and
acceptance of our products when evaluating the adequacy of the
sales returns and other allowances. Similarly, we must make
estimates of the uncollectibility of our accounts receivables.
We specifically analyze the age of accounts receivable and
analyze historical bad debts, customer credit-worthiness and
current economic trends when evaluating the adequacy of the
allowance for doubtful accounts. Significant judgments and
estimates must be made and used in connection with establishing
allowances for sales returns and the allowance for doubtful
accounts in any
33
accounting period. Material differences may result in the amount
and timing of our revenue for any period if we were to make
different judgments or utilize different estimates.
Accrued Loss On Excess Office Facilities. We have made
significant estimates in determining the appropriate amount of
accrued loss on excess office facilities. If we made different
estimates, our loss on excess office facilities would be
significantly different from that recorded, which could have a
material impact on our operating results. We have revised our
original estimate three times, increasing the accrual for loss
on excess office facilities each time. The first two revisions
were the result of changes in the market for commercial real
estate where we operate. The third revision, which took place in
2003, was the result of adding an additional tenant at a
sublease rate lower than the rate used in previous estimates. If
the market for such space declines further in future periods or
if we are unable to sublease the space based on our current
estimates, we may have to revise our estimates, which may result
in additional losses on excess office facilities. The
significant factors we considered in making our estimates are
discussed in the section entitled Loss on Excess Office
Facilities.
Impairment of Investments. As part of the process of
preparing our consolidated financial statements we periodically
evaluate whether any declines in the fair value of our
investments are other-than-temporary. Significant judgments and
estimates must be made to assess whether an other-than-temporary
decline in fair value of investments has occurred and to
estimate the fair value of investments in privately held
companies. See Other Income (Expense), Net in the
following pages for a discussion of the factors we considered in
evaluating whether declines in fair value of our investments
were other-than-temporary and the factors we considered in
estimating the fair value of investments in private companies.
Valuation of Goodwill. We assess the impairment of
goodwill on an annual basis or whenever events or changes in
circumstances indicate that the fair value of the reporting unit
to which goodwill relates is less than the carrying value.
Factors we consider important which could trigger an impairment
review include the following:
|
|
|
|
|
poor economic performance relative to historical or projected
future operating results; |
|
|
|
significant negative industry, economic or company specific
trends; |
|
|
|
changes in the manner of our use of the assets or the plans for
our business; and |
|
|
|
loss of key personnel. |
If we were to determine that the fair value of a reporting unit
was less than its carrying value, including goodwill, based upon
the annual test or the existence of one or more of the above
indicators of impairment, we would measure impairment based on a
comparison of the implied fair value of reporting unit goodwill
with the carrying amount of goodwill. The implied fair value of
goodwill is determined by allocating the fair value of a
reporting unit to its assets (recognized and unrecognized) and
liabilities in a manner similar to a purchase price allocation.
The residual fair value after this allocation is the implied
fair value of reporting unit goodwill. To the extent the
carrying amount of reporting unit goodwill is greater than the
implied fair value of reporting unit goodwill, we would record
an impairment charge for the difference. Judgment is required in
determining what our reporting units are for the purpose of
assessing fair value compared to carrying value. There were no
impairment charges for goodwill in 2005, 2004, or 2003.
Accounting for Income Taxes. We use the asset and
liability method of accounting for income taxes. Under this
method, income tax expense is recognized for the amount of taxes
payable or refundable for the current year. In addition,
deferred tax assets and liabilities are recognized for the
expected future tax consequences of temporary differences
between the financial reporting and tax bases of assets and
liabilities, and for operating losses and tax credit
carryforwards. Deferred tax assets and liabilities and operating
loss and tax credit carryforwards are measured using enacted tax
rates expected to apply to taxable income in the years in which
those temporary differences and operating loss and tax credit
carryforwards are expected to be recovered or settled. A
valuation allowance is established when necessary to reduce
deferred tax assets to the amount to be expected to be realized.
Management must make
34
assumptions, judgments and estimates to determine our current
provision for income taxes, our deferred tax assets and
liabilities and any valuation allowance to be recorded against a
deferred tax asset. Our judgments, assumptions and estimates
relative to the current provision for income tax take into
account current tax laws, our interpretation of current tax laws
and possible outcomes of future audits conducted by foreign and
domestic tax authorities. Changes in tax law or our
interpretation of tax laws and future tax audits could
significantly impact the amounts provided for income taxes in
our consolidated financial statements.
We must periodically assess the likelihood that our deferred tax
assets will be recovered from future taxable income, and to the
extent that recovery is not likely, a valuation allowance must
be established. The establishment of a valuation allowance and
increases to such an allowance result in either increases to
income tax expense or reduction of income tax benefits in the
statement of operations. Factors we consider in making such an
assessment include, but are not limited to, past performance and
our expectation of future taxable income, macro-economic
conditions and issues facing our industry, existing contracts,
our ability to project future results and any appreciation of
our investments and other assets.
As of December 31, 2004, our net deferred tax assets of
$256 million were reduced to zero by a full valuation
allowance. In 2005, we reduced our valuation allowance by
$220 million, as we determined at year-end that it is more
likely than not that the results of our future operations, as a
result of the settlement with Microsoft, will generate
sufficient taxable income to realize certain of our deferred tax
assets. As of December 31, 2005, we continue to have a
valuation allowance of $36.2 million relating primarily to
net operating losses that are restricted under Internal Revenue
Code Section 382, and losses not yet realized for tax
purposes on certain equity investments.
Determining the loss on a purchase commitment. We may
from time-to-time enter
into purchase commitments that commit us to the purchase of
certain products and services. We periodically evaluate, based
on market conditions, product plans and other factors, the
future benefit of these purchase commitments. If it is
determined that the purchase commitments do not have a future
benefit, then a reserve is established for the amount of the
commitment in excess of the estimated future benefit.
Significant judgments and estimates must be made to determine
such reserves.
Revenue by Segment
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005 | |
|
Change | |
|
2004 | |
|
Change | |
|
2003 | |
|
|
| |
|
| |
|
| |
|
| |
|
| |
|
|
(Dollars in thousands) | |
Consumer products and services
|
|
$ |
279,964 |
|
|
|
28 |
% |
|
$ |
218,343 |
|
|
|
52 |
% |
|
$ |
144,114 |
|
Business products and services
|
|
|
45,095 |
|
|
|
(7 |
) |
|
|
48,376 |
|
|
|
(17 |
) |
|
|
58,263 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total net revenue
|
|
$ |
325,059 |
|
|
|
22 |
% |
|
$ |
266,719 |
|
|
|
32 |
% |
|
$ |
202,377 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005 | |
|
2004 | |
|
2003 | |
|
|
| |
|
| |
|
| |
|
|
(As a percentage of | |
|
|
total net revenue) | |
Consumer products and services
|
|
|
86 |
% |
|
|
82 |
% |
|
|
71 |
% |
Business products and services
|
|
|
14 |
|
|
|
18 |
|
|
|
29 |
|
|
|
|
|
|
|
|
|
|
|
|
Total net revenue
|
|
|
100 |
% |
|
|
100 |
% |
|
|
100 |
% |
|
|
|
|
|
|
|
|
|
|
Consumer Products and Services. Consumer Products and
Services revenue is derived from sales of digital media
subscription services, our RealPlayer Plus and other related
products, sales and distribution of third party software
products and services, sales of digital content such as games
and music, and advertising. These products and services are sold
primarily through the Internet, and we charge customers
credit cards at the time of sale. Billing periods for
subscription services typically occur monthly, quarterly or
annually, depending on the service purchased. Consumer Products
and Services revenue increased in the year ended
December 31, 2005 primarily due to: (1) growth in
subscribers and related revenue for our subscription services,
including Rhapsody, RadioPass and GamePass; (2) increased
sales of individual tracks through our Rhapsody music
subscription services and our RealPlayer music store; and
35
(3) increased sales of individual games. Additional factors
contributing to the increase are discussed below in the sections
included within Consumer Products and Services revenue. We
believe the growth in our music and games subscription services
is due in part to the continued shift in our marketing and
promotional efforts to these services as well as product
improvements and increasing consumer acceptance and adoption of
digital media products and services. While revenue related to
our digital media subscription services has increased
substantially on a year-over-year basis, the rate of growth has
fluctuated on a quarterly basis and slowed on a sequential
quarterly basis in the second half of 2005. We cannot predict
with accuracy how these subscription offerings will perform in
the future, at what rate digital media subscription service
revenue will grow, if at all, or the nature or potential impact
of anticipated competition.
The increase in Consumer Products and Services revenue in 2004
was primarily due to: (1) growth in the number of Rhapsody
and RadioPass subscribers and related revenue; (2) revenue
related to the online sale of individual songs through Rhapsody
and the RealPlayer Music Store, which we launched in January
2004; (3) revenue related to third party product
distribution agreements; and (4) growth in revenue related
to our GameHouse product offerings, which we acquired in January
2004. These increases were partially offset by a decrease in
aggregate subscribers to our SuperPass digital media
subscription service and the related decrease in revenue, and
decreases in sales of our premium consumer license products and
third party consumer license products.
Business Products and Services. Business Products and
Services revenue is derived from the licensing of our media
delivery system software, including Helix system software and
related authoring and publishing tools, digital rights
management technology, support and maintenance services that we
sell to customers who purchase these products and broadcast
hosting and consulting services we offer to our customers. These
products and services are primarily sold to corporate,
government and educational customers. We do not require
collateral from our customers, but we often require payment
before or at the time products and services are delivered. Many
of our customers are given standard commercial credit terms, and
for these customers we do not require payment before products
and services are delivered. Business Products and Services
revenue decreased in 2005 due primarily to a decrease in the
revenue recognized related to the expiration of a legacy system
software agreement and a decrease in sales of our system
software to mobile and wireless infrastructure companies. This
decrease was partially offset by an increase in sales of our
system software to OEM customers. We believe that sales of
certain of our business software products were substantially
affected by Microsofts continuing practice of bundling its
competing Windows Media Player and server software for free with
its Windows operating system products. No assurance can be given
when, or if, we will experience increased sales of our Business
Products and Services to customers in these markets.
The decrease in Business Products and Services revenue in 2004
was due primarily to decreases in revenue from certain of our
business software products, including revenue from our OEM
partners. The decrease in revenue was partially offset by an
increase in sales of our system software and services to mobile
and wireless infrastructure companies.
Consumer Products and Services Revenue
A further analysis of our consumer products and services revenue
is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005 | |
|
Change | |
|
2004 | |
|
Change | |
|
2003 | |
|
|
| |
|
| |
|
| |
|
| |
|
| |
|
|
(Dollars in thousands) | |
Music
|
|
$ |
97,524 |
|
|
|
50 |
% |
|
$ |
65,186 |
|
|
|
332 |
% |
|
$ |
15,093 |
|
Video, consumer software and other
|
|
|
95,019 |
|
|
|
(2 |
) |
|
|
96,792 |
|
|
|
(11 |
) |
|
|
108,644 |
|
Games
|
|
|
56,277 |
|
|
|
63 |
|
|
|
34,535 |
|
|
|
184 |
|
|
|
12,162 |
|
Media properties
|
|
|
31,144 |
|
|
|
43 |
|
|
|
21,830 |
|
|
|
166 |
|
|
|
8,215 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total consumer products and services revenue
|
|
$ |
279,964 |
|
|
|
28 |
% |
|
$ |
218,343 |
|
|
|
52 |
% |
|
$ |
144,114 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
36
Music. Music revenue primarily includes revenue from our
Rhapsody and RadioPass subscription services, sales of digital
music content through our Rhapsody service and our RealPlayer
music store, and advertising from our music websites. The
increase in Music revenue in 2005 is due primarily to:
(1) growth in subscribers to our Rhapsody and RadioPass
subscription services; (2) the online sale of individual
tracks through our Rhapsody subscription service and through our
RealPlayer Music Store (sales through our RealPlayer Music Store
began during the quarter ended March 31, 2004); and
(3) the distribution of our radio products through
broadband service providers. We believe the growth of our Music
revenue during 2005 is due primarily to the broader acceptance
of paid online music services and increased focus of our
marketing efforts on our music offerings.
The increase in Music revenue in 2004 was due primarily to the
inclusion and subsequent growth of our Rhapsody service (which
we began selling after we acquired Listen in August 2003) and
the growth of our RadioPass service. We also launched additional
international versions of RadioPass in early 2004, which
contributed to the growth of our Music revenue in 2004. Also,
during the quarter ended March 31, 2004, we began offering
online sales of individual songs through our RealPlayer music
store, which further contributed to revenue growth. We believe
the growth is due primarily to the broader acceptance of paid
online music services and increased focus of our marketing
efforts on our music offerings, including our promotion of our
Harmony technology during the third quarter of 2004, which
enables consumers to transfer secure digital music to a wide
variety of portable music devices. As part of the promotion, we
sold individual songs at a discounted price, which increased our
overall Music revenue and associated cost of sales and reduced
our overall margins.
Video, Consumer Software and Other. Video, consumer
software and other revenue primarily includes revenue from our
SuperPass and stand-alone premium video subscription services,
RealPlayer Plus and related products, sales and distribution of
third-party software products and all advertising other than
that related directly to our Games and Music businesses. The
decreases in revenue in 2005 and 2004 are due primarily to
decreases in revenue from: (1) stand-alone subscription
services; and (2) certain of our premium and third party
consumer license products. The decreases were partially offset
by an increase in revenue from our SuperPass subscription
service, primarily due to price increases introduced in August
2004. We believe that the decrease in revenue related to certain
of our premium and third party consumer license products and
stand-alone subscription services is due primarily to a shift in
our marketing and promotional efforts towards our music and
games subscription services, which we believe represent a
greater growth opportunity for us.
Games. Games revenue primarily includes revenue from the
sale of individual games through our RealArcade service and our
GameHouse website (which we began selling after we acquired
GameHouse in January 2004), revenue from our GamePass
subscription service and advertising through RealArcade and our
games related websites. The increase in revenue in 2005 is due
primarily to: (1) growth in subscribers to our GamePass
subscription service and price increases introduced during the
quarter ended March 31, 2005; (2) increased revenue
related to our GameHouse product offerings (subsequent to our
acquisition of GameHouse in January 2004); (3) increased
revenue related to the sale of individual games through our
RealArcade service and our websites; and (4) increased
revenue from the sale of games for mobile phones. Additionally,
we believe the growth in our Games revenue is due to the
increased focus of our marketing efforts on our Games business
and the addition of new game titles to our RealArcade and
GamePass offerings.
The increase in Games revenue in 2004 was due primarily to an
increase in the number of subscribers and related revenue for
our GamePass subscription service and increased revenue from our
GameHouse product offerings, which we acquired in January 2004.
Additionally, the growth in Games revenue was due to the
increased focus of our marketing efforts on our Games business
and the addition of new game titles to our RealArcade and
GamePass offerings.
Media Properties. Media properties revenue includes
revenue from our distribution of third party products and all
advertising other than that related directly to our Music and
Games businesses. Media properties revenue increased in 2005 and
2004 primarily due to: (1) increased revenue related to
37
advertising through our websites; and (2) an increase in
revenue associated with new and expanded advertising and
distribution relationships, including our agreement with Google
to distribute a version of the Google toolbar.
Geographic Revenue
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005 | |
|
Change | |
|
2004 | |
|
Change | |
|
2003 | |
|
|
| |
|
| |
|
| |
|
| |
|
| |
|
|
(Dollars in thousands) | |
United States
|
|
$ |
249,855 |
|
|
|
23 |
% |
|
$ |
202,574 |
|
|
|
37 |
% |
|
$ |
147,613 |
|
Europe
|
|
|
44,867 |
|
|
|
12 |
|
|
|
40,222 |
|
|
|
25 |
|
|
|
32,106 |
|
Asia
|
|
|
27,916 |
|
|
|
30 |
|
|
|
21,439 |
|
|
|
8 |
|
|
|
19,811 |
|
Rest of the world
|
|
|
2,421 |
|
|
|
(3 |
) |
|
|
2,484 |
|
|
|
(13 |
) |
|
|
2,847 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$ |
325,059 |
|
|
|
22 |
% |
|
$ |
266,719 |
|
|
|
32 |
% |
|
$ |
202,377 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue generated in the United States increased in 2005
primarily due to the growth of our Music and Games businesses
and increased revenue from distribution of third party services.
See Consumer Products and Services Revenue Games
and Music above for further discussion of the changes.
International revenue increased in 2005 primarily due to growth
of our Games business internationally, growth in revenue related
to new and expanded advertising relationships and the launch of
additional localized versions of our international RadioPass
subscription service during 2004. These increases were offset by
a decrease in subscribers and the related revenue in our
SuperPass subscription service. International revenue
represented 23% of total net revenue in 2005, 24% of total net
revenue in 2004, and 27% of total net revenue in 2003. Revenue
generated in Europe was 14% of total net revenue in 2005, 15% of
total net revenue in 2004 and 16% of total net revenue in 2003,
and revenue generated in Asia was 9% of total net revenue in
2005, 8% of total net revenue in 2004, and 10% of total net
revenue in 2003. International revenue decreased as a percentage
of total net revenue in 2005 and 2004 primarily due to
U.S.-based subscription
services revenue growing at a faster rate than international
subscription services revenue. At December 31, 2005,
accounts receivable due from international customers represented
approximately 32% of trade accounts receivable.
The functional currency of our foreign subsidiaries is the local
currency of the country in which the subsidiary operates. We
currently manage a portion of our foreign currency exposures
through the use of foreign currency exchange forward contracts
and therefore are still subject to some risk of changes in
exchange rates. Our foreign currency exchange risk management
program reduces, but does not eliminate, the impact of currency
exchange rate movements. We currently do not hedge a portion of
our foreign currency exposures and therefore are subject to the
risk of changes in exchange rates. The gross margins on domestic
and international revenue are substantially the same.
Revenue
In accordance with SEC regulations, we also present our revenue
based on License Fees and Service Revenue as set forth below.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005 | |
|
Change | |
|
2004 | |
|
Change | |
|
2003 | |
|
|
| |
|
| |
|
| |
|
| |
|
| |
|
|
(Dollars in thousands) | |
License fees
|
|
$ |
80,785 |
|
|
|
13 |
% |
|
$ |
71,706 |
|
|
|
16 |
% |
|
$ |
61,970 |
|
Service revenue
|
|
|
244,274 |
|
|
|
25 |
|
|
|
195,013 |
|
|
|
39 |
|
|
|
140,407 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total net revenue
|
|
$ |
325,059 |
|
|
|
22 |
% |
|
$ |
266,719 |
|
|
|
32 |
% |
|
$ |
202,377 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
38
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005 | |
|
2004 | |
|
2003 | |
|
|
| |
|
| |
|
| |
|
|
(As a percentage of | |
|
|
total net revenue) | |
License fees
|
|
|
25 |
% |
|
|
27 |
% |
|
|
31 |
% |
Service revenue
|
|
|
75 |
|
|
|
73 |
|
|
|
69 |
|
|
|
|
|
|
|
|
|
|
|
|
Total net revenue
|
|
|
100 |
% |
|
|
100 |
% |
|
|
100 |
% |
|
|
|
|
|
|
|
|
|
|
License Fees. License fees primarily include: sales of
content such as game downloads and digital music tracks; sales
of our media delivery system software; revenue from sales of
premium versions of our RealPlayer Plus and related products;
and sales of third-party products. License fees include revenue
from both our Consumer and Business Products and Services
segments. The increase in license fees in 2005 was primarily due
to: (1) increased revenue from the online sale of
individual tracks through our Rhapsody music subscription
service and our RealPlayer Music Store; (2) increased
revenue related to the sale of individual games through our
RealArcade service and our websites, including GameHouse; and
(3) revenue from the sale of individual games for mobile
phones. These increases were partially offset by a decrease in
revenue related to the expiration of a legacy system software
agreement in July 2005, a decrease in sales of our system
software to mobile and wireless infrastructure companies as well
as decreased sales of certain of our premium and third party
consumer license products. See Revenue by
Segment Consumer Products and Services and
Revenue by Segment Business Products and
Services above for further explanation of changes.
The increase in license fees in 2004 was primarily due to:
(1) increased revenue from the online sale of individual
songs through our Rhapsody music subscription service (which we
began selling after we acquired Listen in August 2003) and
through our RealPlayer Music Store, which we launched in January
2004; (2) an increase in revenue related to the sale of
individual games by GameHouse after we completed the acquisition
in January 2004; and (3) increased sales of our system
software to mobile and wireless infrastructure companies. These
increases were partially offset by decreases in revenue from
certain of our business software products, including revenue
from our OEM partners and decreased sales of our premium and
third party consumer license products.
Service Revenue. Service revenue primarily includes
revenue from: digital media subscription services such as
RealOne SuperPass, Rhapsody, RadioPass, GamePass and stand-alone
and add-on subscriptions; support and maintenance services that
we sell to customers who purchase our software products;
broadcast hosting and consulting services that we offer to our
customers; distribution of third party software; and
advertising. Service revenue includes revenue from both our
Consumer and Business Products and Services segments. The
increase in service revenue in 2005 was primarily attributable
to: (1) growth in subscribers to our music and games
subscription services; (2) increased revenue related to our
SuperPass subscription service, due in part to a price increase
in August 2004; (3) increases in the distribution of
certain third party services and the related revenue; and
(4) growth in revenue related to advertising through our
websites. These increases were partially offset by a decrease in
revenue related to sales of stand-alone subscription services.
Our subscription services accounted for approximately
$187.0 million and $148.7 million of service revenue
during 2005 and 2004, respectively. The increases in
subscription revenue are explained in more detail in
Revenue by Segment Consumer Products and
Services above. While revenue related to our digital media
subscription services has increased substantially on a
year-over-year basis, the rate of growth has decreased on a
quarterly basis in recent periods. We anticipate that Consumer
Products and Services sequential revenue growth will slow in
2006, which is discussed further in the Overview of the
Managements Discussion and Analysis of Financial Condition
and Results of Operations.
The increase in service revenue in 2004 was primarily
attributable to growth in aggregate subscribers and revenue
related to our digital media subscription services and an
increase in revenue related to third-party product distribution
agreements, partially offset by decreases in other service
offerings including SuperPass subscription revenue and revenue
from support and upgrade agreements related to our business
software products. Our digital media subscription services
accounted for approximately $148.7 million and
$107.1 million of service revenue during 2004 and 2003,
respectively.
39
Deferred Revenue
Deferred revenue is comprised of the unrecognized revenue
related to unearned subscription services, support contracts,
prepayments under OEM arrangements and other prepayments for
which the earnings process has not been completed. Deferred
revenue at December 31, 2005 was $25.3 million
compared to $30.9 million at December 31, 2004. The
decrease in deferred revenue is primarily due to the expiration
of a legacy systems software agreement in the third quarter of
2005, and more generally, to prepayments received under
contracts occurring at a slower rate than recognition of revenue
on existing contracts in recent periods. The slower rate of
prepayment receipts is due primarily to a decrease in new
contracts in our Business Products and Services segment in
recent periods, which historically represented a significant
portion of deferred revenue. We believe the decrease in new
contracts in our Business Products and Services segment results
primarily from the conditions described in Revenue by
Segment Business Products and Services above.
The decrease in prepayments under contracts was partially offset
by an increase in deferred revenue from our digital media
subscription services and prepayments related to certain of our
advertising customers.
Cost of Revenue by Segment
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005 | |
|
Change | |
|
2004 | |
|
Change | |
|
2003 | |
|
|
| |
|
| |
|
| |
|
| |
|
| |
|
|
(Dollars in thousands) | |
Consumer products and services
|
|
$ |
90,104 |
|
|
|
7 |
% |
|
$ |
83,968 |
|
|
|
38 |
% |
|
$ |
60,726 |
|
Business products and services
|
|
|
8,145 |
|
|
|
(1 |
) |
|
|
8,239 |
|
|
|
8 |
|
|
|
7,617 |
|
Loss on content agreement
|
|
|
|
|
|
|
n/a |
|
|
|
4,938 |
|
|
|
n/a |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cost of revenue
|
|
$ |
98,249 |
|
|
|
1 |
% |
|
$ |
97,145 |
|
|
|
42 |
% |
|
$ |
68,343 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As a percentage of total net revenue
|
|
|
30 |
% |
|
|
|
|
|
|
36 |
% |
|
|
|
|
|
|
34 |
% |
Cost of Consumer Products and Services. Cost of Consumer
Products and Services revenue includes: cost of content and
delivery of the content included in our digital media
subscription service offerings; royalties paid on sales of
games, music and other third-party products; amounts paid for
licensed technology; costs of product media, duplication,
manuals and packaging materials; and fees paid to third-party
vendors for order fulfillment and support services. Cost of
Consumer Products and Services increased during 2005 primarily
due to increased content and licensing costs related to
increased sales of our music and games products and services.
These increases were partially offset by decreases in costs
related to: (1) the renegotiation of certain content
agreements with more favorable financial terms and the
discontinuation of certain content offerings related to our
SuperPass subscription services; and (2) lower royalties
related to stand-alone subscriptions due to the decrease in
related revenue. Cost of Consumer Products and Services revenue
decreased as a percentage of Consumer Products and Services
revenue in 2005 to 32% from 38% in 2004 due to the application
of certain fixed costs against a higher revenue base, the
renegotiation of certain content agreements, lower royalties
related to stand-alone subscriptions due to the decrease in
related revenue and the discontinuation of certain content
offerings.
Cost of Consumer Products and Services revenue increased during
2004 primarily due to an increase in licensing costs associated
with the online sale of individual songs, increased costs
associated with delivering content to a greater number of
subscribers, costs associated with the Rhapsody subscription
service resulting from our acquisition of Listen and the
amortization of intangible assets resulting from the acquisition
of GameHouse. In addition, the increase was due to our
promotional activities related to our Harmony technology and the
Loss on Content Agreement, which is described below. Cost
of Consumer Products and Services revenue decreased as a
percentage of Consumer Products and Services revenue in 2004 to
38% from 42% in 2003 due to the application of certain fixed
costs against a higher revenue base, the renegotiation of
certain content agreements and the discontinuation of certain
content offerings.
Cost of Business Products and Services. Cost of Business
Products and Services revenue includes amounts paid for licensed
technology, costs of product media, duplication, manuals,
packaging materials,
40
fees paid to third-party vendors for order fulfillment, cost of
in-house and contract personnel providing support and consulting
services, and expenses incurred in providing our streaming media
hosting services. Cost of Business Products and Services revenue
decreased slightly primarily due to lower servicing costs, such
as bandwidth, due to a decrease in related revenue. As a
percentage of Business Products and Services revenue, cost of
Business Products and Services revenue increased slightly to 18%
in 2005 from 17% in 2004.
Cost of Business Products and Services revenue increased
slightly in absolute dollars and increased as a percentage of
Business Products and Services revenue in 2004 to 17% from 13%
in 2003. The increases during 2004 were primarily due to higher
costs of revenue related to custom development work and a shift
in mix towards products with higher product royalty costs.
Cost of Revenue
In accordance with SEC regulations, we also present our cost of
revenue based on License Fees and Service Revenue as set forth
below.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005 | |
|
Change | |
|
2004 | |
|
Change | |
|
2003 | |
|
|
| |
|
| |
|
| |
|
| |
|
| |
|
|
(Dollars in thousands) | |
License fees
|
|
$ |
33,770 |
|
|
|
20 |
% |
|
$ |
28,206 |
|
|
|
184 |
% |
|
$ |
9,917 |
|
Service revenue
|
|
|
64,479 |
|
|
|
1 |
|
|
|
64,001 |
|
|
|
10 |
|
|
|
58,426 |
|
Loss on content agreement
|
|
|
|
|
|
|
n/a |
|
|
|
4,938 |
|
|
|
n/a |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cost of revenue
|
|
$ |
98,249 |
|
|
|
1 |
% |
|
$ |
97,145 |
|
|
|
42 |
% |
|
$ |
68,343 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As a percentage of total net revenue
|
|
|
30 |
% |
|
|
|
|
|
|
36 |
% |
|
|
|
|
|
|
34 |
% |
Cost of License Fees. Cost of license fees includes
royalties paid on sales of games, music and other third-party
products, amounts paid for licensed technology, costs of product
media, duplication, manuals, packaging materials, and fees paid
to third-party vendors for order fulfillment. Cost of license
fees increased in dollars and as a percentage of license fees,
which increased to 42% in 2005 from 39% in 2004, primarily due
to: (1) the online sale of individual tracks through our
Rhapsody subscription service and RealPlayer Music Store; and
(2) an increase in revenue and associated licensing costs
related to games license products. These increases were
partially offset by a decrease in revenue associated with the
licensing related to third party license products.
Cost of license fees increased as a percentage of license fees
in 2004 to 39% from 16% in 2003. The increases both in dollars
and as a percentage of license fees for 2004 were primarily due
to the increased licensing costs associated with the online sale
of individual songs and games, and the amortization of
intangible assets resulting from the acquisition of GameHouse.
Cost of Service Revenue. Cost of service revenue includes
the cost of content and delivery of the content included in our
digital media subscription service offerings, cost of in-house
and contract personnel providing support and consulting
services, and expenses incurred in providing our streaming media
hosting services. The costs of content are expensed over the
periods the content is available to our subscription services
customers. Cost of service revenue increased slightly, but
decreased as a percentage of service revenue to 26% in 2005 from
33% in 2004. The increase in costs is primarily due to increased
content costs related to our digital music subscription
services. The increase in costs was largely offset by:
(1) the discontinuation of certain content offerings
related to our SuperPass subscription service; and (2) a
decrease in sales and the discontinuation of stand-alone
subscription services. The decrease in cost of service revenue
as a percentage of service revenue is due to the application of
certain fixed costs against a higher revenue base and the
discontinuation of certain product offerings.
Cost of service revenue increased in 2004 but decreased as a
percentage of service revenue to 33% from 42% in 2003. The
increase in costs was primarily due to increased costs
associated with delivering content to a greater number of
subscribers and the costs of content included in our digital
media subscription services. The decrease in cost of service
revenue as a percentage of service revenue was due to
41
the application of certain fixed costs against a higher revenue
base, favorable renegotiation of certain content agreements and
the discontinuation of certain non-economic content offerings.
Our digital media subscription services, including Rhapsody, are
a relatively new and growing portion of our business and, to
date, have been characterized by higher costs of revenue than
our other products and services, primarily due to the cost of
licensing media content to provide these services. As a result,
if our digital media subscription services continue to grow as a
percentage of net revenue, our cost of service revenue may grow
at an increased rate relative to net revenue, which may result
in reductions in our gross margin percentages in the future.
Loss on Content Agreement. During the quarter ended
March 31, 2004, we cancelled a content licensing agreement
with PGA TOUR. Under the terms of the cancellation agreement, we
gave up rights to use and ceased using PGA TOUR content in our
products and services as of March 31, 2004. The expense
represents the estimated fair value of payments to be made in
accordance with the terms of the cancellation agreement.
Other segment and geographical information
Reconciliation of segment operating income (loss) to net income
(loss) before income taxes for the year ended December 31,
2005 is as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consumer Products | |
|
Business Products | |
|
Reconciling | |
|
|
|
|
and Services | |
|
and Services | |
|
Amounts | |
|
Consolidated | |
|
|
| |
|
| |
|
| |
|
| |
Net revenue
|
|
$ |
279,964 |
|
|
$ |
45,095 |
|
|
$ |
|
|
|
$ |
325,059 |
|
Cost of revenue
|
|
|
90,104 |
|
|
|
8,145 |
|
|
|
|
|
|
|
98,249 |
|
Loss on content agreement
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
|
189,860 |
|
|
|
36,950 |
|
|
|
|
|
|
|
226,810 |
|
Loss on excess office facilities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Antitrust litigation (income), net
|
|
|
|
|
|
|
|
|
|
|
(422,500 |
) |
|
|
(422,500 |
) |
Stock-based compensation
|
|
|
|
|
|
|
|
|
|
|
128 |
|
|
|
128 |
|
Other operating expenses
|
|
|
197,774 |
|
|
|
54,041 |
|
|
|
|
|
|
|
251,815 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income (loss)
|
|
|
(7,914 |
) |
|
|
(17,091 |
) |
|
|
422,372 |
|
|
|
397,367 |
|
Other income, net
|
|
|
|
|
|
|
|
|
|
|
32,176 |
|
|
|
32,176 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) before income taxes
|
|
$ |
(7,914 |
) |
|
$ |
(17,091 |
) |
|
$ |
454,548 |
|
|
$ |
429,543 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
42
Reconciliation of segment operating income (loss) to net income
(loss) before income taxes for the year ended December 31,
2004 is as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consumer Products | |
|
Business Products | |
|
Reconciling | |
|
|
|
|
and Services | |
|
and Services | |
|
Amounts | |
|
Consolidated | |
|
|
| |
|
| |
|
| |
|
| |
Net revenue
|
|
$ |
218,343 |
|
|
$ |
48,376 |
|
|
$ |
|
|
|
$ |
266,719 |
|
Cost of revenue
|
|
|
83,968 |
|
|
|
8,239 |
|
|
|
|
|
|
|
92,207 |
|
Loss on content agreement
|
|
|
4,938 |
|
|
|
|
|
|
|
|
|
|
|
4,938 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
|
129,437 |
|
|
|
40,137 |
|
|
|
|
|
|
|
169,574 |
|
Loss on excess office facilities
|
|
|
|
|
|
|
|
|
|
|
866 |
|
|
|
866 |
|
Antitrust litigation expenses
|
|
|
|
|
|
|
|
|
|
|
11,048 |
|
|
|
11,048 |
|
Stock-based compensation
|
|
|
|
|
|
|
|
|
|
|
695 |
|
|
|
695 |
|
Other operating expenses
|
|
|
128,604 |
|
|
|
51,084 |
|
|
|
|
|
|
|
179,688 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income (loss)
|
|
|
833 |
|
|
|
(10,947 |
) |
|
|
(12,609 |
) |
|
|
(22,723 |
) |
Other income, net
|
|
|
|
|
|
|
|
|
|
|
248 |
|
|
|
248 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) before income taxes
|
|
$ |
833 |
|
|
$ |
(10,947 |
) |
|
$ |
(12,361 |
) |
|
$ |
(22,475 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating expenses of both Consumer Products and Services and
Business Products and Services include costs directly
attributable to those segments and an allocation of general and
administrative expenses and other corporate overhead costs.
General and administrative and other corporate overhead costs
are allocated to the segments and are generally based on the
relative head count of each segment.
Long-lived assets, consisting of equipment and leasehold
improvements, goodwill, and other intangible assets, by
geographic location are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
|
| |
|
| |
United States
|
|
$ |
149,247 |
|
|
$ |
155,844 |
|
Europe
|
|
|
14,256 |
|
|
|
176 |
|
Asia/ Rest of the world
|
|
|
302 |
|
|
|
411 |
|
|
|
|
|
|
|
|
|
Total
|
|
$ |
163,805 |
|
|
$ |
156,431 |
|
|
|
|
|
|
|
|
At December 31, 2005, net assets in Europe and Asia and the
rest of the world were $14.6 million and $0.6 million,
respectively.
Operating Expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005 | |
|
Change | |
|
2004 | |
|
Change | |
|
2003 | |
|
|
| |
|
| |
|
| |
|
| |
|
| |
|
|
(Dollars in thousands) | |
Research and development
|
|
$ |
70,631 |
|
|
|
37 |
% |
|
$ |
51,607 |
|
|
|
10 |
% |
|
$ |
46,763 |
|
As a percentage of total net revenue
|
|
|
22 |
% |
|
|
|
|
|
|
19 |
% |
|
|
|
|
|
|
23 |
% |
Research and development expenses consist primarily of salaries
and related personnel costs and consulting fees associated with
product development. To date, all research and development costs
have been expensed as incurred because technological feasibility
for software products is generally not established until
substantially all development is complete. Research and
development expenses, excluding non-cash stock-based
compensation, increased in 2005 in dollars and as a percentage
of total net revenue primarily due to an increase in: (1) a
loss due to our decision to cancel a purchase commitment during
the fourth quarter of 2005, which is discussed further in
Liquidity and Capital Resources; (2) personnel and related
costs; and (3) consulting costs related to research and
development efforts.
43
Research and development expenses, excluding non-cash
stock-based compensation, increased in 2004 in dollars primarily
due to an increase in personnel and related costs and the
inclusion of additional personnel and operating expenses
resulting from our acquisitions of Listen and GameHouse. The
decrease as a percentage of total net revenue was a result of
our total net revenue growing more rapidly than research and
development expenses.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005 | |
|
Change | |
|
2004 | |
|
Change | |
|
2003 | |
|
|
| |
|
| |
|
| |
|
| |
|
| |
|
|
(Dollars in thousands) | |
Sales and marketing
|
|
$ |
130,515 |
|
|
|
35 |
% |
|
$ |
96,779 |
|
|
|
25 |
% |
|
$ |
77,335 |
|
As a percentage of total net revenue
|
|
|
40 |
% |
|
|
|
|
|
|
36 |
% |
|
|
|
|
|
|
38 |
% |
Sales and marketing expenses consist primarily of salaries and
related personnel costs, sales commissions, credit card fees,
subscriber acquisition costs, consulting fees, trade show
expenses, advertising costs and costs of marketing collateral.
Sales and marketing expenses increased in 2005 in dollars and as
a percentage of total net revenue primarily due to an increase
in advertising activities, including our ongoing direct
marketing programs to promote our products and services and an
increase in personnel and the related costs. We expect that our
sales and marketing expenses will increase in dollars and as a
percentage of total net revenue as we continue to grow our
consumer business and continue to shift the focus of our
marketing efforts to our consumer products and services.
Sales and marketing expenses increased in 2004 in dollars
primarily due to the inclusion of personnel and operating
expenses resulting from our acquisitions of Listen and
GameHouse, an increase in payments made to third parties for
referrals of new customers and increased advertising costs,
including advertising costs associated with the promotion of our
Harmony technology as well as our ongoing direct marketing
programs. The decrease as a percentage of total net revenue was
a result of our total net revenue growing more rapidly than our
sales and marketing expenses.
|
|
|
General and Administrative |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005 | |
|
Change | |
|
2004 | |
|
Change | |
|
2003 | |
|
|
| |
|
| |
|
| |
|
| |
|
| |
|
|
(Dollars in thousands) | |
General and administrative
|
|
$ |
50,669 |
|
|
|
62 |
% |
|
$ |
31,302 |
|
|
|
49 |
% |
|
$ |
21,007 |
|
As a percentage of total net revenue
|
|
|
16 |
% |
|
|
|
|
|
|
12 |
% |
|
|
|
|
|
|
10 |
% |
General and administrative expenses consist primarily of
salaries and related personnel costs, fees for professional and
temporary services and contractor costs and other general
corporate costs. General and administrative expenses, excluding
non-cash stock-based compensation, increased in dollars and as a
percentage of revenue in 2005 primarily due to: (1) our
donation to the RealNetworks Foundation, based on 5% of our net
income; and (2) indirect expenses related to the settlement
of our antitrust litigation with Microsoft, including employee
bonuses and increased business and occupation taxes. These
increases were partially offset by a decrease in litigation
defense costs.
General and administrative expenses, excluding non-cash
stock-based compensation, increased in dollars and as a
percentage of revenue in 2004 primarily due to increased
personnel and related costs, increased litigation defense costs,
costs related to our continued implementation efforts related to
the Sarbanes-Oxley Act of 2002, specifically Section 404,
and the inclusion of personnel and operating expenses resulting
from our acquisition of Listen.
|
|
|
Antitrust Litigation Expenses (Benefit), net |
Antitrust litigation (benefit) expenses, net of
($422.5) million, $11.0 million and $1.6 million
for the years ended December 31, 2005, 2004 and 2003,
respectively, consist of legal fees, personnel costs,
communications, equipment, technology and other professional
services costs incurred directly attributable to our antitrust
case against Microsoft, as well as our participation in various
international antitrust
44
proceedings against Microsoft, including the European Union. On
October 11, 2005, we entered into a settlement agreement
with Microsoft pursuant to which we agreed to settle all
antitrust disputes worldwide with Microsoft, including the
United States litigation. In 2005, the amounts for antitrust
litigation expenses (benefit), net reflected the impact of
$478.0 million in payments received from Microsoft under
the settlement and commercial agreements with Microsoft. Refer
to the Overview in the Managements Discussion and Analysis
of Financial Condition and Results of Operations for further
discussion. See Notes to Consolidated Financial
Statements Commitments and Contingencies
(Note 13 C) for a description of this action.
|
|
|
Loss on Excess Office Facilities |
In October 2000, we entered into a
10-year lease agreement
for additional office space located near our corporate
headquarters in Seattle, Washington. During 2001, we
re-evaluated our facilities requirements and, as a result,
decided to permanently sublet all of this office space. The
market for office space in Seattle had significantly declined
from the date we entered into this lease. As a result, we
recorded losses of $22.2 million during the year ended
December 31, 2001. For the year ended December 31,
2001, these losses represented approximately $15.2 million
of rent and operating expenses over the remaining life of the
lease, net of expected sublease income of $38.1 million,
and approximately $7.0 million for the write-down of
leasehold improvements to their estimated fair value. Our
estimates were based upon many factors including projections of
sublease rates and the time period required to locate tenants.
During the year ended December 31, 2002, the Seattle real
estate market continued to display significant weakness, which
was reflected in both increasing vacancy rates and declining
rental rates. Based on discussions with prospective tenants, we
concluded that the excess office facilities were not likely to
be sublet at rates used in the original loss estimates. As a
result, we recorded additional losses of $17.2 million
during the year ended December 31, 2002. During 2003, we
secured an additional tenant at a sublease rate lower than the
rate used in previous loss estimates. As a result, we adjusted
our estimates to reflect the lower lease rate and recorded an
additional loss of $7.1 million. The estimated total loss
in 2003 included an estimate of future sublease income of
$14.7 million of which $8.0 million was committed
under sublease contracts at the time of the estimate. The
accrued loss of $18.0 million at December 31, 2005 is
shown net of expected future sublease income of
$12.5 million, which was committed under sublease contracts
at the time of the estimate. We regularly evaluate the market
for office space in the cities where we have operations. If the
market for such space declines further in future periods, we may
have to revise our estimates further, which may result in
additional losses on excess office facilities.
During the quarter ended September 30, 2004, we
renegotiated the lease for our headquarters building. In
connection with the amended lease agreement we ceased use of
approximately 16,000 square feet of office space, which we
returned to the landlord in May 2005. We recorded a loss on
excess office facilities of approximately $0.9 million
related to the expensing of net leasehold improvements and rent
for the period between October 1, 2004 and April 30,
2005 related to the excess space we vacated as of
September 30, 2004.
Stock-based compensation was $0.1 million,
$0.7 million and $1.1 million in 2005, 2004 and 2003,
respectively.
45
Other Income (Expense), Net
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005 | |
|
Change | |
|
2004 | |
|
Change | |
|
2003 | |
|
|
| |
|
| |
|
| |
|
| |
|
| |
|
|
(Dollars in thousands) | |
Interest income, net
|
|
$ |
14,511 |
|
|
|
226 |
% |
|
$ |
4,452 |
|
|
|
5 |
% |
|
$ |
4,251 |
|
Equity in net loss of MusicNet
|
|
|
(1,068 |
) |
|
|
(75 |
) |
|
|
(4,351 |
) |
|
|
(19 |
) |
|
|
(5,378 |
) |
Impairment of equity investments
|
|
|
(266 |
) |
|
|
(41 |
) |
|
|
(450 |
) |
|
|
6 |
|
|
|
(424 |
) |
Gain on sale of equity investments
|
|
|
19,330 |
|
|
|
n/a |
|
|
|
|
|
|
|
|
|
|
|
|
|
Other income (expense)
|
|
|
(331 |
) |
|
|
(155 |
) |
|
|
597 |
|
|
|
(46 |
) |
|
|
1,107 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other income (expense), net
|
|
$ |
32,176 |
|
|
|
n/a |
|
|
$ |
248 |
|
|
|
(156 |
)% |
|
$ |
(444 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other income (expense), net consists primarily of: interest
earnings on our cash, cash equivalents and short-term
investments, which are net of interest expense due to the
amortization of offering costs related to our convertible debt;
gains related to the sale of certain of our equity investments;
equity in net loss of MusicNet, Inc. (MusicNet); and impairment
of certain equity investments. Other income (expense), net
improved during 2005 due primarily to: (1) an increase in
interest income due to rising effective interest rates on our
investment balances and an overall increase in our investment
balance; (2) a gain resulting from the sale of a portion of
our investment in J-Stream; and (3) a gain related to the
sale of our preferred shares and convertible debt of MusicNet in
April 2005 and a decrease in our equity in net loss of MusicNet.
Other income (expense), net improved during 2004 due primarily
to lower equity in net losses of MusicNet and increased interest
income due to higher effective interest rates on investment
balances.
The Companys investment in MusicNet, a joint venture with
several media companies to create a platform for online music
subscription services, was accounted for under the equity method
of accounting. On April 12, 2005, the Company disposed of
all of its preferred shares and convertible notes in MusicNet to
a private equity firm, Baker Capital, in connection with the
sale of all of the capital stock of MusicNet. The Company
received approximately $7.2 million of cash proceeds in
connection with the closing of the transaction and received an
additional $0.4 million in connection with the expiration
of an escrow arrangement in August 2005. The Company also has
the right to receive up to an additional $2.3 million in
cash upon the expiration of an indemnity escrow arrangement
which expires on the one-year anniversary of the transaction
date.
The Company recorded in its statement of operations its equity
share of MusicNets net loss through the date of
disposition, which was $1.1 million, $4.4 million and
$5.4 million for the years ended December 31, 2005,
2004 and 2003, respectively. For purposes of calculating the
Companys equity in net loss of MusicNet, the convertible
notes were treated on an as if converted basis due
to the nature and terms of the convertible notes. As a result,
the losses recorded by the Company represented approximately
36.1% of MusicNets net losses through the date of
disposition in 2005 and 36.1% and 36.9% for the years ended
December 31, 2004 and 2003, respectively. As of
December 31, 2005, the Company no longer held an ownership
interest in MusicNet. As of December 31, 2004, the
Companys ownership interest in the outstanding shares of
capital stock of MusicNet was approximately 24.9%.
Our Chief Executive Officer, Robert Glaser, was the Chairman and
a member of the Board of Directors of MusicNet from April 2001
until March 2003 and also served as the temporary acting Chief
Executive Officer of MusicNet from April 2001 until October
2001. Mr. Glaser received no cash or equity remuneration
for his services as Chairman and Director, nor did he receive
any such remuneration for his services as the acting Chief
Executive Officer. We recognized approximately
$0.9 million, $0.7 million and $1.1 million of
revenue in 2005, 2004 and 2003, respectively, related to license
and services agreements with MusicNet.
We have made minority equity investments for business and
strategic purposes through the purchase of voting capital stock
of several companies. Our investments in publicly traded
companies are accounted for as available-for-sale, carried at
current market value and are classified as long-term as they are
46
strategic in nature. We periodically evaluate whether any
declines in fair value of our investments are
other-than-temporary. This evaluation consists of a review of
qualitative and quantitative factors. For investments with
publicly quoted market prices, these factors include the time
period and extent by which its accounting basis exceeds its
quoted market price. We consider additional factors to determine
whether declines in fair value are other-than-temporary, such as
the investees financial condition, results of operations
and operating trends. The evaluation also considers publicly
available information regarding the investee companies. For
investments in private companies with no quoted market price, we
consider similar qualitative and quantitative factors as well as
the implied value from any recent rounds of financing completed
by the investee. Based upon an evaluation of the facts and
circumstances during 2005, we determined that an
other-than-temporary decline in fair value had occurred in one
of our privately-held investments resulting in an impairment
charge of $0.3 million to reflect changes in the fair value
in our results of operations. Based upon an evaluation of the
facts and circumstances during 2004, we determined that
other-than-temporary declines in fair value had occurred in one
of our privately-held investments resulting in an impairment
charge of $0.5 million to reflect changes in the fair value
of this investment in our results of operations. Based upon an
evaluation of the facts and circumstances during 2003, we
determined that other-than-temporary declines in fair value had
occurred in two of our publicly traded investments resulting in
impairment charges of $0.4 million to reflect changes in
the fair value of these investments in our results of operations.
As of December 31, 2005, we owned marketable equity
securities of J-Stream Inc., a Japanese media services company,
representing approximately 10.6% of J-Streams outstanding
shares. These securities are accounted for by us as
available-for-sale securities. The market value of these shares
has increased from our original cost of approximately
$0.9 million, resulting in a carrying value of
$43.4 million and $33.1 million at December 31,
2005 and 2004, respectively. The increase over our cost basis,
net of tax effects is $28.9 million and $15.2 million
at December 31, 2005 and 2004, respectively, and is
reflected as a component of accumulated other comprehensive
income. In July 2005, we disposed of a portion of our investment
in J-Stream through open market trades, which resulted in net
proceeds of approximately $11.9 million, for which we
recognized a gain, net of tax and a loss associated with a
previously cancelled foreign currency hedge related to the
investment, of approximately $8.4 million during the year
ended December 31, 2005. The disposition resulted in a tax
expense and a related offset to accumulated other comprehensive
income of $3.3 million during the year ended
December 31, 2005. There were no similar gains or losses in
2004 or 2003. The disposition reduced our ownership interest
from approximately 13.5% to 10.6%. The market for
J-Streams shares is relatively limited, and the share
price is volatile. Although the carrying value of our investment
in J-Stream was approximately $43.4 million at
December 31, 2005, there can be no assurance that a gain of
this magnitude, or any gain, can be realized through the
disposition of these shares.
Income Taxes
During the years ended December 31, 2005, 2004 and 2003, we
recognized income tax expense of $117.2 million,
$0.5 million and $0.1 million, respectively, related
to current U.S. and foreign income taxes. We must assess the
likelihood that our deferred tax assets will be recovered from
future taxable income. In making this assessment, all available
evidence must be considered including the current economic
climate, our expectations of future taxable income and our
ability to project such income and the appreciation of our
investments and other assets. As of December 31, 2004, our
net deferred tax assets of $256 million were reduced to
zero by a full valuation allowance. In 2005, we reduced our
valuation allowance by $220 million, as we determined at
year-end that it is more likely than not that the results of our
future operations, as a result of the settlement with Microsoft,
will generate sufficient taxable income to realize certain of
our deferred tax assets. As of December 31, 2005, we
continue to have a valuation allowance of $36.2 million
relating primarily to net operating losses that are restricted
under Internal Revenue Code Section 382, and losses not yet
realized for tax purposes on certain equity investments.
47
2005 Quarterly Revenue
The following table summarizes unaudited revenue by segment for
each quarter of 2005 (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quarters Ended | |
|
|
|
|
| |
|
|
Total | |
|
December 31 | |
|
September 30 | |
|
June 30 | |
|
March 31 | |
|
|
| |
|
| |
|
| |
|
| |
|
| |
|
|
(Dollars in thousands) | |
Consumer products and services
|
|
$ |
279,964 |
|
|
$ |
73,415 |
|
|
$ |
71,750 |
|
|
$ |
70,593 |
|
|
$ |
64,206 |
|
Business products and services
|
|
|
45,095 |
|
|
|
10,153 |
|
|
|
10,483 |
|
|
|
12,093 |
|
|
|
12,366 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total net revenue
|
|
$ |
325,059 |
|
|
$ |
83,568 |
|
|
$ |
82,233 |
|
|
$ |
82,686 |
|
|
$ |
76,572 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consumer Products and Services. Consumer Products and
Services revenue increased during each of the quarters in 2005,
primarily due to increases in subscription and license sales
related to our Music and Games businesses. These increases were
partially offset by decreases in the revenue related to our
premium license products as well as third party license products
and stand-alone product subscription services. The reasons for
these changes are also discussed above in Revenue by
Segment Consumer Products and Services.
Business Products and Services. Business Products and
Services revenue decreased in each of the quarters in 2005,
which during the quarter ended September 30, 2005 was
primarily due to the expiration of a long-term legacy system
software agreement during the quarter ended September 30,
2005. Further discussion regarding the changes to the Business
Products and Services revenue during the year are mentioned
above in Overview and Revenue by
Segment Business Products and Services.
Impact of Recently Issued Accounting Standards
In December 2004, the FASB issued SFAS No. 123
(revised 2004), Share-Based Payment
(SFAS 123R), which requires the measurement of all
share-based payments to employees, including grants of employee
stock options, using a fair-value-based method and the recording
of such expense in an entitys statement of operations. We
are required to adopt the provisions of SFAS 123R in the
quarter ending March 31, 2006. The pro forma disclosures
previously permitted under SFAS 123 will no longer be an
alternative to financial statement recognition. See
Stock-Based Compensation (Note 1 (H) of
the notes to the consolidated financial statements under
Item 8) for the pro forma net income (loss) and net income
(loss) per share amounts, for the years ended December 31,
2005, 2004 and 2003, as if we had applied the fair value
recognition provisions of SFAS 123 to measure compensation
expense for employee stock incentive awards. Upon adoption
during the quarter ending March 31, 2006, we will recognize
stock-based compensation using the modified prospective method
and expects that the implementation will have a material impact
on our consolidated financial statements in 2006.
Liquidity and Capital Resources
Net cash provided by operating activities was
$460.8 million and $7.0 million in 2005 and 2004,
respectively. Net cash used in operating activities was
$8.8 million in 2003. Net cash provided by operating
activities in 2005 resulted primarily from net income of
$312.3 million, net changes in certain assets and
liabilities of $51.2 million, due primarily to the timing
of cash receipts or payments at the beginning and end of the
year, a change in net deferred tax assets of
$107.2 million, depreciation and amortization of
$16.4 million, and a gain on sale of certain of our equity
investments of $19.3 million, which were partially offset
by a decrease in the accrued loss on excess office facilities of
$6.2 million and the loss on content agreement of
$2.9 million. Net cash provided by operating activities in
2004 resulted primarily from net changes in certain assets and
liabilities of $10.7 million, due primarily to the timing
of cash receipts or payments at the beginning and end of the
year, depreciation and amortization of $15.3 million,
equity in the net loss of MusicNet of $4.4 million and the
loss on content agreement of $2.9 million, which were
offset by a net loss of $23.0 million and a decrease in the
accrued loss on excess office facilities of $4.8 million.
Net cash used in operating activities in 2003 was the result of
a net loss of $21.5 million as
48
well as net changes in certain assets and liabilities of
$8.1 million, due primarily to the timing of cash receipts
or payments at the beginning and end of the year and the
recognition of deferred revenue, offset by depreciation and
amortization of $12.4 million, equity in net loss of
MusicNet of $5.4 million and a net increase in the accrued
loss on excess office facilities of $3.0 million.
Net cash provided by investing activities in 2005 and 2004 was
$7.0 million and $6.0 million, respectively. Net cash
used in investing activities was $22.4 million in 2003. Net
cash provided by investing activities in 2005 was primarily due
to net sales and purchases of short-term investments and
proceeds from the sale of certain equity investments, which was
offset by purchases of equipment and intangible assets and cash
used for acquisitions. Net cash provided by investing activities
in 2004 was primarily due to net sales and purchases of
short-term investments, which was offset by purchases of
equipment and intangible assets and cash used for acquisitions.
Net cash used in investing activities in 2003 was primarily due
to the payment of acquisition costs and purchases of long-term
investments and equipment and leasehold improvements, offset by
net sales and purchases of short-term investments.
Net cash used in financing activities was $34.6 million in
2005. Net cash provided by financing activities was
$8.5 million in 2004 and $107.1 million in 2003. Net
cash used in financing activities in 2005 was due primarily to
the repurchase of common stock, which was partially offset by
the net proceeds from the exercise of stock options and stock
sold related to our employee stock purchase plan. Net cash
provided by financing activities in 2004 was due to the net
proceeds from the exercise of stock options and stock sold
related to our employee stock purchase plan. Net cash provided
by financing activities in 2003 was related to the proceeds from
our convertible debt offering in June 2003 (see Notes to
Consolidated Financial Statements Convertible
Debt (Note 9) for a description of this offering),
exercise of stock options and warrants and stock sold related to
our employee stock purchase plan.
In September 2001, we announced a share repurchase program to
repurchase of up to an aggregate of $50 million of our
outstanding common stock. We repurchased approximately
9.1 million shares of our common stock at an average cost
of $4.64 per share for an aggregate value of
$42.4 million from the inception of the September 2001
program through August 2005. There were no repurchases during
2005 or 2004 related to the September 2001 repurchase program.
In August 2005, our Board of Directors authorized a new share
repurchase program for the repurchase of up to an aggregate of
$75 million of our outstanding common stock, which replaced
the September 2001 program. In November 2005, our Board of
Directors authorized a new share repurchase program for the
repurchase of up to an aggregate of $100 million of our
outstanding common stock, which replaced the August 2005
repurchase program and included $44.0 million that remained
unpurchased under the August 2005 program. During 2005, under
the August 2005 program we repurchased approximately
5.8 million shares at an average cost of $5.36 for an
aggregate value of approximately $31.0 million and under
the November 2005 repurchase program, we repurchased
approximately 2.8 million shares at an average cost of
$8.16 per share for an aggregate value of approximately
$23.3 million. We currently intend to continue our stock
repurchase program, of which there was approximately
$76.6 million remaining as of December 31, 2005,
depending on market conditions and other factors until we reach
the $100 million limit authorized by our Board of
Directors, which will be a further use of cash.
We currently have no planned significant capital expenditures
for 2006 other than those in the ordinary course of business. In
the future, we may seek to raise additional funds through public
or private equity financing, or through other sources such as
credit facilities. The sale of additional equity securities
could result in dilution to our shareholders. In addition, in
the future, we may enter into cash or stock acquisition
transactions or other strategic transactions that could reduce
cash available to fund our operations or result in dilution to
shareholders.
In May 2005, we entered into a purchase agreement with a third
party vendor to acquire certain products and services. We were
to be invoiced for the products and services at the time of
receipt by the vendor. During the quarter ended
December 31, 2005, we decided to cancel the purchase
agreement. As a result, we recorded a loss of approximately
$8.5 million during the quarter ended December 31,
2005 in
49
order to reflect the products and services that have been
delivered, or to which we had committed, at their net realizable
value.
In October 2005, we entered into an agreement with Microsoft to
settle all antitrust disputes worldwide between the two
companies. Upon settlement of the legal disputes, we entered
into two commercial agreements with Microsoft that provide for
collaboration in digital music and games. The combined
contractual payments related to the settlement agreement and the
two commercial agreements to be made by Microsoft to us over the
terms of the agreements are approximately $761.0 million.
In October 2005, we received $478.0 million of the
scheduled contractual payments.
At December 31, 2005, we had $798.6 million in cash,
cash equivalents, short-term investments and restricted cash
equivalents. Our principal commitments include office leases and
contractual payments due to content and other service providers.
We believe that our current cash, cash equivalents and
short-term investments will be sufficient to meet our
anticipated cash needs for working capital and capital
expenditures for at least the next 12 months.
We do not hold derivative financial instruments or equity
securities in our short-term investment portfolio. Our cash
equivalents and short-term investments consist of high quality
securities, as specified in our investment policy guidelines.
The policy limits the amount of credit exposure to any one
non-U.S. Government
or non-U.S. Agency
issue or issuer to a maximum of 5% of the total portfolio. These
securities are subject to interest rate risk and will decrease
in value if interest rates increase. Because we have
historically had the ability to hold our fixed income
investments until maturity, we would not expect our operating
results or cash flows to be significantly affected by a sudden
change in market interest rates in our securities portfolio.
We conduct our operations in ten primary functional currencies:
the United States dollar, the Japanese yen, the British pound,
the Euro, the Mexican peso, the Brazilian real, the Australian
dollar, the Hong Kong dollar, the Singapore dollar and the
Korean won. Historically, neither fluctuations in foreign
exchange rates nor changes in foreign economic conditions have
had a significant impact on our financial condition or results
of operations. We currently do not hedge the majority of our
foreign currency exposures and are therefore subject to the risk
of exchange rate fluctuations. We invoice our international
customers primarily in U.S. dollars, except in Japan,
Germany, France, the United Kingdom and Australia, where we
invoice our customers primarily in yen, euros (for Germany and
France), pounds and Australian dollars, respectively. We are
exposed to foreign exchange rate fluctuations as the financial
results of foreign subsidiaries are translated into
U.S. dollars in consolidation. Our exposure to foreign
exchange rate fluctuations also arises from intercompany
payables and receivables to and from our foreign subsidiaries.
Foreign exchange rate fluctuations did not have a material
impact on our financial results in 2005, 2004 and 2003.
At December 31, 2005, we had commitments to make the
following payments:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less than | |
|
1-3 | |
|
|
|
After | |
Contractual Obligations |
|
Total | |
|
1 Year | |
|
Years | |
|
4-5 Years | |
|
5 Years | |
|
|
| |
|
| |
|
| |
|
| |
|
| |
|
|
(In thousands) | |
Office leases
|
|
$ |
81,958 |
|
|
$ |
11,599 |
|
|
$ |
22,782 |
|
|
$ |
22,065 |
|
|
$ |
25,512 |
|
|
|
|
Up to |
|
|
|
|
|
|
|
|
|
|
|
Up to |
|
|
|
|
|
Convertible debt
|
|
|
100,000 |
|
|
|
|
|
|
|
|
|
|
|
100,000 |
|
|
|
|
|
Other contractual obligations
|
|
|
14,978 |
|
|
|
5,476 |
|
|
|
4,842 |
|
|
|
4,660 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Up to |
|
|
|
|
|
|
|
|
|
|
|
Up to |
|
|
|
|
|
|
Total contractual cash obligations
|
|
$ |
196,936 |
|
|
$ |
17,075 |
|
|
$ |
27,624 |
|
|
$ |
126,725 |
|
|
$ |
25,512 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other contractual obligations primarily relate to minimum
contractual payments due to content and other service providers.
50
Off Balance Sheet Arrangements
Our only significant off-balance sheet arrangements relate to
operating lease obligations for office facility leases and other
contractual obligations related primarily to minimum contractual
payments due to content and other service providers. Future
annual minimum rental lease payments and other contractual
obligations are included in the commitment schedule above.
|
|
Item 7A. |
Quantitative and Qualitative Disclosures About Market
Risk |
The following discussion about our market risk involves
forward-looking statements. Actual results could differ
materially from those projected in the forward-looking
statements.
Interest Rate Risk. Our exposure to interest rate risk
from changes in market interest rates relates primarily to our
short-term investment portfolio. We do not hold derivative
financial instruments or equity investments in our short-term
investment portfolio. Our short-term investments consist of high
quality debt securities as specified in our investment policy
guidelines. Investments in both fixed and floating rate
instruments carry a degree of interest rate risk. The fair value
of fixed rate securities may be adversely impacted due to a rise
in interest rates, while floating rate securities may produce
less income than expected if interest rates fall. Additionally,
a falling rate environment creates reinvestment risk because as
securities mature the proceeds are reinvested at a lower rate,
generating less interest income. Due in part to these factors,
our future interest income may be adversely impacted due to
changes in interest rates. In addition, we may incur losses in
principal if we are forced to sell securities that have declined
in market value due to changes in interest rates. Because we
have historically had the ability to hold our short-term
investments until maturity and the substantial majority of our
short-term investments mature within one year of purchase, we
would not expect our operating results or cash flows to be
significantly impacted by a sudden change in market interest
rates. There have been no material changes in our investment
methodology regarding our cash equivalents and short-term
investments during the year ended December 31, 2005.
The table below presents the amounts related to weighted average
interest rates and contractual maturities of our short-term
investment portfolio at December 31, 2005 (dollars in
thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted | |
|
Expected Maturity | |
|
|
|
|
|
|
Average | |
|
Dates | |
|
|
|
|
|
|
Interest | |
|
| |
|
Amortized | |
|
Estimated | |
|
|
Rate | |
|
2006 | |
|
2007 | |
|
Cost | |
|
Fair Value | |
|
|
| |
|
| |
|
| |
|
| |
|
| |
Short-term investments:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. Government agency securities
|
|
|
3.17 |
% |
|
$ |
115,195 |
|
|
$ |
14,161 |
|
|
$ |
129,658 |
|
|
$ |
129,356 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total short-term investments
|
|
|
3.17 |
% |
|
$ |
115,195 |
|
|
$ |
14,161 |
|
|
$ |
129,658 |
|
|
$ |
129,356 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investment Risk. As of December 31, 2005, we had
investments in voting capital stock of both publicly- and
privately-held technology companies for business and strategic
purposes. Some of these securities do not have a quoted market
price. Our investments in publicly traded companies are carried
at current market value and are classified as long-term as they
are strategic in nature. We periodically evaluate whether any
declines in fair value of our investments are
other-than-temporary. This evaluation consists of a review of
qualitative and quantitative factors. Based upon an evaluation
of the facts and circumstances during 2005, we determined that
an other-than-temporary impairment had occurred on one
investment, resulting in an impairment charge of
$0.3 million, in order to reflect the investment at its
fair value. Based upon an evaluation of the facts and
circumstances during 2004, an other-than-temporary impairment
had occurred on one investment. Impairment charges of
$0.5 million were recorded to reflect the investment at
fair value in 2004. Equity price fluctuations of plus or minus
10% of prices at December 31, 2005 would have had an
approximate $4.3 million impact on the value of our
investments in publicly traded companies at December 31,
2005, related primarily to our investment in J-Stream, a
publicly traded Japanese company.
51
Foreign Currency Risk. We conduct business
internationally in several currencies. As such, we are exposed
to adverse movements in foreign currency exchange rates.
Our exposure to foreign exchange rate fluctuations arise in part
from: (1) translation of the financial results of foreign
subsidiaries into U.S. dollars in consolidation;
(2) the re-measurement of non-functional currency assets,
liabilities and intercompany balances into U.S. dollars for
financial reporting purposes; and
(3) non-U.S. dollar
denominated sales to foreign customers.
A portion of these risks is managed through the use of financial
derivatives, but fluctuations could impact our results of
operations and financial position.
Generally, our practice is to manage foreign currency risk for
the majority of material short-term intercompany balances
through the use of foreign currency forward contracts. These
contracts require us to exchange currencies at rates agreed upon
at the contracts inception. Because the impact of
movements in currency exchange rates on forward contracts
offsets the related impact on the short-term intercompany
balances, these financial instruments help alleviate the risk
that might otherwise result from certain changes in currency
exchange rates. We do not designate our foreign exchange forward
contracts related to short-term intercompany accounts as hedges
and, accordingly, we adjust these instruments to fair value
through results of operations. However, we may periodically
hedge a portion of our foreign exchange exposures associated
with material firmly committed transactions, long-term
investments, highly predictable anticipated exposures and net
investments in foreign subsidiaries.
Our foreign currency risk management program reduces, but does
not entirely eliminate, the impact of currency exchange rate
movements.
Historically, neither fluctuations in foreign exchange rates nor
changes in foreign economic conditions have had a significant
impact on our financial condition or results of operations.
Foreign exchange rate fluctuations did not have a material
impact on our financial results for the years ended
December 31, 2005, 2004 and 2003.
At December 31, 2005, we had the following foreign currency
contracts outstanding (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Contract | |
|
|
|
|
Contract Amount | |
|
Amount | |
|
|
|
|
(Local Currency) | |
|
(US Dollars) | |
|
Fair Value | |
|
|
| |
|
| |
|
| |
British Pounds (GBP) (contracts to receive GBP/pay
US$)
|
|
|
(GBP |
) |
|
|
1,000 |
|
|
$ |
1,736 |
|
|
$ |
(15 |
) |
Euro (EUR) (contracts to pay EUR/receive US$)
|
|
|
(EUR |
) |
|
|
1,260 |
|
|
$ |
1,514 |
|
|
$ |
23 |
|
Japanese Yen (YEN) (contracts to receive YEN/pay US$)
|
|
|
(YEN |
) |
|
|
30,000 |
|
|
$ |
251 |
|
|
$ |
4 |
|
At December 31, 2004, we had the following foreign currency
contracts outstanding (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Contract | |
|
|
|
|
Contract Amount | |
|
Amount | |
|
|
|
|
(Local Currency) | |
|
(US Dollars) | |
|
Fair Value | |
|
|
| |
|
| |
|
| |
British Pounds (GBP) (contracts to receive GBP/pay
US$)
|
|
|
(GBP |
) |
|
|
780 |
|
|
$ |
1,502 |
|
|
$ |
(1 |
) |
Euro (EUR) (contracts to pay EUR/receive US$)
|
|
|
(EUR |
) |
|
|
2,650 |
|
|
$ |
3,527 |
|
|
$ |
(88 |
) |
Japanese Yen (YEN) (contracts to receive YEN/pay US$)
|
|
|
(YEN |
) |
|
|
123,000 |
|
|
$ |
1,168 |
|
|
$ |
27 |
|
All derivatives are recorded on the balance sheet at fair value.
52
|
|
Item 8. |
Financial Statements and Supplementary Data |
REALNETWORKS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
|
| |
|
| |
|
|
(In thousands, except | |
|
|
per share data) | |
ASSETS |
Current assets:
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
|
$ |
651,971 |
|
|
$ |
219,426 |
|
|
Short-term investments
|
|
|
129,356 |
|
|
|
144,195 |
|
|
Trade accounts receivable, net of allowances for doubtful
accounts and sales returns of $2,973 in 2005 and $3,286 in 2004
|
|
|
16,721 |
|
|
|
14,501 |
|
|
Deferred tax assets, net, current portion
|
|
|
54,204 |
|
|
|
|
|
|
Prepaid expenses and other current assets
|
|
|
11,933 |
|
|
|
8,196 |
|
|
|
|
|
|
|
|
|
|
Total current assets
|
|
|
864,185 |
|
|
|
386,318 |
|
|
|
|
|
|
|
|
Equipment, software and leasehold improvements, at cost:
|
|
|
|
|
|
|
|
|
|
Equipment and software
|
|
|
56,402 |
|
|
|
45,324 |
|
|
Leasehold improvements
|
|
|
27,964 |
|
|
|
25,015 |
|
|
|
|
|
|
|
|
|
|
Total equipment, software and leasehold improvements
|
|
|
84,366 |
|
|
|
70,339 |
|
|
Less accumulated depreciation and amortization
|
|
|
51,228 |
|
|
|
41,508 |
|
|
|
|
|
|
|
|
|
|
Net equipment, software and leasehold improvements
|
|
|
33,138 |
|
|
|
28,831 |
|
|
|
|
|
|
|
|
Restricted cash equivalents
|
|
|
17,300 |
|
|
|
20,151 |
|
Notes receivable from related parties
|
|
|
|
|
|
|
106 |
|
Equity investments
|
|
|
46,163 |
|
|
|
36,588 |
|
Other assets
|
|
|
2,397 |
|
|
|
2,908 |
|
Deferred tax assets, net, non-current portion
|
|
|
19,147 |
|
|
|
|
|
Goodwill, net
|
|
|
123,330 |
|
|
|
119,217 |
|
Other intangible assets, net of accumulated amortization of
$9,850 in 2005 and $4,608 in 2004
|
|
|
7,337 |
|
|
|
8,383 |
|
|
|
|
|
|
|
|
|
|
Total assets
|
|
$ |
1,112,997 |
|
|
$ |
602,502 |
|
|
|
|
|
|
|
|
|
LIABILITIES AND SHAREHOLDERS EQUITY |
Current liabilities:
|
|
|
|
|
|
|
|
|
|
Accounts payable
|
|
$ |
11,397 |
|
|
$ |
10,219 |
|
|
Accrued and other liabilities
|
|
|
112,340 |
|
|
|
50,033 |
|
|
Deferred revenue, current portion
|
|
|
25,021 |
|
|
|
30,307 |
|
|
Accrued loss on excess office facilities and content agreement,
current portion
|
|
|
4,623 |
|
|
|
8,160 |
|
|
|
|
|
|
|
|
|
|
Total current liabilities
|
|
|
153,381 |
|
|
|
98,719 |
|
|
|
|
|
|
|
|
Deferred revenue, non-current portion
|
|
|
276 |
|
|
|
548 |
|
Accrued loss on excess office facilities and content agreement,
non-current portion
|
|
|
13,393 |
|
|
|
19,017 |
|
Deferred rent
|
|
|
4,018 |
|
|
|
3,413 |
|
Convertible debt
|
|
|
100,000 |
|
|
|
100,000 |
|
Other long-term liabilities
|
|
|
196 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total liabilities
|
|
|
271,264 |
|
|
|
221,697 |
|
|
|
|
|
|
|
|
Commitments and contingencies
|
|
|
|
|
|
|
|
|
Shareholders equity:
|
|
|
|
|
|
|
|
|
|
Preferred stock, $0.001 par value, no shares issued and
outstanding
|
|
|
|
|
|
|
|
|
|
|
Series A: authorized 200 shares
|
|
|
|
|
|
|
|
|
|
|
Undesignated series: authorized 59,800 shares
|
|
|
|
|
|
|
|
|
|
Common stock, $0.001 par value Authorized
1,000,000 shares; issued and outstanding
166,037 shares in 2005 and 170,626 shares in 2004
|
|
|
166 |
|
|
|
171 |
|
|
Additional paid-in capital
|
|
|
805,067 |
|
|
|
668,752 |
|
|
Note receivable from shareholder
|
|
|
|
|
|
|
(10 |
) |
|
Deferred stock compensation
|
|
|
(19 |
) |
|
|
(147 |
) |
|
Accumulated other comprehensive income
|
|
|
26,724 |
|
|
|
14,589 |
|
|
Retained earnings (deficit)
|
|
|
9,795 |
|
|
|
(302,550 |
) |
|
|
|
|
|
|
|
|
|
Total shareholders equity
|
|
|
841,733 |
|
|
|
380,805 |
|
|
|
|
|
|
|
|
|
|
Total liabilities and shareholders equity
|
|
$ |
1,112,997 |
|
|
$ |
602,502 |
|
|
|
|
|
|
|
|
See accompanying notes to consolidated financial statements
53
REALNETWORKS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE
INCOME (LOSS)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
2003 | |
|
|
| |
|
| |
|
| |
|
|
(In thousands, except per share data) | |
Net revenue(A)
|
|
$ |
325,059 |
|
|
$ |
266,719 |
|
|
$ |
202,377 |
|
Cost of revenue(B)
|
|
|
98,249 |
|
|
|
92,207 |
|
|
|
68,343 |
|
Loss on content agreement
|
|
|
|
|
|
|
4,938 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
|
226,810 |
|
|
|
169,574 |
|
|
|
134,034 |
|
|
|
|
|
|
|
|
|
|
|
Operating expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Research and development (excluding non-cash stock-based
compensation, included below, of $100 for 2005, $459 for 2004
and $967 for 2003)
|
|
|
70,631 |
|
|
|
51,607 |
|
|
|
46,763 |
|
|
Sales and marketing
|
|
|
130,515 |
|
|
|
96,779 |
|
|
|
77,335 |
|
|
General and administrative (excluding non-cash stock-based
compensation, included below, of $28 for 2005, $236 for 2004 and
$153 for 2003)
|
|
|
50,669 |
|
|
|
31,302 |
|
|
|
21,007 |
|
|
Loss on excess office facilities
|
|
|
|
|
|
|
866 |
|
|
|
7,098 |
|
|
Stock-based compensation
|
|
|
128 |
|
|
|
695 |
|
|
|
1,120 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Subtotal operating expenses
|
|
|
251,943 |
|
|
|
181,249 |
|
|
|
153,323 |
|
|
|
|
|
|
|
|
|
|
|
|
Antitrust litigation expenses (benefit), net
|
|
|
(422,500 |
) |
|
|
11,048 |
|
|
|
1,574 |
|
|
|
Total operating expenses (benefit)
|
|
|
(170,557 |
) |
|
|
192,297 |
|
|
|
154,897 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income (loss)
|
|
|
397,367 |
|
|
|
(22,723 |
) |
|
|
(20,863 |
) |
|
|
|
|
|
|
|
|
|
|
Other income (expense):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest income, net
|
|
|
14,511 |
|
|
|
4,452 |
|
|
|
4,251 |
|
|
Equity in net loss of MusicNet
|
|
|
(1,068 |
) |
|
|
(4,351 |
) |
|
|
(5,378 |
) |
|
Impairment of equity investments
|
|
|
(266 |
) |
|
|
(450 |
) |
|
|
(424 |
) |
|
Gain on sale of equity investments
|
|
|
19,330 |
|
|
|
|
|
|
|
|
|
|
Other income (expense)
|
|
|
(331 |
) |
|
|
597 |
|
|
|
1,107 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Other income (expense), net
|
|
|
32,176 |
|
|
|
248 |
|
|
|
(444 |
) |
|
|
|
|
|
|
|
|
|
|
Net income (loss) before income taxes
|
|
|
429,543 |
|
|
|
(22,475 |
) |
|
|
(21,307 |
) |
|
|
Income tax provision
|
|
|
(117,198 |
) |
|
|
(522 |
) |
|
|
(144 |
) |
|
|
|
|
|
|
|
|
|
|
Net income (loss)
|
|
$ |
312,345 |
|
|
$ |
(22,997 |
) |
|
$ |
(21,451 |
) |
|
|
|
|
|
|
|
|
|
|
Basic net income (loss) per share
|
|
$ |
1.84 |
|
|
$ |
(0.14 |
) |
|
$ |
(0.13 |
) |
Diluted net income (loss) per share
|
|
$ |
1.70 |
|
|
$ |
(0.14 |
) |
|
$ |
(0.13 |
) |
Shares used to compute basic net income (loss) per share
|
|
|
169,986 |
|
|
|
168,907 |
|
|
|
160,309 |
|
Shares used to compute diluted net income (loss) per share
|
|
|
184,161 |
|
|
|
168,907 |
|
|
|
160,309 |
|
Comprehensive income (loss):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss)
|
|
$ |
312,345 |
|
|
$ |
(22,997 |
) |
|
$ |
(21,451 |
) |
|
Unrealized gain (loss) on investments:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Unrealized holding gains, net of tax
|
|
|
17,864 |
|
|
|
7,557 |
|
|
|
8,035 |
|
|
|
Adjustments for gains reclassified to net income (loss)
|
|
|
(4,052 |
) |
|
|
(53 |
) |
|
|
(56 |
) |
|
Foreign currency translation losses
|
|
|
(1,677 |
) |
|
|
(99 |
) |
|
|
259 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive income (loss)
|
|
$ |
324,480 |
|
|
$ |
(15,592 |
) |
|
$ |
(13,213 |
) |
|
|
|
|
|
|
|
|
|
|
(A) Components of net revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
License fees
|
|
$ |
80,785 |
|
|
$ |
71,706 |
|
|
$ |
61,970 |
|
Service revenue
|
|
|
244,274 |
|
|
|
195,013 |
|
|
|
140,407 |
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
325,059 |
|
|
$ |
266,719 |
|
|
$ |
202,377 |
|
|
|
|
|
|
|
|
|
|
|
(B) Components of cost of revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
License fees
|
|
$ |
33,770 |
|
|
$ |
28,206 |
|
|
$ |
9,917 |
|
Service revenue
|
|
|
64,479 |
|
|
|
64,001 |
|
|
|
58,426 |
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
98,249 |
|
|
$ |
92,207 |
|
|
$ |
68,343 |
|
|
|
|
|
|
|
|
|
|
|
See accompanying notes to consolidated financial statements
54
REALNETWORKS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
2003 | |
|
|
| |
|
| |
|
| |
|
|
(In thousands) | |
Cash flows from operating activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss)
|
|
$ |
312,345 |
|
|
$ |
(22,997 |
) |
|
$ |
(21,451 |
) |
|
Adjustments to reconcile net income (loss) to net cash provided
by (used in) operating activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amortization of stock-based compensation
|
|
|
128 |
|
|
|
695 |
|
|
|
1,120 |
|
|
|
Depreciation and amortization of equipment, leasehold
improvements and other intangible assets
|
|
|
16,243 |
|
|
|
14,643 |
|
|
|
11,250 |
|
|
|
Impairment of equity investments
|
|
|
266 |
|
|
|
450 |
|
|
|
424 |
|
|
|
Equity in net losses of equity method investments
|
|
|
1,068 |
|
|
|
4,351 |
|
|
|
5,378 |
|
|
|
Gain on sale of equity investments
|
|
|
(19,330 |
) |
|
|
(561 |
) |
|
|
(824 |
) |
|
|
Accrued loss on excess office facilities
|
|
|
(6,244 |
) |
|
|
(4,799 |
) |
|
|
3,009 |
|
|
|
Accrued loss on content agreement
|
|
|
(2,917 |
) |
|
|
2,917 |
|
|
|
|
|
|
|
Deferred income taxes
|
|
|
107,208 |
|
|
|
|
|
|
|
|
|
|
|
Other
|
|
|
804 |
|
|
|
1,592 |
|
|
|
381 |
|
|
|
Changes in certain assets and liabilities, net of balances from
businesses acquired during the year:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Trade accounts receivable
|
|
|
(1,479 |
) |
|
|
(3,314 |
) |
|
|
(4,267 |
) |
|
|
|
Prepaid expenses and other current assets
|
|
|
(3,409 |
) |
|
|
1,258 |
|
|
|
164 |
|
|
|
|
Accounts payable
|
|
|
44 |
|
|
|
3,577 |
|
|
|
(1,024 |
) |
|
|
|
Accrued and other liabilities
|
|
|
59,826 |
|
|
|
12,810 |
|
|
|
5,700 |
|
|
|
|
Deferred revenue
|
|
|
(3,800 |
) |
|
|
(3,599 |
) |
|
|
(8,649 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by (used in) operating activities
|
|
|
460,753 |
|
|
|
7,023 |
|
|
|
(8,789 |
) |
|
|
|
|
|
|
|
|
|
|
Cash flows from investing activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Purchases of equipment and leasehold improvements
|
|
|
(13,782 |
) |
|
|
(10,018 |
) |
|
|
(9,065 |
) |
|
Purchases of short-term investments
|
|
|
(153,491 |
) |
|
|
(293,560 |
) |
|
|
(311,367 |
) |
|
Sales and maturities of short-term investments
|
|
|
168,358 |
|
|
|
324,512 |
|
|
|
322,742 |
|
|
Additions to and purchases of long-term equity investments
|
|
|
|
|
|
|
|
|
|
|
(3,266 |
) |
|
Purchases of intangible and other assets
|
|
|
(1,125 |
) |
|
|
(4,839 |
) |
|
|
|
|
|
Proceeds from repayments of notes receivable
|
|
|
|
|
|
|
|
|
|
|
85 |
|
|
Decrease (increase) in restricted cash equivalents
|
|
|
2,851 |
|
|
|
(198 |
) |
|
|
(2,488 |
) |
|
Proceeds from sale of long-term equity investments
|
|
|
19,530 |
|
|
|
572 |
|
|
|
1,237 |
|
|
Purchases of cost based investments
|
|
|
(647 |
) |
|
|
|
|
|
|
|
|
|
Payment of acquisition costs, net of cash acquired
|
|
|
(14,705 |
) |
|
|
(10,477 |
) |
|
|
(20,257 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by (used in) investing activities
|
|
|
6,989 |
|
|
|
5,992 |
|
|
|
(22,379 |
) |
|
|
|
|
|
|
|
|
|
|
Cash flows from financing activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Proceeds from sale of convertible debt, net of offering costs of
$3,037
|
|
|
|
|
|
|
|
|
|
|
96,963 |
|
|
Net proceeds from sales of common stock and exercise of stock
options and warrants
|
|
|
20,361 |
|
|
|
8,489 |
|
|
|
10,166 |
|
|
Repayment of long-term note payable
|
|
|
(648 |
) |
|
|
|
|
|
|
|
|
|
Repurchase of common stock
|
|
|
(54,321 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by (used in) financing activities
|
|
|
(34,608 |
) |
|
|
8,489 |
|
|
|
107,129 |
|
|
|
|
|
|
|
|
|
|
|
Effect of exchange rate changes on cash
|
|
|
(589 |
) |
|
|
(106 |
) |
|
|
288 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net increase in cash and cash equivalents
|
|
|
432,545 |
|
|
|
21,398 |
|
|
|
76,249 |
|
Cash and cash equivalents at beginning of year
|
|
|
219,426 |
|
|
|
198,028 |
|
|
|
121,779 |
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents at end of year
|
|
$ |
651,971 |
|
|
$ |
219,426 |
|
|
$ |
198,028 |
|
|
|
|
|
|
|
|
|
|
|
Supplemental disclosure of cash flow information:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash paid during the year for income taxes
|
|
$ |
149 |
|
|
$ |
415 |
|
|
$ |
683 |
|
Supplemental disclosure of non-cash financing and investing
activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Common stock and options to purchase common stock issued in
business combinations
|
|
$ |
|
|
|
$ |
20,901 |
|
|
$ |
19,376 |
|
|
Accrued acquisition costs and contingent consideration
|
|
$ |
|
|
|
$ |
|
|
|
$ |
1,649 |
|
|
Payable for repurchase of common stock
|
|
$ |
5,116 |
|
|
$ |
|
|
|
$ |
|
|
See accompanying notes to consolidated financial statements
55
REALNETWORKS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS EQUITY
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated | |
|
|
|
|
|
|
|
|
|
|
Notes | |
|
|
|
Other | |
|
|
|
|
|
|
Common Stock | |
|
Additional | |
|
Receivable | |
|
Deferred | |
|
Comprehensive | |
|
Retained | |
|
Total | |
|
|
| |
|
Paid-In | |
|
from | |
|
Stock | |
|
Income | |
|
Earnings | |
|
Shareholders | |
|
|
Shares | |
|
Amount | |
|
Capital | |
|
Shareholders | |
|
Compensation | |
|
(Loss) | |
|
(Deficit) | |
|
Equity | |
|
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
|
| |
|
|
(In thousands) | |
|
Balances at December 31, 2002
|
|
|
157,681 |
|
|
$ |
158 |
|
|
$ |
609,833 |
|
|
$ |
|
|
|
$ |
(1,070 |
) |
|
$ |
(1,054 |
) |
|
$ |
(258,102 |
) |
|
$ |
349,765 |
|
Common stock issued for:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercise of options and Employee Stock Purchase Plan
|
|
|
2,715 |
|
|
|
2 |
|
|
|
10,164 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
10,166 |
|
|
Business combination
|
|
|
3,801 |
|
|
|
4 |
|
|
|
19,372 |
|
|
|
|
|
|
|
(670 |
) |
|
|
|
|
|
|
|
|
|
|
18,706 |
|
Notes receivable acquired in business combination
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(83 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(83 |
) |
Amortization of deferred stock compensation
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1,120 |
|
|
|
|
|
|
|
|
|
|
|
1,120 |
|
Repayment of notes receivable from shareholders
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
25 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
25 |
|
Unrealized gain on investments, net of tax
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
8,035 |
|
|
|
|
|
|
|
8,035 |
|
Adjustments for gains reclassified to net loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(56 |
) |
|
|
|
|
|
|
(56 |
) |
Translation adjustment
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
259 |
|
|
|
|
|
|
|
259 |
|
|
Net loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(21,451 |
) |
|
|
(21,451 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balances at December 31, 2003
|
|
|
164,197 |
|
|
|
164 |
|
|
|
639,369 |
|
|
|
(58 |
) |
|
|
(620 |
) |
|
|
7,184 |
|
|
|
(279,553 |
) |
|
|
366,486 |
|
Common stock issued for:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercise of options and Employee Stock Purchase Plan
|
|
|
3,423 |
|
|
|
4 |
|
|
|
8,485 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
8,489 |
|
|
Business combination
|
|
|
3,007 |
|
|
|
3 |
|
|
|
20,898 |
|
|
|
|
|
|
|
(222 |
) |
|
|
|
|
|
|
|
|
|
|
20,679 |
|
Notes receivable retired
|
|
|
(8 |
) |
|
|
|
|
|
|
(41 |
) |
|
|
48 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
7 |
|
Amortization of deferred stock compensation
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
695 |
|
|
|
|
|
|
|
|
|
|
|
695 |
|
Shares issued for Director payment
|
|
|
7 |
|
|
|
|
|
|
|
41 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
41 |
|
Unrealized gain on investments, net of tax
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
7,557 |
|
|
|
|
|
|
|
7,557 |
|
Adjustments for gains reclassified to net loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(53 |
) |
|
|
|
|
|
|
(53 |
) |
Translation adjustment
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(99 |
) |
|
|
|
|
|
|
(99 |
) |
Net loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(22,997 |
) |
|
|
(22,997 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balances at December 31, 2004
|
|
|
170,626 |
|
|
|
171 |
|
|
|
668,752 |
|
|
|
(10 |
) |
|
|
(147 |
) |
|
|
14,589 |
|
|
|
(302,550 |
) |
|
|
380,805 |
|
|
Common stock issued for:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercise of options and Employee Stock Purchase Plan
|
|
|
4,056 |
|
|
|
3 |
|
|
|
20,358 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
20,361 |
|
|
Common shares repurchased
|
|
|
(8,642 |
) |
|
|
(8 |
) |
|
|
(54,313 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(54,321 |
) |
|
Notes receivable retired
|
|
|
(18 |
) |
|
|
|
|
|
|
(26 |
) |
|
|
10 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(16 |
) |
|
Amortization of deferred stock compensation
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
128 |
|
|
|
|
|
|
|
|
|
|
|
128 |
|
|
Shares issued for Director payment
|
|
|
15 |
|
|
|
|
|
|
|
91 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
91 |
|
|
Unrealized gain on investments, net of tax
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
17,864 |
|
|
|
|
|
|
|
17,864 |
|
|
Adjustments for gains reclassified to net income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(4,052 |
) |
|
|
|
|
|
|
(4,052 |
) |
|
Translation adjustment
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1,677 |
) |
|
|
|
|
|
|
(1,677 |
) |
|
Net deferred tax adjustment
|
|
|
|
|
|
|
|
|
|
|
170,205 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
170,205 |
|
|
Net income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
312,345 |
|
|
|
312,345 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balances at December 31, 2005
|
|
|
166,037 |
|
|
$ |
166 |
|
|
$ |
805,067 |
|
|
$ |
|
|
|
$ |
(19 |
) |
|
$ |
26,724 |
|
|
$ |
9,795 |
|
|
$ |
841,733 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
See accompanying notes to consolidated financial statements
56
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Years ended December 31, 2005, 2004 and 2003
|
|
Note 1. |
Description of Business and Summary of Significant Accounting
Policies |
A. Description of Business. RealNetworks, Inc. and
subsidiaries (RealNetworks or Company) is a leading global
provider of network-delivered digital media products and
services. The Company also develops and markets software
products and services that enable the creation, distribution and
consumption of digital media, including audio and video.
Inherent in the Companys business are various risks and
uncertainties, including its limited history of certain of its
product and service offerings and its limited history of
offering premium subscription services on the Internet. The
Companys success will depend on the acceptance of the
Companys technology, products and services and the ability
to generate related revenue.
B. Basis of Presentation. The consolidated financial
statements include the accounts of the Company and its
wholly-owned subsidiaries. All significant intercompany balances
and transactions have been eliminated in consolidation. Certain
prior year amounts in the consolidated financial statements and
notes thereto have been reclassified to conform to the current
year presentation.
C. Cash, Cash Equivalents, Short-Term Investments and
Marketable Equity Securities. The Company considers all
short-term investments with a remaining contractual maturity at
date of purchase of three months or less to be cash equivalents.
The Company has classified as available-for-sale all marketable
debt and equity securities for which there is a determinable
fair market value and there are no restrictions on the
Companys ability to sell within the next 12 months.
Available-for-sale securities are carried at fair value, with
unrealized gains and losses reported as a separate component of
shareholders equity, net of applicable income taxes.
Realized gains and losses and declines in value judged to be
other-than-temporary on available-for-sale securities are
included in other income (expense). The cost basis for
determining realized gains and losses on available-for-sale
securities is determined using the specific identification
method.
D. Other Investments. The cost method is used to
account for equity investments in companies in which the Company
holds less than a 20 percent voting interest, does not
exercise significant influence and the related securities do not
have a quoted market price.
The Companys investment in MusicNet, Inc. (MusicNet) was
accounted for under the equity method of accounting. Under the
equity method of accounting, the Companys share of
MusicNets earnings or net loss was included in the
Companys consolidated operating results. Because the
Company had loaned MusicNet funds and based on the nature of the
loans, the Company concluded the loans represent in-substance
common stock. Therefore, the Company recorded more than its
relative ownership share of MusicNets net losses.
E. Fair Value of Financial Instruments. At
December 31, 2005, the Company had the following financial
instruments: cash and cash equivalents, investments, accounts
receivable, accounts payable, accrued liabilities and
convertible debt. The carrying value of cash and cash
equivalents, investments, accounts receivable, accounts payable
and accrued liabilities approximates their fair value based on
the liquidity of these financial instruments or based on their
short-term nature. The fair value of convertible debt, which has
a carrying value of $100 million, was approximately
$97.2 million and $99.1 million at December 31,
2005 and 2004, respectively.
F. Revenue Recognition. The Company recognizes
revenue in connection with its software products pursuant to the
requirements of Statement of Position No. 97-2,
Software Revenue Recognition
(SOP 97-2), as
amended by Statement of Position No. 98-9, Software
Revenue Recognition with Respect to Certain Arrangements.
Some of the Companys software arrangements include
consulting implementation services sold separately under
consulting engagement contracts. Consulting revenue from
57
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
these arrangements is generally accounted for separately from
new software license revenue because the arrangements qualify as
service transactions as defined in
SOP 97-2. Revenue
for consulting services is generally recognized as the services
are performed.
If the Company provides consulting services that are considered
essential to the functionality of the software products, both
the software product revenue and services revenue are recognized
under contract accounting in accordance with the provisions of
SOP 81-1, Accounting for Performance of
Construction-Type and Certain Production-Type Contracts.
Revenue from these arrangements is recognized under the
percentage of completion method based on the ratio of direct
labor hours
incurred-to-date to
total projected labor hours.
For transactions not falling under the scope of
SOP 97-2, the
Companys revenue recognition policies are in accordance
with Securities and Exchange Commission (SEC) Staff
Accounting Bulletin (SAB) 104, Revenue
Recognition, and the FASBs Emerging Issues Task
Force Issue
No. 00-21.
SAB 104 was issued on December 17, 2003 and supercedes
SAB 101, Revenue Recognition. The adoption of
SAB 104 did not materially affect the Companys
revenue recognition policies, its results of operations,
financial position or cash flows.
Revenue attributable to an element in a customer arrangement is
recognized when persuasive evidence of an arrangement exists and
delivery has occurred, provided the fee is fixed or
determinable, collectibility is probable and the arrangement
does not require significant customization of the software. If
at the outset of the customer arrangement, the Company
determines that the arrangement fee is not fixed or determinable
or that collectibility is not probable, the Company defers the
revenue and recognizes the revenue when the arrangement fee
becomes due and payable or as cash is received when
collectibility concerns exist.
For multiple element arrangements when Company-specific
objective evidence of fair value exists for all of the
undelivered elements of the arrangement, but does not exist for
one or more of the delivered elements in the arrangement, the
Company recognizes revenue under the residual method. Under the
residual method, at the outset of the arrangement with a
customer, the Company defers revenue for the fair value of its
undelivered elements such as consulting services and product
support and upgrades, and recognizes the revenue for the
remainder of the arrangement fee attributable to the elements
initially delivered, such as software licenses, when the
criteria in
SOP 97-2 have been
met. If specific objective evidence does not exist for an
undelivered element in a software arrangement, which may include
distribution or other term-based arrangements in which the
license fee includes support during the arrangement term,
revenue is recognized over the term of the support period
commencing upon delivery of the Companys technology to the
customer. For software license fees in single element
arrangements such as consumer software sales and music copying
or burning, revenue recognition typically occurs
when the product is made available to the customer for download
or when products are shipped to the customer, or in the case of
music burns, when the burn occurs.
Revenue from software license agreements with original equipment
manufacturers (OEM) is recognized when the OEM delivers its
product incorporating the Companys software to the end
user. In the case of prepayments received from an OEM, the
Company generally recognizes revenue based on the actual
products sold by the OEM. If the Company provides ongoing
support to the OEM in the form of future upgrades, enhancements
or other services over the term of the contract, revenue is
generally recognized ratably over the term of the contract.
Service revenue includes payments under support and upgrade
contracts, media subscription services, and fees from consulting
services and streaming media content hosting. Support and
upgrade revenue is recognized ratably over the term of the
contract, which typically is twelve months. Media subscription
58
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
service revenue is recognized ratably over the period that
services are provided, which is generally one to twelve months.
Other service revenues are recognized when the services are
performed.
Fees generated from advertising appearing on the Companys
websites, and from advertising included in the Companys
products, are recognized as revenue over the terms of the
contracts. The Company may guarantee a minimum number of
advertising impressions, click-throughs or other criteria on the
Companys websites or products for a specified period. The
Company recognizes the corresponding revenue as the delivery of
the advertising occurs.
G. Research and Development. Costs incurred in
research and development are expensed as incurred. Software
development costs are required to be capitalized when a
products technological feasibility has been established
through the date the product is available for general release to
customers. The Company has not capitalized any software
development costs, as technological feasibility is generally not
established until a working model is completed, at which time
substantially all development is complete.
H. Stock-Based Compensation. The Company has elected
to apply the disclosure-only provisions of Statement of
Financial Accounting Standards (SFAS) No. 123,
Accounting for Stock-Based Compensation
(SFAS 123). Accordingly, the Company accounts for
stock-based compensation transactions with employees using the
intrinsic value method prescribed in Accounting Principles Board
Opinion No. 25, Accounting for Stock Options Issued
to Employees, (APB 25) and related
interpretations. Compensation cost for employee stock options is
measured as the excess, if any, of the fair value of the
Companys common stock at the date of grant over the stock
option exercise price. Compensation cost for awards to
non-employees is based on the fair value of the awards in
accordance with SFAS 123 and related interpretations.
The Company recognizes compensation cost related to fixed
employee awards on an accelerated basis over the applicable
vesting period using the methodology described in Financial
Accounting Standards Board (FASB) Interpretation
No. 28, Accounting for Stock Appreciation Rights and
Other Variable Stock Option or Award Plans.
At December 31, 2005, the Company had six stock-based
employee compensation plans, which are described more fully in
Note 10. The Company accounts for those plans under the
recognition and measurement principles of APB 25 and
related interpretations. The following table illustrates the
effect on net income (loss) and net income (loss) per share if
the Company had applied the fair value recognition provisions of
SFAS 123 to stock-based employee compensation.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
2003 | |
|
|
| |
|
| |
|
| |
|
|
(In thousands) | |
Net income (loss), as reported
|
|
$ |
312,345 |
|
|
$ |
(22,997 |
) |
|
$ |
(21,451 |
) |
Stock-based employee compensation expense included in reported
net income (loss)
|
|
|
128 |
|
|
|
695 |
|
|
|
1,120 |
|
Less: Total stock-based employee compensation expense determined
under fair value based method for all awards, net of related tax
effects
|
|
|
(14,860 |
) |
|
|
(21,227 |
) |
|
|
(33,899 |
) |
|
|
|
|
|
|
|
|
|
|
Pro forma net income (loss)
|
|
$ |
297,613 |
|
|
$ |
(43,529 |
) |
|
$ |
(54,230 |
) |
|
|
|
|
|
|
|
|
|
|
Net income (loss) per share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic as reported
|
|
$ |
1.84 |
|
|
$ |
(0.14 |
) |
|
$ |
(0.13 |
) |
|
Diluted as reported
|
|
|
1.70 |
|
|
|
(0.26 |
) |
|
|
(0.34 |
) |
|
Basic pro forma
|
|
|
1.75 |
|
|
|
(0.14 |
) |
|
|
(0.13 |
) |
|
Diluted pro forma
|
|
|
1.62 |
|
|
|
(0.26 |
) |
|
|
(0.34 |
) |
59
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
I. Advertising Expenses. The Company expenses the
cost of advertising and promoting its products as incurred. Such
costs are included in sales and marketing expense and totaled
$40.0 million in 2005, $13.0 million in 2004 and
$6.2 million in 2003.
J. Depreciation and Amortization. Depreciation and
amortization of equipment, software and leasehold improvements
are computed using the straight-line method over the lesser of
the estimated useful lives of the assets, generally three years,
or the lease term. Depreciation is recognized using the
straight-line method over the following approximate useful lives:
|
|
|
|
|
|
|
Useful Life | |
|
|
| |
Computer equipment and software
|
|
|
3 years |
|
Office furniture and equipment
|
|
|
3 years |
|
Leasehold improvements
|
|
|
2 to 10 years |
|
Depreciation expense for the years ended December 31, 2005,
2004 and 2003 was $10.3 million, $9.8 million and
$10.4 million, respectively.
K. Income Taxes. The Company computes income taxes
using the asset and liability method, under which deferred
income taxes are provided for the temporary differences between
the financial reporting basis and the tax basis of the
Companys assets and liabilities and operating loss and tax
credit carryforwards. A valuation allowance is established when
necessary to reduce deferred tax assets to the amount expected
to be realized. Deferred tax assets and liabilities and
operating loss and tax credit carryforwards are measured using
enacted tax rates expected to apply to taxable income in the
years in which those temporary differences and operating loss
and tax credit carryforwards are expected to be recovered or
settled.
L. Trade Accounts Receivable. Trade accounts
receivable are recorded at the invoiced amount and do not bear
interest. The allowance for doubtful accounts is the
Companys best estimate of the amount of probable credit
losses in the Companys existing accounts receivable. The
Company determines the allowance based on analysis of historical
bad debts, customer concentrations, customer credit-worthiness
and current economic trends. The Company reviews its allowance
for doubtful accounts quarterly. Past due balances over
90 days and specified other balances are reviewed
individually for collectibility. All other balances are reviewed
on an aggregate basis. Account balances are written off against
the allowance after all means of collection have been exhausted
and the potential for recovery is considered remote. The Company
does not have any off-balance sheet credit exposure related to
its customers. As of December 31, 2005, no one customer
accounted for more than 10% of total trade accounts receivable.
As of December 31, 2004 and 2003, one international
customer accounted for approximately 12% and 20%, respectively,
of the total trade accounts receivable.
M. Derivative Financial Instruments. The Company
conducts business internationally in several currencies. As
such, it is exposed to adverse movements in foreign currency
exchange rates. A portion of these risks are managed through the
use of financial derivatives, but fluctuations could impact the
Companys results of operations and financial position. The
Companys foreign currency risk management program reduces,
but does not entirely eliminate, the impact of currency exchange
rate movements.
Generally, the Companys practice is to manage foreign
currency risk for the majority of material short-term
intercompany balances through the use of foreign currency
forward contracts. These contracts require the Company to
exchange currencies at rates agreed upon at the contracts
inception. Because the impact of movements in currency exchange
rates on forward contracts offsets the related impact on the
short-term intercompany balances, these financial instruments
help alleviate the risk that might otherwise result from certain
changes in currency exchange rates. The Company does not
designate its foreign exchange forward contracts related to
short-term intercompany accounts as hedges and, accordingly, the
60
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
Company adjusts these instruments to fair value through results
of operations. However, the Company may periodically hedge a
portion of its foreign exchange exposures associated with
material firmly committed transactions and long-term investments.
All derivatives, whether designated in hedging relationships or
not, are recorded on the balance sheet at fair value. If the
derivative is designated a hedge, then depending on the nature
of the hedge, changes in fair value will either be recorded
immediately in results of operations, or be recognized in other
comprehensive income until the hedged item is recognized in
results of operations.
The following foreign currency contracts were outstanding and
recorded at fair value (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Contract | |
|
|
|
|
Contract Amount | |
|
Amount | |
|
|
December 31, 2005 |
|
(Local Currency) | |
|
(US Dollars) | |
|
Fair Value | |
|
|
| |
|
| |
|
| |
British Pounds (GBP) (contracts to receive GBP/pay
US$)
|
|
|
(GBP |
) |
|
|
1,000 |
|
|
$ |
1,736 |
|
|
$ |
(15 |
) |
Euro (EUR) (contracts to pay EUR/receive US$)
|
|
|
(EUR |
) |
|
|
1,260 |
|
|
$ |
1,514 |
|
|
$ |
23 |
|
Japanese Yen (YEN) (contracts to receive YEN/pay US$)
|
|
|
(YEN |
) |
|
|
30,000 |
|
|
$ |
251 |
|
|
$ |
4 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Contract | |
|
|
|
|
Contract Amount | |
|
Amount | |
|
|
December 31, 2004 |
|
(Local Currency) | |
|
(US Dollars) | |
|
Fair Value | |
|
|
| |
|
| |
|
| |
British Pounds (GBP) (contracts to receive GBP/pay
US$)
|
|
|
(GBP |
) |
|
|
780 |
|
|
$ |
1,502 |
|
|
$ |
(1 |
) |
Euro (EUR) (contracts to pay EUR/receive US$)
|
|
|
(EUR |
) |
|
|
2,650 |
|
|
$ |
3,527 |
|
|
$ |
(88 |
) |
Japanese Yen (YEN) (contracts to receive YEN/pay US$)
|
|
|
(YEN |
) |
|
|
123,000 |
|
|
$ |
1,168 |
|
|
$ |
27 |
|
No derivative instruments which were designated as hedges for
accounting purposes were outstanding at December 31, 2005
and 2004.
N. Net Income (Loss) Per Share. Basic net income
(loss) per share is computed by dividing net income (loss) by
the weighted average number of common shares outstanding during
the period. Diluted net income (loss) per share is computed by
dividing net income (loss) by the weighted average number of
common and dilutive potential common shares outstanding during
the period. As the Company had a net loss in 2004 and 2003,
basic and diluted net loss per share are the same for those
periods. Potentially dilutive securities outstanding were not
included in the computation of diluted net loss per common share
61
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
because to do so would have been anti-dilutive. The share count
used to compute basic and diluted net income (loss) per share is
calculated as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
2003 | |
|
|
| |
|
| |
|
| |
Weighted average shares outstanding
|
|
|
169,986 |
|
|
|
169,056 |
|
|
|
160,580 |
|
Less restricted shares
|
|
|
|
|
|
|
149 |
|
|
|
271 |
|
|
|
|
|
|
|
|
|
|
|
Shares used to compute basic net income (loss) per share
|
|
|
169,986 |
|
|
|
168,907 |
|
|
|
160,309 |
|
|
|
|
|
|
|
|
|
|
|
Dilutive potential common shares:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock options
|
|
|
3,425 |
|
|
|
|
|
|
|
|
|
|
Convertible debt
|
|
|
10,750 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares used to compute diluted net income (loss) per share
|
|
|
184,161 |
|
|
|
168,907 |
|
|
|
160,309 |
|
|
|
|
|
|
|
|
|
|
|
Potentially dilutive securities for the year ended
December 31, 2005 included options to purchase
approximately 31.0 million common shares with a weighted
average exercise price of $5.78 per share. Potentially
dilutive securities for the year ended December 31, 2004
included options to purchase approximately 35.5 million
common shares with a weighted average exercise price of
$7.13 per share and approximately 10.8 million
contingently issuable common shares related to convertible debt
described in Note 10. Potentially dilutive securities for
the year ended December 31, 2003 included options to
purchase approximately 36.6 million common shares with a
weighted average exercise price of $7.05 per share and
approximately 10.8 million contingently issuable common
shares related to convertible debt.
O. Comprehensive Income (Loss). The Companys
comprehensive income (loss) for 2005, 2004 and 2003 consisted of
net income (loss), unrealized gains (losses) on marketable
securities and the gross amount of foreign currency translation
gains (losses). The tax effect of the foreign currency
translation gains (losses) and unrealized gains (losses) on
investments has been taken into account, if applicable.
The components of accumulated other comprehensive income are as
follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
|
| |
|
| |
Unrealized gains on investments, including taxes of $13,592 in
2005 and $16,916 in 2004
|
|
$ |
28,717 |
|
|
$ |
14,905 |
|
Foreign currency translation adjustments
|
|
|
(1,993 |
) |
|
|
(316 |
) |
|
|
|
|
|
|
|
|
|
$ |
26,724 |
|
|
$ |
14,589 |
|
|
|
|
|
|
|
|
P. Foreign Currency. The Company considers the
functional currency of its foreign subsidiaries to be the local
currency of the country in which the subsidiary operates. Assets
and liabilities of foreign operations are translated into
U.S. dollars using rates of exchange in effect at the end
of the reporting period. Income and expense accounts are
translated into U.S. dollars using average rates of
exchange. The net gain or loss resulting from translation is
shown as translation adjustment and included in accumulated
other comprehensive income (loss) in shareholders equity.
Gains and losses from foreign currency transactions are included
in the consolidated statements of operations. There were no
significant gains or losses on foreign currency transactions in
2005, 2004 and 2003.
Q. Use of Estimates. The preparation of financial
statements in conformity with accounting principles generally
accepted in the United States requires management to make
estimates and assumptions that affect the reported amounts of
assets and liabilities, disclosure of contingent assets and
62
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
liabilities at the date of the financial statements and the
reported amounts of revenues and expenses during the reporting
period. Actual results could differ from those estimates.
R. Impairment of Long-Lived Assets. SFAS 144
provides a single accounting model for long-lived assets to be
disposed of. SFAS 144 also changes the criteria for
classifying an asset as held for sale, and broadens the scope of
businesses to be disposed of that qualify for reporting as
discontinued operations and changes the timing of recognizing
losses on such operations.
In accordance with SFAS 144, the Company reviews its
long-lived assets for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may
not be recoverable. Recoverability of assets held and used is
measured by a comparison of the carrying amount of an asset to
estimated undiscounted future cash flows expected to be
generated by the asset. If such assets are considered to be
impaired, the impairment to be recognized is measured by the
amount by which the carrying amount of the assets exceeds their
fair value. Assets to be disposed of are separately presented on
the balance sheet and reported at the lower of their carrying
amount or fair value less costs to sell, and are no longer
depreciated.
S. Goodwill and Intangible Assets. Goodwill
represents the excess of the purchase price over the fair value
of identifiable tangible and intangible assets acquired and
liabilities assumed in business combinations accounted for under
the purchase method. Goodwill and intangible assets not subject
to amortization are tested annually for impairment, and are
tested for impairment more frequently if events and
circumstances indicate that the asset might be impaired. Factors
the Company considers important which could trigger an
impairment review include the following:
|
|
|
|
|
poor economic performance relative to historical or projected
future operating results; |
|
|
|
significant negative industry, economic or company specific
trends; |
|
|
|
changes in the manner of our use of the assets or the plans for
our business; and |
|
|
|
loss of key personnel. |
In accordance with SFAS 142, we review our goodwill for
impairment annually, or more frequently, if facts and
circumstances warrant a review. The provisions of SFAS 142
require a two-step test be performed to assess goodwill for
impairment. First, the fair value of each reporting unit is
compared to its carrying value. If the fair value exceeds the
carrying value, goodwill is not impaired and no further testing
is performed. The second step is performed if the carrying value
exceeds the fair value. The implied fair value of the reporting
units goodwill must be determined and compared to the
carrying value of the goodwill. If the carrying value of a
reporting units goodwill exceeds its implied fair value,
an impairment loss equal to the difference will be recorded. In
the fourth quarters of 2005, 2004 and 2003, the Company
performed a similar test to that described above in connection
with its annual impairment test required under SFAS 142. In
each period tested, the implied fair value of the reporting
units exceeded their respective carrying amounts, which
supported that goodwill was not impaired and no further testing
was required.
T. Reclassifications. Certain reclassifications have
been made to the 2004 and 2003 consolidated financial statements
to conform to the 2005 presentation.
U. New Accounting Pronouncements. In December 2004,
the FASB issued SFAS No. 123 (revised 2004),
Share-Based Payment (SFAS 123R), which requires
the measurement of all share-based payments to employees,
including grants of employee stock options, using a
fair-value-based method and the recording of such expense in an
entitys statement of income. The Company adopted the
provisions of SFAS 123R on January 1, 2006. The pro
forma disclosures previously permitted under SFAS 123 no
longer will be an alternative to financial statement
recognition. See Stock-Based Compensation
(Note 1 (H)) for the pro forma net income (loss) and net
income (loss) per share amounts, for the years ended
63
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
December 31, 2005, 2004 and 2003, as if the Company had
applied the fair value recognition provisions of SFAS 123
to measure compensation expense for employee stock incentive
awards. Upon adoption during the quarter ending March 31,
2006, the Company will recognize stock-based compensation using
the modified prospective method and expects the adoption to have
a material impact on the Companys consolidated financial
statements.
|
|
Note 2. |
Cash and Cash Equivalents and Short-Term Investments |
The Company considers all short-term investments as
available-for-sale. Accordingly, these investments are carried
at fair value which is based on quoted market prices. The
Company had net unrealized losses on short-term investments of
approximately $0.3 million at December 31, 2005 and
2004. All short-term investments have remaining contractual
maturities of two years or less.
The Companys cash, cash equivalents and short-term
investments consist of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross |
|
Gross | |
|
|
|
|
Amortized | |
|
Unrealized |
|
Unrealized | |
|
Estimated | |
December 31, 2005 |
|
Cost | |
|
Gains |
|
Losses | |
|
Fair Value | |
|
|
| |
|
|
|
| |
|
| |
Cash and cash equivalents:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash
|
|
$ |
2,455 |
|
|
$ |
|
|
|
$ |
|
|
|
$ |
2,455 |
|
|
Money market mutual funds
|
|
|
587,256 |
|
|
|
|
|
|
|
|
|
|
|
587,256 |
|
|
Corporate notes & bonds
|
|
|
49,234 |
|
|
|
|
|
|
|
|
|
|
|
49,234 |
|
|
U.S. Government agency securities
|
|
|
13,026 |
|
|
|
|
|
|
|
|
|
|
|
13,026 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cash and cash equivalents
|
|
|
651,971 |
|
|
|
|
|
|
|
|
|
|
|
651,971 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Short-term investments:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. Government agency securities
|
|
|
129,658 |
|
|
|
|
|
|
|
(302 |
) |
|
|
129,356 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total short-term investments
|
|
|
129,658 |
|
|
|
|
|
|
|
(302 |
) |
|
|
129,356 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cash, cash equivalents and short-term investments
|
|
$ |
781,629 |
|
|
$ |
|
|
|
$ |
(302 |
) |
|
$ |
781,327 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Restricted cash equivalents
|
|
$ |
17,300 |
|
|
$ |
|
|
|
$ |
|
|
|
$ |
17,300 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
64
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross |
|
Gross | |
|
|
|
|
Amortized | |
|
Unrealized |
|
Unrealized | |
|
Estimated | |
December 31, 2004 |
|
Cost | |
|
Gains |
|
Losses | |
|
Fair Value | |
|
|
| |
|
|
|
| |
|
| |
Cash and cash equivalents:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash
|
|
$ |
4,613 |
|
|
$ |
|
|
|
$ |
|
|
|
$ |
4,613 |
|
|
Money market mutual funds
|
|
|
63,245 |
|
|
|
|
|
|
|
|
|
|
|
63,245 |
|
|
Corporate notes & bonds
|
|
|
74,806 |
|
|
|
|
|
|
|
|
|
|
|
74,806 |
|
|
U.S. Government agency securities
|
|
|
76,762 |
|
|
|
|
|
|
|
|
|
|
|
76,762 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cash and cash equivalents
|
|
|
219,426 |
|
|
|
|
|
|
|
|
|
|
|
219,426 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Short-term investments:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. Government agency securities
|
|
|
144,534 |
|
|
|
|
|
|
|
(339 |
) |
|
|
144,195 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total short-term investments
|
|
|
144,534 |
|
|
|
|
|
|
|
(339 |
) |
|
|
144,195 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cash, cash equivalents and short-term investments
|
|
$ |
363,960 |
|
|
$ |
|
|
|
$ |
(339 |
) |
|
$ |
363,621 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Restricted cash equivalents
|
|
$ |
20,151 |
|
|
$ |
|
|
|
$ |
|
|
|
$ |
20,151 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31, 2005, restricted cash equivalents represent
(a) cash equivalents pledged as collateral against a
$10.0 million letter of credit in connection with a lease
agreement for the Companys corporate headquarters and
(b) cash equivalents pledged as collateral against a
$7.3 million letter of credit with a bank which represents
collateral on the lease of a building located near the
Companys corporate headquarters.
Realized gains or losses on sales of available-for-sale
securities for 2005, 2004 and 2003 were not significant.
As of December 31, 2005, the Companys short-term
investments were invested in U.S. Government agency
securities that were available-for-sale. The securities fair
value at December 31, 2005 was approximately $129.4 and the
gross unrealized loss related to these securities was
approximately $0.3 million. The securities have been in a
continuous unrealized loss position for less than twelve months.
Market values were determined for each individual security in
the investment portfolio. The declines in value of these
investments is primarily related to changes in interest rates
and are considered to be temporary in nature.
The contractual maturities of available-for-sale debt securities
at December 31, 2005 are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
Amortized | |
|
Estimated | |
|
|
Cost | |
|
Fair Value | |
|
|
| |
|
| |
Within one year
|
|
$ |
115,494 |
|
|
$ |
115,195 |
|
Between one year and two years
|
|
|
14,164 |
|
|
|
14,161 |
|
|
|
|
|
|
|
|
|
Short-term investments
|
|
$ |
129,658 |
|
|
$ |
129,356 |
|
|
|
|
|
|
|
|
|
|
Note 3. |
Notes Receivable from Related Parties and Shareholder |
Notes receivable from related parties are carried at the
estimated net realizable value and consist of three cash loans
made in 2000 by Listen.Com, Inc. (Listen), a company acquired by
RealNetworks in 2003, to certain former officers of Listen. In
September 2005, one note with an interest rate of 6.13% was
satisfied. The remaining two notes receivable from a related
party were due in February and April 2005
65
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
and bore interest rates of 6.46% and 6.60%, respectively. These
two notes were satisfied in April 2005. No amounts remained
outstanding related to these notes at December 31, 2005.
The amount related to the three notes that were outstanding at
December 31, 2004 was $0.1 million.
Note receivable from shareholder was carried at the net
realizable value and consisted of a full recourse note issued as
consideration for the exercise of Listen stock options by an
individual that was an employee of the Company through December
2004 and was an employee of Listen on the date of issuance. The
note bore interest at a rate of 5.28% and was due seven years
from the date of issuance. The amount of the note receivable
from shareholder that was outstanding at December 31, 2004
was not significant and was satisfied in March 2005. No amounts
remained outstanding related to this note at December 31,
2005.
|
|
Note 4. |
Business Combinations: Goodwill & Intangible
Assets |
|
|
|
A. Business Combination in 2005. |
On May 6, 2005, the Company acquired all of the outstanding
securities of Mr. Goodliving Ltd. (Mr. Goodliving), in
exchange for approximately $15.6 million in cash payments.
Included in the purchase price is $0.5 million in estimated
acquisition-related expenditures consisting primarily of
professional fees. In addition, the Company may be obligated to
pay up to $1.6 million over a four-year period to certain
Mr. Goodliving employees in the form of a management
incentive plan if certain performance criteria are achieved.
Such amounts are not included in the aggregate purchase price
and, to the extent earned, will be recorded as compensation
expense over the related employment periods. The accrued
compensation cost related to this plan was approximately
$0.3 million for the year ended December 31, 2005 and
is included in the consolidated balance sheet in accrued and
other liabilities.
Mr. Goodliving is a developer and publisher of mobile games
located in Helsinki, Finland. The Company believes that
combining Mr. Goodlivings assets and distribution
network with the Companys downloadable, PC-based games
assets and distribution platform will enhance the Companys
entry into the mobile games market. The results of
Mr. Goodlivings operations are included in the
Companys consolidated financial statements starting from
the date of acquisition.
A summary of the purchase price for the acquisition is as
follows (in thousands):
|
|
|
|
|
|
Cash
|
|
$ |
15,089 |
|
Estimated direct acquisition costs
|
|
|
534 |
|
|
|
|
|
|
Total
|
|
$ |
15,623 |
|
|
|
|
|
The aggregate purchase consideration has been allocated to the
assets and liabilities acquired, including identifiable
intangible assets, based on their respective estimated fair
values as summarized below. The respective estimated fair values
were determined by an independent third party appraisal at the
acquisition date and resulted in excess purchase consideration
over the net tangible and identifiable intangible assets
acquired of $12.2 million. Goodwill in the amount of
$12.8 million is not deductible for tax purposes. Pro forma
results are not presented, as they are not material to the
Companys overall financial statements.
66
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
A summary of the preliminary allocation of the purchase price is
as follows (in thousands):
|
|
|
|
|
|
Current assets
|
|
$ |
1,624 |
|
Property and equipment
|
|
|
10 |
|
Technology/ Games
|
|
|
1,460 |
|
Tradenames/ Trademarks
|
|
|
400 |
|
Distributor/ Customer Relationships
|
|
|
1,500 |
|
Goodwill
|
|
|
12,745 |
|
Current liabilities
|
|
|
(756 |
) |
Net deferred tax liabilities
|
|
|
(497 |
) |
Long-term notes payable
|
|
|
(863 |
) |
|
|
|
|
|
Net assets acquired
|
|
$ |
15,623 |
|
|
|
|
|
Technology/ Games have a weighted average estimated useful life
of two years. Tradenames and trademarks have a weighted average
estimated useful life of four years. Distributor and customer
relationships have a weighted average estimated useful life of
five years.
|
|
|
B. Business Combination in 2004. |
In January 2004, the Company acquired all of the outstanding
securities of GameHouse, Inc. (GameHouse) in exchange for
approximately $9.1 million in cash payments, including an
estimated future payment of $0.1 million to cover certain
tax obligations of the selling shareholders, and
3.0 million shares and options to acquire 0.3 million
shares of RealNetworks common stock valued at approximately
$20.9 million. The value assigned to the stock portion of
the purchase price was $6.40 per share based on the average
closing price of RealNetworks common stock for the five
days beginning two days prior to and ending two days after
January 26, 2004 (the date of the Agreement and Plan of
Merger). Options issued were valued based on the Black-Scholes
options pricing model. Included in the purchase price is
$0.4 million in acquisition-related expenditures consisting
primarily of professional fees. Certain former GameHouse
shareholders are eligible to receive up to $5.5 million
over a four-year period, payable in cash or, at the
Companys discretion, in RealNetworks common stock valued
in that amount provided they remain employed by RealNetworks
during such period. In addition, the Company may be obligated to
pay up to $1.0 million over a four-year period to certain
GameHouse employees in the form of a management incentive plan.
Such amounts are not included in the aggregate purchase price
and, to the extent earned, are being recorded as compensation
expense over the related employment periods.
GameHouse is a developer, publisher and distributor of
downloadable PC and mobile games. The Company believes that
combining GameHouses assets with RealNetworks
subscription games service and downloadable games distribution
platform will strengthen the Companys position in the PC
games market. The results of GameHouses operations are
included in RealNetworks consolidated financial statements
starting from the date of acquisition.
A summary of the purchase price for the acquisition is as
follows (in thousands):
|
|
|
|
|
|
Cash
|
|
$ |
9,131 |
|
Fair value of RealNetworks common stock and options issued
|
|
|
20,901 |
|
Direct acquisition costs
|
|
|
350 |
|
|
|
|
|
|
Total
|
|
$ |
30,382 |
|
|
|
|
|
67
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
The aggregate purchase consideration has been allocated to the
assets and liabilities acquired, including identifiable
intangible assets, based on their respective estimated fair
values by an independent third-party appraisal as summarized
below. The respective estimated fair values were determined as
of the acquisition date and resulted in excess purchase
consideration over the net tangible and identifiable intangible
assets acquired of $21.9 million. Goodwill in the amount of
$21.9 million is not deductible for tax purposes. Pro forma
results are not presented, as they are not material to the
Companys overall financial statements.
A summary of the allocation of the purchase price is as follows
(in thousands):
|
|
|
|
|
|
Current assets
|
|
$ |
1,315 |
|
Property and equipment
|
|
|
82 |
|
Technology/ Games
|
|
|
5,200 |
|
Tradename
|
|
|
1,600 |
|
Customer list
|
|
|
400 |
|
Goodwill
|
|
|
21,894 |
|
Current liabilities
|
|
|
(331 |
) |
Deferred stock compensation
|
|
|
222 |
|
|
|
|
|
|
Net assets acquired
|
|
$ |
30,382 |
|
|
|
|
|
Technology/ Games have a weighted average estimated useful life
of two years. Tradename and customer list have a weighted
average estimated useful life of four years.
|
|
|
C. Business Combination in 2003. |
In August 2003, the Company acquired all of the outstanding
securities of Listen in exchange for approximately
$18.8 million in cash payments, including a
$1.5 million payment made in January 2004 based on the
achievement of a specified milestone, and 3.8 million
shares and 0.4 million options to acquire shares of
RealNetworks common stock valued at $19.4 million. The
value assigned to the stock portion of the purchase price was
$4.72 per share based on the average closing price of
RealNetworks common stock for the five days beginning two
days prior to and ending two days after April 21, 2003 (the
date of the Agreement and Plan of Merger and Reorganization).
Options issued were valued based on the Black-Scholes options
pricing model. Included in the purchase price is
$0.7 million in acquisition-related expenditures consisting
primarily of professional fees. In addition, as of the
acquisition date, RealNetworks had invested $7.3 million in
Listen in the form of convertible promissory notes that became a
part of the purchase consideration. The cash balance at Listen
on the acquisition date was $4.9 million. As part of the
acquisition, a management incentive plan was established whereby
certain employees of Listen could be entitled over a two-year
period to receive payments in cash or stock having a value of up
to $3.0 million.
Listen operated an on-demand and premium, commercial-free music
subscription service for which it charged monthly subscription
fees. It also provided its subscribers with the ability to copy
or burn music to compact discs for which it charged
a per-track fee. The Company believed that combining the
services of Listen with the Companys digital music assets
and distribution network would enable the Company to create a
compelling digital music experience. The results of
Listens operations are included in the Companys
consolidated financial statements since the date of acquisition.
68
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
A summary of the purchase price for the acquisition is as
follows (in thousands):
|
|
|
|
|
|
Cash
|
|
$ |
18,754 |
|
Fair value of RealNetworks common stock and options issued
|
|
|
19,376 |
|
Convertible notes receivable converted upon acquisition
|
|
|
7,300 |
|
Direct acquisition costs
|
|
|
735 |
|
|
|
|
|
|
Total
|
|
$ |
46,165 |
|
|
|
|
|
The total purchase consideration has been allocated to the
assets and liabilities acquired, including identifiable
intangible assets, based on their respective estimated fair
values as summarized below. The respective fair values were
determined by an independent third party appraisal at the
acquisition date. Goodwill in the amount of $37.4 million
is not deductible for tax purposes.
A summary of the allocation of the purchase price is as follows
(in thousands):
|
|
|
|
|
|
Current assets
|
|
$ |
6,738 |
|
Property and equipment
|
|
|
1,435 |
|
Other assets
|
|
|
988 |
|
Tradenames
|
|
|
132 |
|
Patents
|
|
|
252 |
|
Subscriber and Distribution Agreements
|
|
|
346 |
|
Goodwill
|
|
|
37,400 |
|
Current liabilities
|
|
|
(1,879 |
) |
Shareholder notes receivable
|
|
|
83 |
|
Deferred stock compensation
|
|
|
670 |
|
|
|
|
|
|
Net assets acquired
|
|
$ |
46,165 |
|
|
|
|
|
Tradenames and patents have a weighted average estimated useful
life of one year and subscriber and distribution agreements have
a weighted average estimated useful life of four years.
|
|
|
D. Goodwill and Intangible Assets. |
Goodwill is the excess of the purchase price (including
liabilities assumed and direct acquisition related costs) over
the fair value of the tangible and identifiable intangible
assets acquired through acquisitions of businesses.
Goodwill, net of accumulated amortization, changed during 2005
as follows:
|
|
|
|
|
|
Goodwill, net at December 31, 2004
|
|
$ |
119,217 |
|
|
Acquisition of Mr. Goodliving
|
|
|
12,745 |
|
|
Deferred tax adjustment
|
|
|
(7,528 |
) |
|
Effects of foreign currency translation
|
|
|
(1,104 |
) |
|
|
|
|
Goodwill, net at December 31, 2005
|
|
$ |
123,330 |
|
|
|
|
|
As of December 31, 2005, other intangible assets acquired
in business combinations consisted of acquired technology,
tradenames, patents, and subscriber and distribution agreements.
Amortization expense related to these assets was
$4.0 million, $3.6 million and $0.7 million in
2005, 2004 and 2003, respectively, and was $1.0 million and
$0.4 million in 2005 and 2004, respectively, related to
purchased
69
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
intangible assets. Amortization expense related to acquired and
purchased intangible assets is estimated to be
$2.9 million, $2.2 million, $1.3 million,
$0.8 million and $0.2 million in 2006, 2007, 2008,
2009 and 2010, respectively.
|
|
Note 5. |
Equity Investments |
RealNetworks has made minority equity investments for business
and strategic purposes through the purchase of voting capital
stock of companies. The Companys investments in publicly
traded companies are available for sale, carried at current
market value and are classified as long-term. The Company
periodically evaluates whether declines in fair value, if any,
of its investments are other-than-temporary. This evaluation
consists of a review of qualitative and quantitative factors.
For investments with publicly quoted market prices, these
factors include the time period and extent by which its
accounting basis exceeds its quoted market price. The Company
also considers other factors to determine whether declines in
fair value are other-than-temporary, such as the investees
financial condition, results of operations and operating trends.
The evaluation also considers publicly available information
regarding the investee companies. For investments in private
companies with no quoted market price, the Company considers
similar qualitative and quantitative factors and also considers
the implied value from any recent rounds of financing completed
by the investee. Based upon an evaluation of the facts and
circumstances during 2005, the Company determined that an
other-than-temporary decline in fair value had occurred in one
of its privately-held investments, resulting in an impairment
charge of $0.3 million to reflect changes in the fair value
of the investment in the results of operations. Based upon an
evaluation of the facts and circumstances during 2004, the
Company determined that other-than-temporary declines in fair
value had occurred in one of its privately-held investments
resulting in an impairment charge of $0.5 million to
reflect changes in the fair value of this investment in the
results of operations. Based upon an evaluation of the facts and
circumstances during 2003, the Company determined that
other-than-temporary declines in fair value had occurred in two
of its publicly traded investments resulting in impairment
charges of $0.4 million to reflect changes in the fair
value of these investments in the results of operations.
The effects of these impairments on cost and carrying value are
incorporated into the values below. A summary of the investments
is as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
|
| |
|
| |
Privately held investments
|
|
|
|
|
|
|
|
|
|
Cost
|
|
$ |
12,500 |
|
|
$ |
39,571 |
|
|
Carrying value
|
|
|
2,716 |
|
|
|
3,403 |
|
Publicly traded investments
|
|
|
|
|
|
|
|
|
|
Cost
|
|
|
913 |
|
|
|
1,034 |
|
|
Carrying value
|
|
$ |
43,447 |
|
|
$ |
33,185 |
|
Privately held investments include investments accounted for
using the cost and equity methods.
As of December 31, 2005, the Company owned marketable
equity securities of J-Stream Inc., a Japanese media services
company, representing approximately 10.6% of J-Streams
outstanding shares. These securities are accounted for by the
Company as available-for-sale securities. The market value of
these shares has increased from the Companys original cost
of approximately $0.9 million, resulting in a carrying
value of $43.4 million and $33.1 million at
December 31, 2005 and 2004, respectively. The increase over
the Companys cost basis, net of tax effects is
$28.9 million and $15.2 million at December 31,
2005 and December 31, 2004, respectively, and is reflected
as a component of accumulated other comprehensive income. The
Company recently disposed of a portion of its investment in
J-Stream, through open market trades, which resulted in net
proceeds of approximately $11.9 million, for which the
70
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
Company recognized a gain, net of tax, of approximately
$8.4 million during the year ended December 31, 2005.
The disposition resulted in a tax expense and a related offset
to accumulated other comprehensive income of $3.3 million
during the year ended December 31, 2005. There were no
similar gains or losses in 2004 or 2003. The disposition reduced
the Companys ownership interest from approximately 13.5%
to 10.6%. The market for J-Streams shares is relatively
limited and the share price is volatile. Although the carrying
value of the Companys investment in J-Stream was
approximately $43.4 million at December 31, 2005,
there can be no assurance that a gain of this magnitude, or any
gain, can be realized through the disposition of these shares.
|
|
Note 6. |
Investment in MusicNet |
The Companys investment in MusicNet, a joint venture with
several media companies to create a platform for online music
subscription services, was accounted for under the equity method
of accounting. On April 12, 2005, the Company disposed of
all of its preferred shares and convertible notes in MusicNet to
a private equity firm, Baker Capital, in connection with the
sale of all of the capital stock of MusicNet. The Company
received approximately $7.2 million of cash proceeds in
connection with the closing of the transaction and received an
additional $0.4 million in connection with the expiration
of an escrow arrangement in August 2005. The Company also has
the right to receive up to an additional $2.3 million in
cash upon the expiration of an indemnity escrow arrangement
which expires on the one-year anniversary of the transaction
date.
The Company recorded in its statement of operations its equity
share of MusicNets net loss through the date of
disposition, which was $1.1 million, $4.4 million and
$5.4 million for the years ended December 31, 2005,
2004 and 2003, respectively. For purposes of calculating the
Companys equity in net loss of MusicNet, the convertible
notes were treated on an as if converted basis due
to the nature and terms of the convertible notes. As a result,
the losses recorded by the Company represented approximately
36.1% of MusicNets net losses through the date of
disposition in 2005 and 36.1% and 36.9% for the years ended
December 31, 2004 and 2003, respectively. As of
December 31, 2005, the Company no longer held an ownership
interest in MusicNet. As of December 31, 2004, the
Companys ownership interest in the outstanding shares of
capital stock of MusicNet was approximately 24.9%. The Company
recognized approximately $0.9 million, $0.7 million
and $1.1 million of revenue in 2005, 2004 and 2003,
respectively, related to license and services agreements with
MusicNet.
|
|
Note 7. |
Accrued and Other Liabilities |
The following table summarizes the Companys accrued and
other liabilities (in thousands):
|
|
|
|
|
|
|
|
|
|
|
December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
|
| |
|
| |
Employee compensation, commissions and benefits
|
|
$ |
11,413 |
|
|
$ |
11,133 |
|
Royalties and costs of sales and fulfillment
|
|
|
24,740 |
|
|
|
18,945 |
|
Legal fees and contingent legal fees
|
|
|
17,815 |
|
|
|
|
|
Sales, VAT and other taxes payable
|
|
|
16,562 |
|
|
|
4,307 |
|
Accrued charitable donations
|
|
|
15,401 |
|
|
|
|
|
Other
|
|
|
26,409 |
|
|
|
15,648 |
|
|
|
|
|
|
|
|
Total
|
|
$ |
112,340 |
|
|
$ |
50,033 |
|
|
|
|
|
|
|
|
|
|
Note 8. |
Loss on Excess Office Facilities and Content Agreement |
In October 2000, the Company entered into a
10-year lease agreement
for additional office space located near its corporate
headquarters in Seattle, Washington. During 2001, the Company
re-evaluated its
71
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
facilities requirements and, as a result, decided to permanently
sublet all of this office space. The market for office space in
Seattle has significantly declined from the date the Company
entered into this lease. As a result, the Company recorded
losses of $22.2 million during the year ended
December 31, 2001. For the year ended December 31,
2001, these losses represented approximately $15.2 million
of rent and operating expenses over the remaining life of the
lease, net of expected sublease income of $38.1 million,
and approximately $7.0 million for the write-down of
leasehold improvements to their estimated fair value. The
Companys estimates were based upon many factors including
projections of sublease rates and the time period required to
locate tenants. During the year ended December 31, 2002,
the Seattle real estate market continued to display significant
weakness, which was reflected in both increasing vacancy rates
and declining rental rates. Based on discussions with
prospective tenants, the Company concluded that the excess
office facilities were not likely to be sublet at rates used in
the original loss estimates. As a result, the Company recorded
additional losses of $17.2 million during the year ended
December 31, 2002. During 2003, the Company secured an
additional tenant at a sublease rate lower than the rate used in
previous loss estimates. As a result, the Company adjusted its
estimates to reflect the lower lease rate and recorded an
additional loss of $7.1 million. The loss estimate as of
December 31, 2005 includes $12.5 million of expected
future sublease income, which is committed under current
sublease contracts. The Company did not identify any factors
which caused it to revise its estimates during the years ended
December 31, 2005 and 2004. The Company also recorded an
accrual for estimated future losses on excess office facilities
in its allocation of the Listen purchase price. The Company
regularly evaluates the market for office space. If the market
for such space declines further in future periods or if the
Company is unable to sublease the space based on its current
estimates, the Company may have to revise its estimates, which
may result in additional losses on excess office facilities.
Although the Company believes its estimates are reasonable,
additional losses may result if actual experience differs from
projections.
During the quarter ended September 30, 2004, the Company
renegotiated its existing lease for the Companys
headquarters building. In addition, the Company ceased use of
approximately 16,000 square feet of office space, which was
returned to the landlord in May 2005 in accordance with the
amended lease agreement. The Company recorded a loss on excess
office facilities of approximately $0.9 million related to
the expensing of net leasehold improvements and rent for the
period between October 1, 2004 and April 30, 2005 in
connection with the excess space the Company vacated as of
September 30, 2004.
During the quarter ended March 31, 2004, the Company
cancelled a content licensing agreement with one of its content
partners. Under the terms of the cancellation agreement, the
Company gave up rights to use the content and ceased using the
content in any of its products or services as of March 31,
2004. The resulting expense of $4.9 million represents the
estimated fair value of payments to be made in accordance with
the terms of the cancellation agreement.
72
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
A summary of activity for the accrued loss on excess office
facilities and content agreement is as follows (in thousands):
|
|
|
|
|
|
Accrued loss at December 31, 2002
|
|
$ |
25,935 |
|
|
Revisions to estimates in accrued loss on excess office
facilities in 2003
|
|
|
7,098 |
|
|
Accrued loss related to Listen
|
|
|
115 |
|
|
Less amounts paid on accrued loss on excess office facilities in
2003, net of sublease income
|
|
|
(4,089 |
) |
|
|
|
|
Accrued loss at December 31, 2003
|
|
|
29,059 |
|
|
Less amounts paid on accrued loss on excess office facilities in
2004, net of sublease income
|
|
|
(4,925 |
) |
|
Accrued loss on excess office facilities in 2004
|
|
|
126 |
|
|
Loss on content agreement initially recorded in 2004
|
|
|
4,938 |
|
|
Less amounts paid on content agreement in 2004, net of interest
expense
|
|
|
(2,021 |
) |
|
|
|
|
Accrued loss at December 31, 2004
|
|
|
27,177 |
|
|
Less amounts paid on accrued loss on excess office facilities in
2005, net of sublease income
|
|
|
(6,244 |
) |
|
Less amounts paid on content agreement in 2005, net of interest
expense
|
|
|
(2,917 |
) |
|
|
|
|
Accrued loss at December 31, 2005
|
|
$ |
18,016 |
|
|
|
|
|
During 2003, the Company issued $100 million aggregate
principal amount of zero coupon convertible subordinated notes
due July 1, 2010, pursuant to Rule 144A under the
Securities Act of 1933, as amended. The notes are subordinated
to any Company senior debt, and are also effectively
subordinated in right of payment to all indebtedness and other
liabilities of its subsidiaries. The notes are convertible into
shares of the Companys common stock based on an initial
effective conversion price of approximately $9.30 if
(1) the closing sale price of the Companys common
stock exceeds $10.23, subject to certain restrictions,
(2) the notes are called for redemption, (3) the
Company makes a significant distribution to its shareholders or
becomes a party to a transaction that would result in a change
in control, or (4) the trading price of the notes falls
below 95% of the value of common stock that the notes are
convertible into, subject to certain restrictions; one of which
allows the Company, at its discretion, to issue cash or common
stock or a combination thereof upon conversion. On or after
July 1, 2008, the Company has the option to redeem all or a
portion of the notes that have not been previously purchased,
repurchased or converted, in exchange for cash at 100% of the
principal amount of the notes. The purchaser may require the
Company to purchase all or a portion of its notes in cash on
July 1, 2008 at 100% of the principal amount of the notes.
As a result of this issuance, the Company received proceeds of
$97.0 million, net of offering costs. The offering costs
are included in other assets and are being amortized over a
5-year period. Interest
expense from the amortization of offering costs in the amount of
$0.6 million, $0.6 million and $0.3 million is
recorded in interest income, net for the years ended
December 31, 2005, 2004 and 2003, respectively.
|
|
Note 10. |
Shareholders Equity |
A. Preferred Stock. Each share of Series A
preferred stock entitles the holder to one thousand votes and
dividends equal to one thousand times the aggregate per share
amount of dividends declared on the common stock. There are no
shares of Series A preferred stock outstanding.
73
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
Undesignated preferred stock will have rights and preferences
that are determinable by the Board of Directors when
determination of a new series of preferred stock has been
established.
B. Shareholder Rights Plan. On October 16,
1998, the Companys board of directors declared a dividend
of one preferred share purchase right (Right) in connection with
its adoption of a Shareholder Rights Plan dated December 4,
1998, for each outstanding share of the Companys common
stock on December 14, 1998 (Record Date). Each share of
common stock issued after the Record Date will be issued with an
attached Right. The Rights will not immediately be exercisable
and detachable from the common stock. The Rights will become
exercisable and detachable only following the acquisition by a
person or a group of 15 percent or more of the outstanding
common stock or ten days following the announcement of a tender
or exchange offer for 15 percent or more of the outstanding
common stock (Distribution Date). After the Distribution Date,
each Right will entitle the holder to purchase for $37.50
(Exercise Price), a fraction of a share of the Companys
Series A preferred stock with economic terms similar to
that of one share of the Companys common stock. Upon a
person or a group acquiring 15 percent or more of the
outstanding common stock, each Right will allow the holder
(other than the acquirer) to purchase common stock or securities
of the Company having a then current market value of two times
the Exercise Price of the Right. In the event that following the
acquisition of 15 percent of the common stock by an
acquirer, the Company is acquired in a merger or other business
combination or 50 percent or more of the Companys
assets or earning power are sold, each Right will entitle the
holder to purchase for the Exercise Price, common stock or
securities of the acquirer having a then current market value of
two times the Exercise Price. In certain circumstances, the
Rights may be redeemed by the Company at a redemption price of
$0.0025 per Right. If not earlier exchanged or redeemed,
the Rights will expire on December 4, 2008.
C. Equity Compensation Plans. The Company has six
equity compensation plans (Plans) to compensate employees and
Directors for past and future services and has reserved
approximately 89.1 million shares of common stock for
option grants under the Plans. Generally, options vest based on
continuous employment, over a four or five-year period. The
options expire in either seven, ten or twenty years from the
date of grant and are exercisable at the fair market value of
the common stock at the grant date.
74
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
A summary of stock option related activity is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options Outstanding | |
|
|
|
|
Shares | |
|
| |
|
Weighted | |
|
|
Available | |
|
Number | |
|
Weighted | |
|
Average Fair | |
|
|
for Grant | |
|
of Shares | |
|
Average | |
|
Value- | |
|
|
in (000s) | |
|
in (000s) | |
|
Exercise Price | |
|
Grants | |
|
|
| |
|
| |
|
| |
|
| |
Balance at December 31, 2002
|
|
|
17,198 |
|
|
|
34,587 |
|
|
$ |
7.23 |
|
|
|
|
|
|
Options granted at or above common stock price
|
|
|
(9,122 |
) |
|
|
9,122 |
|
|
|
5.70 |
|
|
$ |
3.27 |
|
|
Options granted below common stock price
|
|
|
(377 |
) |
|
|
377 |
|
|
|
1.81 |
|
|
|
4.03 |
|
|
Options exercised
|
|
|
|
|
|
|
(2,352 |
) |
|
|
3.72 |
|
|
|
|
|
|
Options canceled
|
|
|
5,090 |
|
|
|
(5,090 |
) |
|
|
7.01 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at December 31, 2003
|
|
|
12,789 |
|
|
|
36,644 |
|
|
|
7.05 |
|
|
|
|
|
|
Options granted at or above common stock price
|
|
|
(9,130 |
) |
|
|
9,130 |
|
|
|
5.78 |
|
|
|
2.78 |
|
|
Options granted below common stock price
|
|
|
(321 |
) |
|
|
321 |
|
|
|
1.32 |
|
|
|
4.40 |
|
|
Options exercised
|
|
|
|
|
|
|
(3,103 |
) |
|
|
2.20 |
|
|
|
|
|
|
Options canceled
|
|
|
7,515 |
|
|
|
(7,515 |
) |
|
|
6.90 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at December 31, 2004
|
|
|
10,853 |
|
|
|
35,477 |
|
|
|
7.13 |
|
|
|
|
|
Additional options authorized, net of retired shares
|
|
|
4,257 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Options granted at or above common stock price
|
|
|
(10,633 |
) |
|
|
10,633 |
|
|
|
5.87 |
|
|
|
2.57 |
|
Options exercised
|
|
|
|
|
|
|
(3,631 |
) |
|
|
5.14 |
|
|
|
|
|
Options canceled
|
|
|
6,857 |
|
|
|
(6,857 |
) |
|
|
7.03 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at December 31, 2005
|
|
|
11,334 |
|
|
|
35,622 |
|
|
$ |
6.95 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The fair value of options granted was determined using the
Black-Scholes model. The following weighted average assumptions
were used to perform the calculations:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended | |
|
|
December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
2003 | |
|
|
| |
|
| |
|
| |
Expected dividend yield
|
|
|
0 |
% |
|
|
0 |
% |
|
|
0 |
% |
Risk-free interest rate
|
|
|
3.76 |
% |
|
|
2.54 |
% |
|
|
2.13 |
% |
Expected life (years)
|
|
|
4.4 |
|
|
|
4.4 |
|
|
|
4.2 |
|
Volatility
|
|
|
54 |
% |
|
|
59 |
% |
|
|
80 |
% |
75
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
The following table summarizes information about stock options
outstanding at December 31, 2005:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options Outstanding | |
|
|
|
|
|
|
| |
|
|
|
|
|
|
Weighted | |
|
|
|
Options Exercisable | |
|
|
|
|
Average | |
|
|
|
| |
|
|
|
|
Remaining | |
|
Weighted | |
|
|
|
Weighted | |
|
|
Number | |
|
Contractual | |
|
Average | |
|
|
|
Average | |
|
|
of Shares | |
|
Life (Years) | |
|
Exercise | |
|
Number of | |
|
Exercise | |
Exercise Prices |
|
(in 000s) | |
|
(in 000s) | |
|
Price | |
|
Shares | |
|
Price | |
|
|
| |
|
| |
|
| |
|
(in 000s) | |
|
| |
$ 0.02 $ 4.85
|
|
|
4,088 |
|
|
|
14.78 |
|
|
$ |
3.40 |
|
|
|
2,544 |
|
|
$ |
2.96 |
|
$ 4.86 $ 5.07
|
|
|
4,879 |
|
|
|
7.50 |
|
|
|
5.01 |
|
|
|
481 |
|
|
|
5.01 |
|
$ 5.08 $ 5.76
|
|
|
4,118 |
|
|
|
16.06 |
|
|
|
5.42 |
|
|
|
572 |
|
|
|
5.49 |
|
$ 5.78 $ 5.94
|
|
|
3,975 |
|
|
|
17.71 |
|
|
|
5.90 |
|
|
|
1,592 |
|
|
|
5.92 |
|
$ 5.96 $ 6.35
|
|
|
4,208 |
|
|
|
17.46 |
|
|
|
6.12 |
|
|
|
1,647 |
|
|
|
6.11 |
|
$ 6.37 $ 7.21
|
|
|
2,400 |
|
|
|
17.57 |
|
|
|
6.77 |
|
|
|
753 |
|
|
|
6.82 |
|
$ 7.22 $ 7.22
|
|
|
6,119 |
|
|
|
15.67 |
|
|
|
7.22 |
|
|
|
5,923 |
|
|
|
7.22 |
|
$ 7.24 $10.14
|
|
|
3,973 |
|
|
|
11.15 |
|
|
|
8.32 |
|
|
|
1,754 |
|
|
|
8.92 |
|
$10.39 $46.19
|
|
|
1,862 |
|
|
|
13.94 |
|
|
|
23.82 |
|
|
|
1,805 |
|
|
|
24.20 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
35,622 |
|
|
|
14.47 |
|
|
$ |
6.95 |
|
|
|
17,071 |
|
|
$ |
8.19 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31, 2004, there were approximately
18.9 million exercisable options outstanding with a
weighted average exercise price of $8.18. At December 31,
2003, there were approximately 19.5 million exercisable
options outstanding with a weighted average exercise price of
$7.73.
D. Employee Stock Purchase Plan. Effective January
1998, the Company adopted an Employee Stock Purchase Plan
(ESPP) and has reserved four million shares of common stock
for issuance under the ESPP. Under the ESPP, an eligible
employee may purchase shares of common stock, based on certain
limitations, at a price equal to 85 percent of the fair
market value of the common stock at the end of the semi-annual
offering periods. There were approximately 0.4 million,
0.3 million and 0.4 million shares purchased under the
ESPP during 2005, 2004 and 2003, respectively. The weighted
average fair value of the employee stock purchase rights was
$3.14, $1.95 and $2.22 in 2005, 2004 and 2003, respectively. The
following weighted average assumptions were used to perform the
calculation:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended | |
|
|
December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
2003 | |
|
|
| |
|
| |
|
| |
Expected dividend yield
|
|
|
0 |
% |
|
|
0 |
% |
|
|
0 |
% |
Risk-free interest rate
|
|
|
2.69 |
% |
|
|
2.29 |
% |
|
|
1.13 |
% |
Expected life (years)
|
|
|
0.5 |
|
|
|
0.5 |
|
|
|
0.5 |
|
Volatility
|
|
|
54 |
% |
|
|
61 |
% |
|
|
70 |
% |
E. Repurchase of Common Stock. In September 2001,
the Company announced a share repurchase program to repurchase
of up to an aggregate of $50 million of its outstanding
common stock. The Company repurchased approximately
9.1 million shares of its common stock at an average cost
of $4.64 per share for an aggregate value of
$42.4 million from the inception of the September 2001
program through August 2005. There were no repurchases during
2005 or 2004 related to the September 2001 repurchase program.
In August 2005, the Companys Board of Directors authorized
a new share repurchase program for the repurchase of up to an
aggregate of $75 million of the Companys outstanding
common stock, which replaced the September 2001 program. In
November 2005, the Companys Board of Directors authorized
a new share repurchase program for the repurchase of up to an
aggregate of $100 million of the Companys outstanding
common stock, which replaced the August 2005 repurchase
76
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
program. The repurchases may be made from time to time,
depending on market conditions, share price and other factors.
Repurchases may be made in the open market or through private
transactions, in accordance with Securities and Exchange
Commission requirements. The Company entered into a
Rule 10(b)5-1 plan designed to facilitate the repurchase of
the authorized repurchase amount. In addition, the repurchase
program does not require RealNetworks to acquire a specific
number of shares and may be terminated under certain conditions.
During 2005, under the August 2005 repurchase program the
Company repurchased approximately 5.8 million shares at an
average cost of $5.36 for an aggregate value of approximately
$31.0 million and under the November 2005 repurchase
program the Company repurchased approximately 2.8 million
shares at an average cost of $8.16 per share for an
aggregate value of approximately $23.3 million. At
December 31, 2005, the remaining amount authorized under
the November 2005 repurchase program was approximately
$76.6 million.
The components of income (loss) before income taxes are as
follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
2003 | |
|
|
| |
|
| |
|
| |
U.S. operations
|
|
$ |
430,549 |
|
|
$ |
(24,300 |
) |
|
$ |
(22,318 |
) |
Foreign operations
|
|
|
(1,006 |
) |
|
|
1,825 |
|
|
|
1,011 |
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
429,543 |
|
|
$ |
(22,475 |
) |
|
$ |
(21,307 |
) |
|
|
|
|
|
|
|
|
|
|
The components of income tax expense are as follows (in
thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
2003 | |
|
|
| |
|
| |
|
| |
Current:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. Federal
|
|
$ |
8,055 |
|
|
$ |
|
|
|
$ |
|
|
|
State and local
|
|
|
1,362 |
|
|
|
|
|
|
|
(130 |
) |
|
Foreign
|
|
|
549 |
|
|
|
522 |
|
|
|
274 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Total current
|
|
|
9,966 |
|
|
|
522 |
|
|
|
144 |
|
Deferred:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. Federal
|
|
|
106,981 |
|
|
|
|
|
|
|
|
|
|
State and local
|
|
|
748 |
|
|
|
|
|
|
|
|
|
|
Foreign
|
|
|
(497 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total deferred
|
|
$ |
107,232 |
|
|
$ |
|
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
Total income tax expense
|
|
$ |
117,198 |
|
|
$ |
522 |
|
|
$ |
144 |
|
|
|
|
|
|
|
|
|
|
|
77
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
Income tax expense (benefit) differs from expected
income tax expense (benefit) (computed by applying the
U.S. Federal income tax rate of 35 percent in 2005,
2004 and 2003) as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
2003 | |
|
|
| |
|
| |
|
| |
US federal tax expense (benefit) at statutory rate
|
|
$ |
150,340 |
|
|
$ |
(7,866 |
) |
|
$ |
(7,457 |
) |
State taxes, net of federal benefit
|
|
|
3,497 |
|
|
|
|
|
|
|
|
|
Change in valuation allowance for deferred tax assets
|
|
|
(41,993 |
) |
|
|
10,409 |
|
|
|
9,747 |
|
Other
|
|
|
5,354 |
|
|
|
(2,021 |
) |
|
|
(2,146 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
$ |
117,198 |
|
|
$ |
522 |
|
|
$ |
144 |
|
|
|
|
|
|
|
|
|
|
|
The tax effects of temporary differences and operating loss
carryforwards that give rise to significant portions of net
deferred tax assets are comprised of the following (in
thousands):
|
|
|
|
|
|
|
|
|
|
|
|
December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
|
| |
|
| |
Deferred tax assets
|
|
|
|
|
|
|
|
|
|
Net operating loss carryforwards
|
|
$ |
65,884 |
|
|
$ |
199,096 |
|
|
State net operating loss carryforwards
|
|
|
5,072 |
|
|
|
7,158 |
|
|
Foreign net operating loss carryforwards
|
|
|
882 |
|
|
|
|
|
|
Research and development credit carry forwards
|
|
|
7,084 |
|
|
|
19,069 |
|
|
Alternative minimum tax (AMT) carryforwards
|
|
|
8,055 |
|
|
|
|
|
|
Accrual for loss on excess office facilities, not currently
taken for tax purposes
|
|
|
6,547 |
|
|
|
8,704 |
|
|
Deferred revenue
|
|
|
2,727 |
|
|
|
2,471 |
|
|
Tax benefit of MusicNet loss
|
|
|
|
|
|
|
7,136 |
|
|
Net unrealized loss on investments
|
|
|
9,757 |
|
|
|
11,861 |
|
|
Capital loss carryforwards
|
|
|
1,804 |
|
|
|
5,030 |
|
|
Deferred expenses
|
|
|
13,366 |
|
|
|
5,613 |
|
|
Other
|
|
|
6,155 |
|
|
|
4,786 |
|
|
|
|
|
|
|
|
Gross deferred tax assets
|
|
|
127,333 |
|
|
|
270,924 |
|
|
Less valuation allowance
|
|
|
(36,250 |
) |
|
|
(256,628 |
) |
|
|
|
|
|
|
|
|
|
|
91,083 |
|
|
|
14,296 |
|
Deferred tax liabilities
|
|
|
|
|
|
|
|
|
|
Prepaid expenses
|
|
|
(2,242 |
) |
|
|
(2,376 |
) |
|
Net unrealized gains on investments
|
|
|
(15,490 |
) |
|
|
(11,920 |
) |
|
|
|
|
|
|
|
Net deferred tax assets
|
|
$ |
73,351 |
|
|
$ |
|
|
|
|
|
|
|
|
|
Income taxes currently payable at December 31, 2005 were
approximately $9.5 million. The Company records a valuation
allowance when it is more likely than not that some portion or
all of the deferred tax assets will not be realized. The
ultimate realization of the deferred tax assets depends on the
ability to generate sufficient taxable income of the appropriate
character in the appropriate taxing jurisdictions. Based on an
evaluation of expected future taxable income in 2006 and 2007
related primarily to the Companys settlement with
Microsoft Corporation (outlined in Note 13C), the Company
determined it is
78
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
more likely than not that certain deferred tax assets will be
realized and therefore reversed the related valuation allowance
on these assets in the fourth quarter of 2005. The Company has
continued to provide a valuation allowance on the deferred tax
assets that the Company has determined will more likely than not
remain unutilized.
The valuation allowance for deferred tax assets increased
(decreased) by ($220.4) million, $10.4 million
and $22.9 million for 2005, 2004 and 2003, respectively.
During 2005, $7.5 million of the reduction was recorded to
goodwill due to the release of valuation allowance on net
operating losses from acquired subsidiaries. In addition, a
credit of $170.2 million was recorded to additional
paid-in-capital during
2005 to reflect the use of net operating losses derived from the
benefit of stock option exercises for tax purposes. Of the
remaining release of valuation allowance in 2005, approximately
$42.0 million was reflected in the Companys
consolidated statement of operations.
The Companys net operating loss carryforwards totaled
$188.2 million and $591.0 million at December 31,
2005 and 2004, respectively. These net operating loss
carryforwards begin to expire between 2010 and 2024. In
addition, utilization of these net operating loss carryforwards
may be subject to certain limitations under Section 382 of
the Internal Revenue Code. Of the total net operating losses,
approximately $48.1 million relate to net operating loss
carryforwards from acquired subsidiaries that are limited under
Internal Revenue Code Section 382. In the event that the
Company generates taxable income to utilize these net operating
loss carryforwards, goodwill will be reduced by approximately
$8.9 million. The Company has $7.1 million of research
and development credit carryforwards which will expire between
2010 and 2023.
The Company has not provided for U.S. deferred income taxes
or withholding taxes on
non-U.S. subsidiaries
undistributed earnings. These earnings are intended to be
permanently reinvested in operations outside of the United
States. If these amounts were distributed to the United States,
in the form of dividends or otherwise, the Company would be
subject to additional U.S. income taxes. The determination
of the amount of unrecognized deferred tax income tax
liabilities on these earnings is not practicable.
|
|
Note 12. |
Segment Information |
Prior to 2004, the Company operated in one business segment:
media delivery. The Company began measuring its business by
segments beginning in the quarter ended March 31, 2004, and
now operates in two business segments: Consumer Products and
Services and Business Products and Services, for which the
Company receives revenue from its customers. Since the Company
began measuring its business by segments beginning in the
quarter ended March 31, 2004, comparable results of segment
profit and loss for 2003 are not presented, as they are not
available. The Companys Chief Operating Decision Maker is
considered to be the Companys CEO Staff (CEOS), which is
comprised of the Companys Chief Executive Officer, Chief
Financial Officer, Executive Vice President, and Senior Vice
Presidents. The CEOS reviews financial information presented on
both a consolidated basis and on a business segment basis,
accompanied by disaggregated information about products and
services and geographical regions for purposes of making
decisions and assessing financial performance. The CEOS reviews
discrete financial information regarding profitability of the
Companys Consumer Products and Services and Business
Products and Services and, therefore, the Company reports these
as operating segments as defined by Statement of Financial
Accounting Standards No. 131, Disclosure About
Segments of an Enterprise and Related Information
(SFAS 131).
79
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
The Companys customers consist primarily of end users
located in the United States and various foreign countries.
Revenue by geographic region is as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
2003 | |
|
|
| |
|
| |
|
| |
United States
|
|
$ |
249,855 |
|
|
$ |
202,574 |
|
|
$ |
147,613 |
|
Europe
|
|
|
44,867 |
|
|
|
40,222 |
|
|
|
32,106 |
|
Asia
|
|
|
27,916 |
|
|
|
21,439 |
|
|
|
19,811 |
|
Rest of the world
|
|
|
2,421 |
|
|
|
2,484 |
|
|
|
2,847 |
|
|
|
|
|
|
|
|
|
|
|
|
Total net revenue
|
|
$ |
325,059 |
|
|
$ |
266,719 |
|
|
$ |
202,377 |
|
|
|
|
|
|
|
|
|
|
|
The Companys segment revenue is defined as follows:
|
|
|
|
|
Consumer Products and Services, which primarily includes revenue
from: digital media subscription services such as Rhapsody,
RadioPass, GamePass and SuperPass and stand-alone and add-on
subscriptions; sales and distribution of third party software
and services; sales of digital content such as music and games
downloads; sales of premium versions of our RealPlayer and
related products; and advertising. These products and services
are sold and provided primarily through the Internet and the
Company charges customers credit cards at the time of
sale. Billing periods for subscription services typically occur
monthly, quarterly or annually, depending on the service
purchased. |
|
|
|
Business Products and Services, which primarily includes revenue
from: sales of media delivery system software, including Helix
system software and related authoring and publishing tools, both
directly to customers and indirectly through original equipment
manufacturer (OEM) channels; support and maintenance services
that we sell to customers who purchase our software products;
broadcast hosting services; and consulting services we offer to
our customers. These products and services are primarily sold to
corporate customers. |
Revenue from external customers by product type is as follows
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
2003 | |
|
|
| |
|
| |
|
| |
Consumer Products and Services
|
|
$ |
279,964 |
|
|
$ |
218,343 |
|
|
$ |
144,114 |
|
Business Products and Services
|
|
|
45,095 |
|
|
|
48,376 |
|
|
|
58,263 |
|
|
|
|
|
|
|
|
|
|
|
|
Total net revenue
|
|
$ |
325,059 |
|
|
$ |
266,719 |
|
|
$ |
202,377 |
|
|
|
|
|
|
|
|
|
|
|
Consumer Products and Services revenue is comprised of the
following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
2003 | |
|
|
| |
|
| |
|
| |
Music
|
|
$ |
97,524 |
|
|
$ |
65,186 |
|
|
$ |
15,093 |
|
Video, consumer software and other
|
|
|
95,019 |
|
|
|
96,792 |
|
|
|
108,644 |
|
Games
|
|
|
56,277 |
|
|
|
34,535 |
|
|
|
12,162 |
|
Media properties
|
|
|
31,144 |
|
|
|
21,830 |
|
|
|
8,215 |
|
|
|
|
|
|
|
|
|
|
|
|
Total Consumer Products and Services revenue
|
|
$ |
279,964 |
|
|
$ |
218,343 |
|
|
$ |
144,114 |
|
|
|
|
|
|
|
|
|
|
|
80
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
Long-lived assets, consisting of equipment and leasehold
improvements, goodwill, and other intangible assets, by
geographic location are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
|
| |
|
| |
United States
|
|
$ |
149,247 |
|
|
$ |
155,844 |
|
Europe
|
|
|
14,256 |
|
|
|
176 |
|
Asia/ Rest of the world
|
|
|
302 |
|
|
|
411 |
|
|
|
|
|
|
|
|
|
Total
|
|
$ |
163,805 |
|
|
$ |
156,431 |
|
|
|
|
|
|
|
|
At December 31, 2005, net assets in Europe and Asia and the
rest of the world were $14.6 million and $0.6 million,
respectively.
Goodwill, net is assigned to the Companys segments as
follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
December 31, | |
|
|
| |
|
|
2005 | |
|
2004 | |
|
|
| |
|
| |
Consumer Products and Services
|
|
$ |
117,340 |
|
|
$ |
111,402 |
|
Business Products and Services
|
|
|
5,990 |
|
|
|
7,815 |
|
|
|
|
|
|
|
|
|
Total goodwill, net
|
|
$ |
123,330 |
|
|
$ |
119,217 |
|
|
|
|
|
|
|
|
Reconciliation of segment operating income (loss) to net income
(loss) before income taxes for the year ended December 31,
2005 is as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consumer Products | |
|
Business Products | |
|
Reconciling | |
|
|
|
|
and Services | |
|
and Services | |
|
Amounts | |
|
Consolidated | |
|
|
| |
|
| |
|
| |
|
| |
Net revenue
|
|
$ |
279,964 |
|
|
$ |
45,095 |
|
|
$ |
|
|
|
$ |
325,059 |
|
Cost of revenue
|
|
|
90,104 |
|
|
|
8,145 |
|
|
|
|
|
|
|
98,249 |
|
Loss on content agreement
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
|
189,860 |
|
|
|
36,950 |
|
|
|
|
|
|
|
226,810 |
|
Loss on excess office facilities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Antitrust litigation expenses (benefit), net
|
|
|
|
|
|
|
|
|
|
|
(422,500 |
) |
|
|
(422,500 |
) |
Stock-based compensation
|
|
|
|
|
|
|
|
|
|
|
128 |
|
|
|
128 |
|
Other operating expenses
|
|
|
197,774 |
|
|
|
54,041 |
|
|
|
|
|
|
|
251,815 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income (loss)
|
|
|
(7,914 |
) |
|
|
(17,091 |
) |
|
|
422,372 |
|
|
|
397,367 |
|
Total non-operating expenses, net
|
|
|
|
|
|
|
|
|
|
|
32,176 |
|
|
|
32,176 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) before income taxes
|
|
$ |
(7,914 |
) |
|
$ |
(17,091 |
) |
|
$ |
454,548 |
|
|
$ |
429,543 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
81
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
Reconciliation of segment operating income (loss) to net income
(loss) before income taxes for the year ended December 31,
2004 is as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consumer Products | |
|
Business Products | |
|
Reconciling | |
|
|
|
|
and Services | |
|
and Services | |
|
Amounts | |
|
Consolidated | |
|
|
| |
|
| |
|
| |
|
| |
Net revenue
|
|
$ |
218,343 |
|
|
$ |
48,376 |
|
|
$ |
|
|
|
$ |
266,719 |
|
Cost of revenue
|
|
|
83,968 |
|
|
|
8,239 |
|
|
|
|
|
|
|
92,207 |
|
Loss on content agreement
|
|
|
4,938 |
|
|
|
|
|
|
|
|
|
|
|
4,938 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
|
129,437 |
|
|
|
40,137 |
|
|
|
|
|
|
|
169,574 |
|
Loss on excess office facilities
|
|
|
|
|
|
|
|
|
|
|
866 |
|
|
|
866 |
|
Antitrust litigation expenses
|
|
|
|
|
|
|
|
|
|
|
11,048 |
|
|
|
11,048 |
|
Stock-based compensation
|
|
|
|
|
|
|
|
|
|
|
695 |
|
|
|
695 |
|
Other operating expenses
|
|
|
128,604 |
|
|
|
51,084 |
|
|
|
|
|
|
|
179,688 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income (loss)
|
|
|
833 |
|
|
|
(10,947 |
) |
|
|
(12,609 |
) |
|
|
(22,723 |
) |
Total non-operating expenses, net
|
|
|
|
|
|
|
|
|
|
|
248 |
|
|
|
248 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) before income taxes
|
|
$ |
833 |
|
|
$ |
(10,947 |
) |
|
$ |
(12,361 |
) |
|
$ |
(22,475 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating expenses of both Consumer Products and Services and
Business Products and Services include costs directly
attributable to those segments and an allocation of general and
administrative expenses and other corporate overhead costs.
General and administrative and other corporate overhead costs
are allocated to the segments and are generally based on the
relative head count of each segment. The accounting policies
used to derive segment results are generally the same as those
described in Note 1.
The Company was able to identify historical information for
segment cost of revenue and as a result presents net revenue and
cost of revenue by segment for the year ended December 31,
2003 as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consumer Products | |
|
Business Products | |
|
|
|
|
and Services | |
|
and Services | |
|
Consolidated | |
|
|
| |
|
| |
|
| |
Net revenue
|
|
$ |
144,114 |
|
|
$ |
58,263 |
|
|
$ |
202,377 |
|
Cost of revenue
|
|
|
60,726 |
|
|
|
7,617 |
|
|
|
68,343 |
|
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
$ |
83,388 |
|
|
$ |
50,646 |
|
|
$ |
134,034 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Note 13. |
Commitments and Contingencies |
A. Commitments. The Company has commitments for
future payments related to office facilities leases and other
contractual obligations. The Company leases its office
facilities under terms of operating lease agreements expiring
through September 2014. The Company also has other contractual
obligations
82
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
expiring over varying time periods into the future. Future
minimum payments are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other | |
|
|
|
|
Office | |
|
Contractual | |
|
|
|
|
Leases | |
|
Obligations | |
|
Total | |
|
|
| |
|
| |
|
| |
2006
|
|
$ |
11,599 |
|
|
$ |
5,476 |
|
|
$ |
17,075 |
|
2007
|
|
|
11,390 |
|
|
|
2,512 |
|
|
|
13,902 |
|
2008
|
|
|
11,392 |
|
|
|
2,330 |
|
|
|
13,722 |
|
2009
|
|
|
11,730 |
|
|
|
2,330 |
|
|
|
14,060 |
|
2010
|
|
|
10,335 |
|
|
|
2,330 |
|
|
|
12,665 |
|
Thereafter
|
|
|
25,512 |
|
|
|
|
|
|
|
25,512 |
|
|
|
|
|
|
|
|
|
|
|
|
Total minimum payments
|
|
|
81,958 |
|
|
|
14,978 |
|
|
|
96,936 |
|
Less future minimum payments under subleases
|
|
|
(12,483 |
) |
|
|
|
|
|
|
(12,483 |
) |
|
|
|
|
|
|
|
|
|
|
|
Net
|
|
$ |
69,475 |
|
|
$ |
14,978 |
|
|
$ |
84,453 |
|
|
|
|
|
|
|
|
|
|
|
Of the total net office lease commitments, $18.0 million is
recorded in accrued loss on excess office facilities and content
agreement at December 31, 2005. Other contractual
obligations primarily relate to minimum contractual payments due
to content and other service providers.
In May 2005, the Company entered into a purchase agreement with
a third party vendor to acquire certain products and services.
The Company was to be invoiced for the products and services at
the time of receipt by the vendor. During the quarter ended
December 31, 2005, the Company decided to cancel the
purchase agreement. As a result, the Company recorded a loss of
approximately $8.5 million during the quarter ended
December 31, 2005 in order to reflect the products and
services that have been delivered or to which the Company has
committed at their net realizable value.
Rent expense was $7.6 million in 2005, $7.4 million in
2004, and $6.4 million in 2003.
B. 401(k) Retirement Savings Plan. The Company has a
salary deferral plan (401(k) Plan) that covers substantially all
employees. Under the plan, eligible employees may contribute up
to 50% of their pretax salary, subject to the Internal Revenue
Service annual contribution limits. In 2005, the Company matched
50% of employee contributions to the 401(k) Plan, on up to three
percent of participating employees compensation. The
Company contributed approximately $0.5 million in 2005 as
employee matching contributions. The Company did not make
matching contributions during 2004 or 2003. The Company can
terminate the matching contributions at its discretion. The
Company has no other post-employment or post-retirement benefit
plans.
C. Litigation
In December 2003, the Company filed suit against Microsoft
Corporation in the U.S. District Court for the Northern
District of California, pursuant to U.S. and California
antitrust laws. The Company alleged that Microsoft has illegally
used its monopoly power to restrict competition, limit consumer
choice and attempt to monopolize the field of digital media. On
October 11, 2005, the Company and Microsoft entered into a
settlement agreement pursuant to which the Company agreed to
settle all antitrust disputes worldwide with Microsoft,
including the United States litigation. Upon settlement of the
legal disputes, the Company and Microsoft entered into two
commercial agreements that provide for collaboration in digital
music and casual games. The combined contractual payments
related to the settlement agreement and the two commercial
agreements to be made by Microsoft to the Company over the terms
of the agreements is approximately $761.0 million.
Microsoft agreed to pay the Company $460.0 million to
settle all claims.
83
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
Under the music and games agreements, Microsoft is scheduled to
pay the Company $301.0 million in cash and provide services
over 18 months in support of the Companys music and
games activities. Microsoft can earn credits at pre-determined
market rates for Rhapsody subscribers and Rhapsody 25 users
delivered to the Company through Microsofts MSN network of
websites, to be netted against the quarterly contractual
payments in the music agreement. As of December 31, 2005,
Microsoft had paid the Company $478.0 million under the
agreements for which the Company recorded a gain that is
included in Antitrust litigation expenses (benefit), net in the
statement of operations and comprehensive income (loss).
In June 2003, a lawsuit was filed against the Company and Listen
in federal district court for the Northern District of Illinois
by Friskit, Inc. (Friskit), alleging that certain features of
the Companys and Listens products and services
willfully infringe certain patents relating to allowing users
to search for streaming media files, to create custom
playlists, and to listen to the streaming media file
sequentially and continuously. Friskit seeks to enjoin the
Company from the alleged infringing activity and to recover
treble damages from the alleged infringement. The Company has
filed its answer and a counterclaim against Friskit challenging
the validity of the patents at issue. The trial court has also
granted the Companys motion to transfer the action to the
Northern District of California. The Company disputes
Friskits allegations in this action and intends to
vigorously defend itself.
In July 2002, a lawsuit was filed against the Company in federal
court in Boston, Massachusetts by Ethos Technologies, Inc.
(Ethos), alleging that the Company willfully infringes certain
patents relating to the downloading of data from a server
computer to a client computer. Ethos seeks to enjoin the
Company from the alleged infringing activity and to recover
treble damages from the alleged infringement. The Company has
filed counterclaims against Ethos seeking a declaratory judgment
that the patents at issue are invalid and unenforceable due to
Ethos inequitable conduct, as well as its recovery of
damages for Ethos infringement of a Company patent, and
reasonable attorneys fees and costs. The Company disputes
Ethos allegations in this action and intends to vigorously
defend itself. The case has been scheduled for trial beginning
in March 2006.
In August 2005, a lawsuit was filed against the Company in the
U.S. District Court for the District of Maryland by Ho
Keung Tse, an individual residing in Hong Kong. The suit alleges
that certain of the Companys products and services
infringe the plaintiffs patent relating to the
distribution of digital files, including sound tracks, music,
video and executable software in a manner which restricts
unauthorized use. The plaintiff seeks to enjoin the
Company from the allegedly infringing activity and to recover
treble damages for the alleged infringement. The Company has not
yet been served with process in the suit. In October 2005, the
Companys co-defendant moved to transfer the lawsuit from
the District of Maryland to the Northern District of California.
The Company disputes the plaintiffs allegations in the
action and intends to vigorously defend itself.
From time to time the Company is, and expects to continue to be,
subject to legal proceedings and claims in the ordinary course
of its business, including employment claims, contract-related
claims and claims of alleged infringement of third-party
patents, trademarks and other intellectual property rights.
These claims, including those described above, even if not
meritorious, could force the Company to spend significant
financial and managerial resources. The Company is not aware of
any legal proceedings or claims that the Company believes will
have, individually or taken together, a material adverse effect
on the Companys business, prospects, financial condition
or results of operations. However, the Company may incur
substantial expenses in defending against third party claims and
certain pending claims are moving closer to trial. The Company
expects that its potential costs of defending these claims may
increase as the disputes move into the trial phase of the
proceedings. In the event of a determination adverse to the
Company, the Company may incur substantial monetary liability,
and/or be required to change its business
84
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
practices. Either of these could have a material adverse effect
on the Companys financial position and results of
operations.
Indemnification and warranty provisions contained within the
Companys customer license and service agreements are
generally consistent with those prevalent in the Companys
industry. The duration of the Companys product warranties
generally does not exceed 90 days following delivery of the
Companys products. The Company has not incurred
significant obligations under customer indemnification or
warranty provisions historically and does not expect to incur
significant obligations in the future. Accordingly, the Company
does not maintain accruals for potential customer
indemnification or warranty-related obligations.
|
|
Note 15. |
Quarterly Information (Unaudited) |
The following table summarizes the unaudited statement of
operations for each quarter of 2005 and 2004 (in thousands,
except per share data):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total | |
|
Dec. 31 | |
|
Sept. 30 | |
|
June 30 | |
|
Mar. 31 | |
|
|
| |
|
| |
|
| |
|
| |
|
| |
2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net revenue
|
|
$ |
325,059 |
|
|
$ |
83,568 |
|
|
$ |
82,233 |
|
|
$ |
82,686 |
|
|
$ |
76,572 |
|
Gross profit
|
|
|
226,810 |
|
|
|
59,592 |
|
|
|
57,538 |
|
|
|
57,845 |
|
|
|
51,835 |
|
Operating income (loss)
|
|
|
397,367 |
|
|
|
402,384 |
|
|
|
(129 |
) |
|
|
(5,087 |
) |
|
|
199 |
|
Net income
|
|
|
312,345 |
|
|
|
295,640 |
|
|
|
11,182 |
|
|
|
4,709 |
|
|
|
814 |
|
Basic net income per share
|
|
|
1.84 |
|
|
|
1.76 |
|
|
|
0.07 |
|
|
|
0.03 |
|
|
|
0.00 |
|
Diluted net income per share
|
|
|
1.70 |
|
|
|
1.61 |
|
|
|
0.06 |
|
|
|
0.03 |
|
|
|
0.00 |
|
2004
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net revenue
|
|
$ |
266,719 |
|
|
$ |
72,546 |
|
|
$ |
68,310 |
|
|
$ |
65,473 |
|
|
$ |
60,390 |
|
Gross profit
|
|
|
169,574 |
|
|
|
48,621 |
|
|
|
43,524 |
|
|
|
43,738 |
|
|
|
33,691 |
|
Operating loss
|
|
|
(22,723 |
) |
|
|
(2,060 |
) |
|
|
(6,196 |
) |
|
|
(4,296 |
) |
|
|
(10,171 |
) |
Net loss
|
|
|
(22,997 |
) |
|
|
(972 |
) |
|
|
(6,969 |
) |
|
|
(4,618 |
) |
|
|
(10,438 |
) |
Basic and diluted net loss per share
|
|
|
(0.14 |
) |
|
|
(0.01 |
) |
|
|
(0.04 |
) |
|
|
(0.03 |
) |
|
|
(0.06 |
) |
The operating income and net income during the quarter ended
December 31, 2005 increased as compared to the prior
periods presented due primarily to the impact of the settlement
and commercial agreements with Microsoft. For further discussion
regarding these agreements, refer to
Note 13C, Litigation.
In May 2005, the Company entered into a purchase agreement with
a third party vendor to acquire certain products and services.
The Company was to be invoiced for the products and services at
the time of receipt by the vendor. During the quarter ended
December 31, 2005, the Company decided to cancel the
purchase agreement. As a result, the Company recorded a loss of
approximately $8.5 million during the quarter ended
December 31, 2005 in order to reflect the products and
services that have been delivered, or to which the Company had
committed, at their net realizable value.
85
REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
|
|
Note 16. |
Subsequent Event |
On January 31, 2006, the Company acquired all of the
outstanding securities of Zylom Media Group B.V. (Zylom) in
exchange for approximately $10.0 million in cash and up to
an additional $11.0 million in cash, dependent on the
attainment of certain financial targets. Included in the
purchase price is approximately $0.2 million in estimated
acquisition-related expenditures consisting primarily of
professional fees.
Zylom is a distributor, developer and publisher of PC-based
casual games, located in the Netherlands. The Company believes
that combining Zyloms assets and distribution network with
the Companys downloadable, PC-based games assets and
distribution platform will enhance the Companys market
position throughout Europe.
86
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Shareholders
RealNetworks, Inc.:
We have audited the accompanying consolidated balance sheets of
RealNetworks, Inc. and subsidiaries as of December 31, 2005
and 2004, and the related consolidated statements of operations
and comprehensive income (loss), shareholders equity and
cash flows for each of the years in the three-year period ended
December 31, 2005. In connection with our audits of the
consolidated financial statements, we also have audited the
financial statement schedule listed in the index at Item 15
(a)(2). These consolidated financial statements and financial
statement schedule are the responsibility of the Companys
management. Our responsibility is to express an opinion on these
consolidated financial statements and financial statement
schedule based on our audits.
We conducted our audits in accordance with the standards of the
Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are
free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by
management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred
to above present fairly, in all material respects, the financial
position of RealNetworks, Inc. and subsidiaries as of
December 31, 2005 and 2004, and the results of their
operations and their cash flows for each of the years in the
three-year period ended December 31, 2005, in conformity
with U.S. generally accepted accounting principles. Also in
our opinion, the related financial statement schedule, when
considered in relation to the basic consolidated financial
statements taken as a whole, presents fairly, in all material
respects, the information set forth therein.
We also have audited, in accordance with the standards of the
Public Company Accounting Oversight Board (United States), the
effectiveness of RealNetworks, Inc.s internal control over
financial reporting as of December 31, 2005, based on
criteria established in Internal Control Integrated
Framework issued by the Committee of Sponsoring Organizations of
the Treadway Commission (COSO), and our report dated
March 10, 2006 expressed an unqualified opinion on
managements assessment of, and the effective operation of,
internal control over financial reporting.
Seattle, Washington
March 10, 2006
87
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Shareholders
RealNetworks, Inc.:
We have audited managements assessment, included in the
accompanying Managements Annual Report on Internal Control
over Financial Reporting, appearing under Item 9A, that
RealNetworks, Inc. maintained effective internal control over
financial reporting as of December 31, 2005, based on
criteria established in Internal Control Integrated
Framework issued by the Committee of Sponsoring Organizations of
the Treadway Commission (COSO). The Companys management is
responsible for maintaining effective internal control over
financial reporting and for its assessment of the effectiveness
of internal control over financial reporting. Our responsibility
is to express an opinion on managements assessment and an
opinion on the effectiveness of the Companys internal
control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the
Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain
reasonable assurance about whether effective internal control
over financial reporting was maintained in all material
respects. Our audit included obtaining an understanding of
internal control over financial reporting, evaluating
managements assessment, testing and evaluating the design
and operating effectiveness of internal control, and performing
such other procedures as we considered necessary in the
circumstances. We believe that our audit provides a reasonable
basis for our opinion.
A companys internal control over financial reporting is a
process designed to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of
financial statements for external purposes in accordance with
generally accepted accounting principles. A companys
internal control over financial reporting includes those
policies and procedures that (1) pertain to the maintenance
of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the
company; (2) provide reasonable assurance that transactions
are recorded as necessary to permit preparation of financial
statements in accordance with generally accepted accounting
principles, and that receipts and expenditures of the company
are being made only in accordance with authorizations of
management and directors of the company; and (3) provide
reasonable assurance regarding prevention or timely detection of
unauthorized acquisition, use, or disposition of the
companys assets that could have a material effect on the
financial statements.
Because of its inherent limitations, internal control over
financial reporting may not prevent or detect misstatements.
Also, projections of any evaluation of effectiveness to future
periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree
of compliance with the policies or procedures may deteriorate.
In our opinion, managements assessment that RealNetworks,
Inc. maintained effective internal control over financial
reporting as of December 31, 2005, is fairly stated, in all
material respects, based on criteria established in Internal
Control Integrated Framework issued by the Committee
of Sponsoring Organizations of the Treadway Commission (COSO).
Also, in our opinion, RealNetworks, Inc. maintained, in all
material respects, effective internal control over financial
reporting as of December 31, 2005, based on criteria
established in Internal Control Integrated Framework
issued by the Committee of Sponsoring Organizations of the
Treadway Commission (COSO).
We also have audited, in accordance with the standards of the
Public Company Accounting Oversight Board (United States), the
consolidated balance sheets of RealNetworks, Inc. and
subsidiaries as of December 31, 2005 and 2004, and the
related consolidated statements of operations and comprehensive
income (loss), shareholders equity and cash flows for each
of the years in the three-year period ended December 31,
2005, and our report dated March 10, 2006 expressed an
unqualified opinion on those consolidated financial statements.
Seattle, Washington
March 10, 2006
88
|
|
Item 9. |
Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure |
Not applicable.
|
|
Item 9A. |
Controls and Procedures |
Disclosure Controls and Procedures
The Companys management, with the participation of the
principal executive officer and principal financial officer, has
evaluated the effectiveness of the Companys
disclosure controls and procedures (as such term is
defined under
Rule 13a-15(e) and
15d-15(e) promulgated
under the Securities Exchange Act of 1934, as amended (the
Exchange Act)). Based on their evaluation, the principal
executive officer and principal financial officer concluded
that, as of the end of the period covered by this report, the
Companys disclosure controls and procedures were effective
for the purpose of ensuring that the information required to be
disclosed in the reports that the Company files or submits under
the Exchange Act (1) is recorded, processed, summarized and
reported within the time period specified in the Securities and
Exchange Commission rules and forms and (2) is accumulated
and communicated to the Companys management, including its
principal executive and principal financial officers, as
appropriate to allow timely decisions regarding required
disclosure.
Managements Annual Report on Internal Control over
Financial Reporting
Our management is responsible for establishing and maintaining
adequate internal controls over financial reporting, as such
term is defined in Exchange Act Rules 13a
15(f). Under the supervision and with the participation of our
management, including our principal executive officer and
principal financial officer, we conducted an evaluation of the
effectiveness of our internal control over financial reporting
based on the framework in Internal Control
Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO). Based on our
evaluation, our management concluded that, as of
December 31, 2005, RealNetworks maintained effective
internal control over financial reporting.
KPMG LLP, an independent registered public accounting firm, has
issued an attestation report on our managements assessment
of the effectiveness of our internal control over financial
reporting as of December 31, 2005. KPMGs attestation
report regarding the effectiveness of managements
assessment of internal controls over financial reporting is
included herein.
Changes in Internal Control over Financial Reporting
The Companys management, with the participation of the
principal executive officer and principal financial officer, has
evaluated the changes to the Companys internal control
over financial reporting that occurred during the fiscal quarter
ended December 31, 2005 as required by paragraph (d)
of Rules 13a-15
and 15d-15 of the
Exchange Act and has concluded that there were no such changes
that have materially affected, or are reasonably likely to
materially affect, the Companys internal control over
financial reporting.
|
|
Item 9B. |
Other Information |
None
PART III.
|
|
Item 10. |
Directors and Executive Officers of the Registrant |
The information required by this Item is contained in part in
the sections captioned Board of Directors-Nominees for
Director, Board of Directors-Continuing
Directors-Not Standing for Election This Year, Board
of Directors-Contractual Arrangements and Voting
Securities and Principal Holders-Section 16(a) Beneficial
Ownership Reporting Compliance in the Proxy Statement for
89
RealNetworks Annual Meeting of Shareholders scheduled to
be held on or around June 5, 2006, and such information is
incorporated herein by reference.
The remaining information required by this Item is set forth in
Part I of this report under the caption Executive
Officers of the Registrant.
|
|
Item 11. |
Executive Compensation |
The information required by this Item is incorporated by
reference to the information contained in the section captioned
Compensation and Benefits of the Proxy Statement for
RealNetworks Annual Meeting of Shareholders scheduled to
be held on or around June 5, 2006.
|
|
Item 12. |
Security Ownership of Certain Beneficial Owners and
Management and Related Shareholder Matters |
The information required by this Item is incorporated by
reference to the information contained in the sections captioned
Voting Securities and Principal Holders of the Proxy
Statement for RealNetworks Annual Meeting of Shareholders
scheduled to be held on or around June 5, 2006.
Equity Compensation Plans
As of December 31, 2005, we had awards outstanding under
six equity compensation plans. These plans include the
RealNetworks, Inc. 2005 Stock Incentive Plan (the 2005
Plan), the RealNetworks, Inc. 1995 Stock Option Plan (the
1995 Plan), the RealNetworks, Inc. 1996 Stock Option
Plan, as amended and restated (the 1996 Plan), the
RealNetworks, Inc. 2000 Stock Option Plan, as amended and
restated (the 2000 Plan), the RealNetworks, Inc.
2002 Director Stock Option Plan (the 2002 Plan)
and the RealNetworks, Inc. Director Compensation Stock Plan (the
Director Stock Plan). The 2005 Plan, the 1995 Plan,
the 1996 Plan, the 2002 Plan and the Director Stock Plan have
been approved by our shareholders. The 2000 Plan has not been
approved by our shareholders.
In 2005, our shareholders approved the 2005 Plan. Upon approval
of the 2005 Plan, we terminated the 1995 Plan, the 1996 Plan,
the 2000 Plan and the 2002 Plan. As a result of the termination
of these Plans, all equity awards granted subsequent to
June 9, 2005 will be issued under the 2005 Plan.
The following table aggregates the data from our six plans:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Number of Securities | |
|
|
|
|
|
|
Remaining Available | |
|
|
Number of Securities | |
|
|
|
for Future Issuance | |
|
|
to be Issued upon | |
|
Weight-average | |
|
under Equity | |
|
|
Exercise of | |
|
Exercise Price of | |
|
Compensation Plans | |
|
|
Outstanding Options, | |
|
Outstanding Options, | |
|
(Excluding Securities | |
|
|
Warrants and Rights | |
|
Warrants and Rights | |
|
Reflected in Column (a)) | |
Plan Category |
|
(a) | |
|
(b) | |
|
(c) | |
|
|
| |
|
| |
|
| |
Equity compensation plans approved by security holders
|
|
|
34,655,808 |
|
|
$ |
6.88 |
|
|
|
11,333,875 |
(1) |
Equity compensation plans not approved by security holders
|
|
|
966,236 |
|
|
$ |
9.52 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
35,622,044 |
|
|
$ |
6.97 |
|
|
|
11,333,875 |
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
Includes shares available for future issuance under the Director
Stock Plan which enables non-employee Directors of RealNetworks
to receive all or a portion of their quarterly compensation for
Board service in shares of RealNetworks Common Stock in lieu of
cash. The number of shares of Common Stock to be issued in
respect of quarterly fees payable to non-employee Directors is
equal to the amount of such fees to be paid in shares of Common
Stock, as elected by each non-member Director, divided by the
market value of a share of Common Stock on the last business day
of each calendar quarter. |
90
Equity Compensation Plans Not Approved By Security
Holders. The Board of Directors adopted the 2000 Plan to
enable the grant of nonqualified stock options to employees and
consultants of RealNetworks and its subsidiaries who are not
otherwise officers or directors of RealNetworks. The 2000 Plan
has not been approved by RealNetworks shareholders. The
Compensation Committee of the Board of Directors is the
administrator of the 2000 Plan, and as such determines all
matters relating to options granted under the 2000 Plan. In June
2005, the 2000 Plan was terminated and the remaining available
shares were transferred to the 2005 Plan.
|
|
Item 13. |
Certain Relationships and Related Transactions |
The information required by this Item is incorporated by
reference to the information contained in the section captioned
Voting Securities and Principal Holders-Certain
Transactions of the Proxy Statement for RealNetworks
Annual Meeting of Shareholders scheduled to be held on or around
June 5, 2006.
|
|
Item 14. |
Principal Accountant Fees and Services |
The information required by this Item is incorporated by
reference to the information contained in the section captioned
Principal Accountant Fees and Services of the Proxy
Statement for RealNetworks Annual Meeting of Shareholders
scheduled to be held on or around June 5, 2006.
PART IV.
|
|
Item 15. |
Exhibits and Financial Statement Schedules |
(a)(1) Index to Consolidated Financial Statements
The following consolidated financial statements of RealNetworks,
Inc. and subsidiaries are filed as part of this report:
|
|
|
Consolidated Balance Sheets December 31, 2005
and 2004 |
|
|
Consolidated Statements of Operations and Comprehensive Income
(Loss) Years Ended December 31, 2005, 2004 and
2003 |
|
|
Consolidated Statements of Cash Flows Years Ended
December 31, 2005, 2004 and 2003 |
|
|
Consolidated Statements of Shareholders Equity
Years Ended December 31, 2005, 2004 and 2003 |
|
|
Notes to Consolidated Financial Statements |
|
|
Reports of Independent Registered Public Accounting Firm |
(a)(2) Financial Statement Schedules
|
|
|
Schedule II: Valuation and Qualifying Accounts |
Schedules not listed above have been omitted because the
information required to be set forth therein is not applicable
or is included in the Consolidated Financial Statements or notes
thereto.
(a)(3) Index to Exhibits
91
|
|
|
|
|
Exhibit |
|
|
Number |
|
DESCRIPTION |
|
|
|
|
2 |
.1 |
|
Agreement and Plan of Merger and Reorganization by and among
RealNetworks, Inc., Symphony Acquisition Corp. I, Symphony
Acquisition Corp. II, Listen.Com, Inc., Mellon Investor
Services LLC, as Escrow Agent and Robert Reid, as Shareholder
Representative dated as of April 21, 2003 (incorporated by
reference from Exhibit 2.1 to RealNetworks, Inc.s
Quarterly Report on Form 10-Q for the quarterly period
ended June 30, 2003 filed with the Securities and Exchange
Commission on August 14, 2003) |
|
|
3 |
.1 |
|
Amended and Restated Articles of Incorporation (incorporated by
reference from Exhibit 3.1 to RealNetworks Quarterly
Report on Form 10-Q for the quarterly period ended
June 30, 2000 filed with the Securities and Exchange
Commission on August 11, 2000) |
|
|
3 |
.2 |
|
Amended and Restated Bylaws (incorporated by reference from
Exhibit 3.2 to RealNetworks Quarterly Report on
Form 10-Q for the quarterly period ended September 30,
1998 filed with the Securities and Exchange Commission on
November 13, 1998) |
|
|
3 |
.3 |
|
Amendment No. 1 dated April 22, 2003 to Amended and
Restated Bylaws of RealNetworks, Inc. Adopted July 16, 1998
(incorporated by reference from Exhibit 3.1 to
RealNetworks Quarterly Report on Form 10-Q for the
quarterly period ended June 30, 2003 filed with the
Securities and Exchange Commission on August 14, 2003) |
|
|
4 |
.1 |
|
Shareholder Rights Plan dated as of December 4, 1998
between RealNetworks, Inc. and Mellon Investor Services LLC
(formerly Chase Mellon Shareholder Services, L.L.C.)
(incorporated by reference from Exhibit 1 to
RealNetworks Registration Statement on Form 8-A12G
filed with the Securities and Exchange Commission on
December 14, 1998) |
|
|
4 |
.2 |
|
Amendment No. 1 dated as of January 21, 2000 to
Shareholder Rights Plan between RealNetworks, Inc. and Mellon
Investor Services LLC (formerly Chase Mellon Shareholder
Services, L.L.C.) (incorporated by reference from Exhibit 1
to RealNetworks Registration Statement on
Form 8-A12G/ A filed with the Securities and Exchange
Commission on February 7, 2000) |
|
|
4 |
.3 |
|
Amendment No. 2 dated as of May 30, 2000 to
Shareholder Rights Plan between RealNetworks, Inc. and Mellon
Investor Services LLC (formerly Chase Mellon Shareholder
Services, L.L.C.) (incorporated by reference from Exhibit 1
to RealNetworks Registration Statement on
Form 8-A12G/ A filed with the Securities and Exchange
Commission on June 8, 2000) |
|
|
4 |
.4 |
|
Third Amended and Restated Investors Rights Agreement
dated March 24, 1998 by and among RealNetworks, Inc. and
certain shareholders of RealNetworks (incorporated by reference
from Exhibit 10.16 to RealNetworks Annual Report on
Form 10-K for the year ended December 31, 1997 filed
with the Securities and Exchange Commission on March 30,
1998) |
|
|
4 |
.5 |
|
Indenture dated as of June 17, 2003 between RealNetworks,
Inc. and U.S. Bank National Association, including the form
of Zero Coupon Subordinated Note due 2010 included in
Section 2.2 thereof (incorporated by reference from
Exhibit 4.1 to RealNetworks Amendment No. 1 to
Registration Statement on Form S-3 filed with the
Securities and Exchange Commission on November 18, 2003) |
|
|
4 |
.6 |
|
Registration Rights Agreement dated as of June 17, 2003,
between RealNetworks, Inc. and Goldman, Sachs & Co.
(incorporated by reference from Exhibit 4.3 to
RealNetworks Registration Statement on Form S-3 filed
with the Securities and Exchange Commission on
September 12, 2003) |
|
|
10 |
.1 |
|
RealNetworks, Inc. 1995 Stock Option Plan (incorporated by
reference from Exhibit 99.1 to RealNetworks
Registration Statement on Form S-8 filed with the
Securities and Exchange Commission on September 14, 1998) |
|
|
10 |
.2 |
|
RealNetworks, Inc. 1996 Stock Option Plan, as amended and
restated on June 1, 2001 (incorporated by reference from
Exhibit 10.1 to RealNetworks Quarterly Report on
Form 10-Q for the quarterly period ended June 30, 2001
filed with the Securities and Exchange Commission on
August 13, 2001) |
|
|
10 |
.3 |
|
RealNetworks, Inc. 2000 Stock Option Plan, as amended and
restated on June 1, 2001 (incorporated by reference from
Exhibit 10.2 to RealNetworks Quarterly Report on
Form 10-Q for the quarterly period ended June 30, 2001
filed with the Securities and Exchange Commission on
August 13, 2001) |
|
|
10 |
.4 |
|
RealNetworks, Inc. 2002 Director Stock Option Plan
(incorporated by reference from Exhibit 10.2 to
RealNetworks Quarterly Report on Form 10-Q for the
quarterly period ended June 30, 2002 filed with the
Securities and Exchange Commission on July 25, 2002) |
92
|
|
|
|
|
Exhibit |
|
|
Number |
|
DESCRIPTION |
|
|
|
|
|
10 |
.5 |
|
Form of Stock Option Agreement under the RealNetworks, Inc. 1996
Stock Option Plan, as amended and restated (incorporated by
reference from Exhibit 10.1 to RealNetworks Quarterly
Report on Form 10-Q for the quarterly period ended
September 30, 2002 filed with the Securities and Exchange
Commission on November 14, 2002) |
|
|
10 |
.6 |
|
Form of Stock Option Agreement under the RealNetworks, Inc. 2000
Stock Option Plan, as amended and restated (incorporated by
reference from Exhibit 10.2 to RealNetworks Quarterly
Report on Form 10-Q for the quarterly period ended
September 30, 2002 filed with the Securities and Exchange
Commission on November 14, 2002) |
|
|
10 |
.7 |
|
Forms of Stock Option Agreement under the RealNetworks, Inc.
2002 Director Stock Option Plan (incorporated by reference
from Exhibit 10.3 to RealNetworks Quarterly Report on
Form 10-Q for the quarterly period ended September 30,
2002 filed with the Securities and Exchange Commission on
November 14, 2002) |
|
|
10 |
.8 |
|
RealNetworks, Inc. 1998 Employee Stock Purchase Plan, as amended
and restated on December 15, 2005 |
|
|
10 |
.9 |
|
RealNetworks, Inc. Director Compensation Stock Plan
(incorporated by reference from Exhibit 10.10 to
RealNetworks Annual Report on Form 10-K for the year
ended December 31, 2003 filed with the Securities and
Exchange Commission on March 15, 2004) |
|
|
10 |
.10 |
|
RealNetworks, Inc. 2005 Stock Incentive Plan (incorporated by
reference from Exhibit 10.1 to RealNetworks Current
Report on Form 8-K filed with the Securities and Exchange
Commission on June 15, 2005) |
|
|
10 |
.11 |
|
Form on Non-Qualified Stock Option Terms and Conditions for use
under the RealNetworks, Inc. 2005 Stock Incentive Plan
(Incorporated by reference from Exhibit 10.2 to
RealNetworks Current Report on for 8-K filed with the
Securities and Exchange Commission on June 15, 2005) |
|
|
10 |
.12 |
|
Lease dated January 21, 1998 between RealNetworks, Inc. as
Lessee and 2601 Elliott, LLC, as amended (incorporated by
reference from Exhibit 10.1 to RealNetworks Quarterly
Report on Form 10-Q for the quarterly period ended
September 30, 2004 filed with the Securities and Exchange
Commission on November 9, 2004) |
|
|
10 |
.13 |
|
Form of Director and Officer Indemnification Agreement
(incorporated by reference from Exhibit 10.14 to
RealNetworks Registration Statement on Form S-1 filed
with the Securities and Exchange Commission on
September 26, 1997 (File No. 333-36553)) |
|
|
10 |
.14 |
|
Voting Agreement dated September 25, 1997 by and among
RealNetworks, Robert Glaser, Accel IV L.P., Mitchell
Kapor and Bruce Jacobsen (incorporated by reference from
Exhibit 10.17 to RealNetworks Registration Statement
on Form S-1 filed with the Securities and Exchange
Commission on September 26, 1997 (File No. 333-36553)) |
|
|
10 |
.15 |
|
Agreement dated September 26, 1997 by and between
RealNetworks and Robert Glaser (incorporated by reference from
Exhibit 10.18 to RealNetworks Registration Statement
on Form S-1 filed with the Securities and Exchange
Commission on September 26, 1997 (File No. 333-36553)) |
|
|
10 |
.16 |
|
Offer Letter dated March 31, 2005 between RealNetworks,
Inc. and John Giamatteo (incorporated by reference from
Exhibit 10.1 to RealNetworks Current Report on
Form 8-K filed with the Securities and Exchange Commission
on June 6, 2005) |
|
|
10 |
.17 |
|
Offer Letter dated September 18, 2003 between RealNetworks,
Inc. and Roy Goodman (incorporated by reference from
Exhibit 10.15 to RealNetworks Annual Report on
form 10-K for the year ended December 31, 2004 filed
with the Securities and Exchange Commission on
March 10, 2005) |
|
|
10 |
.18 |
|
Offer Letter dated December 8, 2005 between RealNetworks,
Inc. and Dan Sheeran |
|
|
10 |
.19 |
|
Offer Letter dated February 13, 2006 between RealNetworks,
Inc. and Michael Eggers |
|
|
10 |
.20 |
|
Offer Letter dated April 2, 2004 between RealNetworks, Inc.
and Sid Ferrales |
|
|
10 |
.21 |
|
Agreement dated February 1, 2006 between RealNetworks, Inc.
and Rob Glaser (incorporated by reference from Exhibit 10.1
to RealNetworks Current Report on Form 8-K filed with
the Securities and Exchange Commission on February 3, 2006) |
|
|
10 |
.22 |
|
Agreement dated November 30, 2005 between RealNetworks,
Inc. and Bob Kimball |
93
|
|
|
|
|
Exhibit |
|
|
Number |
|
DESCRIPTION |
|
|
|
|
|
10 |
.23 |
|
Agreement dated November 30, 2005 between RealNetworks,
Inc. and Dan Sheeran |
|
|
10 |
.24* |
|
Amended and Restated Settlement Agreement dated as of
March 10, 2006 between RealNetworks, Inc. and Microsoft
Corporation |
|
|
14 |
.1 |
|
RealNetworks, Inc. Code of Business Conduct and Ethics
(incorporated by reference from Exhibit 14.1 to
RealNetworks Annual Report on Form 10-K for the year
ended December 31, 2003 filed with the Securities and
Exchange Commission on March 15, 2004) |
|
|
21 |
.1 |
|
Subsidiaries of RealNetworks, Inc. |
|
|
23 |
.1 |
|
Consent of KPMG LLP |
|
|
24 |
.1 |
|
Power of Attorney (included on signature page) |
|
|
31 |
.1 |
|
Certification of Robert Glaser, Chairman and Chief Executive
Officer of RealNetworks, Inc., Pursuant to Exchange Act
Rules 13a-14(a) and 15d-14(a), as Adopted Pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002 |
|
|
31 |
.2 |
|
Certification of Michael Eggers, Senior Vice President, Chief
Financial Officer and Treasurer of RealNetworks, Inc., Pursuant
to Exchange Act Rules 13a-14(a) and 15d-14(a), as Adopted
Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
|
|
32 |
.1 |
|
Certification of Robert Glaser, Chairman and Chief Executive
Officer of RealNetworks, Inc., Pursuant to 18 U.S.C.
Section 1350, as Adopted Pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 |
|
|
32 |
.2 |
|
Certification of Michael Eggers, Senior Vice President, Chief
Financial Officer and Treasurer of RealNetworks, Inc., Pursuant
to 18 U.S.C. Section 1350, as Adopted Pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002 |
|
|
|
Executive Compensation Plan or Agreement |
|
|
* |
Portions of the Agreement are subject to confidential treatment |
94
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the
Securities Exchange Act of 1934, the Registrant has duly caused
this Report to be signed on its behalf by the undersigned,
thereunto duly authorized, in the City of Seattle, State of
Washington, on March 15, 2006.
|
|
|
|
|
Robert Glaser |
|
Chief Executive Officer |
POWER OF ATTORNEY
Each person whose signature appears below hereby constitutes and
appoints Robert Glaser and Michael Eggers, and each of them
severally, his or her true and lawful
attorneys-in-fact and
agents, with full power to act without the other and with full
power of substitution and resubstitution, to execute in his or
her name and on his or her behalf, individually and in each
capacity stated below, any and all amendments and supplements to
this Report, and any and all other instruments necessary or
incidental in connection herewith, and to file the same with the
Commission.
Pursuant to the requirements of the Securities Exchange Act of
1934, this Report has been signed below by the following persons
on behalf of the Registrant and in the capacities indicated
below on March 15, 2006.
|
|
|
|
|
Signature |
|
Title |
|
|
|
|
/s/ Robert Glaser
Robert Glaser |
|
Chairman of the Board and Chief Executive Officer
(Principal Executive Officer) |
|
/s/ Michael Eggers
Michael Eggers |
|
Senior Vice President,
Chief Financial Officer and Treasurer
(Principal Financial and Accounting Officer) |
|
/s/ Eric A. Benhamou
Eric A. Benhamou |
|
Director |
|
/s/ Edward Bleier
Edward Bleier |
|
Director |
|
/s/ James W. Breyer
James W. Breyer |
|
Director |
|
/s/ Jeremy Jaech
Jeremy Jaech |
|
Director |
|
/s/ Jonathan D. Klein
Jonathan D. Klein |
|
Director |
|
/s/ Kalpana Raina
Kalpana Raina |
|
Director |
95
SCHEDULE II VALUATION AND QUALIFYING
ACCOUNTS
REALNETWORKS, INC. AND SUBSIDIARIES
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|
|
|
|
|
Additions | |
|
|
|
|
|
|
Balance at | |
|
Charged to | |
|
|
|
Balance at | |
|
|
Beginning | |
|
Revenue and | |
|
|
|
End of | |
Description |
|
of Period | |
|
Expenses | |
|
Deductions | |
|
Period | |
|
|
| |
|
| |
|
| |
|
| |
|
|
(In thousands) | |
Year ended December 31, 2005:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Valuation accounts deducted from assets
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance for doubtful accounts receivable
|
|
$ |
1,145 |
|
|
$ |
377 |
|
|
$ |
(182 |
) |
|
$ |
1,340 |
|
|
|
Allowance for sales returns
|
|
|
2,141 |
|
|
|
6,560 |
|
|
|
(7,068 |
) |
|
|
1,633 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
3,286 |
|
|
|
6,937 |
|
|
|
(7,250 |
) |
|
|
2,973 |
|
Year ended December 31, 2004:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Valuation accounts deducted from assets
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance for doubtful accounts receivable
|
|
|
1,278 |
|
|
|
527 |
|
|
|
(660 |
) |
|
|
1,145 |
|
|
|
Allowance for sales returns
|
|
|
1,580 |
|
|
|
8,528 |
|
|
|
(7,967 |
) |
|
|
2,141 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
2,858 |
|
|
|
9,055 |
|
|
|
(8,627 |
) |
|
|
3,286 |
|
Year ended December 31, 2003:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Valuation accounts deducted from assets
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance for doubtful accounts receivable
|
|
|
974 |
|
|
|
803 |
|
|
|
(499 |
) |
|
|
1,278 |
|
|
|
Allowance for sales returns
|
|
|
1,527 |
|
|
|
9,303 |
|
|
|
(9,250 |
) |
|
|
1,580 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$ |
2,501 |
|
|
$ |
10,106 |
|
|
$ |
(9,749 |
) |
|
$ |
2,858 |
|
96
EXHIBIT INDEX
|
|
|
|
|
Exhibit |
|
|
Number |
|
DESCRIPTION |
|
|
|
|
2 |
.1 |
|
Agreement and Plan of Merger and Reorganization by and among
RealNetworks, Inc., Symphony Acquisition Corp. I, Symphony
Acquisition Corp. II, Listen.Com, Inc., Mellon Investor
Services LLC, as Escrow Agent and Robert Reid, as Shareholder
Representative dated as of April 21, 2003 (incorporated by
reference from Exhibit 2.1 to RealNetworks, Inc.s
Quarterly Report on Form 10-Q for the quarterly period
ended June 30, 2003 filed with the Securities and Exchange
Commission on August 14, 2003) |
|
|
3 |
.1 |
|
Amended and Restated Articles of Incorporation (incorporated by
reference from Exhibit 3.1 to RealNetworks Quarterly
Report on Form 10-Q for the quarterly period ended
June 30, 2000 filed with the Securities and Exchange
Commission on August 11, 2000) |
|
|
3 |
.2 |
|
Amended and Restated Bylaws (incorporated by reference from
Exhibit 3.2 to RealNetworks Quarterly Report on
Form 10-Q for the quarterly period ended September 30,
1998 filed with the Securities and Exchange Commission on
November 13, 1998) |
|
|
3 |
.3 |
|
Amendment No. 1 dated April 22, 2003 to Amended and
Restated Bylaws of RealNetworks, Inc. Adopted July 16, 1998
(incorporated by reference from Exhibit 3.1 to
RealNetworks Quarterly Report on Form 10-Q for the
quarterly period ended June 30, 2003 filed with the
Securities and Exchange Commission on August 14, 2003) |
|
|
4 |
.1 |
|
Shareholder Rights Plan dated as of December 4, 1998
between RealNetworks, Inc. and Mellon Investor Services LLC
(formerly Chase Mellon Shareholder Services, L.L.C.)
(incorporated by reference from Exhibit 1 to
RealNetworks Registration Statement on Form 8-A12G
filed with the Securities and Exchange Commission on
December 14, 1998) |
|
|
4 |
.2 |
|
Amendment No. 1 dated as of January 21, 2000 to
Shareholder Rights Plan between RealNetworks, Inc. and Mellon
Investor Services LLC (formerly Chase Mellon Shareholder
Services, L.L.C.) (incorporated by reference from Exhibit 1
to RealNetworks Registration Statement on
Form 8-A12G/ A filed with the Securities and Exchange
Commission on February 7, 2000) |
|
|
4 |
.3 |
|
Amendment No. 2 dated as of May 30, 2000 to
Shareholder Rights Plan between RealNetworks, Inc. and Mellon
Investor Services LLC (formerly Chase Mellon Shareholder
Services, L.L.C.) (incorporated by reference from Exhibit 1
to RealNetworks Registration Statement on
Form 8-A12G/ A filed with the Securities and Exchange
Commission on June 8, 2000) |
|
|
4 |
.4 |
|
Third Amended and Restated Investors Rights Agreement
dated March 24, 1998 by and among RealNetworks, Inc. and
certain shareholders of RealNetworks (incorporated by reference
from Exhibit 10.16 to RealNetworks Annual Report on
Form 10-K for the year ended December 31, 1997 filed
with the Securities and Exchange Commission on March 30,
1998) |
|
|
4 |
.5 |
|
Indenture dated as of June 17, 2003 between RealNetworks,
Inc. and U.S. Bank National Association, including the form
of Zero Coupon Subordinated Note due 2010 included in
Section 2.2 thereof (incorporated by reference from
Exhibit 4.1 to RealNetworks Amendment No. 1 to
Registration Statement on Form S-3 filed with the
Securities and Exchange Commission on November 18, 2003) |
|
|
4 |
.6 |
|
Registration Rights Agreement dated as of June 17, 2003,
between RealNetworks, Inc. and Goldman, Sachs & Co.
(incorporated by reference from Exhibit 4.3 to
RealNetworks Registration Statement on Form S-3 filed
with the Securities and Exchange Commission on
September 12, 2003) |
|
|
10 |
.1 |
|
RealNetworks, Inc. 1995 Stock Option Plan (incorporated by
reference from Exhibit 99.1 to RealNetworks
Registration Statement on Form S-8 filed with the
Securities and Exchange Commission on September 14, 1998) |
|
|
10 |
.2 |
|
RealNetworks, Inc. 1996 Stock Option Plan, as amended and
restated on June 1, 2001 (incorporated by reference from
Exhibit 10.1 to RealNetworks Quarterly Report on
Form 10-Q for the quarterly period ended June 30, 2001
filed with the Securities and Exchange Commission on
August 13, 2001) |
|
|
10 |
.3 |
|
RealNetworks, Inc. 2000 Stock Option Plan, as amended and
restated on June 1, 2001 (incorporated by reference from
Exhibit 10.2 to RealNetworks Quarterly Report on
Form 10-Q for the quarterly period ended June 30, 2001
filed with the Securities and Exchange Commission on
August 13, 2001) |
|
|
10 |
.4 |
|
RealNetworks, Inc. 2002 Director Stock Option Plan
(incorporated by reference from Exhibit 10.2 to
RealNetworks Quarterly Report on Form 10-Q for the
quarterly period ended June 30, 2002 filed with the
Securities and Exchange Commission on July 25, 2002) |
|
|
|
|
|
Exhibit |
|
|
Number |
|
DESCRIPTION |
|
|
|
|
|
10 |
.5 |
|
Form of Stock Option Agreement under the RealNetworks, Inc. 1996
Stock Option Plan, as amended and restated (incorporated by
reference from Exhibit 10.1 to RealNetworks Quarterly
Report on Form 10-Q for the quarterly period ended
September 30, 2002 filed with the Securities and Exchange
Commission on November 14, 2002) |
|
|
10 |
.6 |
|
Form of Stock Option Agreement under the RealNetworks, Inc. 2000
Stock Option Plan, as amended and restated (incorporated by
reference from Exhibit 10.2 to RealNetworks Quarterly
Report on Form 10-Q for the quarterly period ended
September 30, 2002 filed with the Securities and Exchange
Commission on November 14, 2002) |
|
|
10 |
.7 |
|
Forms of Stock Option Agreement under the RealNetworks, Inc.
2002 Director Stock Option Plan (incorporated by reference
from Exhibit 10.3 to RealNetworks Quarterly Report on
Form 10-Q for the quarterly period ended September 30,
2002 filed with the Securities and Exchange Commission on
November 14, 2002) |
|
|
10 |
.8 |
|
RealNetworks, Inc. 1998 Employee Stock Purchase Plan, as amended
and restated on December 15, 2005 |
|
|
10 |
.9 |
|
RealNetworks, Inc. Director Compensation Stock Plan
(incorporated by reference from Exhibit 10.10 to
RealNetworks Annual Report on Form 10-K for the year
ended December 31, 2003 filed with the Securities and
Exchange Commission on March 15, 2004) |
|
|
10 |
.10 |
|
RealNetworks, Inc. 2005 Stock Incentive Plan (incorporated by
reference from Exhibit 10.1 to RealNetworks Current
Report on Form 8-K filed with the Securities and Exchange
Commission on June 15, 2005) |
|
|
10 |
.11 |
|
Form on Non-Qualified Stock Option Terms and Conditions for use
under the RealNetworks, Inc. 2005 Stock Incentive Plan
(Incorporated by reference from Exhibit 10.2 to
RealNetworks Current Report on for 8-K filed with the
Securities and Exchange Commission on June 15, 2005) |
|
|
10 |
.12 |
|
Lease dated January 21, 1998 between RealNetworks, Inc. as
Lessee and 2601 Elliott, LLC, as amended (incorporated by
reference from Exhibit 10.1 to RealNetworks Quarterly
Report on Form 10-Q for the quarterly period ended
September 30, 2004 filed with the Securities and Exchange
Commission on November 9, 2004) |
|
|
10 |
.13 |
|
Form of Director and Officer Indemnification Agreement
(incorporated by reference from Exhibit 10.14 to
RealNetworks Registration Statement on Form S-1 filed
with the Securities and Exchange Commission on
September 26, 1997 (File No. 333-36553)) |
|
|
10 |
.14 |
|
Voting Agreement dated September 25, 1997 by and among
RealNetworks, Robert Glaser, Accel IV L.P., Mitchell Kapor
and Bruce Jacobsen (incorporated by reference from
Exhibit 10.17 to RealNetworks Registration Statement
on Form S-1 filed with the Securities and Exchange
Commission on September 26, 1997 (File No. 333-36553)) |
|
|
10 |
.15 |
|
Agreement dated September 26, 1997 by and between
RealNetworks and Robert Glaser (incorporated by reference from
Exhibit 10.18 to RealNetworks Registration Statement
on Form S-1 filed with the Securities and Exchange
Commission on September 26, 1997 (File No. 333-36553)) |
|
|
10 |
.16 |
|
Offer Letter dated March 31, 2005 between RealNetworks,
Inc. and John Giamatteo (incorporated by reference from
Exhibit 10.1 to RealNetworks Current Report on
Form 8-K filed with the Securities and Exchange Commission
on June 6, 2005) |
|
|
10 |
.17 |
|
Offer Letter dated September 18, 2003 between RealNetworks,
Inc. and Roy Goodman (incorporated by reference from
Exhibit 10.15 to RealNetworks Annual Report on
Form 10-K for the year ended December 31, 2004 filed
with the Securities and Exchange Commission on
March 10, 2005) |
|
|
10 |
.18 |
|
Offer Letter dated December 8, 2005 between RealNetworks,
Inc. and Dan Sheeran |
|
|
10 |
.19 |
|
Offer Letter dated February 13, 2006 between RealNetworks,
Inc. and Michael Eggers |
|
|
10 |
.20 |
|
Offer Letter dated April 2, 2004 between RealNetworks, Inc.
and Sid Ferrales |
|
|
10 |
.21 |
|
Agreement dated February 1, 2006 between RealNetworks, Inc.
and Rob Glaser (incorporated by reference from Exhibit 10.1
to RealNetworks Current Report on Form 8-K filed with
the Securities and Exchange Commission on February 3, 2006) |
|
|
10 |
.22 |
|
Agreement dated November 30, 2005 between RealNetworks,
Inc. and Bob Kimball |
|
|
10 |
.23 |
|
Agreement dated November 30, 2005 between RealNetworks,
Inc. and Dan Sheeran |
|
|
|
|
|
Exhibit |
|
|
Number |
|
DESCRIPTION |
|
|
|
|
|
10 |
.24* |
|
Amended and Restated Settlement Agreement dated as of
March 10, 2006 between RealNetworks, Inc. and Microsoft
Corporation |
|
|
14 |
.1 |
|
RealNetworks, Inc. Code of Business Conduct and Ethics
(incorporated by reference from Exhibit 14.1 to
RealNetworks Annual Report on Form 10-K for the year
ended December 31, 2003 filed with the Securities and
Exchange Commission on March 15, 2004) |
|
|
21 |
.1 |
|
Subsidiaries of RealNetworks, Inc. |
|
|
23 |
.1 |
|
Consent of KPMG LLP |
|
|
24 |
.1 |
|
Power of Attorney (included on signature page) |
|
|
31 |
.1 |
|
Certification of Robert Glaser, Chairman and Chief Executive
Officer of RealNetworks, Inc., Pursuant to Exchange Act
Rules 13a-14(a) and 15d-14(a), as Adopted Pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002 |
|
|
31 |
.2 |
|
Certification of Michael Eggers, Senior Vice President, Chief
Financial Officer and Treasurer of RealNetworks, Inc., Pursuant
to Exchange Act Rules 13a-14(a) and 15d-14(a), as Adopted
Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
|
|
32 |
.1 |
|
Certification of Robert Glaser, Chairman and Chief Executive
Officer of RealNetworks, Inc., Pursuant to 18 U.S.C.
Section 1350, as Adopted Pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 |
|
|
32 |
.2 |
|
Certification of Michael Eggers, Senior Vice President, Chief
Financial Officer and Treasurer of RealNetworks, Inc., Pursuant
to 18 U.S.C. Section 1350, as Adopted Pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002 |
|
|
|
Executive Compensation Plan or Agreement |
|
|
* |
Portions of the Agreement are subject to confidential treatment |