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IDENTIVE GROUP, INC. - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations
(Edgar Glimpses Via Acquire Media NewsEdge)
This Quarterly Report on Form 10-Q contains forward-looking statements for
purposes of the safe harbor provisions under Section 27A of the Securities Act
of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as
amended. These statements, other than statements of historical facts, include
statements on our ability to execute our growth strategy, expand our business,
leverage our opportunities, enter new markets, capitalize on the growth in our
industries, develop and improve new technology, and similar statements regarding
our strategy, future operations, financial position, projected results,
estimated revenues or losses, projected costs, prospects, plans, market trends,
competition and objectives of management. In some cases, you can identify
forward-looking statements by terms such as "will," "believe," "could,"
"should," "would," "may," "anticipate," "intend," "plan," "estimate," "expect,"
"project" or the negative of these terms or other similar expressions. Although
we believe that our expectations reflected in or suggested by the
forward-looking statements that we make in this Quarterly Report on Form 10-Q
are reasonable, we cannot guarantee future results, performance or achievements.
You should not place undue reliance on these forward-looking statements. All
forward-looking statements speak only as of the date of this Quarterly Report on
Form 10-Q. While we may elect to update forward-looking statements at some point
in the future, we specifically disclaim any obligation to do so, even if our
expectations change, whether as a result of new information, future events or
otherwise.
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We also caution you that such forward-looking statements are subject to risks,
uncertainties and other factors, not all of which are known to us or within our
control, and that actual events or results may differ materially from those
indicated by these forward-looking statements. Such factors include our ability
to successfully integrate strategic businesses that we acquire, our ability to
reduce costs associated with strategic acquisitions, our ability to anticipate
product demand, our ability to obtain supplies for products in a timely manner,
and our ability to retain key personnel, as well as those additional factors
listed in the "Risk Factors" of our Annual Report on Form 10-K for the year
ended December 31, 2011. These cautionary statements qualify all of the
forward-looking statements included in this Quarterly Report on Form 10-Q that
are attributable to us or persons acting on our behalf.
The following information should be read in conjunction with the unaudited
condensed consolidated financial statements and notes thereto set forth in Part
I-Item 1 of this Quarterly Report on Form 10-Q and with the audited financial
statements and notes thereto contained in our Annual Report on Form 10-K for the
year ended December 31, 2011.
Overview
Identive Group, Inc. ("Identive," the "Company", "we" or "us") provides secure
identification ("Secure ID") solutions that combine the convenience of radio
frequency identification ("RFID") with the security of smart card technology to
enable people to easily and securely interact with and manage digital devices,
systems and data. Our offerings include hardware products, software, integrated
systems and services to address the global markets for credential management,
physical and logical/cyber access control, integrated ID solutions and a host of
near field communication ("NFC") and RFID-enabled applications for customers in
the government, enterprise, consumer, education, healthcare and transportation
sectors. Our growth model is principally based on strong technology-driven
organic growth, supported by disciplined acquisitive expansion. Our common stock
is listed on the NASDAQ Global Market in the U.S. under the symbol "INVE" and
the Frankfurt Stock Exchange in Germany under the symbol "INV."
We operate in two segments, "Identity Management Solutions & Services"
("Identity Management") and "Identification Products & Components" ("ID
Products"):
• In our Identity Management segment we design, supply and manage solutions,
systems and services that enable the secure management of credentials in
diverse markets. These credentials are used for the identification of
people and the granting of rights and privileges based on defined security
policies. Our Identity Management offerings include integrated physical
and logical (i.e., PC, network or cyber) access systems, integrated ID
solutions, cashless payment solutions and cloud-based credential
management systems, all of which are designed to enable organizations to
enhance security and better meet compliance and regulatory requirements
while providing the benefits of ease of use and convenience. We sell our
Identity Management solutions under the Identive, Hirsch Identive,
polyright, payment solution and idOnDemand brands. Our Identity Management
end customers operate in the government, education, enterprise and
commercial markets and can be found in multiple vertical market segments
including payment, healthcare, banking, industrial, retail and critical
infrastructure.
• In our ID Products segment we design and manufacture both standard and
highly specialized RFID and smart card technology-based products and
components, including NFC products and components, that are used in the government, enterprise and consumer markets for a number of identity-based
and related applications, including logical access, physical access,
e-Health, e-Government, citizen ID, mobile payments, loyalty schemes, and
transportation and event ticketing. Our ID Products offerings include i)
readers and terminals based on both contact and contactless smart card
technology and ii) RFID transponders, which consist of RFID inlays and inlay-based RFID tags, labels, stickers and cards, including NFC inlays
and tags. Our ID Products are sold primarily under the Identive brand.
Each of the business areas within Identive conducts its own sales and marketing
activities in the markets in which it competes, primarily utilizing its own
sales and marketing organization to solicit prospective channel partners and
customers, provide technical advice and support with respect to products,
systems and services, and manage relationships with customers, distributors and
OEMs. Increasingly, we also leverage common resources between business areas to
optimize our sales and marketing efforts across multiple regions and market
opportunities. The majority of our sales are made through indirect sales
channels that may include dealers, systems integrators, value added resellers,
resellers or Internet sales.
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Our corporate headquarters are located in Santa Ana, California and our European
and operational headquarters are located in Ismaning, Germany. We maintain
facilities in Chennai, India for research and development and in Australia,
Canada, Germany, Hong Kong, Japan, The Netherlands, Singapore, Switzerland and
the U.S. for local operations and sales. The Company was founded in 1990 in
Munich, Germany and incorporated in 1996 under the laws of the State of
Delaware.
Recent Acquisitions
On January 30, 2012, through our Bluehill ID AG subsidiary, we acquired
approximately 58.8% of the outstanding shares of payment solution AG, a
privately-held German company that provides cashless payment solutions for
stadiums, arenas and other event venues ("payment solution"). In exchange for
the shares of payment solution, we issued an aggregate of 1,357,758 shares of
our common stock, which had an approximate value of €2.35 million (or
approximately $3.0 million), to 18 selling shareholders of payment solution. The
shares have not been, and will not be, registered under the U.S. Securities Act
of 1933 and were issued in reliance upon available exemptions from the
registration requirements of the Securities Act. The shares are also subject to
applicable restrictions on transfer. payment solution's operating results have
been included in our consolidated results from the date of acquisition. On
April 2, 2012 we acquired an additional 23.7% of the outstanding shares of
payment solution, bringing our total ownership of the company to 82.5%. We are
in the process of integrating payment solution into our existing ID Solutions
operations in Germany.
On July 18, 2011, through our Multicard AG subsidiary we acquired polyright SA,
a Swiss provider of identity management platforms and open-ended rights and
services management solutions for higher education, healthcare and industry
("polyright"). The acquisition was made using a combination of cash and payment
of outstanding indebtedness in the aggregate amount of CHF 2.55 million (or
approximately $3.1 million). The sellers included Securitas AG, Kudelski SA and
members of polyright's management team. The sellers may receive aggregate
potential earn-out payments payable in shares of our common stock, over the
30-month period following the closing of the acquisition, subject to achievement
of specific financial and sales performance targets over such period. The number
of shares, if any, issued under the earn-out will be based on the average share
price during the month preceding the date of announcement of our annual results,
and will be subject to a two-year lockup. polyright's operating results have
been included in our consolidated results since the date of acquisition.
Following the acquisition, polyright was integrated into our existing ID
Solutions operations in Switzerland.
On May 2, 2011, we acquired 95.8% of the shares of idOnDemand, Inc., a
privately-held provider of identity management services based in Pleasanton,
California ("idOnDemand"). The acquisition was pursuant to the Stock Purchase
Agreement dated April 29, 2011, under which we paid the selling shareholders of
idOnDemand initial consideration at closing of approximately $2.4 million in
cash and 995,675 shares of our common stock. In addition, the selling
shareholders may receive aggregate potential earn-out payments payable in shares
of our common stock subject to achievement of specific financial and sales
performance targets over a period of three years and eight months from the
closing date of the acquisition. Any shares issued in connection with the
earn-out will be subject to a 12-month lock-up from date of issuance. Shares
issued as consideration to the selling shareholders at closing are subject to a
three-year lock-up from the closing date of the acquisition. The shares have not
been, and will not be, registered under the U.S. Securities Act of 1933, and
were issued in reliance upon available exemptions from the registration
requirements of the Securities Act. Of the total initial share consideration
paid to the selling shareholders, 407,289 shares were released from lock-up six
months after the closing date. Beginning on the second anniversary of the
closing date, the remaining shares will be released from the lock-up in equal
amounts on a monthly basis until the expiration of the lock-up period.
idOnDemand's operating results have been included in our consolidated results
since the date of acquisition. On December 22, 2011, we entered into an
agreement to purchase the remaining outstanding shares of idOnDemand for the sum
of $500,000, pursuant to an agreement among Identive, ActivIdentity Corporation
and idOnDemand. Following the completion of this share purchase on January 9,
2012, idOnDemand became a wholly-owned subsidiary of Identive. idOnDemand's
software and services activities have been closely integrated with our Hirsch
Identive operations and together they comprise our Identity Management & Cloud
Solutions division. Certain reader products from idOnDemand have been
transferred to our ID Products segment.
Recent Trends and Strategies for Growth
Identive is focused on building the world's signature company in Secure ID by
providing products, systems and services that are interoperable, easy to
integrate and easy to use. Our goal is to build a lasting business of scale and
technology to both enable and capitalize on the growth of the security and RFID
industries. Our growth strategy is based both on technology-driven organic
growth and disciplined acquisitive activity. We pursue investments and
acquisitions with a focus on expanding our business, reinforcing our market
position in targeted areas and fully leveraging our strengths and opportunities
to enter new markets, as well as driving consolidation in the rapidly growing,
yet fragmented markets for identification-based technologies.
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As part of our organic growth strategy, we are focused on enhancing our ability
to address emerging growth markets and extending our product and solutions
offerings through ongoing research and development programs. This includes a
significant update to our Hirsch Identive access control software and hardware
platforms and continued enhancements to our software systems for cashless
payment systems. Additionally, to meet increasing customer demand for RFID
inlays and finished transponder products such as tags, labels and cards, we
continue to add new manufacturing and production equipment and lines at our
facilities in Germany and Singapore.
In order to position the Company to participate in emerging, potentially very
high-growth market opportunities, we have invested and continue to invest in new
products and solutions in a number of areas. In anticipation of the launch of
new smartphones that include NFC technology, we created a new dedicated group
focused on NFC and mobility applications, which is responsible for guiding and
coordinating our NFC product and market strategies as well as launching new
cloud-based NFC services. We are investing in NFC product and service offerings,
including NFC tags, readers, development kits, and a cloud-based services
platform for managing content on deployed NFC tags. We also launched an online
market to sell our NFC products and services at www.identiveNFC.com. To take
advantage of the growing market trend towards the convergence (or integration)
of physical and cyber access systems, we created a new group focused on the
market for converged access products. Additionally, to meet the growing demand
for cloud-based credential issuance and management, we are investing in the
development of "Identity as a Service" software solutions and capabilities.
Because acquisitions have been and continue to be a component of our strategy to
expand our capabilities and the scale of our business, from time to time we
reorganize our operations to enhance our ability to address our market
opportunities. For example, we have consolidated our various transponder, reader
and firmware product businesses into a single Identification Products
organization and moved the majority of our product brands under a single market
brand, Identive. We have combined our Hirsch Identive and idOnDemand operations
into a single organization focused on Identity Management & Cloud Solutions, and
are in the process of transitioning our Hirsch Identive and idOnDemand offerings
to the Identive brand. We are also engaged in combining our most recent
acquisitions, polyright and payment solutions, into the operations of our ID
Solutions division.
While we expect to continue to invest in those areas of our business that we
perceive to be important future growth drivers, as described below in "Results
of Operations" and "Liquidity and Capital Resources," our sales for the first
nine months of 2012 were negatively impacted by market factors, and we continue
to incur operating losses
Goodwill and Intangibles Impairment
As described in Note 9 to the unaudited condensed consolidated financial
statements included in this Quarterly Report on
Form 10-Q, because of a significant decline in the Company's stock price and
market capitalization and changes to forecasted revenue, gross margin and
operating profit during the 2012 second quarter, we undertook interim goodwill
impairment analyses in connection with our quarterly close as of June 30, 2012.
Due to the length of time necessary to measure impairment of goodwill, our
analysis was not completed as of the time of the filing of our second quarter
Form 10-Q and we reported a preliminary impairment charge of $21.4 million in
the second quarter ended June 30, 2012. The goodwill impairment analysis was
subsequently completed during the 2012 third quarter and resulted in an
additional goodwill impairment charge of approximately $5.0 million being
recorded during the three months ended September 30, 2012, for a total goodwill
impairment charge of $26.4 million during the nine months ended September 30,
2012.
In conjunction with our goodwill impairment test, we also tested our long-lived
assets for impairment and adjusted the carrying value of each asset group to its
fair value and recorded the associated impairment charge of $24.8 million in our
condensed consolidated statements of operations, of which $23.9 million was
recorded in the second quarter and $0.9 million was recorded in the third
quarter of 2012. These charges affected our financial condition and results of
operation; however, they have no impact on our day-to-day operations or
liquidity and will not result in any future cash expenditures. We also expect
that as a result of the impairment there will be lower non-cash charges to net
earnings in future quarters, as the amount of intangible assets being amortized
will be significantly reduced.
Trends in our Business
Sales Trends
Sales in the first nine months of 2012 decreased 9% to $68.0 million compared
with the first nine months of 2011, reflecting a 16% decrease in organic sales,
partially offset by $5.4 million of incremental revenue from idOnDemand,
polyright and payment solution. In the first nine months of 2012, sales were
affected by a revenue gap of approximately $6.2 million caused by the absence of
new orders for secure card readers and software for the German national ID
program, which had been a significant component of our revenue throughout 2011;
project delays with several transponder customers in the mobile device and
transportation sectors; and ongoing budget delays and constraints in the U.S.
government and European government program sectors. These factors were partially
offset by stronger sales of smart card readers and Hirsch Identive identity
management and access control systems to the U.S. government market, related in
part to limited improvement in activity associated with previously delayed
security projects with some U.S. federal agencies.
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Sales in the Americas. Sales in the Americas were $35.8 million in the first
nine months of 2012, accounting for 53% of total revenue and up 7% compared with
$33.5 million in the first nine months of 2011. Sales of products and systems
for employee ID programs within various U.S. government agencies comprise a
significant proportion of our revenues in the Americas region, which also
includes Canada and Latin America.
Sales of our Hirsch Identive access control systems in the Americas increased by
approximately 3% in the first nine months of 2012 compared with the same period
of 2011, primarily as a result of an increase in activity with certain U.S.
federal agencies, including a $1.7 million order from the Department of Justice
recorded in the 2012 second quarter. As a general trend, U.S. federal agencies
continue to be subject to security improvement mandates under programs such as
Homeland Security Presidential Directive-12 ("HSPD-12") and reiterated in
memoranda from the Office of Management and Budget ("OMB M-11-11"). We believe
that our Hirsch Identive access control systems remain among the most attractive
offerings in the market to help agencies move towards compliance with federal
directives and mandates. During 2011, our sales of security systems to the U.S.
Government sector were negatively impacted by budget and funding delays. While
increased project activity at some federal agencies in the first nine months of
2012 is a positive development, the outlook for our U.S. Government business
remains uncertain in the near term, particularly as it is uncertain how the
upcoming U.S. election may affect federal spending. To offset project and budget
delays in the U.S. Government market, in recent quarters we have expanded our
focus on the utility and enterprise sectors as well as on further developing our
opportunities in international markets.
Smart card reader sales in the Americas increased 72% in the first nine months
of 2012 compared with the same period of 2011, as a result of large orders from
a few U.S. government agencies and broader, seasonally driven demand from the
U.S. government sector as a whole to support cybersecurity and network access
projects. This was partially offset by a 22% decrease in transponder sales in
the Americas as various transportation projects slowed and expected orders were
delayed.
Sales in Europe and the Middle East. Sales in Europe and the Middle East (EMEA)
were $22.0 million in the first nine months of 2012, accounting for 32% of total
revenue and down 28% from $30.6 million for the same period of 2011. A primary
reason for this decrease was the $6.2 million revenue gap caused by the absence
of new orders for readers and software to support the German national ID
program, which were a significant component of our sales in 2011. This
contributed to a 57% decrease in sales in our European ID Solutions business in
the first nine months of 2012. European sales of smart card readers also were
46% lower in the first nine months of 2012 compared with the prior year,
reflecting weakness in the market for European government programs including
national ID, electronic health and other programs. Additionally, European sales
of transponder products were 27% lower in the first nine months of 2012 compared
with the same period of the prior year due to softness in some of our markets.
These factors were partially offset by approximately $5.1 million of incremental
revenue from polyright and payment solution in the first nine months of 2012.
Sales in Asia/Pacific. Sales in the Asia/Pacific region were $10.1 million in
the first nine months of 2012, accounting for 15% of total revenue and down 6%
from $10.7 million the first nine months of 2011. The decrease was primarily due
to a 36% decline in sales from our ID Solutions business in Australia, which
experiences significant variability from period to period due to the timing of
large program deployments for a small number of customers. Sales of transponder
products also fell 18% in the first nine months of 2012 due to project delays
from customers in the NFC mobile device and transportation sectors. These trends
were partially offset by stronger sales of smart card reader products, including
chipsets for PC applications and smart card readers to support
telecommunications applications in China and Japan.
Looking forward, we believe demand will increase across our markets for
products, systems and solutions that address emerging applications such as
converged access control, NFC tag deployment and management, mobile payment
schemes and ID programs for citizens, consumers and employees. The trends
towards the convergence of cyber and physical access and the marriage of
contactless payment technology with mobile devices are beginning to be realized
and to drive new activity from governments, enterprises and consumer
applications around the world. We believe that our unique portfolio of
technology, products, solutions, systems and experience position Identive to
address these emergent trends and benefit from their growth.
Seasonality and Other Factors. In our business overall, we may experience
significant variations in demand for our products quarter to quarter, and
overall we typically experience a stronger demand cycle in the second half of
our fiscal year. Sales of our Hirsch Identive physical access control systems
are subject to U.S. government budget cycles and are generally highest in the
third quarter of each year. Sales of our smart card readers and chips for
government programs are impacted by testing and compliance schedules of
government bodies as well as roll-out schedules for application deployments,
both of which contribute to variability in demand from quarter to quarter.
Further, sales of these products typically are subject to seasonality based on
governmental budget cycles, with lowest sales in the first half, and in
particular the second quarter of the year, and highest sales in the second half
of each year. In our ID Solutions division, a variety of localized market
factors including government budget cycles and retail demand cycles typically
result in stronger demand in the second half of the year. This pattern is also
true for our payment solutions business as sales activity in the German sports
market is strongest in the second half of the year. In general, sales of our
global transponder products also are typically marginally stronger in the second
half of the year.
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Operating Expense Trends
We have made and continue to make significant investments in the development of
products and solutions to position the Company to benefit from the expected
growth of the emerging markets for NFC, payment and cloud-based identity
management, as further described below. As these markets do not yet offer
significant revenue opportunities, our sales in these areas currently are
relatively small and not yet able to compensate for the level of investment
required to participate in these markets. In recent periods this has contributed
significantly to our operational losses.
Our base operating expenses (research and development, sales and marketing, and
general and administrative) increased 3% in the first nine months of 2012
compared with the same period of 2011. This increase was primarily due to a $3.5
million, or 9% increase in costs from idOnDemand, polyright and payment
solution, partially offset by expense reductions taken under our 2012
restructuring plan as described below, and upon the completion of various
development projects. Over the past several quarters, we have increased our
investment in new solutions offerings and to develop our sales and marketing
capabilities to address emerging opportunities within the secure identification
market that we believe hold significant long-term potential for Identive. We
have also reduced our spending on general and administrative expenses as part of
an ongoing initiative to lower our operating costs.
In the area of research and development, we continue to make significant
investments in technology and in specific solutions to address market
opportunities with both new and existing customers. We have developed
next-generation software, controllers and other products to reinforce and extend
the customer base for our Hirsch Identive access control offering. To address
the growing opportunities for NFC-enabled systems, we have developed a
cloud-based NFC tag content management platform that provides business analytics
for organizations seeking to create dynamic engagement with consumers and other
groups, and we continue to invest in this platform. We also continue to invest
in trusted identity solutions and capabilities for cloud-based credential
issuance and management, and to enhance our cashless payment and ID software
systems. On an ongoing basis, we invest in the development of new contactless
readers, tokens and modules, new physical access readers to enable converged
physical and logical/cyber access, and in the extension of our contactless
platforms. In addition, we continue to invest in enhancing and broadening our
RFID transponder inlay designs and technology in the areas of NFC, payment, tag
on metal, card manufacturing and medical/pharmaceutical tracking applications.
Across our business we have a significant number of new patent applications and
new inventions in process. We attempt to balance our investments in new
technologies, products and services with careful management of our development
resources so that our increased development activities do not result in
unexpected or significant changes in our overall spending on research and
development.
2012 Restructuring Plan
While we remain committed to our strategy of investment in emerging markets, in
June 2012, we announced a series of cost reduction measures designed to align
our business operations with the current market and macroeconomic conditions.
Cost reduction measures include an 11% reduction in the Company's global
workforce, acceleration of the elimination of duplicate expenses at newly
acquired companies, reductions in other general and administrative expenses, the
consolidation of facilities, and nearly $0.5 million of temporary reductions in
executive and management salaries and Board fees. The remaining restructuring
actions will be executed in the fourth quarter of 2012 and benefits are expected
to accrue from 2013 onwards. These benefits will contribute to an annualized
saving of $7.0 million.
Results of Operations
The comparability of our operating results in the nine months ended
September 30, 2012 with the nine months ended September 30, 2011 is impacted by
our acquisition of idOnDemand on May 2, 2011, polyright on July 18, 2011 and
payment solution on January 30, 2012. Results of the idOnDemand, polyright and
payment solution businesses have been included since their respective
acquisition dates.
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Revenue
Beginning in the third quarter of 2012, we began to include the breakdown of our
revenue by products and services. Summary information about our revenue by type
and by business segment for the three and nine months ended September 30, 2012
and 2011 is shown below (in thousands):
Three Months Ended % change Nine Months Ended % change
September 30, period to September 30, period to
2012 2011 period 2012 2011 period
Products:
Revenues $ 18,663 $ 23,175 (19 %) $ 55,053 $ 63,950 (14 %)
% of total revenue 81 % 87 % 81 % 86 %
Gross profit 7,902 10,097 22,537 25,771
Gross profit % 42 % 44 % 41 % 40 %
Services:
Revenues $ 4,282 $ 3,577 20 % $ 12,954 $ 10,834 20 %
% of total revenue 19 % 13 % 19 % 14 %
Gross profit 1,818 1,733 5,521 5,653
Gross profit % 42 % 48 % 43 % 52 %
Identity Management Segment:
Revenues $ 13,833 $ 15,148 (9 %) $ 40,721 $ 42,248 (4 %)
% of total revenue 60 % 57 % 60 % 56 %
Gross profit 6,872 6,816 19,053 18,971
Gross profit % 50 % 45 % 47 % 45 %
ID Products Segment:
Revenues $ 9,112 $ 11,604 (21 %) $ 27,286 $ 32,536 (16 %)
% of total revenue 40 % 43 % 40 % 44 %
Gross profit 2,848 5,014 9,005 12,453
Gross profit % 31 % 43 % 33 % 38 %
Total
Revenues $ 22,945 $ 26,752 (14 %) $ 68,007 $ 74,784 (9 %)
Gross profit 9,720 11,830 28,058 31,424
Gross profit % 42 % 44 % 41 % 42 %
Total revenue for the third quarter of 2012 was $22.9 million, down 14% compared
with $26.8 million for the third quarter of 2011. For the first nine months of
2012, revenue was $68.0 million, down 9% compared with $74.8 million for the
first nine months of 2011. Lower revenue in both the third quarter and first
nine months of 2012 primarily was due to decreased product sales in both our ID
Products and Identity Management segments. Incremental revenue from acquired
businesses was approximately $1.1 million and accounted for 5% of total revenue
in the third quarter, and was $5.4 million, accounting for 8% of total revenue
in the first nine months of 2012. Excluding the impact of this incremental
revenue, organic revenue was 19% lower in the third quarter and 16% lower in the
first nine months of 2012 compared with the same periods of 2011.
Services revenue includes sales of payment-related services, professional
consulting services and annual maintenance contracts. Services have comprised a
higher proportion of our revenues in the third quarter and first nine months of
2012 compared with the same periods of the prior year, primarily as a result of
the addition of new payment-related and maintenance services revenue from our
acquisitions of polyright and payment solution.
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In our Identity Management segment we provide solutions and services that enable
the secure management of credentials in diverse markets. Our Identity Management
segment includes the operations of our Identity Management & Cloud Solutions
division and our ID Solutions division, both of which specialize in the design
and manufacturing of highly secure, integrated systems that can enhance security
and better meet compliance and regulatory requirements while providing users the
benefits and convenience of simple and secure solutions. The majority of sales
in our Identity Management segment are made to customers in the government,
education, enterprise and commercial markets and encompass vertical market
segments including payment, healthcare, banking, industrial, retail and critical
infrastructure. Because of the complex nature of the problems we address for our
Identity Management customers, pricing pressure is not prevalent in this
segment.
Revenue in our Identity Management segment was $13.8 million in the third
quarter of 2012, down 9% from $15.1 million for the third quarter of 2011. For
the first nine months of 2012, Identity Management revenue was $40.7 million,
down 4% from $42.2 million in the first nine months of 2011. Results for the
Identity Management segment included incremental revenue from idOnDemand,
polyright and payment solution of $1.1 million in the third quarter and $5.4 in
the first nine months of 2012. Excluding the impact of this incremental revenue,
organic revenue was 16% lower in both the third quarter and first nine months of
2012 compared with the same periods of the prior year. The decrease in organic
revenue primarily was due to the absence of new orders for secure IT kits for
the German electronic ID program in our European ID Solutions business, which
had accounted for $1.4 million of sales in the third quarter and $6.2 million of
sales in the first nine months of 2011. Sales of Hirsch Identive access control
systems remained stable in the third quarter and grew 6% in the first nine
months of 2012 compared with the same periods of the prior year, despite
continued budget and project delays from U.S. government customers.
In our ID Products segment we design and manufacture RFID products and
components that are used for a number of identity-based and related applications
in the government, enterprise, transportation and financial markets. Our ID
Products segment includes sales of smart card and NFC readers and terminals, and
RFID transponder products including RFID and NFC inlays, inlay-based cards,
tags, labels and stickers. The majority of sales in our ID Products segment are
made to original equipment manufacturers and system integrators, although an
increasing proportion are sold directly to end customers. Sales in this segment
are somewhat subject to pricing pressure, both for our transponder products and
in the market for our smart card reader technology, which has been shifting away
from external readers and towards lower-cost, embedded chip sets over the last
several years.
Sales in our ID Products segment were $9.1 million in the third quarter of 2012,
down 21% from sales of $11.6 million in the third quarter of 2011. For the first
nine months of 2012, ID Products sales were $27.3 million, down 16% from $32.5
million for the first nine months of 2011. Both our smart card reader and
transponder product sales were lower in the 2012 periods. Revenue from smart
card readers was 16% lower in the third quarter and 11% lower in the first nine
months of 2012 compared with the same periods of the prior year, as a result of
decreased demand for smart card readers used in European government and citizen
ID programs, partially offset by strong reader sales to the U.S. government
sector. Transponder product sales fell 30% in the third quarter and 23% in the
first nine months of 2012 compared with the same periods of the prior year, as a
result of order delays with large mobile device and transportation customer
projects. Some of these delayed projects began to move forward at the end of the
third quarter.
Gross Profit
Gross profit for the third quarter of 2012 was $9.7 million, or 42% of revenue,
compared with $11.8 million, or 44% of revenue in the third quarter of 2011. For
the first nine months of 2012, gross profit was $28.1 million, or 41% of
revenue, compared to $31.4 million, or 42% of revenue for the first nine months
of 2011.
By segment, gross profit margin for our Identity Management segment was $6.9
million, or 50% of revenue in the third quarter of 2012, compared with $6.8
million, or 45% of revenue in the third quarter of 2011. For the first nine
months of 2012, Identity Management gross profit margin was 47%, compared to 45%
for the first nine months of 2011. Favorable product mix in our Identity
Management segment in the third quarter and first nine months of 2012 resulted
in improved gross product margin.
Gross profit margin for our ID Products segment was $2.8 million, or 31% of
revenue for the third quarter of 2012, compared to $5.0 million, or 43% of
revenue in the third quarter of 2011. For the first nine months of 2012, ID
Products gross profit margin was 33%, compared to 38% for the first nine months
of 2011. Gross profit margin in our ID Products segment in the third quarter and
first nine months of 2012 primarily was affected by weaker sales of transponder
products, which resulted in lower absorption of overhead costs in our
manufacturing facilities.
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We expect there will be some variation in our gross profit from period to
period, as our gross profit has been and will continue to be affected by a
variety of factors, including, without limitation, competition, the volume of
sales in any given quarter, manufacturing volumes, product configuration and
mix, the availability of new products, product enhancements, software and
services, risk of inventory write-downs and the cost and availability of
components.
Research and Development Expenses
Three months ended % change Nine months ended % change
September 30, period to September 30, period to
(In thousands) 2012 2011 period 2012 2011 period
Expenses $ 2,019 $ 2,286 (12 )% $ 6,894 $ 4,823 43 %
Percentage of total revenues 9 % 9 % 10 % 6 %
Research and development expenses consist primarily of employee compensation and
fees for the development of hardware, software and firmware products. We focus
the bulk of our research and development activities on the continued development
of existing products and the development of new offerings for emerging market
opportunities. Due to the timing of their respective acquisitions, no results
for the payment solution business are included in research and development
expenses for the first nine months of 2011, only five months of results for 2011
(May-September) are included for idOnDemand, and only two months of results for
2011 (August-September) are included for polyright.
Research and development expenses in the third quarter of 2012 were $2.0
million, or 9% of revenue, compared with $2.3 million, or 9% of revenue in the
third quarter of 2011, a decrease of 12% as a result of decreased spending on
projects nearing completion and lower spending in line with our cost reduction
plan. For the first nine months of 2012, research and development expenses were
$6.9 million, representing 10% of revenue and up 43% from $4.8 million, or 6% of
revenue for the first nine months of 2011. Research and development expenses
included $1.1 million from idOnDemand, polyright and payment solution in the
first nine months of 2012; however there were no incremental expenses from
acquired companies in the third quarter of 2012. Excluding the impact of
acquisitions, research and development expenses increased 21% in the first nine
months of 2012 compared with the same period of 2011. Beginning in the third
quarter of 2011, we significantly increased our investment in core technology
and new products and solutions for emerging markets. Key investment areas
include the development of credential issuance and management solutions offered
as "Identity as a Service," our cloud-based NFC tag content management platform,
software enhancements in our ID Solutions offerings, and new contactless, NFC
and RFID readers and transponder products.
In the next few quarters we expect similar reduced levels of investment in
research and development as we benefit from the effect of our cost reduction
initiatives. In the future, our research and development expenses will vary
according to project demands and the markets we target.
Selling and Marketing Expenses
Three months ended % change Nine months ended % change
September 30, period to September 30, period to
(In thousands) 2012 2011 period 2012 2011 period
Expenses $ 5,440 $ 6,198 (12 )% $ 18,978 $ 17,432 9 %
Percentage of total revenues 24 % 23 % 28 % 23 %
Selling and marketing expenses consist primarily of employee compensation as
well as tradeshow participation, advertising and other marketing and selling
costs. We focus a significant proportion of our sales and marketing activities
on new and emerging market opportunities. Due to the timing of their respective
acquisitions, no results for the payment solution business are included in sales
and marketing expenses for the first nine months of 2011, only five months of
results for 2011 (May-September) are included for idOnDemand, and only two
months of results for 2011 (August-September) are included for polyright.
Selling and marketing expenses in the third quarter of 2012 were $5.4 million,
or 24% of revenue, compared with $6.2 million, or 23% of revenue in the third
quarter of 2011, a decrease of 12%. For the first nine months of 2012, sales and
marketing expenses were $19.0 million, representing 28% of revenue, an increase
of 9% from $17.4 million, or 23% of revenue for the first nine months of 2011.
Selling and marketing expenses included $0.1 million and $1.0 million from
idOnDemand, polyright and payment solution in the third quarter and first nine
months of 2012, respectively. Excluding the impact of these additional expenses,
selling and marketing expenses were 15% lower in the third quarter of 2012 and
3% higher in the first nine months of 2012 compared with the same periods of
2011. Higher selling and marketing expenses in the first nine months of 2012
reflect investments in additional resources and programs to address existing and
new market opportunities, including new sales teams focused on NFC solutions and
converged access products, for which we expect future sales, but minimal
revenues during 2012. Lower expenses in the third quarter of 2012 reflect
initial results from the cost reduction program implemented in June 2012.
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We expect modest reductions in our investment in selling and marketing as a
percentage of sales in the next quarter.
General and Administrative Expenses
Three months ended % change Nine months ended % change
September 30, period to September 30, period to
(In thousands) 2012 2011 period 2012 2011 period
Expenses $ 4,603 $ 5,984 (23 )% $ 14,537 $ 16,958 (14 )%
Percentage of total revenues 20 % 22 % 21 % 23 %
General and administrative expenses consist primarily of compensation expenses
for employees performing administrative functions, and professional fees arising
from legal, auditing and other consulting services. Due to the timing of their
respective acquisitions, no results for the payment solution business are
included in general and administrative expenses for the first nine months of
2011, only five months of results for 2011 (May-September) are included for
idOnDemand, and only two months of results for 2011 (August-September) are
included for polyright.
In the third quarter of 2012, general and administrative expenses were $4.6
million, or 20% of revenue, compared with $6.0 million, or 22% of revenue in the
third quarter of 2011, a decrease of 23%. For the first nine months of 2012,
general and administrative expenses were $14.5 million, representing 21% of
revenue and down 14% from $17.0 million, or 23% of revenue for the first nine
months of 2011. General and administrative expenses included $0.1 million and
$1.4 million from idOnDemand, polyright and payment solution in the third
quarter and first nine months of 2012, respectively. Also reflected in general
and administrative expenses in the first nine months of 2012 were approximately
$0.2 million of transaction expenses related to the acquisition of the remaining
shares of idOnDemand and acquisition of payment solution. Excluding the impact
of these additional expenses and including credits of approximately $1.0 million
to reverse incentive bonus accruals in the second quarter of 2012, general and
administrative expenses were 25% lower in the third quarter and 18% lower in the
first nine months of 2012 compared with the same periods of 2011 as a result of
ongoing efforts to reduce general and administrative expenses which were
accelerated with our cost reduction program put in place in the second quarter
of 2012.
With reduced incentive accruals and the benefits of accelerated restructuring
programs, we expect modest decreases in general and administrative expenses in
absolute dollars and as a percentage of overall revenue during the remainder of
2012.
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Impairment Charges
During the second quarter of 2012, as a result of a significant decline in our
stock price and changes to our future forecasted revenue, gross margin and
operating profit, we undertook interim goodwill impairment analyses in
connection with our quarterly close as of June 30, 2012. Due to the length of
time necessary to measure impairment of goodwill, our analysis was not completed
as of the time of the filing of our second quarter Form 10-Q and we reported a
preliminary impairment charge of $21.4 million in the second quarter ended
June 30, 2012, The goodwill impairment analysis was subsequently completed
during the 2012 third quarter and resulted in an additional goodwill impairment
charge of approximately $5.0 million being recorded during the three months
ended September 30, 2012, for a total goodwill impairment charge of $26.4
million during the nine months ended September 30, 2012.
In conjunction with our goodwill impairment test, we also tested our long-lived
assets for impairment and adjusted the carrying value of each asset group to its
fair value and recorded the associated impairment charge of $24.8 million in our
condensed consolidated statements of operations, of which $23.9 million was
recorded in the second quarter and $0.9 million was recorded in the third
quarter of 2012. Please see Note 9, Goodwill and Intangible Assets, for more
detailed information.
Restructuring Charges
Restructuring charges of $0.3 million in the first nine months of 2012 relate to
the realignment of certain business operations under our 2012 restructuring
plan, implemented in June 2012.
Remeasurement of Contingent Consideration
For the first nine months of 2012, a credit of $5.7 million was recorded for
reductions to the amount of performance-based earn-outs payable related to the
polyright and idOnDemand acquisitions, following the remeasurement of this
contingent consideration as of June 30, 2012. Please see Note 4, Fair value
Measurements, for more detailed information.
Other Income (Expense)
Other income (expense) of $23,000 recorded in the third quarter of 2012 related
to insurance reimbursement on lost shipments for a subsidiary, and other expense
of $(0.2) million recorded in the first nine months of 2012 related to the loss
recognized on the sale of a subsidiary. Other income of $25,000 recorded in the
2011 third quarter and $0.3 million recorded in the first nine months of 2011
related to a dividend distribution made by SCM PC-Card GmbH in which we had made
an investment in 1998, which was written off in prior periods. The dividend
distribution was made as a result of the entity's plan to close its operations.
Interest Expense, Net
Interest expense, net of $0.4 million and $1.0 million in the third quarter and
first nine months of 2012, respectively, and interest expense, net of $0.2
million and $0.8 million in the third quarter and first nine months of 2011,
respectively, consists of interest accretion expense for a liability to a
related party in the Hirsch business and interest paid on financial liabilities,
offset by interest earned on invested cash during the respective periods.
Foreign Currency Losses, Net
Foreign currency losses were $29,000 and $0.1 million in the third quarter and
first nine months of 2012, respectively. Foreign currency losses were $0.6 and
$0.4 million in third quarter and first nine months of 2011, respectively.
Changes in currency valuation in the periods presented mainly were the result of
exchange rate movements between the U.S. dollar and the Euro, Swiss Franc, and
the British pound and their impact on the valuation of intercompany transaction
balances. Accordingly, they are predominantly non-cash items.
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Income Taxes
We recorded a provision for income taxes of $15,000 and $0.1 million for the
three and nine months ended September 30, 2012, respectively, reflecting an
effective tax rate of 33% for the nine months ended September 30, 2012. In
addition, during the third quarter and first nine months of 2011, we recorded a
net provision for income taxes of $0.1 million and a net benefit for income
taxes of $1.6 million respectively, which resulted primarily from accounting
treatment following the acquisition of idOnDemand. In connection with the
acquisition of idOnDemand, we recorded deferred tax liabilities of $1.5 million,
which were netted against the Company's existing deferred tax assets. As a
result the Company released valuation allowance of $1.5 million in the second
quarter of 2011. This tax benefit was offset by estimated tax expense of $0.2
million on deemed income upon an intra-group sale of one of the Company's
subsidiaries, as the sales price was less than the fair market value of the
subsidiary.
The effective tax rates for the nine-month periods ended September 30, 2012 and
September 30, 2011, differ from the federal statutory rate of 34% primarily due
to the benefit of earnings in foreign jurisdictions, which are subject to lower
tax rates, and the ratio of taxable earnings in foreign jurisdictions to taxable
earnings in the U.S.
Liquidity and Capital Resources
As of September 30, 2012, our working capital, which we have defined as current
assets less current liabilities, was approximately ($2.2) million, compared to
approximately $16.7 million as of December 31, 2011, a decrease of approximately
$18.9 million. The decrease in working capital for the nine months ended
September 30, 2012 reflects a $10.9 million decrease in cash and cash
equivalents, a $0.2 million net decrease in accounts receivable, a $3.4 million
increase in accounts payable, a $5.6 million additional liability for unclaimed
consumer cards from the acquired payment solution business, a $1.0 million
increase in deferred revenue, an aggregate $1.6 million increase in liability to
related party and financial liabilities, and an aggregate $1.8 million increase
in accrued compensation and other accrued expenses and liabilities, offset by a
$2.0 million increase in restricted cash, a $1.6 million increase in inventories
and $2.0 million increase in prepaids and other current assets.
Cash and cash equivalents were $6.3 million as of September 30, 2012, a decrease
of approximately $10.9 million compared to $17.2 million as of December 31,
2011, mainly as a result of cash of $6.9 million used in operations, a cash
payment of approximately $0.5 million for the acquisition of the remaining
outstanding shares of idOnDemand, approximately $1.7 million used for capital
expenditures, $1.3 million cash payments on financial liabilities, $1.3 million
restricted cash related to a factoring arrangement, and $0.7 million restricted
cash deposited for capital expenditure, offset by an acquired cash balance of
$0.6 million from the acquisition of payment solution, a $0.1 million change in
bank line of credit, $0.3 million cash proceeds from the issuance of common
stock under our employee stock purchase plan and an exchange rate effect of $0.5
million on cash and cash equivalents. The following summarizes our cash flows
for the nine months ended September 30, 2012 and 2011 (in thousands):
Nine Months Ended
September 30,
2012 2011Cash used in operating activities from continuing operations $ (6,911 ) $ (5,529 )
Cash used in investing activities
(2,333 ) (6,051 )
Cash (used in) provided by financing activities (2,207 ) 17,881
Effect of exchange rate changes on cash and cash equivalents 503 620
Increase (decrease) in cash and cash equivalents (10,948 ) 6,921
Cash and cash equivalents at beginning of period 17,239 10,799
Cash and cash equivalents at end of period $ 6,291 $ 17,720
Significant commitments that will require the use of cash in operating
activities in future periods include obligations under operating leases,
liability to related party, inventory purchase commitments and other contractual
agreements and financial liabilities, including bank loan, debt note, mortgage
bank loan and equipment financing liabilities. At September 30, 2012, gross
committed lease obligations were approximately $4.1 million, equipment financing
liabilities and bank loan were approximately $4.3 million, the mortgage bank
loan was approximately $0.8 million, the debt note was approximately $0.6
million, liability to related party was approximately $8.6 million and inventory
purchase commitments and other purchase commitments were approximately $12.7
million. Total commitments due for the remainder of fiscal 2012 were
approximately $13.1 million and commitments due thereafter were approximately
$18.0 million at September 30, 2012.
The cash used in investing activities primarily reflects cash payment of
approximately $0.5 million for the acquisition of the non-controlling interest
in idOnDemand, approximately $1.7 million spent for capital expenditures, and
$0.7 million restricted cash deposited for capital expenditure, offset by $0.6
million cash acquired from the acquisition of payment solution.
Cash used in financing activities primarily reflects $1.3 million paid for
financial liabilities, which consist of equipment financing liabilities, bank
loan, and debt note, and $1.3 million restricted cash related to a factoring
arrangement, offset by $0.3 million cash proceeds from issuance of common stock
under employee stock purchase plan and $0.1 million net change in bank line of
credit.
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We have historically incurred operating losses and negative cash flows from
operating activities. As of September 30, 2012, we have total accumulated
deficit of approximately $291 million. During the nine months ended
September 30, 2012 and 2011, we sustained consolidated net losses of $59.5
million and $7.4 million, respectively. Our working capital reduced
significantly as of September 30, 2012 compared with December 31, 2011. We
expect to use a significant amount of cash in our operations over the next
twelve months for our operating activities and servicing of financial
liabilities, including investment in new technologies in anticipation of future
significant revenues following wider adoption of these products and services.
These investments are in the area of research and development and sales and
marketing for solutions based on NFC, cloud-based identity management ("Identity
as a Service") and our SmartCore card manufacturing technology. Our current plan
anticipates increased revenues and improved profit margins for the twelve-month
period, which we expect will reduce the levels of cash required for our
operating activities as compared to historical levels. In addition, we are in
the process of improving our working capital, including reduction in the levels
of accounts receivable and discussion with several key suppliers to further
reduce the levels of inventory and improve payment terms. On October 30, 2012,
the Company signed an agreement for a term loan in aggregate principal amount of
up to $10.0 million and received an initial advance in the aggregate principal
amount of $7.5 million. Based on our current projections and estimates, we
believe our current capital resources, including existing cash, cash
equivalents, anticipated cash flows from operating activities, savings from our
continued cost reduction activities, and available borrowings, should be
sufficient to meet our operating and capital requirements through at least the
next twelve months.
Our plans may be adversely impacted if we fail to realize our assumed levels of
revenues and expenses or savings from our cost reduction activities, or fail to
meet required financial covenants under our loan agreement. If these events
occur, we may need to delay, reduce the scope of, or eliminate one or more of
our development programs or obtain funds through collaborative arrangements with
others that may require us to relinquish rights to certain of our technologies,
or programs that we would otherwise seek to develop or commercialize ourselves,
and to reduce personnel related costs. We may resort to contingency plans to
make these needed cost reductions upon determination that funds will not be
available in a timely matter. These contingency plans include consolidating
certain functions, including integration of newly acquired entities into the
group and elimination of duplicate general and administration expenses by
expanding the scope of shared services in the Americas and European regions. We
may also need to raise additional funds through additional debt or equity
financings. The sale of additional debt or equity securities may cause dilution
to existing stockholders. There can be no assurance that we will be able to
raise such funds if and when they are required. Failure to obtain future funding
when needed or on acceptable terms would adversely affect our ability to fund
operations.
Contractual Obligations
The following summarizes expected cash requirements for contractual obligations
as of September 30, 2012 (in thousands):
Less than 1 More Than
Total Year 1-3 Years 3-5 Years 5 Years
Operating leases $ 4,058 $ 2,356 $ 1,453 $ 249 $ -
Equipment financing liabilities 2,590 754 1,836 - -
Bank loan 1,758 419 670 669
Liability to related party 8,554 1,557 2,405 2,651 1,941
Debt note 626 626 - - -
Mortgage loan payable to bank 779 55 110 110 504
Purchase commitments and other
obligations $ 12,706 12,356 325 25 -
Total obligations $ 31,071 $ 18,123 $ 6,799 $ 3,704 $ 2,445
The Company excluded of $0.9 million as it relates to uncertain tax positions
from contractual obligations table because we are unable to make reasonable
estimates of the period of cash settlement with the respective taxing authority.
See Note 16 of Notes to condensed consolidated financial statements for more
information about the contractual obligations listed in the table above.
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Critical Accounting Policies and Estimates
Our consolidated financial statements have been prepared in accordance with
accounting principles generally accepted in the United States of America ("U.S.
GAAP"). The preparation of these financial statements requires management to
establish accounting policies that contain estimates and assumptions that affect
the amounts reported in the consolidated financial statements and accompanying
notes. These policies relate to revenue recognition, inventory, income taxes,
goodwill, long-lived assets and stock-based compensation.
We have other important accounting policies and practices; however, once
adopted, these other policies either generally do not require us to make
significant estimates or assumptions or otherwise only require implementation of
the adopted policy and not a judgment as to the policy itself. Management bases
its estimates and judgments on historical experience and on various other
factors that are believed to be reasonable under the circumstances, the results
of which form the basis for making judgments about the carrying values of assets
and liabilities that are not readily apparent from other sources. Despite our
intention to establish accurate estimates and assumptions, actual results may
differ from these estimates under different assumptions or conditions.
During the nine months ended September 30, 2012, management believes there have
been no significant changes to the items that we disclosed as our critical
accounting policies and estimates in Management's Discussion and Analysis of
Financial Condition and Results of Operations in our Annual Report on Form 10-K
for the year ended December 31, 2011, except that our revenue recognition policy
was updated to include additional information concerning our revenue recognition
policy with regard to multi-functional customer cards based on RFID contactless
chips. Below is our current revenue recognition policy as updated to include
this information:
Revenue Recognition - Revenue is recognized when all of the following criteria
have been met:
• Persuasive evidence of an arrangement exists. We generally rely upon
sales contracts or agreements, and customer purchase orders to
determine the existence of an arrangement.
• Delivery has occurred. We use shipping terms and related documents, or
written evidence of customer acceptance, when applicable, to verify
delivery or performance.
• Sales price is fixed or determinable. We assess whether the sales
price is fixed or determinable based on the payment terms and whether
the sales price is subject to refund or adjustment.
• Collectability is reasonably assured. We assess collectability based
on creditworthiness of customers as determined by credit checks and
customer payment histories. We record accounts receivable net of
allowance for doubtful accounts, estimated customer returns, and
pricing credits.
In 2011, we adopted the Financial Accounting Standards Board ("FASB") issued
Accounting Standards Update ("ASU") No. 2009-13, Revenue Recognition (Topic
605)-Multiple-Deliverable Revenue Arrangements ("ASU 2009-13"). ASU 2009-13
changes the requirements for establishing separate units of accounting in a
multiple element arrangement and eliminates the residual method of allocation
and requires the allocation of arrangement consideration to each deliverable to
be based on the relative selling price. The relative selling price method
allocates any discount in the arrangement proportionately to each deliverable on
the basis of the deliverable's estimated fair value. Concurrently with issuing
ASU 2009-13, the FASB also issued ASU No. 2009-14, Software (Topic 985)-Certain
Revenue Arrangements That Include Software Elements ("ASU 2009-14") which amends
the scope of software revenue guidance in Accounting Standards Codification
("ASC") Subtopic 985-605, Software-Revenue Recognition ("ASC 985-605"), to
exclude tangible products containing software and non-software components that
function together to deliver the product's essential functionality. ASU 2009-14
provides that tangible products containing software components and non-software
components, which function together to deliver the tangible product's essential
functionality, are no longer within the scope of the software revenue guidance
in ASC 985-605 and should follow the guidance in ASU 2009-13 for
multiple-element arrangements. All non-essential and standalone software
components will continue to be accounted for under the guidance of ASC 985-605.
ASU 2009-13 and ASU 2009-14 are effective prospectively for revenue arrangements
entered into or materially modified in fiscal years beginning on or after
June 15, 2010. We prospectively adopted the provisions of ASU 2009-13 and ASU
2009-14 effective January 1, 2011. Our revenue is derived primarily from sales
of hardware products and services, and to a lesser extent, from the license of
proprietary software products and software components in revenue arrangements
that are considered standalone. As a result, ASU 2009-14 did not have any impact
and revenues from such software products will continue to be recognized under
the guidance of ASC 985-605. We cannot reasonably estimate the effect of
adopting these standards on future financial periods as the impact will vary
depending on the nature and volume of new or materially modified deals in any
given period.
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ASU 2009-13 establishes a selling price hierarchy for determining the selling
price of a deliverable in revenue arrangements. The revenue is generated from
sales to direct end-users and to distributors. When a sales arrangement contains
multiple elements and software and non-software components function together to
deliver the tangible products' essential functionality, we allocate revenue to
each element based on a selling price hierarchy. The selling price for a
deliverable is based on its vendor-specific objective evidence ("VSOE") if
available, third-party evidence ("TPE") if VSOE is not available, or estimated
selling price ("ESP") if neither VSOE nor TPE is available. We then recognize
revenue on each deliverable in accordance with our policies for product and
service revenue recognition. VSOE of selling price is based on the price charged
when the element is sold separately. TPE of selling price is established by
evaluating largely interchangeable competitor products or services in
stand-alone sales to similarly situated customers. The best estimate of selling
price is established considering multiple factors, including, but not limited
to, pricing practices in different geographies and through different sales
channels, gross margin objectives, internal costs, competitor pricing strategies
and industry technology lifecycles. Some of our products contain a significant
element of proprietary technology and our solutions offer substantially
different features and functionality; as a result, the comparable pricing of
products with similar functionality typically cannot be obtained. Additionally,
as we are unable to reliably determine what competitors products' selling prices
are on a stand-alone basis, we are not typically able to determine TPE for such
products. Therefore ESP is used for such products in the selling price hierarchy
for allocating the total arrangement consideration.
We evaluate each deliverable in an arrangement to determine whether they
represent separate units of accounting in accordance with the provisions of ASU
2009-13. Certain sales arrangements of our hardware products are bundled with
our professional services and maintenance contracts, and in some cases with our
software products. Professional services include security system integration,
system migration, database conversion services and other services. In such
multiple element arrangements, revenue is allocated to each separate unit of
accounting for each of the non-software deliverables and to the software
deliverables using the relative selling prices of each of the deliverables in
the arrangement based on the aforementioned selling price hierarchy. Allocation
of the consideration is determined at arrangement inception on the basis of each
unit's relative selling price. We account for software sales in accordance with
ASC 985-605 and hardware sales in accordance with ASU 2009-13, when all the
revenue recognition criteria noted above have been met. The revenue from
professional services contracts is recognized upon completion of such services
and upon acceptance from the customer, if applicable. The revenue from
maintenance contracts is deferred and amortized ratably over the period of the
maintenance contracts. Certain sales arrangement contains hardware, software and
professional service elements where professional services are essential to the
functionality of the hardware and software system and a test of the
functionality of the complete system is required before the customer accepts the
system. As a result, hardware, software and professional service elements are
accounted for as one unit of accounting and revenue from these arrangements is
recognized upon completion of the project.
In certain revenue arrangements, we facilitate cashless payments by providing
integrated payment system for sports stadiums, arenas, theme parks and other
venues for leisure and entertainment ("recreational facilities") throughout
Europe. For these facilities, we provide multi-functional customer cards based
on RFID contactless chip technology ("smart cards" or "cards") and comprehensive
management software as a part of an integrated cashless payment system (the
"system") that ensures the seamless interaction of all relevant components such
as ticketing, access, point-of-sale, parking, etc. The system consists of
comprehensive payment management software, smart cards, readers and
communication infrastructure, all supplied and implemented by us. Our system
enables consumers at sporting and similar events to make quick, cashless
payments for food, beverages and merchandise. We offer our customers the option
of purchasing of a turnkey solution or entering into a multi-year contract under
which we continue to operate and maintain responsibility for the cashless
payment system over a set period, in return for sharing in the revenue generated
at various events held in the stadiums or other venues. We also provide cards
which are used by the end consumers to buy food, beverages and merchandise
during their visits to recreational facilities. Consumers pay a deposit fee on
the cards and then may load money onto the cards to enable purchases. There may
be an unredeemed balance on the cards at any given time. Revenues from
unredeemed balance on cards are recognized when the likelihood of the card being
redeemed by the customer is remote ("card breakage income"). Although there are
expiration dates on the cards, our practice has been to honor all cards
presented for payment or redemption. We do not charge any service fees that
cause a decrement to card balances. While we expect to continue to honor all
cards presented for payment, management may determine the likelihood of
redemption to be remote for certain cards due to, among other things, long
periods of inactivity. We determine our card breakage rate based upon historical
redemption patterns. Based on our historical information, we make a
determination of the likelihood of a card remaining unredeemed 12 months after
the card is issued. At that time, we recognize breakage income for those cards
for which the likelihood of redemption is deemed remote. Card breakage income is
included in revenue in our condensed consolidated statements of operations.
Recent Accounting Pronouncements
See Note 2, Summary of Significant Accounting Policies, in the Notes to
condensed consolidated financial statements in Item 1 of Part I of this
Quarterly Report on Form 10-Q, for a full description of recent accounting
pronouncements, including the actual and expected dates of adoption and
estimated effects on our consolidated results of operations and financial
condition, which is incorporated herein by reference.
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